2008 euro adoption plans realistic, Fitch says

The government's ambition to adopt the euro in 2008 is "realistic" but will require it to stick to its plans for fiscal consolidation, according to the credit ratings agency Fitch.

However, Fitch believes that the eventual adoption of the euro itself could increase the long-term foreign currency ratings of Malta only marginally.

The international ratings agency's EMU Convergence Report covering the new EU acceding states was published just days after the Economic and Financial Affairs Council approved Malta's ambitious plans to trim the fiscal imbalance by 3.6 per cent by 2007.

Malta's convergence programme presented to the EU says that the government intends to move to the final stage of EMU as rapidly as economic convergence permits. If the programme is achieved, the Maastricht criteria will be met in 2006, opening the way to the adoption of the euro two years later.

Fitch noted that data for the first five months of this year was showing a "healthier" fiscal picture.

With the next general election not due until 2008, the government should be in a "better-than-usual position" to deliver the rationalisation of welfare, pensions and healthcare that will be needed to cut expenditure to 44.4 per cent of GDP in 2007 from 50.5 per cent this year. "Whether it will take these tough decisions must be the main doubt," Fitch remarked.

But the government's task could actually be easier than the convergence programme suggests. The programme assumes real growth over the next four years will average only 1.8 per cent in line with assumed growth in potential output. This, Fitch points out, is a surprisingly low assumption for an economy that averaged five per cent growth between 1990 and 2000.

Tourism and electronics exports have certainly been badly hit in the last three yeas but there is considerable doubt that GDP has declined, as official data suggest, and growth could well return to three to four per cent as euro-demand recovers.

Fitch added that all new EU members were projected to remain within the ceiling on general government debt, with the exception of Cyprus and Malta.

In fact, the two Mediterranean islands stand out as countries where economic agents are already high-leveraged so that any credit boom could heighten systematic risks.

Estimated contingent liabilities are also above average in Malta and Cyprus and, while modest, are potentially more problematic in view of already high debt burdens.

Fitch said that specific systematic risks are for the most part low to moderate across the board but with specific problems requiring attention on most countries and a somewhat more elevated level of risk in Cyprus, Latvia, Malta, Poland and Slovenia.

Fitch said that the relative strengths and weaknesses of the new EU member states' fiscal and external positions lead to a fairly clear-cut conclusion that the three Baltic states of Estonia, Latvia and Lithuania are likely to be the largest gainers from EMU.

At this stage, Fitch expects the adoption of the euro to increase these countries' long-term foreign currency (LTFC) ratings by two to three notches, other things being equal.

Fitch estimated that the eventual adoption of the euro itself could increase the LFTC ratings of the Czech Republic, Hungary, Poland, Slovakia and Slovenia by about one to two notches and Cyprus and Malta by about one notch.

However, the agency added, ratings will continue to reflect other factors, not least changes in public finances.