Are the Acceding Countries Ready?

At a seminar organized by the Vienna Institute for Comparative Economic Studies in early 1998, George Kopits, Assistant Director of the IMF’s Fiscal Affairs Department, discussed the requirements that countries acceding to the EU will have to meet and the policy issues that they face. Overall, it seemed clear that the five postcommunist countries invited by the European Commission in July 1997 to meet EU requirements—Czech Republic, Estonia, Hungary, Poland, and Slovenia—are, in many important respects, in a better position than Greece and the Iberian countries were when they acceded to the EU. The countries slated for accession will have to adhere to an exchange rate mechanism currently followed by most EU members before the euro is introduced in 1999. That means keeping their currencies at a parity to the euro with a 15 percent corridor in each direction for two years before adopting the euro.

The countries will also have to meet the various Maastricht criteria (including a budget deficit no larger than 3 percent of GDP). It is safe to assume that they will need to adhere to such institutional requirements as using market-based monetary instruments and maintaining central bank independence from political influences. Other tasks include eliminating all trade barriers with the other EU members; establishing the common external tariff; and implementing common procedures for consumer and environmental protection, public procurement, banking regulation, and tax harmonization. As a benefit, the five countries will have access to the Structural Funds (SF), the Cohesion Fund (CF), and perhaps to the Common Agricultural Policy (CAP). While the transfers potentially allocated to them could be enormous according to current criteria, it seems likely that the amount available to them will be lim-ited to 4 percent of GDP.

The five countries seem to be doing rather well in meeting those criteria. In-lation and long-term interest rates have come down, although they remain above the EU averages. There is progress on adopting market-based monetary tools and establishing central bank independence. Budget deficits in several countries already fulfill the Maastricht criteria, although there may be significant extrabudgetary and quasi-fiscal expenditures. Their external sectors are already liberalized, and there is progress on antimonopoly and consumer protection legislation. However, much remains to be done in the areas of environmental standards, banking regulation, harmonization of indirect taxation (especially rates of value added tax and payroll contributions), and procurement procedures.

It is unclear whether the countries ac-ceding to the EU will be able to operate within the prescribed exchange rate corridor, given the myriad pressures on their exchange rates. There are factors that may lead to the appreciation of their currencies, including foreign direct investment and short-term capital inflows, and the productivity-driven adjustment of their prices to the levels of their EU neighbors. But there are also pressures for depreciation. Growth of wages tends to exceed that of labor productivity; bud-get deficits and rapid monetary growth persist; and speculative capital occasionally flows out.

Another issue is whether the countries can remain within the EU’s fiscal guidelines while dealing with major structural challenges. Accession will bring some budgetary advantages, including transfers under the Structural Funds, Cohesion Fund, and CAP programs; the elimination of sectoral subsidies; reform of budgetary practices; and lower interest costs.

At the same time, accession will also pose budgetary challenges, such as the need to cofinance the transfer programs, make contributions to the EU budget, eliminate tariffs against imports from EU members, and adopt the common external tariff. The candidate countries will also have to provide for tax harmonization, which will force major reductions in VAT rates; adopt EU accounting practices; and incur restructuring costs, especially for investments in infrastructure.

Despite such challenges the accession should be a success. The process has been successful in Portugal and Spain, less so in Greece. The five postcommunist countries have many similarities with the three Mediterranean states at the time of their ac-cession: low income levels, low productivity, a need for enterprise re-structuring, and scope for infrastructure investment. At the same time, the five transition countries are more open to foreign trade and capital movements, especially as compared with Greece and Spain at their accession; have smaller macroeconomic imbalances; and, ironically, have less wide-spread state ownership following their privatization efforts. However, the enlarged EU will be different from the European Community of the 1980s, particularly since the community was a customs union only, not a single market, and did not have a common monetary policy.

In sum, the five countries seem better prepared for accession than many ob-servers realize. There is more doubt about the viability of upcoming changes in the EU—especially the single currency and reform of the transfer pro-grams—than about the ability of those candidate countries to adopt current procedures—George Kopits pointed out.

The article is based on a Radio Free Europe report by Michael Wyzan, an economist living in Austria.