The euro: Our common interest

There is general agreement that the adoption of the euro will lead to considerable economic gains and will have a permanent, positive impact on the country's economic growth prospects.

Empirical research suggests that when a country joins a monetary union, its trade with the member countries is likely to be boosted. This evidence has also been detected in the case of the euro area. Besides expanding the country's export earnings, increased trade also gives rise to a number of positive externalities, such as the transfer of skills and know-how, thereby further promoting economic growth. This is even more relevant for Malta as the euro area is already our single most important trading partner.

Adopting the euro will also mean lower borrowing costs. As capital controls were gradually liberalised in recent years, the lira was defended by maintaining interest rates slightly above those of the currencies to which it was pegged. This premium is a cost that all borrowers pay. As Malta approaches the euro adoption date, nominal interest rates will gradually converge towards those of the euro area, implying substantial savings on interest payments for all economic agents. The concomitant lower real interest rates should also encourage domestic investment and boost economic growth.

Once in the euro area, the lira would cease to exist and any associated uncertainty with its external value would vanish. Although the government and the Central Bank have always been adamant that a devaluation of the lira is not in the country's interest, such a possibility was mentioned by other quarters. Suffice to say that in the six months preceding entry in ERM II, during which a number of exponents from the opposition advocated a 10 per cent devaluation to boost the country's international competitiveness, Malta lost more than Lm90 million (about 10 per cent) of its precious foreign exchange reserves.

Such vulnerabilities in the financial system will only vanish when Malta becomes part of a more stable and secure one, such as the euro system. The elimination of the currency risk premium, which foreign investors normally factor into their decisions on whether to invest in more vulnerable currencies, will also boost Malta's efforts to attract higher levels of foreign direct investment.

The adoption of the euro also implies lower costs on foreign exchange transactions.

Inevitably, one question crops up automatically: If, as many agree, the adoption of the euro would lead to considerable economic gains, why is it that the opposition are claiming we should not adopt the euro at the earliest possible date?

In order to be eligible to adopt the euro, Malta has to meet the Maastricht criteria, implying, mainly, that it has to reduce the budget deficit to below three per cent of GDP, reduce the national debt and restrain the inflation rate. These targets are worth pursuing not merely because they represent the euro area entry requirements but, more importantly, because they are indicators of sound economic management. The argument proposed by the advocates of a delay in euro adoption is that, given that we are faced with a number of exogenous shocks, we should not be cutting the fiscal deficit within a short timeframe. They claim that we should rather attempt to counter these shocks by running an even higher deficit in order to pump money into the economy.

Would, such a policy however, contribute to boost productivity and put the economy on a sustainable growth path? Not really. It would simply serve to finance unaffordable consumption. Since our economy is dependent on international trade, a larger deficit will also widen the current account deficit, prompting higher interest rates and a downgrading of the country's credit ratings.

What the opposition's proposals amount to is a return to a rising trend in the public debt and, therefore, obliging the government to allocate an even higher proportion of its revenue just to pay interest on the debt. By doing so, the country would be absorbing resources at the expense of future generations.

The stark truth is that for Malta to achieve higher living standards and catch up with average EU income levels, there is only one route: We must strive to expand the productive base of the economy through continuous investment in education and training, in technology, and in research and development, and by attracting more high value- added investment.

The euro will be instrumental in pursuing this objective. And this is precisely why the government believes that an early adoption of the euro is indeed in our common interest. The euro is not a political choice, but forms part of a rational economic strategy!

Mr Fenech is Parliamentary Secretary at the Ministry of Finance.