Euro – Benefits, Costs and Risks

1. Euro – Benefits, Costs and Risks Juraj Karpiš www.INESS.sk karpis@iness.sk

2. Topics • EU and Euro • Benefits as NBS sees them • Risks and costs as I see them • Is there an alternative?

3. I know that • Slovakia agreed before entering EU to adopt Euro in the future • We don’t have an official opt-out option as Denmark or UK have or de facto opt – out (after NO in 2003 referendum) of Sweden • The majority of Slovaks support Euro So the question is not IF but WHEN

4. Centralization There should follow deeper integration: one constitution, one currency, common foreign policy, common defense, harmonized taxes, central governement. Goal: European Super-state Competition EU should only grant freedom of movement of : people goods services capital Goal: free trade and cooperation in Europe 50 years of EU, two different views about future direction:

5. Benefits of Euro according to NBS Direct (immediate): • Abolishing exchange rate risks 0,02% GDP • Lower costs of capital • Lower transaction costs - 0,36% GDP • Transparency of prices Indirect (long-term) • Higher volume of international trade (allows deeper specialization) • Increased direct investments • Faster growth, higher living standards I would add: • PR for Slovakia – it’s a good sign that Slovakia is ABLE to adopt Euro • Hard limits for irresponsible politicians – “Maastricht leash”

6. Costs and risks according to NBS • One time expenses for currency change 0,3 to 0,8% GDP • Loss of some bank profits and temporary higher costs of banks • Loss of independent monetary policy as a tool for stabilizing economy • Probably slightly higher inflation rate NBS: Benefits are much higher than costs => Euro ASAP

7. Problems • Euro is a political construct, has not its own history and is not a choice of consumers • Currency change is a complicated process and it is impossible to quantify its effect with precision • Factors that we can quantify (or we think that we can) are not necessarily more important than factors that we are not able to quantify • Costs and benefits can be reasonably used only when we talk about individuals not about nation. Costs and benefits are not evenly distributed. Some people will bear costs, other benefits.

8. Is Euro a Condition for Strong Economic Growth?Real Growth of GDP Euro Area Countries Noneuro Area Countries S-Sweden, UK – United Kingdom, D - Denmark F – France, G – Germany, I-Italy

9. Costs and Risks as I see them: Heavy wallets!

10. Costs and Risks as I see them: • Lack of real convergence – therefore inflationary pressures – depreciation of savings • Monetary policy not suited for Slovak Business Cycle • Centralization – all eggs in one ECB basket, less currency competition and flight opportunities • Arbitrariness in setting final exchange rate - impact on wealth of Slovak citizens • The biggest countries ignore Stability pact therefore in the future we might bear the risks of costly pension systems of the biggest euroarea countries (ITA, DE, FR)

11. Euro is in the long term inflationary • Hindering of currency competition which forced national central banks to behave responsibly or else flight to other currencies • Probable future pressure on expansive monetary policy to cover deficits of costly social systems of biggest euro areal countries • Euro makes fiscal free riding possible • Easier coordination in monetary expansion between world CBs

12. Stability pact – does anyone care? • The biggest countries of euroarea ignore the Stability pact’s criteria • Greece entered the euro-area with the help of phony statistics

13. Problems Ahead Fiscal deficits as a % of GDP in the largest euro-countries

14. Where is the Convergence?Price level and GDP per capita in Slovakia as % of EU averageGDP per capita Relative Price level

15. In 27 months 20%

16. Which means: Convergence of price levels only by the way of absolute price increases Higher inflation + Negative real interest rates = Devaluation of citizen’s SKK savings

18. Example of Slovenia – will we follow?

19. Loss of control over monetary policy • Does they know (executive board ECB) what currency we need? • Control in the hands of people, on which Slovak won’t have any influence • No feedback – probability that you meet Mr. Trichet in the streets of your town is by magnitude lower than the probability that you meet Mr. Sramko • We will have to accept monetary policy of ECB which will be dictated by the needs of biggest countries – do we need lower interest rates when we grow double digit a year? (base rate 4.25% vs. 4,0%)

20. Is there an alternative? Let them compete ! Parallel circulation – legalize the use of other currencies in Slovakia as a legal tender (EUR, USD, SFR others) and let the people choose - exchange risk eliminated, lower transaction costs

21. Conclusion • Euro as a tool for further political integration, moves control further from citizen – it is a way of centralization • Lack of real convergence – risk of higher inflation and saving devaluation • The biggest countries don’t fulfill the Maastricht criteria – inflationary risks in the future • Loss of control over monetary matters Therefore we should wait or not enter at all.

22. Thank You www.INESS.sk karpis@iness.sk