From EU to euro area enlargement

1. From EU to euro area enlargement Ad van Riet Head of EU Countries DivisionEuropean Central Bank October 2005 The views expressed in this presentation do not necessarily reflect those of the ECB.

2. Outline • The 2004 EU enlargement: General background information • The road to the euro- ERM II- Recent developments- Main challenges

3. The 2004 enlargement: Population New MS = 74 million EU-15 = 458 million

4. The 2004 enlargement: GDP EU-15 = EUR 9798 bn New MS = EUR 475 bn

5. The 2004 enlargement: GDP per capita levels = 53.1

6. The 2004 enlargement: real GDP growth

7. The 2004 enlargement: price levels New MS weighted average 2003 = 54.8

8. The 2004 enlargement: HICP inflation

9. The road to the euro (as stipulated in the EC Treaty) Time t Time t + (min.) 2 years May 2004 Adoption of the euro ERM II membership (at least 2 years) ERM II membership Technical preparations Pre-ERM II phase Accession to the EU Assessment of convergence, formal decision on entry and conversion rate Entry into ERM II

10. ERM II • ERM II membership voluntary but expected • Case-by-case assessment based on equal treatment • Fixed but adjustable exchange rates, standard fluctuation band ±15% • Central parity and fluctuation bands mutually agreed • Both the ECB and the Member State concerned can trigger a review of the central parity • Central role of the euro / ECB

11. ERM II (cont’d) • Entry is not subject to legal criteria, but • major policy adjustments (e.g. price liberalisation and fiscal policy) to be undertaken prior to entry • need to follow credible fiscal consolidation path • Length of participation • Minimum two-years prior to examination of convergence • No restrictions on length of participation beyond minimum period • Should be assessed on the basis of what is most helpful to accompany the convergence process

12. ECB Convergence Report 2004 Common framework for analysis • Treaty provisions (the convergence criteria) as regards price, fiscal, exchange rate, long-term interest rate developments and other factors • A range of backward and forward-looking economic indicators considered useful for examining the sustainability of convergence • Applied on a country-by-country basis • Equal treatment principle (across countries and time)

13. ECB Convergence Report 2004 Reference values I • The criterion on price stability • Average inflation rate of 3 best performers (FI, DK and SE; 0.9%) + 1.5 percentage points = 2.4% • Price developments in Lithuania have been judged to be an outlier • The criterion on the government budgetary position • The ratio of the government deficit to GDP should not exceed 3% • The ratio of government debt to GDP should not exceed 60%

14. ECB Convergence Report 2004 Reference values II • The exchange rate criterion • ECB examines whether a Member State has participated in ERM II for at least two years prior to the examination without severe tensions, in particular, without devaluing its currency against the euro. Focus is put on the exchange rate being close to the central rate, while also taking into account factors that may have lead to an appreciation • The long-term interest rate criterion • Average of long-term interest rates in FI, DK and SE (4.4%) + 2 percentage points = 6.4%

15. ECB Convergence Report 2004 – price stability Five countries complied with the reference value HICP inflation (annual average percentage change, Sept. 2003 – Aug. 2004)

16. Price stability – recent developments HICP inflation (annual average percentage change, Sept. 2003 – Aug. 2004 and Sept. 2004 – Aug. 2005)

17. ECB Convergence Report 2004 – government balances in 2003 Five countries complied with the reference value Reference value = - 3.0 %

18. Government balances in 2005 Reference value = -3.0%

19. ECB Convergence Report 2004 – government debt in 2003 Nine countries complied with the reference value Reference value = 60.0%

20. Government debt in 2005 Reference value = 60.0%

21. Exchange rate criterion • At the time of the ECB Convergence Report 2004, in October 2004, no country participated in ERM II for the full two-year reference period • 3 countries joined ERM II in June 2004, 3 in May 2005, 4 new Member States are still outside ERM II

22. Exchange rate developments in new ERM II countries • A rise in a chart denotes an appreciation of the currency against the euro

23. ECB Convergence Report 2004 – long term interest rates Eight countries complied with the reference value Long-term interest rates (in percentages, annual average, Sept. 2003 – Aug. 2004) N.B. No comparable long-term interest rate available for Estonia

24. Long term interest rates – recent developments Long-term interest rates (in percentages, annual average, Sept. 2003 – Aug. 2004 and Sept. 2004 – Aug. 2005) N.B. No comparable long-term interest rate available for Estonia

25. ECB Convergence Report 2004 – legal assessment Conclusions on the legal assessment • All of the examined countries are well advanced in adapting their NCB statutes and other legislation to bring them in line with the Treaty and the ESCB statute • Most, while fulfilling the basic requirements for NCB independence, still have legal provisions requiring further adaptation to safeguard effective independence of their NCBs • As yet, none fulfil all of the legislative requirements for integration into the Eurosystem

26. ECB Convergence Report 2004 - Main challenges identified • Need to complete disinflation process in a few countries and to preserve it in others • Fiscal policy still not providing sufficient support for price stability in a number of countries – need for more ambitious fiscal consolidation • Need to participate in ERM II for at least two years without severe tensions • Need to fulfil all legal requirements • Next regular convergence examination in 2006

27. Thank you for your attention!