How to Cheat the Maastricht Criteria - Assignment Example

How to cheat the Maastricht Criteria? European Union – An Introduction The European Union is an intergovernmental union of 25 nations in Europe. Each nation, which is a member of the European Union, is an independent and democratic nation. The European Union, which is the world's largest union of independent states, came into effect, in the year 1992, with the signing of the Maastricht treaty. The chief characteristics of the European Union include bringing its member states into a common single market. The treaty lays down that it member states should adopt and follow a common trade policy, common fisheries policy, and common trade customs and should operate using a single currency called the ‘Euro’. The European Economic and Monetary Union (EMU) ‘Euro’, which is the currency of the European Union member states, will be managed by the European Central Bank. All states, which are part of the European Union, have to be a part of the European Economic and Monetary Union (EMU). The European Economic and Monetary Union (EMU,) is made up of essentially three stages. Each stage has been developed with the aim to coordinate the economic policy of the members of the European Union and it will end with the adoption of the ‘Euro’. The different stages of the EMU are as follows: In the first stage, the main objective as to bring together the economic policies of member states and to remove barriers which came in the way of free capital movement. The second stage saw EMU member states working towards reducing their government deficits. They also implemented steps by which they could move capital towards non-member states. It was in the second stage that European Monetary Institute, the forerunner of the European Central Bank (ECB) was established. The third and final stage came into effect on 1 January 1999, when the ‘Euro’ was introduced to be used in non-cash transactions. In this stage, each member state which entered the European Union had it currency exchange rates were fixed irrevocably against the euro. On 1st January 2002, the euro was introduced to be used in cash transactions as well. Twelve member states have entered the third stage of the European Economic and Monetary Union, and adopted the ‘Euro”, as of the year 2007, while the remaining 13 out of the 27 member states, still have to adopt it. What is the Maastricht Criteria? In order for member states to adopt the ‘Euro’, they have to fulfill the requirements of the Maastricht criteria. This criteria is also known as the Convergence criteria, and it lays down a set of guidelines which must be adhered for a member state of the European Union to enter into the third stage of European Economic and Monetary Union (EMU) and adopt the ‘Euro’ as the currency. The treaty was signed on February 7, 1992 in Maastricht, Netherlands and came into full effect on November 1, 1993 under the Delors Commission. The purpose of setting the criteria is to maintain the price stability within the Eurozone and to keep this stable even after new member states enter into the Union. According to the Maastricht criteria, countries which want to adopt the ‘Euro’ must meet certain economic criteria which are as follows: Inflation rate: Each country which wants to be part of the EMU must have an inflation rate which is not more than 1.5 percentage points higher than the three of the European Union’s economically best performing members. Government finance: Any EU member state must come into the expected requirement for their annual government deficit and government debt. The state must show that the ratio of their annual government deficit to gross domestic product (GDP) is not more 3% at the end of the preceding fiscal year. Otherwise, it must show that it can reach an annual government deficit which is close to 3%. This criterion is exempted only for exceptional cases. Furthermore, the ratio of their gross government debt to GDP must not be more than 60% at the end of the preceding fiscal year. Even if a member state find this target difficult to reach it is important for them to show that the government debt has significantly come down to an acceptable level. Join the Exchange rate mechanism: Each country which wants to become a member of the European Union must join the exchange-rate mechanism (ERM II) under the European Monetary System (EMS) for a consecutive two-year period. After joining they should not have devaluated their currency during this two-year period. Long-term interest rates: The average long-term interest rates in member states should not exceed 2 percent more than the long-term interest rate of the 3 best-performing member states of the European Union. Advantages and disadvantage of the Maastricht Criteria for joining European Union There are many advantages for countries which join the European Union. They will be able to use a single currency, which will make many things easier for the businesses and people of these countries. It will enable payments to be made quicker and help to compare prices easier and remove the risks of the exchange rate. All this is especially a boon for companies which are trading in ‘Euro’, because they will have lower transaction costs. Traveling will be simpler in euro area countries as there is no need to change money. Though the EMU has made significant changes in the economic scenario of Europe it suffers from certain drawbacks. One of the main disadvantages in adopting the ‘Euro’ is that leads to higher prices and the loss of an independent monetary policy. Other drawback set by the criteria includes the percentages set for the inflation and interest rate, which must be followed by a member to enter the European Union. Consequently some European states, which want to enter into the third stage of the EMU resort to cheating and showing false figures to become members. How did Greece cheat on the Maastricht Criteria? Taking Greece as an example of a country which cheated on the Maastricht criteria set for members of the EMU, Greece joined the euro with the second wave of EU countries in 2001 after two years of stringent economic reforms. It was the poorest member at that time and could not join the euro during the first wave of nations joining the EMU in 1999, because it had a high budget deficit and rising inflation. During the two years in which it implemented stringent economic reforms, it depreciated it’s currency by 14 percent and had entered into club in January 2001, just a year before the euro currency began circulating. As of early 2003, Greece had taken over the presidency of the European Union. This came at a time when there a hot debates were being conducted debates about Iraq and whether it was really possible for Europe to make a meaningful progress towards a common foreign policy. In entering the third stage of the EMU, Greece showed a lot of promise as a member of the EMU. All this came to a crashing down when Eurostat-verified data was released on 23 September, 2004. This data showed malicious deficit figures, with Greece’s GDP ratio being revised by the new government, upwards from 1.7% to 4.6%, well above the Maastricht criteria ceiling of 3%. The reason for this according to Prime Minister Kostas Karamanlis was the Socialist government, which has largely understated the amount spent for military and Olympics. The Socialists of their part states that the conservative government changed the figures to discredit the Socialists, who led Greece into the Euro zone in 2001. All said and done, this matter is one of embarrassment for the EMU. According to Katinka Barysch1 , the chief economist at the Centre for European Reform, "The announcement is a big embarrassment for both the Greeks and the EU. Here we are, squabbling over Germany's and others' marginal overruns and it turns out that we have countries in the eurozone that shouldn't be there in the first place. Legally, there is a strict difference between the Stability and Growth Pact and the Maastricht criteria but most people will see the Greek announcement as just another indication that eurozone fiscal rules are ineffective." Joaquin Almunia, who is the Commissioner for Economic and Monetary Affairs, declared that eurostat would be looking into the possibility of starting an infringement procedure against Greece for non-compliance of Regulation 3605/93 and ESA95. These regulations clearly state how budget figures should be complied by member states of the EMU. The coming of Greece’s declaration that it had cheated to enter into the European Union, throws the spotlight on other countries that are known be indulging in 'creative fiscal accounting' such as Italy which has a series of one-off measures. There are 10 new EU countries, most of which do not have sound economics or sound fiscal policies who want to join the euro, and the EU must adopt tighter controls before allowing them to enter so that same fiasco which happened with Greece won’t happen again. Recommendations and Conclusion There are many suggestions as to how to avoid memebr state, particularly ones which are poor from entering into the EU, by providing false figures. One of them is to have an independent body look into the budget figures presented by member states. According to the, European Central Bank President Jean-Claude Trichet what is required is "an independent institution, body, entity" to "guarantee that we can rely on the figures which are presented"2. Another aspect which must be looked into is the cyclically adjusted data of budget figures provided by countries wanting to join the EU and there must also be a closer inspection of their investment spending to ascertain if the figure presented by them are indeed true. If the European Monetary Union, must mature fully and turn into a union which is advantageous to all of its memebr states what is required is to enable true free movement of goods and free movement of capital, significant harmonization and opening-up of economies. This is easier said than done as is see in the fact that the budget deficit problems of countries like Italy and Germany are now a continent-wide issue. What is really required is for the EMU to establish a fiscal policy, with interest rates have to be set not just for low-growth countries like Greece, Italy and Germany, but also high-growth countries like U,K and Ireland. References: Chris Morris. Greece steers EU down path of peace.2003 < http://news.bbc.co.uk/1/hi/world/europe/2649863.stm> Greek deficit announcement deals blow to Stability Pact. Greece admits it cheated to join euro zone What is European Monetary Union? An Awfully Big Adventure Read More