2014 Convergence Report and Lithuania

04 June 2014
by eub2 -- last modified 04 June 2014

The European Commission released on 4 June its 2014 Convergence Report, which assesses eight EU Member States' readiness to join the single currency. These countries have made uneven progress on the road to euro adoption, but Lithuania stands out from this group as it now fulfils the convergence criteria.

The Commission is therefore proposing that the EU Council of Ministers decide that Lithuania can adopt the euro on 1 January 2015. The Council will take the final decision on the matter in the second half of July, after EU Heads of State and Government have discussed the subject at the 26-27 June European Council, and after the European Parliament has given its opinion.

What is the Convergence Report?

The Convergence Report forms the basis for the EU Council of Ministers' decision on whether a Member State may join the euro area. The report assesses whether Member States with a derogation (1) have achieved a high degree of sustainable economic convergence, in terms of price stability, sound public finances, exchange rate stability and convergence in long-term interest rates. It also assesses the compatibility of their national legislation with Economic and Monetary Union (EMU) rules set out in the Treaty: independence of the national central bank, prohibition of monetary financing, and compatibility with the statutes of the European System of Central Banks (ESCB) and of the European Central Bank (ECB).

Convergence Reports are issued every two years or, as was the case for Latvia in 2013, when there is a specific request from a Member State to assess its readiness to join the euro area. The 2014 Convergence Report covers the eight Member States with a derogation: Bulgaria, the Czech Republic, Croatia, Lithuania, Hungary, Poland, Romania and Sweden.

What are the conclusions of the assessment carried out for Lithuania?

The 2014 Convergence Report concludes that Lithuania meets the criteria for adopting the euro. As a consequence, the Commission is proposing that Lithuania adopt the euro on 1 January 2015 and that the Council abrogate the derogation accordingly. This formal decision is expected to be taken by the EU Council of Ministers in the second half of July 2014.

GENERAL QUESTIONS ABOUT EURO ADOPTION

What are the convergence criteria?

The convergence criteria ('Maastricht criteria) are set out in Art. 140(1) of the Treaty on the Functioning of the European Union (TFEU). Sustainability is a key aspect of the assessment of the Maastricht criteria.

Illustrated in a simplified way, the criteria are as follows:

WHAT IS MEASURED	HOW IT IS MEASURED	CONVERGENCE CRITERIA
Price stability	Harmonised consumer price inflation rate	Not more than 1.5 percentage points above the rate of the three best performing EU countries
Sound public finances	Government deficit as % of GDP	Reference value: not more than 3%
Sustainable public finances	Government debt as % of GDP	Reference value: Not more than 60%
Durability of convergence	Long-term interest rate	Not more than two percentage points above the rate of the three best performing EU countries in terms of price stability
Exchange rate stability	Deviation from a central rate	Participation in the European Exchange Rate Mechanism for two years without severe tensions

Is there any other report complementing the Commission's assessment?

Yes, in line with its mandate, the European Central Bank (ECB) has also prepared a convergence report assessing the readiness of Member States with a derogation for the adoption of the euro. It is also published today.

 

Which countries that joined the EU in 2004 or 2007 have already adopted the euro?

So far, six of the twelve Member States that joined the EU in 2004 or 2007 have already adopted the euro. Slovenia did so in 2007, Cyprus and Malta in 2008, Slovakia in 2009, Estonia in 2011 and Latvia in 2014. Currently more than 333 million people in 18 countries use the euro: Austria, Belgium, Cyprus, Estonia, Finland, France, Germany, Greece, Ireland, Italy, Latvia, Luxembourg, Malta, the Netherlands, Portugal, Slovakia, Slovenia, and Spain.

 

What about the other countries?

In principle, all Member States that do not have an opt-out clause (i.e. United Kingdom and Denmark) have committed to adopt the euro once they fulfil the necessary conditions. The Member States that acceded to the EU in 2004, 2007 and 2013, after the euro was launched, did not meet the conditions for entry to the euro area at the time of their accession. Therefore, their Treaties of Accession allow them time to make the necessary adjustments. It is up to individual countries to calibrate their path towards the euro, and no timetable is prescribed. However, it is important not to underestimate the role of euro adoption as a medium-term policy anchor, and the risks to credibility and confidence of derailing the convergence process.

 

What are the benefits of adopting the euro?

The benefits of the euro are diverse and are felt on different scales, from individuals and businesses to whole economies. They include:

• Stable prices: In the 1970s and 1980s many EU countries had very high inflation rates, some of 20% and more. Inflation fell as they started preparing for the euro and, since its introduction, has on average been at 2% in the euro area. Price stability means that citizens' purchasing power and the value of their savings are better protected.
• A more transparent and competitive market: The euro brings price transparency to the single market. Consumers can easily compare prices across borders and find the best price for a product or service. Greater price transparency also increases competition between shops and suppliers, keeping downward pressure on prices.
• The Single Euro Payments Area: The costs of sending money in euro to another euro area country have been reduced since the introduction of the euro and EU rules on cross-border euro payments in 2001.
• Lower travel costs: The costs of exchanging money at borders have disappeared in the euro area. This makes it cheaper and easier to travel.
• More cross-border trade: Within the euro area, there is no need for businesses to work in different currencies. Before the euro, a company would need to take account of the risk of fluctuating exchange rates and currency exchange costs alone were estimated at €20 to €25 billion per year in the EU. With no exchange risks or costs, cross-border trade within the euro area is facilitated. Not only can companies sell into a much larger 'home market', but they can also more easily find new suppliers offering better services or lower costs.
• More international trade: The euro area is also a large and open trading block. This makes doing business in euro an attractive proposition for other trading nations, which can access a large market using one currency. Euro-area companies also benefit because they can export and import in the global economy using the euro. This reduces the risk of losses caused by global currency fluctuations.
• Better access to capital: The euro gave a large boost to the integration of financial markets across the euro area. Capital flows more easily because exchange rate risk has disappeared. This allows investors to move capital to those parts of the euro area where it can be used most effectively.

But belonging to the euro area is much more than sharing a currency. It is about belonging to a community based on responsibility, solidarity and mutual benefits. Experience shows that when conditional financial assistance is provided to one euro area country, it reduces risks of instability also for the euro area as a whole.

Does the euro changeover increase prices?

The changeover processes in 2002 and thereafter, when other Member States joined the euro area, are estimated to have increased prices by a one-off additional 0.1 to 0.3 percentage points. So if the average price rise from one year to the next was €2.30 for a €100 basket of purchases, then no more than thirty euro cents of this increase was due to the euro.

When the Maastricht Treaty was agreed in 1991, the average inflation rate in the euro area was around 4%. Since the launch of the euro in 1999, annual inflation in the euro area - as measured by the harmonised index of consumer prices (HICP) - has averaged 2%.

As the other Member States have done under previous euro changeovers, Lithuania will have to take proper action for price monitoring including of proximity business, enforcement of competition rules, providing sufficient information to citizens, and involvement of stakeholders in fair pricing campaigns.

QUESTIONS CONCERNING LITHUANIA SPECIFICALLY

What are the next steps concerning Lithuania?

Further to the Commission proposal to abrogate Lithuania's derogation, euro area Member States deciding by qualified majority will issue a recommendation on euro introduction in Lithuania.

The Council will then take a formal decision in July, after consulting the European Parliament and after EU leaders have held a discussion in the European Council on 26-27 June. This would allow Lithuania sufficient time for thorough technical preparations to introduce the euro on 1 January 2015.

Together with the decision on the abrogation of the derogation, the Council will also have to irrevocably fix the exchange rate and decide on other measures necessary for the introduction of the euro in Lithuania, based on Commission proposals and after having consulted the ECB.

How will the decision on the conversion rate be taken?

The Commission plans to propose to the Council a possible conversion rate for the Lithuanian litas in early July. The formal decision would be taken in the second half of July, by the EU Council of Ministers. The decision is taken by unanimity of all euro area Member States and Lithuania.

After the Council's decision on Lithuania's euro adoption, what must still be done in the country by 1 January 2015?

Lithuania must carefully prepare the changeover to the euro by implementing its national changeover plan, which provides all the details for the organisation of the introduction of the euro and the withdrawal of the litas. It sets, for instance, the timetable for supplying euro cash to commercial banks and to retailers, the rules for cash exchanges for citizens to be applied before and after its "day one" of the euro, and the strategy for adapting bank accounts, electronic payments systems and ATMs to the euro. Importantly, the Lithuanian authorities must also carefully put in place measures and information campaigns aimed at preventing changeover-related price increases.

What will the euro change in terms of Lithuania's monetary policy?

Lietuvos Bankas, the national central bank of Lithuania, would become a member of the Eurosystem, the central banking system of the euro area.

In accordance with the Statute of the European System of Central Banks (ESCB) and of the European Central Bank (ECB), Lietuvos Bankas would have to pay the remainder of its contribution to the capital of the ECB and transfer its contribution to the foreign reserve assets of the ECB. Upon adoption of the euro, the Lithuanian monetary financial institutions would be integrated into the euro area banking system and be able to participate in ECB open market operations.

The Governor of the Central Bank of Lithuania would become a member of the Governing Council of the ECB.

Lithuania would also have the right to design Lithuania-specific euro coins for circulation throughout the euro area.

When will Lithuania become a member of the European Stability Mechanism?

Once the Council decision on euro adoption is taken, Lithuania may apply to become a Member of the European Stability Mechanism (ESM). From the entry into force of the Council decision, and following the approval by the ESM Board of Governors, membership becomes effective once it has deposited the instrument of ESM accession. The Board of Governors will have agreed the detailed technical terms of this accession, including an adaptation of the capital key, taking into account Lithuania's accession.

When will Lithuania need to comply with the "Two-Pack"?

If Lithuania joins the euro area on 1 January 2015, it will be immediately subject to the obligations under the 'Two-Pack' legislation and will, in particular, be expected to submit its draft budgetary plan for the year 2016 by 15 October 2015. The following new obligations have been introduced for euro area Member States with the entry into force of the 'Two Pack' legislation:

In terms of the budgetary framework: macroeconomic forecasts need to be independently produced or endorsed; compliance with national fiscal rules should be monitored by independent bodies.

Closer coordination of their budgetary policies requires all Member States of the euro area to send to the Commission for its assessment their draft budgetary plans for the following year by 15 October every year; they also share ex ante their debt issuance plans.

Specific requirements are applicable when a country is under the Excessive Deficit Procedure, as well as when threats to its financial stability are detected.

What else changes as regards fiscal surveillance and policy coordination if Lithuania adopts the euro?

The Treaty on Stability, Coordination and Governance (TSCG) in the EMU would become binding in its entirety, including the Fiscal Compact. Lithuania is a contracting party of the TSCG and has already ratified it. However, some titles of the Treaty are only binding for euro area Member States, such as the Fiscal Compact, that non-euro area Member States can choose not to be bound by. This was the case of Lithuania when ratifying the TSCG: when entering in the euro area, it would become subject to the Treaty in its entirety. This includes, inter alia, the obligation to enshrine in national law a budget-balance rule based on the Stability and Growth Pact's medium-term objective and the automatic correction mechanism in case of deviations, under the monitoring of independent institutions. Another obligation deriving from the TSCG for euro area Member States is the commitment to support recommendations of the Commission to the Council in the context of an Excessive Deficit Procedure for a euro area Member State (which is based on the deficit criterion), unless a qualified majority of euro area Member States is against the recommendation.

Euro area Member States can be subject to financial sanctions if they breach their budgetary obligations under the Stability and Growth Pact. Since the end-2011 reform of the Stability and Growth Pact, this applies earlier in the process and also when a country significantly deviates from the adjustment towards its medium-term budgetary objective.

When will Lithuania join the banking union?

With the adoption of the euro, Lithuania would become a participating member of both the Single Supervisory Mechanism (SSM) and the Single Resolution Mechanism (SRM), which have been established. The SSM will be fully operational as from November 2014, while the SRM regulation will enter into force in the coming months, shortly after its publication in the Official Journal, and will be fully operational from 1 January 2016 provided that the conditions regarding the transfer of the bank contributions to the Single Resolution Fund and their progressive mutualisation are met.

A few Lithuanian banks would qualify for direct supervision by the ECB as single supervisor in the euro area.

The Central bank of Lithuania is getting ready to the participation in the banking union and banks' supervisory process is being dovetailed to the ECB requirements.

Will euro adoption impede Lithuania's national sovereignty?

On the contrary, euro adoption will mean Lithuania can participate for the first time in decision-making on issues that already affect the country, due to its twelve-year-old peg to the euro. Key euro area-related decisions will continuously be taken by the national government representatives in fora like the Eurogroup (meeting of euro area finance ministers), so the Lithuanian authorities will have a significant policy-making impact as they will participate in these meetings.

2014 Convergence report

ECB Convergence Report

Notes

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1 : The Member States that have not yet fulfilled the necessary conditions for the adoption of the euro are referred to in the Treaty on the Functioning of the European Union as "Member States with a derogation", unlike Denmark and the UK, which negotiated opt-out arrangements in the Maastricht Treaty. See section "What about other countries?"