Real and Price Convergence under a Fixed Exchange Rate Regime

Nadežda Stanová in the current issue of Biatec (monthly magazine of the National Bank of Slovakia).

Real and Nominal Convergence Go Hand in Hand

Hence, inflation in a fixed exchange rate regime in New Europe (e.g. in Slovakia after adopting euro) can be expected at levels up to real GDP per capita growth (5-7%).

Forecast

Recent OECD forecast expects a decline of economic growth in Slovakia to approximately 7 percent in 2009. Among other factors influencing this outlook, a slowdown of EU economies is to be blamed. More comments in Slovak Spectator's article.

More interesting is the economic performance under changed economic conditions after adopting euro. Although some expect the growth to decline as a result due to Maastricht fiscal ceiling, fiscal discipline is definitely not the only factor influencing the expected outcome. Taking into account that currency-switching is a very specific situation, one should not omit the long-term effects of euro on economic growth.

In my humble opinion, policy makers should have at hand a strategy for further development in form of an industrial policy vision. For this, measurements of the allocation efficiency of public funds for FDI stimuli should be considered. That is to say, that FDI in the automotive industry might have already exploited the existing economies of scale opportunities, which means that a further contribution of this sector to economic growth may not be so robust anymore. For a small country, in addition, a fast adjustment in competitiveness seems to be the key priority of economic policy. Without a scientific guidance in economic policy-making, it is hard to follow optimal solutions, unbiased by ideological disputes.

Slovak wages at 685 EUR when entering Eurozone

Nominal expectations can be as important as real ones for possible euro-related real price changes and resource misallocations. I thus bring numbers for the average monthly gross wage in Slovakia at the break of 2009, when the country expects to convert to euro. The average wage, seasonally adjusted, will be 680-690 eur. The figure is to be used in the context of the Slovak economy only, since comparing gross wages across Central-European economies is rather complicated, as I demonstrated before. The expected conversion rate between koruna and euro used in this calculation is 32.63 SKK/EUR (taken from the survey on assessments of Slovakia meeting the Maastricht criteria.

Historically Lowest Budget Deficit Confirms Slovak Euro Ambitions

The 2007 state budget ended up in a deficit of 23.5 bn SKK (712 mil EUR) at the end of December. Relative to the Gross Domestic Product (GDP), this constitutes 1.3%, which is a historical low (data available since 1995). The budget was originally planned with a shortfall of 38.4 bn SKK. The narrower-than-planned budget gap was caused by 2007 state revenues being almost four percent higher than those budgeted, thanks to record economic growth, while the actual state spending almost exactly matched the plan. Together with the negative balance of regional administration and social security, which is estimated at 1.1% of GDP in the latest update of the Finance Ministry, the figure means that the general government deficit will most probably lie at 2.4% of GDP. Public finance deficit of this size satisfies the 3.0% of GDP Maastricht convergence criterion necessary for adopting the common currency in January 2009.