A lecture by Siim Kallas, Vice-President of the European Commission, dedicated to professor Nurkse
at Eesti Pank's conference "The Opportunities of the European Economy in the Context of Global Competition" in Tallinn on May 23, 2007

The Estonian kroon 15

The desire of revolution and reform veterans to reflect sentimentally on the experienced events and their temptation to focus on emotions and see everything in the most beautiful colours possible intensifies year after year. For me, the night of June 20, 1992, was probably the brightest night (what an odd pair of words!). On the other hand, it is obvious that as time goes by the events gone by can be assessed more objectively.

We have a reason to be satisfied. The Estonian kroon has been a success. After the monetary reform I was asked at several appearances abroad - what is the key to a successful monetary reform? I deduced an answer based on my firm conviction - four components are essential for this: a good idea, good execution, socio-political support and the right timing.

Although the Estonian kroon (the Estonian monetary system) was a good technical idea and we are very proud of its efficient execution, the Estonian kroon also carried an essential social and political idea. And this idea came to life. The money the Estonian people got was exactly what they had dreamt of. The Estonian kroon has been one of the most stable and reliable cornerstones of safeguarding the Estonian independence. The Estonian kroon has withstood the attempts to undermine it politically, it is well maintained in technical terms and has provided a very solid framework for the Estonian economy.

From these statements I would now like to move on to observing our future currency - the euro - as an important monetary, economic and especially a political project.
I have always supported the idea of a common European currency and admitted the inevitability of giving up the kroon. The reasons for this were clear to us already when the single European currency did not even have a name yet. The advantages of joining the euro area are obvious also today. First and foremost, it means greater economic stability as well as freeing the settlements and purchase and sales transactions of our citizens and companies from the need to calculate different exchange rates and consider the various risks related to different currencies.

The euro has been an economically crucial project and its further development is extremely important to all of us. I am prepared to share the opinion of the many who believe that the single currency is what will make the merging of the European economy irreversible.
John Maynard Keynes wrote in 1941 that it is nice to have 30 different countries in the world with their own flags, parliaments and traditions, but why should there be 30 different currencies in circulation among them? Belonging to the British upper class, already then he regarded abandoning the national currency of Great Britain - the pound sterling - absolutely natural.

Today, much has already been talked about the economic aspects of the euro with the recognition that in monetary terms the euro is undoubtedly a solid currency. Is the euro as reliable as the Estonian kroon? It is economically even more reliable because of its greater span. In this respect it is remarkable how the dollar replaced the pound sterling as a global currency in the world's monetary history. The monetary policy of the pound was much more reliable at the time, but the bulk of the dollar fostered by the rapidly growing vast power of the American economy became decisive. Today we may notice that the role of the euro as an international reserve currency and investment currency is growing. The euro has become a currency successfully competing with the dollar in the denomination of international securities. From the perspective of the independent central bank policy the euro is as reliable as the kroon.

What differs from the Estonian kroon, however, is the more complex history of the euro, which might also have affected the current attitude towards the euro in various European Union Member States.

While for Estonians the Estonian kroon was and is an essential national symbol that is generally loved, attitudes towards the euro are considerably more contradictory. Surveys indicate that the European nations whose currency is the euro think of the euro quite differently. The public opinion poll conducted in April shows that as much as 61% of the EU25 citizens do not believe they have benefitted from the euro at all. The opinion of the euro is especially low in Italy, Germany, the Netherlands and Spain. The European public is largely convinced that the euro has caused an increase in prices, although the opinion of experts does not confirm this to a significant extent. The former leaders of the Italian government even talked about leaving the euro area.

One of the main factors undermining the credibility of the euro is the politicians' desire to achieve short-term political success, make the euro a scapegoat for economic difficulties which are actually caused by other problems. We frequently see this in the election campaigns of various countries. This opinion is incessantly spread also by influential trade union confederations.

Besides its economic aspect, the euro was and is also a major political project. Recently I found a fascinating description from a book where the heads of France led by President Mitterrand decided to strongly support the single currency, the euro, and implement the project. They took this standpoint for deeply political reasons. Namely, Germany had just reunited and this spurred fears in the French leaders as to the potential new hegemony of Germany over Europe. They saw the counterpoise to this in a greater integration of the European Union, a part of which was also the single currency. German symbols had to be replaced by European symbols, the Deutschmark by the euro.

When the euro was created, criteria were also laid down for joining the euro area and certain rules were formulated to manage the euro. These included the limit of the consumer price rise, the upper limit for the long-term loan interest, the ratio of the national debt to GDP (60%) and the upper limit of the budget deficit (3%). These standpoints were all understandable from the perspective of solid monetary policy and well founded in macroeconomic terms. In reality these criteria for joining the euro did not proceed only from technical monetary requirements, but also had a political background. They were extensively related to the political background of adopting the euro in Germany, where the public opinion was the least favourable towards the introduction of the euro from among all the countries that wished to do so.

With regard to the current situation it is extremely important to be aware of this. Namely, it was the German monetary policy that attributed fighting inflation such an importance. The key idea was never to repeat the inflation catastrophe of the Republic of Weimar. We all know what followed after the Republic of Weimar. Today, as the European monetary policy has generally maintained a low level of inflation, people have forgotten how much damage high inflation can cause. With our inflation management problems we have to understand it.

There are several political nuances and contradictions in the history of the euro.
Soon the euro will have been adopted in over half of the Member States, servicing the majority of the union's economy.
But three old Member States have avoided adopting the euro since the beginning. Denmark and Great Britain are excluded pursuant to agreed supplementary clauses, but Sweden has no legal basis for avoiding the adoption of the euro. But no one is asking Sweden - when are you going to fulfil the contract? Besides, it seems that the three old EU Member States are not even planning to adopt the euro any time soon. They are not in any economic difficulties; it is hard to prove (although such materials have lately been published) that introducing the euro would improve their economic situation. This feeds a certain insecurity, distrust in the euro in the countries where it has been adopted as well as in the countries where the substitution of the national currency for the euro is still being scheduled.

One monetary policy criterion instantly caused political issues. It turned out that the upper limit of the national debt to GDP ratio would not allow several Member States, such as Belgium and Italy, to join the euro. However, it was deemed politically a poor idea to exclude the founding countries of the European Union from the euro area. Thus, the national debt criterion was adjusted so as to take into account good will and promises to improve, but the inflation criterion has remained the same. But why is the size of the national debt less important than the budget deficit in terms of economic policy? As future bombs they are both alike.

By looking at what has happened to countries and their public finances management within the euro area, it turns out that there is only one seriously painful question that attracts constant attention. This is the budget deficit. In order to keep it under control the countries are required to take effective steps, otherwise facing actual sanctions. I have not noticed a similarly forceful approach to fight the long-term loan interest or, more importantly, the national debt. By observing what has happened with inflation in the euro area we can see that this criterion has been breached quite frequently by Ireland, Greece, Luxembourg and also others. As regards long-term interest rates the situation is slightly more even.
The situation of national debts is the most complicated. The national debt of 7 countries out of 13 exceeds 60% of GDP. In Italy and Greece the ratio exceeds 100%. Granted, they are improving. Some countries have reduced their national debts, such as Belgium from 113.6% in 1999 to 86.3%. The national debt levels of Germany, France and Portugal increased and exceeded the limit of 60%. However, in recent years the debt level of both France and Germany has started to diminish. An important event in the European monetary policy was the crisis of adhering to the stability pact and monetary policy criteria in 2003, which was related to the excessive budget deficit primarily in Germany. In order to solve this, a compromise decision prepared by the European Commission was made in the Council of Member States to specify the stability pact, which may groundedly be considered primarily a political compromise to overcome a severe euro crisis.

After specifying the rules of the stability pact, which was also extensively criticised, adherence to the monetary policy principles has clearly improved. Today, no one is contesting the validity of the criteria, which is essential for Estonia.

What would I consider primary for the reliability of the euro today? The answer is - it is the expansion of the euro as the official currency over the entire European Union.
It is a justified question, whether the expansion of the euro area is a politically preferred or disfavoured activity.
There are influential circles among the European Union finance managers in the Member States and also within the European Central Bank who clearly do not want the euro to expand at all. And not for macroeconomic, but for political reasons. Some believe that with a vast and mixed body of countries such as the current European Union, developing purposeful politics has become impossible, and that a lead group of countries is needed. Seemingly, the countries belonging to the euro area form a suitable group.
This is a dangerous misconception. However, it may prove to be a hindrance for those who wish to adopt the euro, such as Estonia.

There are politicians in the euro area countries keen on the idea of the euro area as a closed fortress where the euro would protect manufacturing companies that are lagging behind from outside competition. This is a dead end. The euro must be a symbol of the strength of the European economic policy, the symbol of the European success, not backwardness.
Were I worried about the well-being of the euro after its adoption in all Member States, the primary factor to really manage would be national budget deficits. This can be controlled by threatening to impose direct financial sanctions or by central bank interest rates. With the budgets in balance, the most important factor causing inflation would be under control. This is elementary.
But let us not forget the aforesaid concerning the political importance of combating inflation.

Is it possible to politically change the situation where all the monetary policy criteria are as important for the potential new members as they are today? I do not see that possibility. The reason is very simple. There is no interest in changing the euro criteria whatsoever. Because adhering to those criteria indicates improvement, especially regarding budget balance and inflation. From time to time some Member States show an interest in changing and adapting the very parameter that should not be changed - the budget deficit criterion. If somebody opens this topic at an inter-governmental conference, the discussion may end with a compromise that will not benefit the expansion of the euro significantly but will make a harmful adjustment in the adherence to the budget deficit criterion. This also means that the decision makers in the European Commission and the European Central Bank cannot offer the candidates any politically unorthodox opportunities, only strict compliance with the prescribed rules. Because the dilemma was exactly what I mentioned.

Today the most widespread question is - how long will the Estonian kroon be used as a national currency?
Theoretically we should have had totally different banknotes - euros - in our pockets by now. But this has not happened. So, what to do now? How to be, how to operate in the changed circumstances? What to think of all this?

This is also a slightly broader topic than just replacing one currency with another. We have always said that the monetary system is a background in which the economy is comfortable to operate. Money per se does not create values or wealth. So, let us not forget this principle. The issue of changing over to the euro should not be separated from the economy's general competitiveness, readiness to react to potential unpleasantries.

The Estonian kroon was and is an essential part of the Estonian economic policy. When the Estonian kroon was created, the goal and creed of the Estonian economic policy was simple. The Estonian monetary system, the Estonian laws, the Estonian tax policy must create as favourable conditions for the development of productive units as possible, support the market economy and private undertakings. This also meant fostering the inflow of foreign direct investment, which has been one of the key factors of the Estonian economic development. And generally we have done well.

We had great expectations to the energy and creativity of Estonian entrepreneurs. In this respect my feelings, looking back at the past 15 years, are quite contradictory. The beginning was awesome.
Once in the beginning days I visited a bank in a neighbouring Nordic country and I could not believe my eyes. Stone-age technology, poor servicing. The newly created leading Estonian banks were so incredibly better at the time.
But what happened was that modern Estonian banks became branches of average Nordic banks. For me it has always been a grave disappointment. It was not Swedbank that took over Hansapank, it was vice versa.
Today, European banking is witnessing a fierce battle. Merging, acquisition, taking over. I would be so pleased to see Hansapank or another Estonian bank consortium acquire holdings in another great European bank which also has global reach!
Nordic banks are not great players even in the European market, let alone globally.
The Estonian timber manufacturers created a mighty company - and then sold it to the Finns.

I am not against the free movement of capital, I am its whole-hearted supporter. I do not oppose the purchase and sales of property. The free purchase and sales of capital presumably serves the interests of greater capital efficiency. Thus we could presume that selling successful Estonian companies has improved the efficiency of Estonian capital, giving the Estonian entrepreneurs additional momentum to create new products, establish new companies, create and expand their international reach. And yet I do not see this dynamic expansion of Estonian capital that could be expected thanks to the billions received from the sales of companies.
What is missing? Vision? Entrepreneurship? Reach? Courage to take risks? What is holding us back? Laziness?
Comfort? Is life too good?

Of course, I do not want to be unfair. There are many companies who have gradually expanded their international reach, increased production and exports. Furniture and textile manufacturers, ship repairers, information technologists (e.g. Skype) and many others. They also hold the key to Estonia's future economic development. All in all, economic success stories in the past have been based on the existence of competitive products.

I understand that in the proper Estonian circles no one drops a good word about the owners of Tallink. Maybe they have even given cause for some criticism as persons. But as entrepreneurs they have plenty of reach and vision.

The events at the end of April have awoken us all as if from an enchanted dream. We ask ourselves - is Estonia actually as accomplished as we thought it was? Have we indeed successfully solved our domestic and economic policy problems? What next?
In any case, a proper economic and domestic policy inventory has to be conducted, with due diligence, seriously, creatively, self-critically.

Among other things the image of Estonia in Europe and the world should be analysed as well. The world and also Europe are superficial. Sometimes even comically so. Someone who has great regard for Estonia and is aware of our positive achievements, asked me whether we had any snow back home in Riga this year...

Decisions are often made based on an image, some random signs and ideas. Sometimes I get the impression that some multi-page analyses and treatments are not based on the thorough examination of circumstances and extensive research but on expected (desired) conclusions, which in turn are based on political preferences and images and signs. By the way, also Henry Kissinger talked about this by warning politicians from believing reconnaissance reports without any criticism.

The image of Estonia has so far been very positive and this has been very beneficial for us. What are the components of this image? There are several, but they undoubtedly include modernity, openness, rapid economic development, good investment environment and also stability in local policy as well as domestic peace. The last component has now been dealt a blow and repairing that part of the image is a priority task on which I will not linger here. Our image does not include corruption and protectionism. We ask ourselves - what about the other parts of the image? Is Estonia modern enough, is our investment environment still enticing? If one part of the image encounters problems, it is all the more important to strengthen the other parts with new steps and decisions. Generally everyone agrees that the key is in innovation as well as research and development activity and that cooperation between the private sector and the state is necessary. But how to put this into practice? We need a project. I have an idea.

During the past two years the economic policy discussions of the European Commission have witnessed a priority rise in energy topics. The winner is whoever reacts the most flexibly to anything that has lately been troublesome. Energy dependence, the depletion of reserves, the production of excess carbon dioxide - everyone is searching for solutions.

The energy strategy of the European Union consists of four subdivisions. Their order is essential. The first is the management of the energy market. The required structural changes are perceived as the primary resource for responding to energy related unpleasantries. This was efficient also during the 1973 oil crisis. The second is energy economizing strategies, the third is the introduction of renewable and new energy resources, and only the fourth is the security of energy imports. A better management of the energy market primarily means tighter competition and more choices for consumers. The key issue is the separation of the business interests of production and distribution networks. This also entails the abolishment of monopolies and lower energy prices. In the trans-European debate the energy policy viewpoints of Estonia have coincided with the interests of the great German and French monopolies. And probably with the interests of the Estonian monopoly, Eesti Energia. This means that Estonia has essentially stood against the separation of the business interests of energy production and distribution.

Let my imagination run wild for a moment. I would consider the possibility of creating a big cooperation unit between the state and private capital, which would focus on seeking and developing energy technology solutions with administrative (from the perspective of the state) as well as business values. The winner is anyone who can develop fast in this field on the national as well as business level. This is how heated the energy topics have become. The development centre of energy technology would be a valuable project that would have to be created as completely new, not to finance some already existing structures where it would lose its necessary momentum and drive. National security, environmental protection, carbon dioxide, economy, information technology, new fuel types, frugality - look at all the fields the setup of the energy task would involve!

Launching such a centre is not complicated, or rather - it is not as complicated as its continuing operation and its future reorganisation. Today, Europe is fascinated to see what is to become of the "Airbus". Had there not been great politics, there would be no mighty competitive airplane industry today. But there would also be no difficulties in organising company operations caused by politics.

In any case, a powerful contribution to the development of energy technology would be a new, and if organised correctly, a remarkable element to add to the positive image of Estonia.

To conclude, I would like to repeat that I am a firm supporter of Estonia's rapid adoption of the euro. Undoubtedly, we have to do everything to make it happen as fast as possible. Being proud of our market economy, we should nevertheless review whether the competition among sellers is efficient. Are there really no meaningful small cartel agreements between suppliers? In construction? In fuel sales? How can wine be so expensive in Estonia, even considering the taxes? Many important prices seem to reach the high European level very hastily. Why? Isn't domestic competition insufficient?
Slovenia adopted the euro before us, Malta and Cyprus are about to join too. It feels eerie. Like we are lagging behind. The euro adds security, and we have just been convinced of its necessity again.

I will now return to the beautiful memories related to the enforcement of the Estonian kroon. This relatively small team who created the Estonian monetary system consisted of very different people with various education and age. Mostly, those people were very young, though. But the main thing was that the team had no prejudices, no obsessions, no favourite ideas or dogmas that could not be given up. Any ideas and proposals were treated with enthusiasm and interest. We need something similar now. To create an unprejudiced group who would weigh all the possibilities of how to introduce the euro as quickly as possible. Otherwise we might be left out of the mainstream of history.

In conclusion, allow me to repeat one of my favourite sentences - economy is like a bicycle. If you don't pedal all the time, it will crash on its side. Every day and year is new. Competing and combating never stand still. Dreaming is sweet. But waking up is necessary.