Not so long ago, membership of the euro was seen as the Holy Grail for central and eastern European (CEE) countries desperate to shake off their reputation as the region’s poor relations.
But as the eurozone’s financial crisis has thrown the spotlight on weaknesses in the whole project, the single currency is looking like the club few are in a hurry to join.
Public support for membership of the euro has collapsed across the CEE region. While fewer than four out of 10 Poles opposed euro adoption two years ago, opposition has now risen to 60%. Policymakers in Poland, Hungary and the Czech Republic have responded by pushing back the target for membership to the end of the decade.
Raffaella Tenconi, emerging European economist at Bank of America Merrill Lynch, says the turmoil in Old Europe has dampened enthusiasm among both voters and policymakers.
“It is clear that voters have less enthusiasm partly because they see the countries they were told to converge towards are in worse shape than they are,” she says, adding: “It is unrealistic to think that any of the large [non-member] countries will try to do it quickly, because there is nothing much to gain from trying to rush entry amid a fiscal crisis.”
OUTSIDER ADVANTAGE
For policymakers, entering the euro has become technically harder because rising food prices have made it harder for candidate countries to meet the Maastricht criteria of keeping inflation within 1.5 percentage points of the average of the three best-performing countries.
But there is another reason why policymakers have cooled on euro membership. Central banks in these countries found they were able to let their currencies depreciate against the euro in late 2008 and early 2009. This boosted export competitiveness and moderated the impact of the global financial crisis on the domestic economy.
Had these countries already joined the eurozone, this option would not have been available. Meanwhile the revelations about the scale of the fudging of the data undertaken by Greek policymakers, and the muddled response by leaders of the euro project to the crisis have also undermined confidence.
SURVIVAL DOUBTS
Doubts over the ability of the single currency to survive the crisis in its current form have further encouraged larger central and eastern European economies with eurosceptic domestic constituencies to drag their feet.
“The eurozone crisis is a pretty convenient excuse for some of the region’s more eurosceptic nations not to join,” says Nigel Rendell, senior emerging markets strategist at RBC Capital Markets. “Countries don’t know what the euro will be in three months’ time, let alone three years or 10 years’ time.”
Although Rendell believes that the political imperatives behind an enlarged single currency still hold, he is increasingly sceptical about the economic benefits of eurozone membership for some of the larger CEE economies.
“A lot of people will point and say this is what you get if you join together countries with different fundamentals, and with no discipline on the fiscal front,” he says. “And this will lead non-members to question the economic case for joining the single currency.”
But Stephen Lewis, chief economist at Monument Securities, believes that a streamlined euro may actually prove a more attractive proposition for large candidate countries such as Poland and Hungary.
“When the time comes, what is left of the eurozone may not be much more than a glorified Deutschmark bloc,” he says. “And there would be a certain economic logic of integrating with that, given that so much of their foreign trade is with Germany and other European economies that are dependent on Germany.”
BALTICS REMAIN BULLISH
The exception to this analysis is the group of Baltic states: Estonia, Latvia and Lithuania. Estonia joined on January 1 this year and its neighbours appear on track for 2014. According to Barbara Nestor, emerging Europe analyst at Commerzbank, they continue to see euro membership as part of the solution rather than a risk.
“The example of Greece for them is just ‘well this could happen but it’s not going to happen to us’ because they have already tested the flexibility of their domestic markets in the recent crisis,” she says.
Lewis points out that the Baltic states share a strong desire to cut free from Russian domination. “Given the choice between Russia and Germany, which is rather what it boils down to, they would favour Germany because the living standards tend to be higher,” he says.
MAINTAINING FISCAL RECTITUDE
But the CEE countries that are more lukewarm about the euro seem determined to maintain the fiscal rectitude that is required to ensure convergence with the eurozone. Tenconi says the CEE countries have seen that joining the eurozone does not give protection from punishment by the financial markets.
“The fact that you join the euro does not mean that you can just sit on the bench and watch the grass grow. So it is important for countries with floating currencies to know that the punishment of the market comes so much quicker,” she says.
In other words, by publicly fighting inflation and aiming to limit public-sector debt, CEE countries will benefit from financial stability and lower borrowing costs – even without joining the euro.