Analysis

The Euro will boost Lithuanian economy

The common currency will help the Lithuanian economy grow after the country becomes the 19th member of the Eurozone on 1 January 2015, says EY’s Eurozone Forecast December 2015.

The experience of other Eurozone countries suggests that by reducing the remaining frictions and barriers in the economy, the common currency is likely to increase foreign trade by 5–10 per cent. Although Russia is still Lithuania’s major single market, taking 22 per cent of its exports this year, 35 per cent of Lithuania’s exports go to Eurozone countries and 43 per cent of its imports are sourced from the euro area. Adoption of the euro will eliminate the need to buy or sell currencies or hedge exchange rate risks for these transactions.

Lithuania will also become a more attractive destination for foreign investment as part of the Eurozone because of the lower cost of doing business with member countries. And with the Baltic states having a growing profile in the Eurozone, joint projects in the region will have added attraction, such as schemes to reduce dependence upon Russian gas.

In addition to that, the elimination of foreign exchange risk will lead to lower interest rates on loans to Lithuania’s non-financial corporations and households. As a result, in the medium term (2015–22) the euro should boost Lithuania’s real GDP by around 2 per cent. Other motives for joining the Eurozone include lower transaction costs, financial stability and greater transparency over public finances.

Having overcome the recent severe economic crunch, the country will introduce the euro from a strong and sustainable position. The country is well placed to adapt to Eurozone membership. The inflation rate has now been stabilised — it was zero in September 2014, below the Eurozone average of 0.3 per cent — and government debt has remained low. And Lithuanian GDP has now recovered to its pre-crisis 2008 peak. Indeed, it will be one of the fastest-growing Eurozone countries in 2015, with GDP forecast to rise by 3.6 per cent and then accelerating to 4.5–5 per cent per annum in 2016–18, well ahead of most other Eurozone countries. The inflation rate is forecast to rise to around 1.4 per cent in 2015 and then just over 2 per cent a year in 2016–18, but with relaxed ECB monetary policy designed to lift Eurozone inflation back toward 2 per cent, this is unlikely to limit Lithuania’s current price and labor cost advantages.

But Lithuania is not the only winner from the enlarged euro club. In Lithuania, the Eurozone and the banking union are gaining a member that is competitive, financially disciplined and responsible. Lithuania’s membership in the euro area also completes the entry of the Baltic region as a whole. Despite six years of economic problems and recent tensions with Russia over Ukraine, joining the single currency area remains an attractive prospect for eastern European countries.