Independent work Nationalekonomi Economics Titel Latvia in European Monetary Union gains and losses Erlands Krongorns, Andris Bertins 2 Institutionen för samhällsvetenskap Latvia in European Monetary Union gains and losses Författare: Erlands Krongorns, Andris Bertins Handledare: A. Khalik Salman Kurs: NA003G Nationalekonomi GR (C) Kandidatuppsats i nationalekonomi 15 hp Termin: VT 2013 2 Abstract Latvia is trying to join European Monetary Union in 2014. The purpose of this work is to understand gains and loss of European Monetary Union and how they would affect Latvia if Latvia would join in European Monetary Union. In this paper we analyze gains and loss of common single currency and how they affect all Euro area and small open Euro area countries which are similar to Latvia before and after adopting euro. Some gains are more visible than other with bigger impact, but losses in some circumstances can be bigger than all gains from monetary union. Purpose The question now is should Latvia join EMU or no, you will not get answer on this question in this paper. It is too complicated to say yes or no, but we will look on gains and losses and analyze how it could affect Latvia if it become a member of EMU. The importance of knowing gains and losses is very big because only smart and knowledgeable people can make right decisions. There have been a lot of research paper about gains and losses about EMU, Daniel Portone The Costs and Benefits of the Euro in European Monetary Union, Paul Krugman Can Euro be Saved, George S. Tavlas Benefits and Costs of Entering the Eurozone all these papers analyze the EMU and the conclusions is asymmetric between Paul Krugmans view and two others. Our research is based on European Commission view which is similar with Portones and Tavlas opinions. Methodology The main goal with this paper is to analyze gains and losses of being a part of EMU. In this paper we use qualitative research, we analyze different previous written papers about gains and losses of monetary union and we determine gains and losses and compare results with empirical data between Latvia and most similar countries in EMU and euro zone by itself to prove these gains and losses and then make conclusions. 3 Contents 1 Introduction ......................................................................................................................................... 7 1.1 Background ................................................................................................................................... 7 1.2 Outline of Chapters ....................................................................................................................... 7 3 Latvia .................................................................................................................................................... 8 3.1 About Latvia ................................................................................................................................... 8 3.2 Latvia’s history ............................................................................................................................... 9 3.3 Economy of Latvia ......................................................................................................................... 9 4 European Monetary Union (EMU) ...................................................................................................... 11 4.1 What is EMU ................................................................................................................................ 11 5 Maastricht Criteria and Latvia’s results ............................................................................................. 13 5.1 Maastricht Criteria ...................................................................................................................... 13 5.2 Latvia’s results ............................................................................................................................ 14 6 Gains of being a part of EMU ............................................................................................................. 17 6.1 Consumer benefits ...................................................................................................................... 17 6.1.1 A more competitive market ................................................................................................. 17 6.1.2 Price stability ....................................................................................................................... 17 6.1.3 Easier, safer and cheaper borrowing .................................................................................... 19 6.1.4 Lower travel costs ................................................................................................................. 20 6.1.5 More growth and job ............................................................................................................ 21 6.2 Business benefits ......................................................................................................................... 21 6.2.1 More cross-border trade ...................................................................................................... 21 6.2.2 Better borrowing, better planning, more investment .......................................................... 22 6.2.3 More international trade ...................................................................................................... 24 6.3 Single financial market ................................................................................................................ 25 6.4 An international currency ............................................................................................................ 26 6.4.1 Supporting international trade ............................................................................................. 26 6.4.2 Foreign appeal ...................................................................................................................... 26 7 Loses of being a part of EMU .............................................................................................................. 28 7.1 Loss of autonomy over economic policy ..................................................................................... 28 7.1.1 Asymmetric shocks ............................................................................................................... 28 7.2 Countries will lose some independence over fiscal policy .......................................................... 29 7.2.1 What is The Stability and Growth Pact ................................................................................. 30 7.2.2 History of the SGP ................................................................................................................. 31 4 7.2.3 The SGP results for Euro zone and Latvia ............................................................................. 31 7.3 Cost of replacing currency ........................................................................................................... 32 8 Conclusions ......................................................................................................................................... 33 8.1 Comments ................................................................................................................................... 33 References ............................................................................................................................................. 34 Appendix ................................................................................................................................................ 36 5 Abbreviations EMU European Monetary Union EU European Union Ls Lats GDP Gross domestic product NATO The North Atlantic Treaty Organization IMF International Monetary Fund ECB the European Central Bank US The United States ERM II The European Exchange Rate Mechanism II ESCB The European System of Central Banks WTO World Trade Organisation The SGP The Stability and Growth Pact EDP Excessive Deficit Procedure TFEU the Treaty on the Functioning of the European Union 6 1 Introduction 1.1 Background Latvia has joined European Union on 2004 together with ten other countries. (Cyprus, Czech Republic, Estonia,Hungary, Latvia, Lithuania, Malta, Poland, Slovakia and Slovenia) Five of these countries have joined EMU as well. On 2004 together with EU agreement Latvia accepted agreement to join EMU in future when it will accomplished convergence criteria so called Maastricht Criteria. Latvia’s target to become a member of EMU was set on 1th of January on 2008. Latvia failed, the inflation on beginning of 2007 was too high1. Now Latvia has made new target time to join EMU it is 1th of January on 2014.2 1.2 Outline of Chapters The paper is divided into 8 chapters. After the introductory chapter, chapter 2 presents the model of theoretical concepts for our paper. Chapter 3 presents introduction about Latvia, chapter 4 presents information about European Monetary Union. Chapter 5 provides information on Maastricht Criteria and Latvia’s results. Chapter 6 shows gains while chapter 7 shows losses of European Monetary Union and chapter 8 offers the conclusions and final remarks made in this study. 1 Bank of Latvia, 2013, http://www.bank.lv/en/eu-and-euro/eu-and-euro 2European Commission, 08.05.2013, http://ec.europa.eu/economy_finance/euro/adoption/who_can_join/ 7 3 Latvia Source: Central