International Monetary Cooperation
On 1 May 2004, 10 new countries joined the EU and in June 2004 Estonia, Lithuania and Slovenia were the first new EU member states to join ERM II. Several other new EU member states plan to follow suit relatively soon.
In December 2004 the European Council agreed to accept Bulgaria and Romania as EU members from 1 January 2007 and to open accession negotiations with Croatia and Turkey in 2005.
Agreement on a Constitutional Treaty for the EU was reached in June 2004. The Constitutional Treaty must be ratified in all EU member states before it can enter into force. In Denmark a referendum will be held on 27 September 2005.
Proposals to amend the Stability and Growth Pact were submitted in 2004. Several member states, including Germany and France, exceeded the limit of 3 per cent of GDP for government budget deficits in 2004.
The IMF prepared a report on the Danish economy in 2004 as part of its ongoing economic surveillance. The IMF's lending is still concentrated on Argentina, Brazil and Turkey.
ENLARGEMENT OF THE EU
On 1 May 2004, Cyprus, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia and Slovenia joined the EU. This enlargement increased the population of the EU by almost 20 per cent to 458 million, and the EU's GDP by approximately 5 per cent. The enlargement brought a number of former planned economies in Central and Eastern Europe into the EU and thus marks the unification of Europe after the end of the Cold War. In terms of wealth, most of the 10 new member states are far below the level of the old EU member states, although for a number of years many of the new member states have seen growth rates significantly above the EU average.[1]
Non-euro area member states and ERM II
After the enlargement, the EU has 25 member states, of which 13 are outside the euro area, namely the 10 new member states and Denmark, the UK and Sweden. There was no change in the prospects for the latter three member states' euro participation in 2004. In all three member states, participation in the euro requires approval by referendum. The 10 new EU member states have an obligation to introduce the euro at some time in the future. These member states are aiming to join the euro between mid-2006 and 2010, cf. Box 10.
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Box 10
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| Source: European Commission. 1 Cf. Convergence Programme of the Republic of Latvia 2004-2007. |
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To join the euro, the member states must comply with the EU Treaty's convergence criteria. The convergence criteria set limits for government budget deficits, government debt, inflation and long-term interest rates, and require participation in EU's exchange-rate mechanism, ERM II, without severe tensions for at least two years. Non-euro area member states are not subject to any formal conditions for joining ERM II. However, participation in ERM II does require that agreement be reached on a central exchange rate and a standard fluctuation band of +/- 15 per cent around the central rate. The central rate and the fluctuation band are fixed jointly by the applicant country, the euro area member states, the European Central Bank and the non-euro area member states already participating in ERM II. ERM II is compatible with several of the exchange-rate regimes already applied by new EU member states. For other new member states, e.g. those currently operating with floating exchange rates, ERM II participation will require changes to their monetary-policy regimes. As part of its preparations for ERM II, Latvia changed the anchor currency of its fixed-exchange-rate regime from SDR[2] to euro on 30 December 2004.
From 2001 until June 2004, Denmark was the only participant in ERM II. Denmark has a special agreement on a narrower fluctuation band of +/- 2.25 per cent, cf. page 28.
With effect from 28 June 2004, Estonia, Lithuania and Slovenia were the first of the new EU member states to join ERM II. Estonia and Lithuania had already pegged their currencies closely to the euro via currency boards[3]. After joining ERM II, these two countries have maintained their currency boards as a unilateral obligation within the framework of ERM II. Several other new EU member states are planning to join ERM II relatively soon.
In October 2004 the European Commission and the ECB published convergence reports on the 10 new EU member states and Sweden in which they assessed whether these countries meet the conver-gence criteria for euro participation. The conclusion was that none of them meet all criteria yet. Convergence reports must be prepared at least biennially or at the request of a non-euro area member state. Due to their derogations under the Treaty, Denmark and the UK need only be assessed in relation to the convergence criteria at their own request.
Enlargement of the European System of Central Banks
When the 10 new member states joined the EU, their central banks became part of the European System of Central Banks, ESCB, which comprises the national central banks of the EU member states and the ECB. The 25 national central banks are an integral part of the ESCB's operations. They participate in the ECB's decision-making bodies and contribute to the decision-making process. Moreover, decisions are predominantly implemented via the national central banks. The Governing Council, comprising the central-bank governors of the 12 euro area member states and the members of the ECB's Executive Board, is the ECB's supreme decision-making body.[4] The central-bank governors of the EU member states that have not introduced the euro participate only in the General Council, which consists of the President and Vice President of the ECB's Executive Board, as well as the governors of the central banks of all EU member states. The General Council among other things discusses ERM II issues and the monetary development in the non-euro area member states. Since there are now 13 – very different – non-euro area member states, the meetings of the General Council have become more extensive than before the enlargement.
Adjustment of the national central banks' capital subscriptions to the ECB
The ECB is owned by the national central banks, which have subscribed capital to the ECB. The capital subscriptions of the individual central banks are determined according to a capital key that is calculated on the basis of the population and the size of the economies of the respective countries. This capital key must be adjusted every five years. The first such adjustment took place on 1 January 2004. In connection with the enlargement of the ESCB, the capital key was changed once again to include the 10 new EU member states. Consequently, the capital subscriptions of the national central banks to the ECB were adjusted twice in 2004. Table 9 shows the capital key and the capital subscriptions of the individual central banks to the ECB as of 1 May 2004. The total paid-up capital subscription of the 25 national central banks to the ECB is approximately 4.1 billion euro.
The capital subscriptions to the ECB from the euro area central banks must be fully paid-up, while the non-euro area central banks must only pay up a minimum percentage of the amount payable on adopting the euro. On 1 May 2004 this was raised from 5 to 7 per cent. The interest return on this contribution covers the operating costs of the ECB for tasks relating to all EU member states.
The two adjustments of the capital key in 2004 meant that Danmarks Nationalbank's paid-up capital subscription to the ECB was raised from approximately 4.2 million euro to the present approximately 6.1 million euro.
Future enlargements of the EU
At the meeting of the European Council on 16-17 December 2004, Bulgaria and Romania were welcomed as the next members of the EU.
Provided that these two countries successfully complete their preparations for EU membership, the Accession Treaty can be signed in April 2005 with a view to membership from 1 January 2007. The enlargement with Bulgaria and Romania will increase the population of the EU by a further approximately 30 million, i.e. 6.5 per cent, while the EU's GDP will grow by less than 1 per cent. At the meeting of the European Council, the EU heads of state or government also agreed to open accession negotiations with the two candidate countries, Croatia and Turkey. Negotiations with Croatia will start on 17 March 2005. Accession negotiations will be subject to the condition that Croatia fully cooperates with the International Criminal Tribunal for the Former Yugoslavia. Negotiations with Turkey will start on 3 October 2005. According to the negotiating framework agreed by the European Council, the negotiations on Turkish membership are not expected to be concluded until almost 10 years after their start at the earliest. Macedonia submitted an application for EU membership in March 2004.
At the meeting of the European Council on 17-18 June 2004, heads of state or government from the 25 EU member states adopted the Treaty establishing a Constitution for Europe. This was the result of several years' preparations, under the auspices of first the European Convention and then an intergovernmental conference. The Constitutional Treaty was signed by the 25 EU member states and three candidate countries Bulgaria, Romania and Turkey on 29 October 2004. Before the Constitutional Treaty can come into force, it must be ratified by all EU member states. In a number of member states ratification will be subject to a referendum. In Denmark a referendum will be held on 27 September 2005. Two years have been set aside for the ratification process, and the Constitutional Treaty is planned to come into force on 1 November 2006.
Overall framework of the Constitutional Treaty[5]
So far, all new EU treaties have further developed the Treaty of Rome from 1957 as the basis for EU cooperation. With the Constitutional Treaty, however, the rules have been rewritten to make them more transparent and accessible. The Constitutional Treaty will thus replace the existing treaties. In most of the specific areas of cooperation, the rules on which the member states have previously agreed will be carried forward. However, the Constitutional Treaty does extend the cooperation in a few areas. To ensure greater efficiency and consistency in the external actions of the EU, for instance a Union Minister for Foreign Affairs will be appointed. Legal cooperation will also be strengthened. Another important objective of the Constitutional Treaty is to ensure the decision-making powers and efficiency of an enlarged EU of 25 or more member states. Consequently, the EU's institutions and decision-making procedures are strengthened. For instance,a permanent President of the European Council is introduced. The existing voting weights in the Council will be replaced by a "double majority" system of both member states and population, for voting by qualified majority. The number of areas where the Council passes decisions by a qualified majority is also increased. Furthermore, the European Parliament will be a co-legislator, together with the Council, in considerably more areas.
Economic and monetary cooperation in the EU
The existing economic policy framework is maintained in the Constitutional Treaty. However, a few adjustments have been made.
Overall, these adjustments reflect that the euro is now a reality and that a number of EU member states seemingly wish to remain outside the euro area for some time to come. For example, cooperation among the euro area member states is generally strengthened. The Euro Group, an informal group comprising the ministers of economic affairs and finance of the euro area member states, will be incorporated in the Constitutional Treaty, and, as a new element, a permanent president of the Euro Group will be elected. The decision-making competence of the euro area member states will be strengthened in that non-euro area member states will no longer be eligible to vote on certain issues pertaining to euro area member states, e.g. in connection with stability programmes and excessive budget deficits. The Constitutional Treaty also strengthens the role of the European Commission, e.g. when assessing whether an EU member state has an excessive deficit. Finally, the EU member states will be confirming their obligations under the Stability and Growth Pact, which will thus become confirmed by treaty.
THE STABILITY AND GROWTH PACT
Indications that Germany and France would in 2004 once again exceed the budget deficit limit of 3 per cent of GDP stipulated in the EU Treaty meant that in the autumn of 2003 the European Commission recommended that the Council of Ministers for Economic Affairs and Finance, Ecofin, order these two member states to tighten fiscal policy in order to correct their deficits. The recommendations of the Commission failed to achieve the required majority in the Ecofin Council in November 2003. Instead, the Ecofin Council adopted a set of less binding conclusions and decided to hold the excessive deficit procedure for Germany and France in abeyance, including the option to impose sanctions on the two member states[6].
Not satisfied with this course of events, the Commission brought an action before the European Court of Justice in January 2004. The aim was specifically to challenge the non-adoption of the Commission's recommendations by the Ecofin Council, as well as the conclusions adopted by the Council, which the Commission deemed to be contrary to the guidelines in the Treaty. The Court of Justice delivered its judgement on 13 July 2004. In the judgement, the Court refuses to overrule the decision by the Ecofin Council not to adopt the Commission's recommendations. On the other hand, the judgement states that the Council's conclusions to explicitly hold the excessive deficit procedure in abeyance are not valid. In summary, the judgement must be interpreted to the effect that the Ecofin Council can de facto hold the excessive budget procedure in abeyance if the required majority for adopting a decision is not achieved. Nevertheless, the judgement also states that the Ecofin Council is not empowered to put forth new conditions and adopt recommendations for member states under the excessive deficit procedure, except on the basis of the rules laid down by the Treaty and at the recommendation of the Commission.
In September 2004 the European Commission presented a number of considerations for possible amendments to the Stability and Growth Pact[7]. Among the more specific elements are increased focus on the public sector's debt in the ongoing monitoring of government finances, as well as better incorporation of country-specific issues in the excessive deficit procedure. Since then further proposals for amendment of the Pact have been tabled. Some EU member states have proposed that certain categories of expenditure might be excluded when assessing whether a member state exceeds the 3-per-cent budget deficit limit. Discussions of proposed amendments among the EU member states show that there is particular support for strengthening the preventive elements of the Pact, including budget consolidation in good times. The current discussions on amendment of the Pact are expected to be concluded at the meeting of the European Council on 22-23 March 2005.
The budget situation 2004 – status
According to the European Commission's autumn forecast of October 2004, nine member states in 2004 failed to comply with the budget deficit limit of 3 per cent stipulated in the EU Treaty, cf. Chart 27.[8] Among the euro area member states, Germany, France and Greece exceed the 3-per-cent limit, and the same applies to more than half the new member states.[9]
On 14 December 2004 the European Commission announced that it expects the budget deficits in Germany and France to be below the 3-per-cent limit in 2005, based on growth estimates for 2005 of respectively 1.5 and 2.2 per cent. Against this background the Commission concluded that for the time being it is not necessary to take further steps (such as imposing sanctions) against these two countries under the excessive deficit procedure[10].
The 10 new EU member states must also meet the obligations under the Stability and Growth Pact, but like Denmark, the UK and Sweden they can neither be ordered to take action to reduce excessive deficits nor have any formal sanctions imposed on them.
Problems with the Greek statistics
At the request of the new Greek government, a thorough revision of the statistical basis for public finances was initiated in 2004. Revisions of data for the period 1997-2003 revealed that throughout this period Greece's deficit was significantly above the 3-per-cent limit stipulated in the Treaty, equivalent to an average annual revision by 2.1 per cent of GDP. In 2003 the budget deficit was thus calculated at 4.6 per cent of GDP. The final report published by Eurostat states that the downward adjustments of the government budget balance are, inter alia, attributable to under-recording of military expenditure and overestimated tax revenue. At the meeting of the Ecofin Council on 7 December 2004 it was concluded that for a considerable period of time the Greek authorities have not been providing Eurostat with accurate information. It was also emphasised that the Council, the European Commission, the ECB and Eurostat should have been more aware of the quality of the figures supplied. Due to the incomplete supply of statistics by Greece, the European Commission will bring an action against Greece for breach of provisions of the Treaty. The Commission will also consider submitting a proposal to strengthen Eurostat's opportunities to more effectively control the figures reported by the national authorities.
THE INTERNATIONAL MONETARY FUND, IMF
The former Spanish Minister of Economy, Rodrigo de Rato, was appointed to the post of Managing Director of the IMF when his predecessor, Horst Köhler, was elected President of Germany in 2004. After taking office, de Rato emphasised the importance of initiating discussions on the future role of the IMF in view of e.g. the increasing globalisation and the growing influence of the newly-industrialised countries on the global economy.
Since April 2004, biannual reports have been published on Nordic-Baltic positions on discussions and decisions in the IMF. These reports are e.g. available at Danmarks Nationalbank's website.
The IMF's economic surveillance
The IMF's surveillance of its member states' economies, which is oneof the core responsibilities of the IMF, was assessed in 2004. Among other things, it was agreed to prepare more analyses focusing on regions rather than merely on individual countries. In addition, responsibility for ensuring compliance with anti-money laundering standards and standards to combat the financing of terrorism was extend-ed in connection with the Financial Sector Assessment Program(FSAP)[11]. Besides the IMF is expected to commence an analysis of the Danish financial sector under the FSAP[12] towards the end of 2005.
As part of its macroeconomic surveillance, the IMF visited Denmark in 2004 with a view to preparing an Article IV report on the Danish economy. The IMF expressed its approval of the orientation of Danish economic policy, including structural reforms and a consistent fiscal policy based on a medium-term strategy, resulting in budget surpluses and a significant reduction of the government debt. It was emphasised that the fixed-exchange-rate policy was the foundation for the macroeconomic stability achieved, and its high degree of credibility has made it possible to focus on medium-term issues.[13]
The IMF's lending to Argentina, Brazil and Turkey
A focus area in 2004 was the risks related to concentrating the IMF's lending on the three largest borrowers – Brazil, Turkey and Argentina. This issue should be seen against the background of threats by the Argentinean authorities in early 2004 not to service their debt to the IMF, which could potentially have resulted in losses for other IMF members. Subsequently, Argentina has pledged to effect payments on time.
With expected annual growth at 8.8 per cent[14], the economic restoration of Argentina continued in 2004. The macroeconomic targets of the IMF programme were met, but the authorities have not implemented the structural reforms and the government bond loans have not been serviced since December 2001. The creditors have been offered exchange of defaulted bonds for approximately 100 billion dollars at the start of 2005. Once the proportion of creditors accepting the offer is known the IMF will resume negotiations with Argentina on possible extension of the borrowing programme. Argentina's relations with the IMF under the borrowing programmes in the 1990s were assessed by the Independent Evaluation Office, IEO, in 2004, cf. Box 11.
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Box 11
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In 2001 the IMF established an Independent Evaluation Office, IEO, referring directly to the Executive Board. The office is independent of the IMF staff and management and was established to provide impartial evaluations. The IEO has full access to the IMF's archives and decides for itself which areas to evaluate after consulting the Executive Board of the IMF and other stakeholders. Individuals and organisations are invited to comment on the IEO's evaluations and suggest topics for future evaluations. In 2004 the IEO published a Report on the Evaluation of the Role of the IMF in Argentina, 1991–2001. The report criticises the Argentinean authorities for not having implemented the agreed reforms and budget requirements, but also the IMF's acceptance of recurring deviations from the economic-policy programme requirements and the lack of discussion of the exchange-rate policy were found to be criticisable. A Report on the Evaluation of Poverty Reduction Strategy Papers (PRSPs) and The Poverty Reduction and Growth Facility (PRGF) was also published in 2004. The main conclusion was that the IMF has the potential to support these countries in their efforts to establish a sustainable strategy for long-term growth and poverty reduction, but so far these opportunities have not been fully exploited. According to the IEO, the role of the IMF as a coordinator of assistance can also be strengthened. |
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Brazil achieved significant economic growth of approximately 5 per cent in 2004 after the stagnation in 2003. This development has supported the fulfilment of the economic-policy requirements agreed under the IMF programme. A number of demanding economic reforms still need to be implemented, and the high government debt must be reduced further. As intended, Brazil has not drawn on its credit with the IMF since September 2003.
With GDP growth of approximately 8 per cent in 2004, the economic situation in Turkey has been favourable, but the external balance is fragile, with a current-account deficit of approximately 5 per cent of GDP and high government debt. During 2005 Turkey is therefore expected to agree with the IMF on a new borrowing programme for approximately kr. 54.7 billion (10 billion dollars) to succeed the existing programme, which expired in February 2005.
The reserve position of kr. 4.6 billion of Denmark's foreign-exchange reserve was the Danish contribution to financing the IMF's total outstanding loans to other member countries, which totalled approximately kr. 470 billion (SDR 55 billion) at the end of 2004[15].
Post-conflict assistance to Iraq
Since 2003 the IMF has provided technical assistance for reconstruction of the basic economic system in Iraq. In September 2004, following the international recognition of the Iraqi government and the payment of Iraq's arrears to the IMF, it was decided to also give Iraq post-conflict assistance. Such agreements are concluded with countries that have balance-of-payments problems, but due to a conflict cannot prepare a normal borrowing programme with economic-policy conditions. The agreement entails loans of kr. 2.5 billion (SDR 297 million). The IMF agreement enabled Iraq to achieve debt relief from the Paris Club group of creditor countries in November 2004. During 2005 the post-conflict assistance is expected to be replaced by a normal borrowing programme.
The IMF and developing countries
The IMF is participating in the efforts to meet the UN's Millennium Targets for developing countries by 2015. Analyses by the World Bank show that unless the current efforts are stepped up a number of the targets cannot be met by sub-Saharan Africa. Consequently, the IMF's two facilities for low-income countries[16], under which Denmark contributes to financing loans and subsidies[17], were discussed in 2004. The HIPC initiative has been extended for two years to the end of 2006 since the economic-policy development in the countries in question has not lived up to the expectations under the IMF programmes. Only 15 of the 38 countries deemed by the IMF and the World Bank to be eligible for the scheme have obtained final debt relief so far. Funding for the PRGF, which was evaluated by the IEO in 2004, cf. Box 11, must be augmented if this facility is to continue at the same level after 2005.
The tsunami disaster in Asia
Following the tsunami disaster in Asia in December 2004, the ministers of finance of the G7 countries have agreed that the affected countries that so wish may, as an exceptional case, refrain from servicing their loans in 2005. The IMF has offered to provide the affected countries with technical assistance in relation to the economic consequences of the tsunami, as well as loans in the event of balance-of-payments problems. The Managing Director of the IMF, Rodrigo de Rato, has stated that the IMF will be able to lend up to kr. 5.5 billion (USD 1 billion) to the most severely affected countries and to provide interest subsidies for low-income countries. So far the Maldives have received technical assistance, and Sri Lanka has applied for a loan and made use of the possibility to defer payments to the IMF under the existing programme.
[1] For an overview of some of the macroeconomic characteristics of the new member states and their prospects of catching up with the rest of the EU, see article by Jens Thomsen, The 2004 Enlargement of the EU, Danmarks Nationalbank, Monetary Review, 2nd Quarter 2004.
[2] Special Drawing Rights, SDR, is a composite currency calculated from a basket of the following currencies: euro, Japanese yen, pound sterling and US dollars.
[3] See article by Ulrik Bie and Niels Peter Hahnemann, Currency Boards, Danmarks Nationalbank, Monetary Review, 2nd Quarter 2000.
[4] For a more detailed description of the ECB, see Danmarks Nationalbank, Report and Accounts, 2003, p. 76, Box 10.
[5] For a more detailed review of the overall framework of the Constitutional Treaty and the provisions relating to economic and monetary cooperation, see article by Tina Winther Frandsen, The EU Constitutional Treaty and EMU, Danmarks Nationalbank, Monetary Review, 4th Quarter 2004.
[6] See Danmarks Nationalbank, Report and Accounts, 2003, p. 81-83.
[7] Communication from the Commission, "Strengthening economic governance and clarifying the implementation of the Stability and Growth Pact", COM (2004) 581 final, 3 September 2004.
[8] For a more detailed review of the budgetary rules of the Treaty and the Stability and Growth Pact, see Danmarks Nationalbank, Report and Accounts, 2003, p. 82.
[9] In 2004 the excessive deficit procedure was initiated for the Netherlands, Greece, Cyprus, Malta, Poland, Slovakia, the Czech Republic and Hungary. The excessive deficit procedure for Portugal was abrogated at the meeting of the Ecofin Council in May 2004. The Netherlands' excessive deficit is primarily attributable to a severe recession in 2003. The Netherlands implemented considerable government budget cuts in 2003, and again in April 2004 the Dutch government took steps towards further consolidation to bring the deficit below the 3-per-cent limit in 2004. If the European Commission's latest forecast holds true, the procedure will no longer be applicable to the Netherlands in 2005. At the meeting of the Ecofin Council in January 2005 it was determined that effective measures had not been taken by Greece and Hungary, cf. article 104 (8) of the EU Treaty. At the meeting of the Ecofin Council in February 2005 Greece was requested to take measures to bring the deficit below the 3-per-cent limit in 2006 at the latest, cf. Article 104 (9) of the EU Treaty.
[10] Cf. article by Thomas Haugaard Jensen and Jens Anton Kjærgaard Larsen, The Stability and Growth Pact – Status in 2004, Danmarks Nationalbank, Monetary Review, 2nd Quarter 2004 for a more detailed description of the excessive deficit procedure.
[11] For some countries, the OECD-based organisation FATF will still be responsible for reviewing the standards. It is expected that Denmark will still be assessed by FATF.
[12] For a description of the Financial Sector Assessment Program, see www.imf.org under FASP. For FSAP in Denmark, see Danmarks Nationalbank, Report and Accounts, 2003, p. 86.
[13] The IMF's analyses and conclusions from the Board meeting are available at Danmarks Nationalbank's website under Press Room/IMF Consultation.
[14] Estimate from Argentina's statistics bureau.
[15] The total outstanding loans are exclusive of the IMF's facilities for low-income countries on favourable conditions, which are primarily financed via separate bilateral contributions.
[16] The Heavily Indebted Poor Countries (HIPC) initiative and the Poverty Reduction and Growth Facility (PRGF), which are financed separately by bilateral donor contributions, not from IMF's general resources.
[17] See Danmarks Nationalbank, Report and Accounts, 2003, p. 87.