Lithuania’s eurozone application was rejected last May on the advice of the European Central Bank (ECB) and the European Commission. It was both a mean-spirited and erroneous decision, based on the rigid application of an inconsistent interpretation of a flawed inflation criterion, as Georgi Angelov explains in his article. Estonia was badgered into postponing its application for the same reason.

 

All three Baltic states are better functioning market economies than France and Germany, and the World Bank ranks both Lithuania and Estonia ahead of Germany and France as regards ease of doing business. As fiscally sound small, open economies, both would benefit greatly from admittance to the eurozone.

 

In a rational world, the inflation and exchange rate criteria would be modified, scrapped or ignored by the ECB, the Commission and the Council. This, unfortunately, is unlikely. Angelov proposes unilateral euro-isation by would-be eurozone members whose membership of the eurozone is blackballed by Frankfurt and Brussels, and we would support his proposal as the second best solution.

 

While providing many of the benefits of eurozone membership, unilateral euro-isation has three costs compared to eurozone membership. First, the entrant would forego the seignorage revenue a country earns by issuing its own currency – as a member of the eurozone it would get a share of the ECB’s profits. But this is in any case likely to be small, perhaps 0.25% - 0.5% of GDP per year. Second, the country would not have a seat on the Governing Council of the ECB.

 

However, the Governing Council is already so large that it cannot function as a meaningful deliberative body, and any candidate’s influence would be marginal at best. Third, the country would have no lender of last resort in the event of a financial crisis as it could not print its own euros. For most candidate countries this problem is limited: their banking systems are foreign-owned (mostly by eurozone banks), and their national Treasuries would be able to provide emergency funds limited only by the sovereign’s ability to borrow euros.

 

To get around legal nitpickers in Brussels and Frankfurt, we suggest that countries unilaterally adopting the euro retain their own currencies. The domestic currency and the euro should be joint legal tender, either with a fixed exchange rate or, preferably, with the domestic currency prevented from appreciating vis-à-vis the euro, but free to depreciate.

 

The government can then take further steps to discourage the use of domestic money such as issuing no new currency, writing its own contracts in terms of euros and making it easier to settle debts with the government using euros. Within a few years, the only domestic money would be in the museums of central banks, and the vast majority of all contracts would be denominated in euros. If the countries later wished to join the eurozone, the European Council would determine the “irrevocably fixed conversion rate” between the euro and the domestic currency, but this would have no significance.

 

The ECB and the EC would not like this solution, but they have no legal grounds for opposing it. They will in any case face the problem of what to do with a non-eurozone country that has the euro as its currency when Montenegro (which adopted the euro as its sole currency when it still was a constituent part of the Republic of Serbia and Montenegro) becomes an EU member and a eurozone candidate.

 

We recommend that all three Baltic states immediately declare the euro to be joint legal tender and also that Bulgaria adopt it upon becoming an EU member. Furthermore, we would suggest that fiscally sound Visigrad countries consider it as well.