Friday, 1 April 2005

Plain Talk About the Euro

The Malta Independent 

Just when we needed some plain talk about the project to join the European Monetary Union (EMU) by giving up our national currency and adopting the Euro as our common currency with other EMU members, the Governor of the Central Bank came out with a long-winded interview which does nothing if not confuse issues more than are already confused.

I have not heard any serious objection about the final destination of Malta`s Euro project.` Indeed this was an obligation which we took upon ourselves as part of the package to become EU members and as such is already beyond the point of any argument of whether we should or should not.

What remains to be decided is when should we join the Euro and at what rate should we fix the conversion of the Maltese Lira into the Euro.` The Central Bank has been quite adamant on these points. We should join earlier rather than later and ideally not later than 2008 and we should join at current central parity of about EUR 2.30 for every Maltese Lira.

The Central Bank`s argument for these dogmatically held views are however unconvincing. They verge on the irresponsible in neglecting the daily realities of the Maltese way of life and could blindly expose our social fabric to sharp shocks through the dire consequences of joining the Euro in an unprepared state and at a rate that conserves and accentuates our lack of global competitiveness.

This is what the Governor had to say about fixing the Maltese Lira into the Euro at current level :

`the methodologies and the results of the Bank's study were shared with local and foreign experts, from the ECB and from fellow national central banks in the EU and in North America. Subject to the caveat referred to above, these experts generally share our conclusion that there is no unequivocal indication of a significant misalignment in the exchange rate`

Read it several times before proceeding and realise that the Governor does not usually give impromptu interviews but reads out well rehearsed text to pre-advised questions so that each word is carefully selected to be factual even if tilted to deliver the message the Governor wishes.` Note that the Bank`s views are subject to conditions about fiscal consolidation and economic restructuring which have been promised long and delivered short.` Note the experts consulted share the Bank`s views only generally. Inevitably this means that were divergent views on several details.` And to what views do such experts agree only generally` To the view that there is no unequivocal indication of significant misalignment in the current exchange rate level.

This could mean that: there are indications that the rate of exchange is significantly misaligned but these indications are not unequivocal` ( what is unequivocal in this uncertain world other than death and taxes, may I ask`)

that the general view including that of the Central Bank is that the current rate of exchange is misaligned but not to a significant degree.

All these double negatives and convoluted way of expressing views on such a crucial matter indicates that the Bank`s views are based more on dogma rather than proper objective analysis.

In fact the Bank continually preaches the virtues of maintaining stability in the exchange rate peg even in the process of fusing the Maltese Lira into the Euro but avoids the more important issue that needs to be addressed. At what level do we want stability for the exchange rate ` at the nominal level or the real level`

My argument has been that real level stability in the rate of exchange is much more important than nominal rate stability and it is important for the central parity conversion rate into the Euro to be fixed at an equilibrium rate that restores stability to the real rate of exchange. This in order to make us internationally competitive and to generate growth based on productive efficiency rather than unsustainable consumption fuelled by unrealistically hard exchange regime which makes consumption imports cheaper to the detriment of our export potential.

As to the date when we should join the Governor said: The argument has been made in some circles that the adoption of the euro should be postponed to allow a slower pace of fiscal consolidation. My reaction to that - which is spelled out in my speech to the Institute of Financial Services in November 2004 - is that fiscal consolidation is an end in itself, regardless of whether Malta adopts the euro in the short-term or not because healthy public finances are a fundamental aspect of sound economic management. A country cannot live beyond its means indefinitely. Easing the pace of fiscal consolidation, moreover, would also make meeting the fiscal criteria at a later date even more difficult as it would result in the accumulation of debt and higher debt-service payments, requiring even greater cuts in non-interest spending or increased taxation later on. This would send negative signals abroad about the country's resolve to undertake the necessary reforms, probably leading to a downgrade by credit rating agencies and harming both Malta's image as an investment location and the exchange rate. I would be the last one to disagree with such views.` But I am realist and I know that fiscal consolidation in the second half of a legislature is as likely as snow in August. We are more likely to have figure fudging rather than real fiscal consolidation. We have had such figure fudging in each and every second half of the last two full legislature i.e. 1992-1996 and 1998 -2003.

Can we take the risk of adopting the Euro before actually delivering on fiscal consolidation and before restoring the competitiveness of our economy through real restructuring which involves adjustment pain that politicians normally avoid in the second half of a legislature

Do our monetary authorities realize the hard choice they would face if people lose faith in our ability to defend central parity under the new rules of ERM II` Are such fears not stoked by the possibility of approaching elections that could return a government that needs to use exchange rate as a policy instrument as the Leader of the Opposition has already indicated that he might wish to do if elected`

Timing is of essence for such a grand project as that of adopting the Euro which unlike EU membership does not allow for much transitional adoption of the new rules.` Indeed the rules of the game would change before we join the Euro from the moment we enter ERM II and declare the central parity.

Timing for Euro adoption is more suited for the first half of a legislature so that 2008 seems an odd choice. 



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