International Monetary Cooperation

On 1 January 2002 euro banknotes and coins were put into circulation in the 12 EU member states participating in EMU. The cash changeover was successful. The UK, Sweden and Denmark still do not participate, but on 14 September 2003 Sweden will hold a referendum on participation in EMU.

The European Council in Copenhagen in December 2002 successfully completed the accession negotiations with 10 candidate countries that are to join the European Union on 1 May 2004.

The Stability and Growth Pact imposes an obligation on the EU member states to seek to maintain a budgetary position close to balance or in surplus. Insufficient consolidation of government finances in the preceding years of high growth, together with the dampening of growth in recent years, have resulted in budget imbalances in several euro area member states.

The IMF extended new large credit facilities to Brazil, Uruguay and Turkey in order to alleviate financial crises. A transitional programme was established for Argentina at the beginning of 2003, whereby the instalments and interest payments falling due up to end-August 2003 are de facto postponed. In the light of the terrorist attack on 11 September 2001, the IMF plays a role in combatting the financing of terrorism.

On 1 January 2002 euro banknotes and coins were introduced in the 12 euro area member states^[1]. Over the following two months the euro banknotes and coins replaced the euro area member states' legacy currencies as means of payment^[2], so that the same type of banknotes and coins was legal tender in all euro area member states. This brought the 12 member states into the final stage of Economic and Monetary Union, EMU. Even though the single currency was introduced on 1 January 1999 when the exchange rates of the euro area member states' currencies were irrevocably fixed vis-à-vis the euro, for the first 3 years the euro existed only as a currency of account. The cash changeover was an extensive operation involving many parts of society. In view of its magnitude the changeover progressed surprisingly quickly and smoothly. In a matter of a few weeks euro banknotes and coins had replaced the legacy currencies as a means of payment.

The cash changeover had been under preparation for several years. The required legislation was adopted at an early stage of the process, and the production of banknotes and coins commenced. In the private sector, the preparations included the transition to presentation of accounts and pricing in euro. An extensive information effort was also required to help citizens to become familiar with the new banknotes and coins and the forthcoming cash changeover.

The changeover itself was a large-scale logistics operation. 15 billion euro banknotes and 51 billion euro coins had been manufactured and were ready to be put into circulation at the turn of the year 2001/2002. The euro banknotes and coins would be distributed, while billions of legacy banknotes and coins were withdrawn from circulation. This put enormous pressure on the channels of circulation of banknotes and coins. The smooth introduction of euro banknotes and coins from 1 January 2002 had required an enormous effort. ATMs were ready to dispense euro, and ample supplies of euro banknotes and coins had been frontloaded to banks and shops up to the turn of the year. Nevertheless, at the beginning of January people queued up at banks to exchange legacy banknotes into euro banknotes and coins immediately after the changeover.

In a number of euro area member states there is a perception that the changeover to euro banknotes and coins led to significant price increases. Indeed, certain products and services, such as prices at cafés and restaurants, increased disproportionately at the beginning of 2002. However, the more general price indices show no general tendency for extraordinary increases in connection with the cash changeover. Considerable divergence was thus observed between the development in perceived inflation measured by the European Commission's indicator and actual inflation during 2002, cf. Chart 30. According to the estimate of Eurostat (the EU Statistical Office) the cash changeover may be the explanation for price increases totalling a maximum of 0.2 per cent until the end of the 1st half of 2002.^[3]

The principal task of the Danish EU presidency in the 2nd half of 2002 was to conclude the accession negotiations with up to 10 candidate countries^[4]. This was achieved at the European Council in Copenhagen in December 2002 when the negotiations with the 10 candidate countries were concluded, so that they may join the EU on 1 May 2004. As regards the 3 remaining candidate countries, it was envisaged that Bulgaria and Romania would be able to join in 2007, and that a decision would be made in 2004 on whether accession negotiations would be initiated with Turkey.

The enlargement will significantly change the existing EU system in several respects. For example, with 10 new member states the population of the EU will increase by 20 per cent to 456 million. In terms of the size of the 10 candidate countries' economies, the enlargement is less dramatic, however. In 2001, the GDP of the 10 candidate countries amounted to no more than 4.5 per cent of the EU's GDP, which is a slightly smaller share than that of the Netherlands. For comparison, the enlargement of the EU with Denmark, Ireland and the UK in 1973 increased the population of the EU by one third and its GDP by one fourth. When Portugal and Spain joined the EU in 1986, the population of the EU increased by 18 per cent and its GDP by 8 per cent.

In 2001, average GDP per capita in the 10 new member states was 45 per cent of average GDP per capita in the EU (adjusted for differences in purchasing power). However, this conceals significant differences among the candidate countries. GDP per capita in Cyprus was 80 per cent of the EU level, while that of Latvia was 33 per cent. For comparison, average GDP per capita in Greece and Portugal in 2001 was respectively 67 and 72 per cent of the EU average.

The new member states will join the EU with their own currencies and monetary-policy regimes, but in the longer term they will be obliged to introduce the euro. However, this is subject to compliance with the convergence criteria^[5], including participation in the EU's exchange-rate mechanism, ERM II, for at least 2 years before the euro can be introduced. Participation in ERM II implies a stable exchange rate vis-à-vis the euro. The ERM II agreement stipulates a standard fluctuation band against the euro for each participating currency of +/- 15 per cent around a fixed, but adjustable central rate.

Today the new member states have a wide range of different monetary-policy regimes. The Baltic states, for example, pursue a fixed-exchange-rate policy (Estonia and Lithuania via currency boards^[6]), while Poland and the Czech Republic have inflation targets combined with a floating exchange-rate regime. Hungary has also combined an inflation target with a "shadow" ERM II regime, allowing the market rate of the forint to fluctuate within a band of +/- 15 per cent around the central rate fixed by the National Bank of Hungary vis-à-vis the euro.

ERM II is a flexible arrangement, but for some new member states participation will require adjustments of their monetary-policy regimes. The Ecofin Council (Council of Ministers of Economic Affairs and Finance) has stated that in principle, a currency board is a viable option within ERM II if it is found to operate satisfactorily, whereas floating exchange rates, crawling pegs, and fixed-exchange-rate regimes vis-à-vis other currencies than the euro are found to be incompatible with ERM II.

The need to adapt the EU to the very considerable influx of new member states was the most important reason for the amendments to the EU Treaty that were finalised at the summit in Nice in December 2000. The principal elements of the new Treaty, which entered into force on 1 February 2003, include the weighting of votes in the Council of Ministers and more extensive use of qualified majority voting. Another element that was adopted was to make it easier to amend the Treaty's stipulated voting modalities for the Governing Council, the supreme decision-making body of the European Central Bank, ECB.

Since the euro was introduced in 1999 the euro area member states have conducted a single monetary policy via the Eurosystem, which comprises the ECB and the national central banks of the 12 euro area member states. Monetary-policy decisions are taken by the Governing Council consisting of the ECB's Executive Board and the central-bank governors of the 12 euro area member states. Should the Governing Council fail to reach agreement, the main rule according to the Treaty is that with very few exceptions, the Governing Council's voting procedure shall be by simple majority, whereby each member has one vote. The organisation of the ECB and the Eurosystem is described in Box 6.

Sweden will hold a referendum on euro participation on 14 September 2003. The referendum was announced at the end of 2002 a few months after the new Social-Democrat minority government had taken office after the parliamentary elections. If Swedish euro participation is approved by the referendum, the Swedish government expects that the euro can be introduced 1 January 2006. The opinion polls around the turn of the year 2002/03 showed almost equal numbers of euro supporters and opponents.

The government of the UK has laid down 5 economic tests as a precondition for EMU participation. An assessment of the economic tests is expected to be published before the end of June 2003. The British government has stated that the UK's adoption of the euro must be approved by the British population in a referendum. Opinion polls throughout 2002 showed a clear majority against British participation.

The 2002 programmes were considered in January and February 2002^[9]. According to the opinions, most member states complied with the Stability and Growth Pact in 2002, although several member states faced problems^[10]. There was a risk of Germany and Portugal exceeding the 3 per cent limit. Therefore, on 30 January 2002, the European Commission encouraged the Ecofin Council to give the two member states an early warning in accordance with the system set out in the Stability and Growth Pact. However, the Ecofin Council refrained from issuing early warnings after Germany and Portugal had committed themselves to addressing the risk of exceeding the 3 per cent limit by e.g. refraining from introducing measures which would deteriorate the budgetary position, and by aiming to achieve a budgetary position close to balance in 2004.

Economic development turned out to be weaker in 2002 than expected on the preparation of the national programmes, and according to the European Commission's estimates the budgetary position in 2002 will be considerably weaker than estimated in the national programmes, cf. Chart 31. The general budgetary deterioration is not solely due to weaker activity, but also to insufficient expenditure control and/or unfinanced tax cuts in several member states.

The Chart shows great variation in the budgetary positions of the individual member states. Several member states find it difficult to comply with the Treaty as well as the provisions of the Stability and Growth Pact. This is mainly a consequence of inadequate consolidation of public finances in the most recent high-growth period.

After the introduction of the euro Portugal was the first member state to exceed the 3 per cent limit for the government budget deficit stipulated in the Treaty. In an analysis of public finances after the change of government in March 2002 the deficit in 2001 was compiled at 4.1 per cent. On 5 November 2002, the Ecofin Council therefore initiated the excessive deficit procedure. The Ecofin Council thus recommends that the excessive deficit situation be rectified within a certain time limit. If the deficit continues to exceed the 3 per cent limit, the last sanction available to the Ecofin Council is to impose a suitable fine on the euro area member state in question. Germany's national programme from December 2002 expected a deficit of 3.75 per cent of GDP in 2002, and 2.75 per cent in 2003. On 21 January 2003, the Ecofin Council ascertained that Germany had an excessive deficit and that there was a non-negligible risk of Germany exceeding the 3 per cent limit in 2003. The excessive deficit procedure was therefore initiated against Germany. The French national programme of December 2002 estimated a deficit of 2.8 per cent of GDP in 2002 and 2.6 per cent in 2003. The programme's growth forecast for 2003 was considered optimistic by the Ecofin Council on 21 January 2003, implying a risk that in the event of negative surprises France would exceed the 3 per cent limit for budget deficits stipulated in the EU Treaty, and the reference value for government debt of 60 per cent of GDP. The Ecofin Council therefore adopted the decision to issue an early warning to France.

The EU member states increasingly tend to coordinate their positions on issues raised in the International Monetary Fund.

The euro area member states are bound by the Treaty to act as one with regard to issues directly related to the euro and surveillance of the economic policy of the euro area. For certain other issues the member states find it beneficial to coordinate their positions in order to strengthen the influence of the EU member states on the decision-making processes of the various bodies of the IMF, cf. Box 8.

Renewal of the IMF's arrangement to borrow
In November 2002 it was decided to renew the New Arrangements to Borrow (NAB) for another 5-year period. NAB was established in 1998 to supplement the IMF's resources in the event of extraordinary threats against the international monetary system.

NAB is an arrangement between the IMF and 25 member countries for the IMF to borrow up to SDR 34 billion^[13] (kr. 327 billion). In 2002, Chile was included as a new member with a quota of SDR 340 million. In this connection the loan commitments of the other participating countries

were reduced proportionally. Denmark's loan commitment to NAB was thus reduced from SDR 371 million to SDR 367 million, or approximately kr. 3.5 billion. NAB has only been activated once, and there were no drawings on NAB at end-2002.

Crisis loans to South American countries and Turkey
2002 was among other things characterised by large new credit arrangements with Brazil, Uruguay and Turkey, which all received loans exceeding the normal access limit for IMF loans corresponding to 300 per cent of a country's quota. At the beginning of 2003 Argentina gained a transition programme. 

In September, a credit facility of 30 billion dollars was extended to Brazil, corresponding to 752 per cent of the country's IMF quota. In absolute terms this was the largest loan to a single country in the history of the IMF. An amount of 3 billion dollars was disbursed on approval of the loan, and another 3 billion dollars was disbursed in December. The remainder, i.e. 80 per cent of the total amount, will be disbursed in 2003, once Brazil's new government is well installed. The principal element of the economic and political programme which was the basis for the credit agreement was to continue the country's current economic policy in 2003, including a tight fiscal policy.

In 2002, Brazil complied with the loan conditions, although it was difficult to stay within the guiding limit for the domestic central-government debt. A proportion of this debt is indexed to the exchange rate, and since the Brazilian currency fell by around 27 per cent against the dollar in 2002 the debt has increased as a ratio of GDP.

The crisis in Brazil is the result of e.g. prolonged economic instability which was reinforced up to the presidential elections in October 2002. After the election, the foreign-exchange and financial markets stabilised, and the real economy showed signs of improvement.

At the beginning of 2002, Uruguay was affected by spillover effects from the crisis in Argentina, as confidence in the banking sector weakened, resulting in considerable withdrawals of bank deposits. Uruguay's economy subsequently suffered a liquidity crisis. In June, the government had to abandon its fixed-exchange-rate regime, and Uruguay's standing loan commitment with the IMF was raised from 0.8 to 2.3 billion dollars. In August, Uruguay's loan commitments from the IMF was raised further to 2.8 billion dollars, totalling 694 per cent of Uruguay's IMF quota. The central element of the economic and political programme of the loan agreement was the establishment of a fund to stabilise and restructure the banking sector.

In February 2002, the IMF extended a loan commitment to Turkey totalling 16 billion dollars, including previously agreed drawing rights for 2002. The loan commitment in total corresponded to 1,330 per cent of Turkey's IMF quota. At the end of 2002 77 per cent of the loan had been disbursed.

The new loan agreement continued the economic policy agreed as an element of the previous programme with the IMF. The principal elements were a floating exchange-rate regime, a fiscal policy to stabilise central-government debt, review and restructuring of the financial sector, and privatisation. Overall, the Turkish authorities have so far complied with the programme's demands.

The crisis in Turkey was attributable primarily to domestic economic problems, cf. the 2001 Annual Report, which were reflected in a banking crisis in November 2000 and a devaluation in February 2001. The country was also affected by the aftermath of the events on 11 September 2001. In 2002, Turkey was recovering from the deep crisis which hit the economy in 2001, and the Turkish foreign-exchange and financial markets stabilised after the parliamentary elections in November.

Throughout 2002, Argentina conducted unsuccessful negotiations with the IMF on a new programme. At the beginning of 2003, the IMF's Executive Board approved a transitional programme of 3 billion dollars, thereby postponing Argentina's payments to service the current programme falling due up to end-August 2003. Immediately before the IMF's approval of the transitional programme, Argentina serviced overdue amounts to the World Bank and the Inter-American Development Bank, enabling the country to conclude new loan agreements with international organisations.

The purpose of the transitional programme is to leave Argentina to work out more long-term solutions to its problems after the election in April 2003. Towards the end of 2002 Argentina's real economy seemed to have stabilised after the dramatic setback where GDP is estimated to have fallen by more than 16 per cent against the previous year. Furthermore, there were some signs of a budding economic upturn and renewed confidence in the banking sector. The IMF has stated that a credit programme requires a tenable economic and political framework, based on a stable monetary anchor, a fiscal-policy framework including the provinces, as well as a strategy to resolve the banking crisis. At the end of 2002, Argentina's debt to the IMF exceeded 13 billion dollars.

Debt restructuring and involvement of private creditors in crisis resolution
In many of the large-scale loan packages extended in recent years it was necessary to waive the IMF's normal access limits. This has led to demands for better opportunities to exert pressure on private lenders for them to participate in resolution of the crisis. The principal aim is to clarify the procedures for how various groups of a country's creditors may collectively conclude debt restructuring agreements with the debtor. In addition, it is important to prevent private creditors from lowering their credit-rating standards because they expect e.g. the IMF to grant very large loans to support a country with an unsustainable current-account deficit.

In the autumn of 2001, the IMF's First Deputy Managing Director, Anne Krueger, proposed to enhance the transparency of the rules for the involvement of private creditors by means of statutory rules. The proposal is still under consideration.

Simultaneously, it is attempted to give private creditors various incentives to make greater use of contract types which could facilitate debt restructuring in the event of an unsustainable current-account deficit in a country. In terms of bond loans it is especially important for the bond holders to be able to act collectively. By means of special Collective Action Clauses a majority of the bondholders may impose an obligation on all bondholders to accept amendments of the conditions set out for the original loan. The EU member states seek to promote the use of such clauses. The informal meeting of the Ecofin Council in Copenhagen in September 2002 decided that the EU member states will themselves use such clauses when they raise bond loans under the jurisdiction of another country.

Initiatives for poor developing countries
The IMF has two facilities for very low-income countries. Under one facility, the IMF provides debt relief for Highly Indebted Poor Countries (HIPC). Furthermore, the IMF operates a special Poverty Reduction and Growth Facility (PRGF) to extend very low-interest loans to low-income countries which implement structural reforms to reduce poverty and promote economic growth. At the end of 2002, the debt relief initiative comprised a total of 26 countries and the IMF had extended PRGF loans to 39 countries.

These facilities are financed via special funds with contributions from the development assistance funds of the rich countries and other sources. For Denmark, Danida (Danish International Development Agency) has contributed kr. 160 million to the funds over the last 3 years. In addition, Danmarks Nationalbank has made loan commitments guaranteed by the Danish state totalling SDR 100 million, or approximately kr. 962 million, to finance the PRGF facility. So far, this loan commitment has been exercised for an amount of approximately kr. 589 million.

Surveillance of financial markets
In the light of the financial crisis in Asia in 1997/98, the IMF and the World Bank increased their surveillance of the international financial markets, especially in terms of a review and assessment of each member country's financial system in connection with the Financial Sector Assessment Programs (FSAP). FSAP has become an important instrument in the IMF's country assessments.

FSAP consists of three elements:

• An assessment of the stability of the financial system, including an analysis of e.g. the impact of macroeconomic factors on stability.
• An assessment of compliance with relevant standards for the financial sector, including banking supervision, insurance, securities and payment systems. The standard for combatting financing of terrorism will probably be included during 2003, cf. Box 9.
• An assessment of the need for reform and development of the financial sector.
  
  

The preparation of FSAP is extremely resource-intensive. In the period from 1999 to August 2002, FSAP was carried out in approximately 50 of the 184 IMF member countries. The IMF expects to complete FSAP for the major countries by 2005/06. At the top of the list are the countries of great systemic significance to the international financial markets, while FSAP are not expected to be carried for e.g. the smallest countries. Furthermore, the IMF seeks to ensure a certain geographical spread, and to cover different stages of economic development. Nevertheless, special attention is given to countries in a vulnerable external situation or with a rapidly growing financial sector.