Why is using the euro instead of a local currency such a big deal and why is the wealth of the society an argument?

Question

I think this is a question of both economics and politics, but I decided to ask it here.

There will soon be elections in Poland. There was a debate about this question: should Poland keep the złoty (our current currency) or adopt the euro? Some candidates said the złoty is the right choice because Polish society is too poor for the euro.

I wonder if this argument has any validity. To me it seems as if a parent said to a child: you should give your height in centimeters because you're not tall enough to give it in meters. It's just a unit. Of course, the ratio is variable, but my job will not have a higher value just because I say how much it's worth in euro instead of złotych.

What are the real problems with a poorer country adopting the currency of a wealthier country? I believe there is some legal catch, maybe some new obligations for a poorer country – obligations which cannot be met by the country – but from an economic point of view I don't understand it at all.

Answer 1

Investopedia has an article about why some countries prefer not to use the Euro. Countries with their own national currencies may have several advantages in managing economic problems:

• "They have their own independent central banks which are able to act as the lender of last resort for the country’s debt."

• "When inflation rises in an economy, an effective response is to increase interest rates. Non-euro countries can do this through the monetary policy of their independent regulators.

• "Nations can face economic challenges due to periodic cycles of high inflation, high wages, reduced exports, or reduced industrial production. Such situations can be efficiently handled by devaluing the nation’s currency, which makes exports cheaper and more competitive and encourages foreign investments."

For a weaker economy like Poland, it might not be unreasonable to argue that these monetary policies tools are worth holding on to. A currency is not just a unit of account; it is also a set of institutions.

Answer 2

Possible effects of adopting the Euro:

• Pro: Poland has significant trade links with Eurozone countries. Adopting the Euro removes an obstacle to trade, since traders no longer have to hedge against currency risks (or accept the risks). The same applies to Euro-denominated debts.
• Pro: In trades with countries outside the Eurozone, the size of the Eurozone economies should dampen currency swings.
• Pro and Con: The Eurozone Crisis couple of years ago showed that the rest of the Eurozone will not simply abandon an Eurozone member, and instead provide bailouts coupled with harsh reform demands. This is partly self-interest since they cannot let the markets get away with betting against a single member country.
• Con: Poland will no longer be able to devalue its own currency on the markets at need. During the Eurozone Crisis, some countries might (or might not) have benefited from devaluation, but having the Euro precluded that option.

Then there is the possible effect on prices. With an open border to Germany, and no currency difference, would retail prices in Poland soon reach the same level as in Germany? That could be hard on people with a small pension.

Answer 3

There are a number of issues that come with adopting the Euro. At the time of this answer the exchange rate is 1 złoty = .22 Euro. The first most obvious issue is people tend not to grasp currency changes very well. Someone with 1,000 złoty in the bank will wake up one day and have about 220 euros which looks a lot like losing 75% of your money, despite it being an equivalent value. There would be people panicking that their savings were destroyed by such a move, and care needs to be taken to manage that transition. A drastic change like that completely destroys internalized valuations of what things should cost, which makes people susceptible to overpaying for things.

There is also the matter of cheap items often bought with cash. Something being sold as .1 złoty per unit would become about 20% cheaper or more expensive when rounded to an equivalent price in euro due to .01 euro being the smallest effective increment for most cases. This is really only a big deal at the low end, where a single cent is a significant portion of the total cost.

With the Euro specifically, there is also the monetary policy issues. A country that adopts the Euro loses a bit of sovereignty in not being able to set monetary policy unilaterally. Essentially this means a country can't print money at will, which means inflation of the currency is disconnected from the economy of the country to some degree. Additionally, because the Euro is a shared currency each country is taking some stake in guaranteeing other countries debt. Any country that defaults on a Euro denominated debt hurts the power of the Euro for every country, which means a country could face a financial crisis through no fault of their own.

The Euro also opens up a country to a lot of outside investment that may not be ideal. this is where relative richness comes into play in some ways. A local currency means that in order to buy things like land especially foreign investors need to be able to convert their money to local currency. A country can control how easily foreign investors can buy property by controlling the supply of money, the Euro removes that control. A foreign billionaire could take their already existing euros and buy up a large chunk of Poland and inflating values beyond what citizens can pay. Similar things can happen to all kinds of goods if the government is subsidizing them.

Answer 4

Adopting the Euro as a currency is not a simple switch to a different money unit:

Sovereignty

It means accepting the rules which govern the Eurozone. These rules are necessary for the unique currency to work across many different countries, but they take quite a lot of freedom away from the national governments: a Eurozone government (or parliament) cannot spend money any way they want, as part of the "Euro team" a country transfers some of their sovereignty to the team. For example Greece was forced to follow a very strong austerity plan due its high level of debt.

Economic ties

All the Eurozone countries have to deal with the consequences of any event which affects the Euro, for better or worse. It provides stability, because the group is stronger than any of its individual members. However it can also cause trouble, and some events can be good for one country but not for the other. For instance a strong euro value is good for countries which import a lot, typically a very industrial country like Germany (buying materials is cheap), but it's bad for a country which relies on tourism (e.g. Greece, Italy), because it makes it more expensive for foreigners to visit the country. If they had their own local currency, countries like Greece or Italy would certainly have devaluated it to boost their economy, but they can't do that since they are part of the Eurozone.

Rich vs. poor countries

Naturally there are tensions between rich and poor Eurozone countries, because their interests often differ. The Euro rules are very strict, they are meant to maintain the currency strong, similarly to the German economic model. There are advantages to this (in particular limited inflation), but some argue that the rules are not suited for countries which have a weaker economy.

Answer 5

What are the real problems with a poorer country adopting the currency of a wealthier country? I believe there is some legal catch, maybe some new obligations for a poorer country – obligations which cannot be met by the country – but from an economic point of view I don't understand it at all.

Control of a national currency is an instrument of national economic policy that can be used to regulate inflation, and indirectly, influence macroeconomic policy by influencing the size of the money supply.

Poor countries might believe that their optimal monetary policies differ from those of rich countries, and rightly feel that the preferences of the rich countries will predominate over the preferences of the poor countries in setting monetary policy as a means of setting economic policy.

But, a single currency integrates a poor country into the common currency economic zone by reducing the risk of international trade through variations in exchange rates. This ties the country joining to the larger Eurozone for better and for worse.

Answer 6

As someone who has gone through the change at the start of the Euro, back in 2001, I feel it is more a political issue than a practical one.

That being said, many of the businesses did raise their prices against the rules, but after a year or so, the prices were back where they should have been in the first place.

I think Poland should look at countries which were in the same position, a few years back. Like Slovakia, the Baltic Republics and other countries that entered the Eurozone after it was started. That will give good comparisons, about the advantages and disadvantages which were expected and which came true, and what predicted problems did not materialize.

Whatever that search turns up, you will find people who will hold on to their 'old' money and those who will want to change to the Euro, as it fits their ideology.
And if one politic party wins the elections they will look at one set of results, if one other party wins, they will look at an other set of results. Lets hope they all come out with a good answer.

Answer 7

The United States just spent several trillion dollars bailing out the economy in response to a pandemic. There was literally zero talk about increasing taxes or balancing the budget. That's because the situation forced the awkward admission that America can print its way out of most budget deficits, and certainly out of one in which every other country is also printing money furiously. Note that only countries which control their currency have this option.

Modern Monetary Theory tells us why this need not be a financial catastrophe.