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Latvia becomes 18th state to join the eurozone

Latvia becomes 18th state to join the eurozone

Latvia has begun the new year by joining the eurozone, becoming the 18th member of the group of EU states which uses the euro as its currency.

The former Soviet republic on the Baltic Sea recently emerged from the financial crisis to become the EU’s fastest-growing economy.

Correspondents report much scepticism in the country after recent bailouts for existing eurozone members.

But there is also hope that the euro will reduce dependency on Russia.

EU commissioner Olli Rehn said joining the eurozone marked “the completion of Latvia’s journey back to the political and economic heart of our continent, and that is something for all of us to celebrate”.

The government and most business owners also welcomed the single currency, saying it would improve Latvia’s credit rating and attract foreign investors.

However, some opinion polls suggested almost 60% of the population did not want the new currency.

Missing the lats

“It’s a big opportunity for Latvia’s economic development,” Prime Minister Valdis Dombrovskis said after symbolically withdrawing a 10-euro note as fireworks led celebrations in the capital Riga after midnight.

Newly minted Latvian euro coins on display in RigaLatvia has its own euro coins

The governor of the Latvian central bank, Ilmars Rimsevics, said: “Euro brings stability and certainty, definitely attracting investment, so new jobs, new taxes and so on. So being in the second largest currency union I think will definitely mean more popularity.”

One of those reluctant to give up Latvia’s own currency, the lats, was Zaneta Smirnova.

“I am against the euro,” she told AFP news agency. “This isn’t a happy day. The lats is ours, the euro isn’t – we should have kept the lats.”

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Latvia has begun the new year by joining the eurozone, becoming the 18th member of the group of EU states which uses the euro as its currency.

The former Soviet republic on the Baltic Sea recently emerged from the financial crisis to become the EU’s fastest-growing economy.

Correspondents report much scepticism in the country after recent bailouts for existing eurozone members.

But there is also hope that the euro will reduce dependency on Russia.

EU commissioner Olli Rehn said joining the eurozone marked “the completion of Latvia’s journey back to the political and economic heart of our continent, and that is something for all of us to celebrate”.

The government and most business owners also welcomed the single currency, saying it would improve Latvia’s credit rating and attract foreign investors.

However, some opinion polls suggested almost 60% of the population did not want the new currency.

Missing the lats

“It’s a big opportunity for Latvia’s economic development,” Prime Minister Valdis Dombrovskis said after symbolically withdrawing a 10-euro note as fireworks led celebrations in the capital Riga after midnight.

Newly minted Latvian euro coins on display in RigaLatvia has its own euro coins

The governor of the Latvian central bank, Ilmars Rimsevics, said: “Euro brings stability and certainty, definitely attracting investment, so new jobs, new taxes and so on. So being in the second largest currency union I think will definitely mean more popularity.”

One of those reluctant to give up Latvia’s own currency, the lats, was Zaneta Smirnova.

“I am against the euro,” she told AFP news agency. “This isn’t a happy day. The lats is ours, the euro isn’t – we should have kept the lats.”

Leonora Timofeyeva, who earns the minimum wage of 200 lats (£237; 284 euros; $392) per month tending graves in a village north of the capital Riga, said: “Everyone expects prices will go up in January.”

But pensioner Maiga Majore believed euro adoption could “only be a good thing”.

“To be part of a huge European market is important,” she told AFP. “All this talk about price rises is just alarmist.”

Alf Vanags, director of the Baltic International Centre for Economic Policy Studies, told Bloomberg news agency he personally did not like giving up the familiar lats but it was an “entirely irrational sentiment”.

Euro adoption was good for Latvia “on balance”, he argued, since it provided a mutual insurance policy that countries could draw on when they got into trouble.

Latvia, with its large ethnic Russian minority, is often seen as having closer economic ties to Russia than its fellow Baltic states Lithuania and Estonia. Russia remains an important export market while its banking system attracts substantial deposits from clients in other ex-Soviet states.

The Curious Case of Britain’s Economic Recovery

The Curious Case of Britain’s Economic Recovery

The U.K.’s Growth Spurt Has Taken Economists Almost Entirely by Surprise

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The global financial crisis has challenged some of the economic profession’s most cherished assumptions. And no country has confounded the textbooks more than the curious case of the U.K.

For five years, the British economy has persistently failed to behave as predicted by theory—and continues to do so with increasing evidence it is growing faster than almost any other major Western economy.

It is only the latest surprise. Most forecasters expected the Bank of England’s unprecedented money-printing program, in which it bought government bonds equivalent to 20% of gross domestic product, would trigger a recovery. Yet output remains 3% below its peak in late 2007.

Most forecasters expected the 20% depreciation in the pound since the start of the crisis to spark a recovery in exports. It didn’t happen.

Economic theory suggested the faltering economy would stoke unemployment, which in turn would cause output per worker to rise. Yet unemployment only rose modestly to 8% while productivity is still 4.4% below precrisis levels.

Economic theory also suggested that a weak economy would mean lower inflation. Yet since 2007, it has averaged nearly a percentage point above the BOE’s 2% target and well above rates in other European countries.

Now the U.K. is providing another mystery. This week’s GDP data are likely to show that the economy grew 0.8% in the third quarter compared with the previous quarter. Indeed, if recent survey data are to be believed, growth could be heading for 5% year-over-year, according to Rob Wood, chief U.K. economist at Berenberg Bank.

Yet this growth spurt has taken economists almost entirely by surprise. It is hard to identify a single leading forecaster predicting such a strong recovery at the start of the year, or even at the end of the first quarter.

As recently as July, the International Monetary Fund was so gloomy about the U.K. that it was advising the government to loosen its deficit-reduction strategy. This month, it raised its 2013 growth forecast by half, to 1.4%.

How did the U.K. rapidly transform from laggard to leader right under the noses of the unsuspecting economics profession? And is this growth sustainable?

The answer to the first question is becoming clear: More policy makers and economists now accept that the most plausible explanation for the U.K.’s postcrisis underperformance and its recent outperformance lies in the workings of the financial system—something that barely features in standard macroeconomic models.

Previous attempts to blame the U.K.’s weak performance on the government’s fiscal policies have been undermined by the recovery and by the fact that U.K. austerity hasn’t actually been very austere. While economists argued over Keynesian demand-side remedies, the main problem was one of supply—specifically the supply of finance.

Thanks to a broken banking system, the economy was unable to reallocate resources to productive parts of the economy, argues Kevin Daly, senior economist at Goldman Sachs. Healthy businesses were denied the credit they needed to expand. What has changed this year is that financial conditions have become easier. Mortgage rates for new loans have fallen by roughly one percentage point on average. Credit is available again on reasonable terms.

This partly reflects banks having met their capital and liquidity targets. But it also reflects policy action to boost credit creation—including a new BOE facility introduced in June 2012 that has dramatically eased bank funding costs—and a controversial new government mortgage-guarantee program modeled on U.S. government-backed agencies Fannie Mae and Freddie Mac. Easier credit conditions have rekindled consumer confidence and spending. Other factors have played a role, including the cooling of the euro crisis over the past year. But the pace of the recovery relative to global growth suggests it is primarily homegrown.

The turnaround is remarkable. House prices are up 6% nationally and are rising much faster in London and England’s southeast. New buyer enquiries are at record levels and mortgage approvals are up 38% in the year to September. New car registrations were up 12% in September from a year earlier. Retail sales are growing at their fastest pace since 2008. The savings rate has fallen by a third this year to 5%.

Not for the first time, the U.K. is betting that salvation lies in a consumer-led recovery fueled by rising house prices. But the success of this strategy isn’t guaranteed. Much depends on whether finance proves to have been the only structural impediment to the U.K.’s economic rebalancing.

If the answer is yes, then strong consumer demand should lead to increased business investment and rising productivity. That would create the conditions for wages to rise, vital to enable households to service increased debt. With wage growth currently well below inflation, household incomes have been severely squeezed for six years. But if it turns out the crisis has inflicted wider damage to the supply-slide potential of the economy, then a subsidized credit binge could be storing up trouble in the form of higher inflation, falling disposable incomes and increased household debt.

So far, the picture is mixed. Business investment fell in the second quarter by 2.7%, and the trade gap has widened since the start of the crisis, reflecting weak export growth. But finance chiefs are increasingly willing to consider new investments, according to a recent survey by Deloitte.

Similarly, the unemployment rate fell by only 0.1 percentage point in September to 7.7%, raising hopes that inflation can fall and productivity will pick up as the economy recovers.

But a sharp fall in the numbers of Britons claiming unemployment benefits—they saw their biggest fall in 16 years in September—may indicate that the economy has less spare capacity than most assume.

Meanwhile a key vulnerability remains in the high cost of housing. True, the stock of debt relative to the value of houses has fallen and total mortgage-interest costs are well below 2007 levels, suggesting affordability isn’t such a problem, at least outside London.

But unless rising house prices are offset by a boom in house-building, which seems unlikely without wider reform, the long-term impact of easier credit conditions may simply be to further unbalance the economy.

Indeed, the irony may be that in fixing one supply problem, the U.K. may end up exacerbating another.

Corrections & Amplifications
This week’s GDP data are likely to show that the economy grew 0.8% in the third quarter compared with the previous quarter. A previous version of this article said the data was due next week.

AGENDA BY SIMON NIXON (Wall Street Journal)

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