Enlargement and the euro

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In accordance with the provisions of the Maastricht Treaty, all new members of the European Union are eligible and compelled to join the bloc's single currency, the euro. Of the twelve member states that joined the Union between 2004 and 2007, Slovenia, Cyprus, Malta and Slovakia have fulfilled the convergence criteria and are now part of the euro area. 

Background

The euro zone began life on 1 January 1999, with the participation of eleven EU countries. On that day, the exchange rates of all EMU (European Monetary Union) currencies were irrevocably fixed and euro officially became a legal currency.

In January 2002, euro coins and banknotes were officially introduced as legal tender, and six months down the line national currencies disappeared.

The UK, Sweden and Denmark have all decided to stay out of the euro zone for the time being, while Greece did not join at first because it failed to meet the Maastricht criteria. On 1 January 2001, Greece became the 12th country to adopt the common currency after it fulfilled all the requirements for eurozone entry. 

On 1 May 2004 the Union enlarged to bring on board 10 new members: Poland, Hungary, the Czech Republic, Slovakia, Slovenia, Estonia, Latvia, Lithuania, Cyprus and Malta. The fifth enlargement round was completed on 1 January 2007 with the accession of Bulgaria and Romania to the Union. 

All the new EU members have declared their intention to join the euro zone. 

Issues

All applicants must fulfil a number of formal and substantial conditions before joining the euro:

  • Satisfy Maastricht convergence criteria of fiscal stability;
  • Ensure Central Bank independence;
  • Achieve low inflation and long-term interest rates, and;
  • Prove monetary stability of their currency by participating in the Exchange Rate Mechanism II (ERM II) for a minimum period of two years. 

No restrictions are placed on candidate countries' exchange rate policies before they enter the EU. Once they have joined the Union, they are expected to treat the exchange rate as a matter of common interest. Some voices in the EU have warned that premature efforts to join ERM II or the euro area may, however, be harmful both to the new member states and the euro area itself.

Eurozone hopefuls can already re-organise their external trade in the single currency. They also benefit from new sources of funding from newly-integrated euro financial markets, which have seen a massive number of international bonds issued in euro denominations since the currency's launch in January 1999.

There is no eurozone exchange rate strategy that the newcomers should follow in the run-up to joining Economic and Monetary Union (EMU). The Nice European Council (December 2000) recommended that candidates adopt monetary policies that best suit their own economic conditions and are consistent with their other policies.

Following their accession, the new members participate in EMU with the status of member states holding a derogation from adopting the euro. This status is granted in the Accession Treaties. During this phase, the new member states have to treat their exchange rate policy as a matter of common concern and they are expected to join the exchange rate mechanism known as ERM II.

Once the new member states have reached a high degree of sustainable nominal convergence, which means fulfilling all the Maastricht Treaty convergence criteria, including at least two years' participation in ERM II, they can adopt the euro. 

In the aftermath of the 2004 enlargement, excessive optimism for early euro adoption seemed to have waned somewhat. Slovenia joined the euro zone on 1 January 2007. It was followed on 1 January 2008 by Cyprus and Malta and on 1 January 2009 by Slovakia. Only Latvia, Estonia and Lithuania had joined ERM II with a view to adopting the euro as early as they could, but in the meantime Latvia's economic situation deteriorated due to the crisis, which saw the country take a 7.5bn euro IMF-led rescue loan. Most of the accession countries were struggling to meet the entry conditions particularly with respect to inflation and, in the case of Poland and Hungary, high debt and deficits.

The credit crunch and the financial crisis have substantially worsened the economic situation of the new EU members. Currencies of acceding member states have been subjected to great volatility (Euractiv 20/02/09) and high deficits. This has had a detrimental effect on those countries that had borrowed from Western Europe and that were heavily dependent on Foreign Direct Investment (FDI). Due to the falling value of certain currencies, the costs connected with repaying the debt have grown exponentially. 

As a consequence, the fall in confidence has revived enthusiasm for the single currency and all the Central and Eastern European Countries (CEECs) have streamlined tentative roadmaps for the adoption of the single currency. Poland, Bulgaria and Romania have also defined target dates: 2012, 2013 and 2014 respectively. According to analysts, these targets could be reviewed. All these countries still have to join ERM II, seen as the ante-chamber of the euro zone. A candidate country must keep its currency in the ERM II exchange rate for at least two years, where it trades in a range against the euro, before adopting the currency. 

In Iceland, severely hit by the economic crisis, the power of attraction of the single currency was so strong that on 17 July 2009, the Icelandic Parliament voted in favour of EU membership, mainly due to the prospect of joining Economic and Monetary Union (EMU). 

Joining the single currency also allows member states to take part into the Eurogroup, the informal meeting of eurozone finance ministers, which takes place one day before the Economic and Financial Affairs Council (Ecofin). This group has become an increasingly powerful forum and it will be formalised by the Lisbon Treaty's ratification. 

Politicians generally agree that without the euro, the Union and its member countries would have been much more severely hit by the ecenomic downturn. In Ireland in particular, where a second referendum was held on the Lisbon Treaty on 2 October 2009,  the 'yes' camp insisted that the country's participation in the euro area had provided a vital anchor of stability in difficult times. 

Positions

On 6 April 2009, the International Monetary Fund urged CEECs to "euro-ise" their currencies in response to the financial crisis (EURACTIV 07/04/09). It justified the move by referring to the increasing burden represented by foreign debt, which it said euro adoption would substantially ease. The IMF proposal would imply a relaxation of the entry rules, but this would not be accompanied by seats on the board of the European Central Bank. 

Speaking at the National Bank of Poland, European Central Bank (ECBPresident Jean-Claude Trichet underlined the important role played by solidarity during the crisis, stressing how the total amount of funds available to EU new member states and its neighbours amounted to some 70 billion euros. 

He said solidarity should not be a substitute for sound macroeconomic policy and that the resilience of Poland and the heterogeneity among CEECs proves this point. 

"Poland has built-up less of macroeconomic imbalances and that it has implemented a set of policies and reforms that have overall been appropriate in recent years," Trichet said. 

At the same forum, EU Economic and Monetary Affairs Commissioner Joaquín Almunia praised CEECs for their achievements in economic and political development. Stressing the link between the 20th anniversary of the fall of the Iron Curtain and the 5th anniversary of European enlargement, he highlighted how enlargement had provided "an anchor for stability and peaceful change". 

Nonetheless, the commissioner warned that there are still issues which need to be substantially tackled, such as long-term unemployment, high external deficits and overheating. 

On 2 November 2009, the European Bank for Reconstruction and Development  (EBRD), the London-based development bank set up to help former communist economies adjust to free markets, issued a report (EURACTIV 02/11/09) stressing the flaws in the development model of a number of CEECs. 

The report found that "financial integration – in the form of large debt flows and foreign direct investment, and an increasing presence of foreign banks – has been an integral part of the 'development model' of transition countries". 

The EBRD criticised this model and urged CEECs to move to more endogenous growth. 

Romanian ALDE MEP Daniel Daianu told EURACTIV Romania that the European Parliament had discussed the issue of swifter eurozone entry, and set out the pros and cons. "On one hand, adopting the euro means eliminating the exchange rate risk. On the other hand, as we can learn from the other countries' experiences, like Greece, Portugal and Spain. The countries that joined the euro zone cannot use the exchange rate as a mechanism of correction for economic imbalances," he said. 

Daianu stated that adopting the euro earlier is "neither a "Deus ex machina", nor a "universal cure". 

Daniel Gros, director of the Centre for European Policy Studies  (CEPS), a think-tank, notes how the banking and financial systems in CEECs are much more "exposed to the consequences of mounting flights of capital and currency attacks". 

He does not suggest that "euro-isation" is a solution, but instead proposes the creation of an EU-wide Financial Stability Plan to provide credit and inject capital into crumbling economies. 

According to Gros, "Eastern European banking systems would effectively be 'European-ised'". 

Timeline

  • The EU's twelve new member states are all eligible to join EMU after having participated in ERM II for two years. The adoption of the euro must be preceded by the fulfilment of the Maastricht criteria. Estonia, Latvia and Lithuania are already in the 'waiting room' for the common currency.
  • 1 Jan. 2007: Slovenia becomes the first of the ten member states which joined the EU in 2004 to introduce the euro.
  • Bulgaria and Romania, which joined the EU in 2007, are also expected to join the euro zone as soon as possible. Romania was confronted with economic problems as a resuly of the crisis and received a 20-billion euro loan from the IMF, the EU and the World Bank.
  • The three largest new member states - the Czech Republic, Hungary and Poland - remain outside ERM II. Hungary was confronted with economic problems due to the crisis and received a $25.1bn rescue package from the IMF, the EU and the World Bank.

  • 1 Jan. 2008:  Cyprus and Malta join euro zone.
  • 1 Jan. 2009: Slovakia becomes fourth country to join the euro since 2004 enlargement.
  • 16 July 2009: Icelandic Parliament votes for the country to begin EU accession talks. 
  • 17 July 2009: Iceland formally submits EU membership application at ambassadorial meeting organised by Swedish EU Presidency. 

Further Reading

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