Election outcome will influence euro adoption - courtesy of The Prague Post

After years of making, and breaking, plans to adopt the euro, the government is under growing pressure from the Czech National Bank (ČNB), the European Commission (EC) and independent banking analysts to make concrete political and economic steps toward adopting the currency.

Several reports on the state of the country’s path to euro adoption have been published in recent weeks, and the conclusions unanimously agree that the upcoming elections will crucially affect the country’s date for euro conversion and that the new government must take action to meet the economic criteria or face sanctions by the European Union. The ČNB held a press conference on euro adoption March 28, and ČNB Governor Zdeněk Tůma marked 2015 as a possible date for the currency change but said the debate has hit "a bottleneck," and the exact date of conversion now depends on political decisions that cannot be made until after the elections.

Tůma’s remarks were confirmed to The Prague Post by ČNB spokesman Tomáš Zimmermann, who said, "Governor Tůma is very consistent with his statements on this topic. According to the governor, the acceptance of the euro is mainly a political decision."

The ČNB conference came on the heels of a report from Komerční banka (KB) outlining the benefits and disadvantages of entering the Economic and Monetary Union (EMU). The report, published March 26, compares the Czech economy with Slovakia’s, which entered the EU at the same time as the Czech Republic but converted to the euro in January 2009.

Those who support the delay in adopting the euro say the Czech crown acted as a safe-haven during the recession. But the situation is not so clear-cut, Anne-Francoise Blüher, economic and strategy research specialist at KB and co-author of the report, told The Prague Post.

"Our financial markets were very well protected by the Czech crown, but in many areas the Slovak economy performed better with the euro, despite the fixed exchange rate. Also, the dynamics of recovery are happening much more quickly in Slovakia, though the fiscal recovery package was larger in the Czech Republic. This is very surprising, as economic theory led us to expect the opposite," she said.

Blüher said the crown’s volatility led exporters to hedge prices at extreme levels, causing them to lose credit once orders were canceled on the depreciative swing of the exchange rate. Ironically though, the economic turmoil caused by the crown’s volatility has opened a window of opportunity for euro conversion, according to Blüher’s KB colleague and co-author, Miroslav Frayer.

"The crisis has actually helped the Czech economic cycle to become more aligned with the eurozone economy. We are now at the low point of the economic cycle, as is the eurozone economy, and we’re probably going to see similar development in the future," he said. "The Czech economy is relatively prepared for euro adoption, but it depends on the political will to cut the deficit."

Frayer and Blüher agree the budget deficit is the only real hurdle the Czech economy faces before it is eligible for euro adoption. According to the Finance Ministry’s latest predictions, the budget deficit will amount to 5.3 percent of gross domestic product (GDP) in 2010 and should fall to 4.2 percent by 2012, a figure still well above the Maastricht criteria for euro conversion, which limits budget deficit at 3 percent of the country’s GDP in the year preceding euro conversion.

Finance Minister Eduard Janota’s austerity package for the 2010 budget, aimed at curbing the budget deficit, plans to lower the budget deficit 0.8 percent annually between 2010 and 2012, a figure that was condemned as not ambitious enough by a March 24 EC report.

Blüher said the report highlights the immediate need for conclusive political decisions in the Czech Republic.

"The European Commission’s report is correct, but the problem here is due to the political situation. We don’t know who will be in the next government and how they are going to implement these reforms," she said. "There are structural problems in the fiscal area that must be solved, and it’s up to the next government to do this job, or the criticism will continue, and we risk being cut off from a transfer of payments from the EU."

The bottom line, according to Blüher, is that everything depends on the next government’s willingness to aggressively cut the budget deficit. Despite increasing pressure to do so, however, the government’s hesitation may be wise, at least for the time being.

"The problem is that cutting the deficit will slow economic growth and lead to unemployment. Until real recovery is seen in the eurozone and trickles down to the Czech economy through exports, there’s not going to be a strong will to do that," she said. "Right now, the target isn’t joining the EMU in any particular year; the target is the recovery of the economy."

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This article has been reprinted with the permission of the Prague Post