The Malta Independent
The question I am being asked with increased intensity is how much likely it is for the Maltese Lira to eventually join the Euro at current exchange rates. Any reply would be a matter of opinion as such decisions will be taken by the monetary authorities and the government in the negotiations with the ECB (European Central Bank) leading to Malta`s commitment to join EMU (European Monetary Union).
Given that Malta would have to stay at least two after membership in the waiting room proving the stability of its financial system and exchange rate policy before it is admitted to the EMU, it means that such a decision would not necessarily need to be taken before late in the year 2006.
So the question is often whether one should worry about the issue now or whether it is something that can wait until we approach the fateful fusion date when we can have a bit more clarity on the final conversion rate than we can have at this distant stage.
`One of the most reliable measures of the appropriateness of the level of the rate exchange is the REER (Real Effective Exchange Rate) index.` Yet things don`t just happen on a particular date but have to be prepared for well in advance.` And therefore one should ask whether the present exchange rate level is an appropriate level which could be used as a basis for joining the Euro, following which we will be locked into a rigid exchange mechanism and will no longer have access to exchange rate and monetary policy tools to influence the tempo of the local economy.
One of the most reliable measures of the appropriateness of the level of the rate exchange is the REER (Real Effective Exchange Rate) index. This takes into account the value of the Maltese lira against the weighted average rate of the currency of our main trading partners and adjusts the nominal result by taking into account inflation differentials to turn the nominal into a real index.
This index is regularly published by the Central Bank of Malta and as at the end of 2002 it showed that the Maltese Lira was overvalued by some 9% taking 1995 as a base. This happened for two reasons. Firstly because we had average inflations rates higher than those applicable to our main trading partners. And also because the exchange rate basket of currency was over weighted on the USD when this was flying high on the exchange markets and then under weighted now that the USD is sinking.
The last adjustment of the exchange basket was carried out on 22 August 2002 when the USD component was reduced from 20% to 10% and with the weighting of the Euro being correspondingly increased by 10%. `Putting things in this perspective one can come to more informed opinion without ruling out an exchange rate adjustment even in the short term.`
At the time the USD was 2.3413 against the Maltese Lira. It was quoted two days ago at 2.6775 a drop of 12.5%. If the basket adjustment were made on current rates the Maltese Lira would be quoted 2.7% lower than it is being quoted currently. With hindsight the move to adjust the over weighting of the USD was done at a time when the USD was still fundamentally overvalued in its own right.
With inflation rates hitting lows both domestically as well as in the euro-zone, the likelihood that inflation differentials would on their own remove the Maltese Lira real overvaluation is difficult to foresee within the span of a few years. And if this is the case the argument starts taking shape as to whether the necessary adjustment can only come from an outright adjustment of the exchange rate and whether this is to be done now to regain the loss of competitiveness complained of by the FOI survey or whether it can be postponed till nearer the date of entry into the Euro when the next elections would start appearing on the horizon.
Putting things in this perspective one can come to more informed opinion without ruling out an exchange rate adjustment even in the short term.
The question I am being asked with increased intensity is how much likely it is for the Maltese Lira to eventually join the Euro at current exchange rates. Any reply would be a matter of opinion as such decisions will be taken by the monetary authorities and the government in the negotiations with the ECB (European Central Bank) leading to Malta`s commitment to join EMU (European Monetary Union).
Given that Malta would have to stay at least two after membership in the waiting room proving the stability of its financial system and exchange rate policy before it is admitted to the EMU, it means that such a decision would not necessarily need to be taken before late in the year 2006.
So the question is often whether one should worry about the issue now or whether it is something that can wait until we approach the fateful fusion date when we can have a bit more clarity on the final conversion rate than we can have at this distant stage.
`One of the most reliable measures of the appropriateness of the level of the rate exchange is the REER (Real Effective Exchange Rate) index.` Yet things don`t just happen on a particular date but have to be prepared for well in advance.` And therefore one should ask whether the present exchange rate level is an appropriate level which could be used as a basis for joining the Euro, following which we will be locked into a rigid exchange mechanism and will no longer have access to exchange rate and monetary policy tools to influence the tempo of the local economy.
One of the most reliable measures of the appropriateness of the level of the rate exchange is the REER (Real Effective Exchange Rate) index. This takes into account the value of the Maltese lira against the weighted average rate of the currency of our main trading partners and adjusts the nominal result by taking into account inflation differentials to turn the nominal into a real index.
This index is regularly published by the Central Bank of Malta and as at the end of 2002 it showed that the Maltese Lira was overvalued by some 9% taking 1995 as a base. This happened for two reasons. Firstly because we had average inflations rates higher than those applicable to our main trading partners. And also because the exchange rate basket of currency was over weighted on the USD when this was flying high on the exchange markets and then under weighted now that the USD is sinking.
The last adjustment of the exchange basket was carried out on 22 August 2002 when the USD component was reduced from 20% to 10% and with the weighting of the Euro being correspondingly increased by 10%. `Putting things in this perspective one can come to more informed opinion without ruling out an exchange rate adjustment even in the short term.`
At the time the USD was 2.3413 against the Maltese Lira. It was quoted two days ago at 2.6775 a drop of 12.5%. If the basket adjustment were made on current rates the Maltese Lira would be quoted 2.7% lower than it is being quoted currently. With hindsight the move to adjust the over weighting of the USD was done at a time when the USD was still fundamentally overvalued in its own right.
With inflation rates hitting lows both domestically as well as in the euro-zone, the likelihood that inflation differentials would on their own remove the Maltese Lira real overvaluation is difficult to foresee within the span of a few years. And if this is the case the argument starts taking shape as to whether the necessary adjustment can only come from an outright adjustment of the exchange rate and whether this is to be done now to regain the loss of competitiveness complained of by the FOI survey or whether it can be postponed till nearer the date of entry into the Euro when the next elections would start appearing on the horizon.
Putting things in this perspective one can come to more informed opinion without ruling out an exchange rate adjustment even in the short term.
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