European Commissioner for Economic and Monetary Affairs
EMU Governance and Euro Changeover Conference
Ljubljana, 17 March 2006
Ladies and Gentlemen,
It is pleasure for me to be here in Ljubljana today amid such distinguished speakers as Mr. Jansa, Prime Minister of the Republic of Slovenia and Dr. Bajuk, the Minister of Finance.
When I was here in April last year, I emphasised the importance of a comprehensive communication strategy to help Slovenian citizens learn more about the euro. I am pleased to see that this strategy is underway and to find out that the Slovenians know practically as much about the euro as the citizens in the neighbouring countries that already have it. Today's conference is a good opportunity to answer any outstanding questions at this crucial time when your country enters the last lap on the road to the European single currency. .
But let me first take stock of the first seven years of the euro. Seven years is such a short period, or is it, really? Some say that it is the age of reason... The fact is that citizens in the countries that currently form the euro zone have the feeling that the euro has been around for a very long time!
After seven years, they also often forget what an achievement it represents. Back in 1990s, there were many highly respected commentators who said it would never happen. Others speculated that if EMU were to happen it would immediately fall apart, and that it would even trigger widespread social disruption in the participating countries. Well, EMU happened and it happened smoothly, bringing huge benefits for the some 310 million - governments, companies and consumers alike - who share it.
One of the main achievements of the euro has been the macroeconomic stability it has brought to Europe. In this sense, the "stagflation" of the 1970s and early 1980s was a salutary experience for Europe. An inappropriate monetary and fiscal policy response to the two major oil price shocks resulted in output stagnating and soaring prices. This was surely a costly demonstration of the consequences of a weak macroeconomic policy framework.
Just consider how well we have withstood the ongoing oil crisis during which oil prices increased three times compared with the beginning of the millenar. Despite this, inflation remains under control and without any visible signs of second-round effects on wages and prices.
EMU has delivered low and stable inflation rates to the euro area. Despite a widespread belief the euro has not increased prices. Inflation has come down from rates of around 7 per cent in the 1980s and above 4 per cent in the early 1990s to just over 2 per cent today. Although high oil prices have edged up consumer prices at the beginning of this year, our most recent forecasts predict that the year-on-year figure will decline.
Long-term interest rates in the euro area have also fallen dramatically and some countries have experienced a very important convergence of the interest rate spread following the adoption of the euro. The credibility of the ECB's monetary strategy has helped here too. This is a major achievement given that the ECB is still a junior institution. Today, nominal and real interest rates - both long- and short-term - are historically low in spite of the recent monetary tightening by the ECB. This fact supports investment plans and also greatly reduces the burden of servicing governments' debt.
Fiscal discipline has helped underpin macroeconomic stability in EMU. An impressive degree of budgetary consolidation was achieved in the run-up to the launch of the euro. On average, public finance deficits fell by more than 5% of GDP during the 1993-1998 period. The Stability and Growth Pact assures that fiscal policies at the national level remain prudent so that automatic stabilisers are allowed to operate relatively freely in response to economic downturns. In the medium and long run, the Pact promotes sustainable public finances and favours a reallocation of public resources in line with government priorities. It provides an appropriate framework for prudent budgetary management that is conducive to growth. It is thus in the economic self-interest of all countries.
While the experience with the Pact has been positive overall, its application during the first years of EMU revealed some shortcomings and hence the need for reform, and a revamped SGP was agreed to in March 2005. The SGP reform struck the right balance between economic rationale and simplicity, between allowing more room for judgement and maintaining the rigour of the rules-based system. Our initial experiences with the revised Pact have been encouraging and suggest a renewed sense of national ownership of the framework.
While EMU has been very successful in implementing a stable macroeconomic framework, the euro-area's growth performance since 1999 has, on the other hand, been mixed. Economic activity was unexpectedly buoyant in 1999 and 2000, with real GDP growth peaking at 3.5 per cent in 2000 - the highest level for a decade. But the cyclical upswing did not last long. The euro area was hit hard by the slowdown in the global economy that set in from 2001 onwards. The turnaround finally occurred in the summer of 2003, and a recovery is now well underway. According to our most recent forecasts, economic growth in the euro area is expected to reach 1.9% in 2006.
Nevertheless, the overall growth in the euro area remains disappointing, especially when comparisons are made with the United States. To some extent, the faster growth of US GDP reflects a faster growth of the US population so that direct comparisons of headline growth numbers between the euro area and the US can be misleading. If we adjust for this, and compare growth in per-capita terms, the differential with the US is reduced to about ½ per cent per year on average since 1995. Still, we are convinced that we can and must do better in order to reduce the unemployment rate that remains far too high in both the EU25 and the euro zone at a total of nearly 19 million. .
The mixed growth performance of the euro area is not due to failures of macroeconomic policy. The real reason is a lack of progress in the structural reform of product, labour and capital markets. Even though important reforms have been set in motion in several Member States, the overall pace of reform is too slow. Our estimates indicate that comprehensive product and labour market reforms in all Member States could add almost half a percentage point to the annual growth rate. An additional quarter of a percentage point could come from the increased investment in knowledge foreseen in the Lisbon Strategy. The effects of capital market integration would further add to potential growth. Comprehensive reforms, covering product and labour markets, more investment in R&D and education and the creation of a single market in financial services could thus raise potential growth from 2% to 3%.
Structural reforms to ensure flexible prices and wages also have an added importance for members of the euro area. Changes in price and cost competitiveness are one of the key channels through which national economies adjust to economic shocks with differentiated impacts. A key lesson of the first seven years of EMU is that relative prices and wages have adjusted too slowly in some Member States. It is clear that while slow-growing Member States such as Germany have significantly improved their competitiveness, others that overheated in the late 1990s, such as the Netherlands and Ireland, have become much less competitive.
This slow response of prices and wages to swings in competitiveness has contributed to the significant and persisting gap between the highest and lowest growth rates in euro area. In 2004, for instance, this difference stood at 4½ percentage points. Although differences of this magnitude are not unusually large by historical standards, their persistence is a cause for concern as it creates the risk that the gap could become entrenched over time.
Stepping up the pace of structural reform in the euro area is, therefore, a top priority. It ultimately falls to the individual Member States to make the tough but necessary political choices involved in reforming their product, labour and capital markets and improving the quality of their budgets. As part of the revamped Lisbon Strategy, Member States have prepared National Reform Programmes to identify the key obstacles to structural reform in each country. Earlier this year, the Commission presented its assessment of these programmes in its Annual Progress Report and proposed new urgent measures to be implemented by 2007.
The report particularly welcomed the emphasis on measures to ensure the long-term sustainability of public finances and reforms to improve the regulatory environment and cut administrative costs on businesses in the euro zone. But other areas deserve further attention. Firstly, it is essential to revert the upward trend in the debt ratio, in line with the revised Stability and Growth Pact. Secondly, the pace of R&D and innovation needs to be stepped up to meet the overall aims of the revised strategy for growth and jobs. Thirdly, ensuring competition in services and network industries is critical for the smooth functioning of the Internal Market. Fourthly, the report calls for further measures to improve the adaptability of euro-area labour markets, including increased investment in training for adults.
Of course, the impact of EMU over the last seven years has not been confined to the euro area. The euro has rapidly become the second most important international currency and the euro area has become one of the most relevant economic entities at the international level, accounting for 23% of world GDP and world trade (this excludes intra-euro-area trade). The enhanced macroeconomic stability, the improved economic efficiency and the closer financial integration within EMU have inspired confidence in the euro among consumers, producers and investors, not only in the euro area but well beyond its borders. The growth of the euro as a global currency underlines the need for the euro area to become more visible internationally. A key challenge for the future will be to ensure a more coherent and effective representation in international institutions and fora such as the IMF and World Bank.
To conclude, let me address a future challenge for EMU that is central to our discussions here today: the enlargement of the euro area. As you know, the Maastricht Treaty requires Member States to achieve a high degree of nominal convergence prior to adopting the single currency. Satisfying the accession criteria requires a huge effort by all new Member States and considerable progress has been made in most countries thanks to the commitment of citizens and governments to making EMU membership a top priority.
Slovenia, I am pleased to say, is in the vanguard of the group. At the request of the Slovenian government, the Commission will prepare a Convergence Report. I do not wish to prejudge the outcome of this exercise, but I will say that the progress towards nominal convergence is encouraging. Budget deficits and government debt have remained low, although the long-term sustainability of public finances gives cause for concern due to an expected increase in pension costs. The tolar has remained very stable against the euro since Slovenia joined ERM II in June 2004 which has encouraged a continued convergence in long-term interest rates. The outlook for inflation has also become more positive recently, although ensuring durably stable prices remains a clear priority for Slovenia.
Slovenia also faces important challenges with respect to practical preparations for the introduction of the euro. I would like to convey three messages in this respect.
Firstly, Slovenia has chosen a big-bang scenario, which has indeed many advantages. However, the challenges entailed by this scenario should not be underestimated. Bear in mind that it took some of the current euro-area members as long as six years to prepare for the introduction of euro notes and coins. In this respect, I would urge all economic actors in Slovenia - both public and private - to redouble their efforts to implement practical preparations in a timely manner.
Secondly, Slovenia has the benefit of being able to draw on the best practice of the euro-changeover in other Member States. For example, a key lesson from the 2002 euro-changeover is that virtually all focus and attention was put on the introduction of the euro while the logistical challenge of withdrawing the old national notes and coins was generally underestimated causing significant problems to retailers. Problems such as these must obviously be avoided to minimise problems for businesses especially small ones.
Thirdly, as the introduction of the euro draws nearer, consumers may express concerns over price increases. This will require your utmost attention and vigilance. Abuses must be discouraged and measures taken to ensure prices are converted at the official rate. . In addition, possible misperception of price changes should be addressed by providing ample information about the euro-changeover and the benefits of EMU.
The Commission, for its part, stands ready to support Slovenia in this and other aspects of the practical preparations.
Let me finish by saying that I think that today's conference is a unique chance to exchange views and to work together in order to take Slovenia and the euro area a step closer together.
Thank you very much for your attention.