Dimiar Sabev, Economic Life, 21 December 2022
A missing perspective towards the eurozone membership debates
The discussion “for” and “against” the introduction of the euro in Bulgaria is heating up, all sorts of experts are calling each other in public space and the moment is not at all suitable for an exchange of reasonable arguments. But in this pro-and-con bustle, one argument is absent, which should actually be the main one: what is the effect of the functioning of the currency board in Bulgaria after 1997? Because the euro in Bulgaria will not appear on a white board, but will eventually replace a too strict currency regime.
It can be confidently argued that a country’s monetary regime is a factor of greater importance for the development of its economy than, for example, whether it has a majority or proportional electoral system; it is more important than whether the country is situated in a temperate or tropical climatic area; it is more important even than having a sea outlet. “Give me a monetary system and I’ll turn the world upside down!” would cry Archimedes today.
Yet the proliferating analyses of the good and bad sides of Bulgaria’s eventual membership of the eurozone miss the glaring fact that the country has been in the grip of a currency board for a quarter of a century. (Professor Garabed Minassian is among the few specialists to emphasise the role of the currency board in Bulgaria’s economic development).
It is as if the 25-year Bulgarian currency board is something quite natural, typical of the world, which has not had any impact on the current development of the economy and demography, nor will it affect how Bulgaria’s eventual membership in the eurozone will affect it.
This is an extremely misleading perspective. In practice, since 1997, there has been no more important factor in the Bulgarian economy than the fact that the country maintains a currency board. Any discussion that omits this is either misguided or misleading.
Social effects of the currency board
Why are wages low in Bulgaria? Because the currency board restricts the money supply and thus devalues local assets (labour, skills, etc.). Why have so many people left Bulgaria? Because wages are low – that is, again, because of the currency board.
Since the currency board was introduced in 1997, Bulgaria’s population has fallen by more than 1.4 million people, or 17%. Among the very few countries in the world that are ahead of Bulgaria on this grim indicator is another victim of the currency board model – Lithuania, with a depopulation rate of nearly 22% over the period.
Between 1997 and 2018, Bulgaria’s real GDP per capita grew by 133%. Over the same period, Romania’s GDP rose 212%, Poland’s 154%, Hungary’s 135% (but starting from a significantly higher base), and Albania’s 215%. Of course, Romania, Poland, Hungary, Albania, Czech Republic, etc. do not have a currency board. By contrast, Bosnia and Herzegovina, in a currency board, achieved only 77% growth over the period.
It is true that the aforementioned Lithuania recorded a 185% rise in GDP between 1997 and 2018, but a quarter of the growth came after 2015 – after abolishing the currency board and adopting the euro.
Moreover, let us not forget that Bulgaria’s “GDP per capita” indicator is “fudged”, for the following reasons: 1) depopulation, i.e. distribution of output among fewer and fewer people; 2) inequality, making averages meaningless as an indicator of the state of the economy; 3) a large share of raw material exports (grain and metals), created with little local labour resources and valorised by foreign companies.
The GDP dynamics and demographic development of Bulgaria and comparable countries are two red flags regarding the long-term effects of a currency board.
Harms of the currency board for the Bulgarian economy
How does the currency board actually harm the Bulgarian economy? Firstly, with the fixed exchange rate against Bulgaria’s main foreign trade partner, which does not respond to cumulative changes in economic conditions. For the period between 1997 and 2021, Bulgaria’s GDP growth is 2.3 times higher than Germany’s. (This does not speak to the “strength” of the Bulgarian economy, but to the accelerated growth of one that starts from a low base.) But the exchange rate remains unchanged.
The consequence is that the Bulgarian lev is becoming an undervalued currency. That is, one euro in Bulgaria can buy more than one lev in Germany, if the two currencies are converted at the fixed rate for the respective country.
Thus, foreign businesses using euros enjoy a systematic advantage over Bulgarian businesses. It is profitable to export goods from Bulgaria – this is the christomatic effect of an undervalued currency – but the exporters are mainly foreign companies that were previously able to buy Bulgarian inputs relatively cheaply.
This is why they say that the currency board is a “colonial monetary system”: advantageous to the metropolis, which retains the right to conduct monetary policy, but disadvantageous to the colony, which uses money whose value is systematically undervalued. But that is far from all.
The international foreign exchange reserves of the Bulgarian National Bank
The Bulgarian currency board is supported by the gross international foreign exchange reserves maintained by the Bulgarian National Bank. These reserves are not small – the BNB has accumulated about 70 billion leva. A huge and growing sum that has no productive purpose – the accumulation of reserves has got out of control and now serves only itself. But it turns out that maintaining unnecessary reserves is not cheap at all.
On 20 December, the BNB published a report on its activities in the first half of 2022, and it became clear that in just six months the central bank had lost more than €130 million on investments of its international currency reserves. This represents a -0.48% return. The explanation: ‘strongly negative interest rates on deposits in first-class foreign banks, as well as negative yields on euro-denominated bonds of high credit quality…’ That the BNB is looking for ‘first-class’ investments of ‘high credit quality’ does not change the facts: minus €130 million in 6 months.
It is high time Bulgarians understood that the Bulgarian lev is a synthetic and, moreover, a foreign product: it does not derive its value from Bulgarian natural resources, technological progress and political stability, but from the foreign currency reserves, foreign securities and 7-8% gold that are maintained at the BNB.
The patriots who want to preserve the “Bulgarian” lev, which is in the shackles of the currency board, have no idea how this country functions, or they are manipulating the people. In practice, the ‘Bulgarian’ lev is a form of lending, on non-market terms, granted by Bulgaria to the strongest economies in the euro area.
Bulgaria’s options regarding the monetary policy
The currency board in Bulgaria is harmful, but how can it be removed? Bulgaria has only three, maybe four, options for its monetary policy. The first is to work hard to join the eurozone. Although the creation of neoliberal financiers, compared to the restrictive regime of the Bulgarian currency board, the eurozone is downright liberal and Bulgaria’s membership would unleash long-suppressed economic activity. Including, labour costs will rise.
The second option for Bulgaria is to keep the current monetary system. If one likes low wages and demographic decline, that is one’s choice. The third option is to abolish the currency board, but without introducing the euro. Some would call that patriotic – but who will bear political responsibility for the expected speculative reaction and the devalued savings of the people? And is Bulgaria competent to conduct its own monetary policy?
The fourth option is a modification of the currency board: with 69.7 billion leva of BNB assets at the end of November 2022, the banknotes and coins in circulation are only 26.4 billion leva. Clearly, there is room to increase the money supply without abolishing the basic principles of the current system: a fixed exchange rate and the coverage of the lev by foreign assets.
The very fact that the fourth option – so obvious and logical – has so far not been put up for expert discussion suggests that there is institutional opposition in Bulgaria to reforms leading to an increase in domestic economic activity. It also speaks of the fact that the third option – a freely floating lev – is not realistic.
Reform of the currency board through a eurozone membership
If we weigh the four listed options against the political landscape in Bulgaria, we will see that eurozone membership is the most realistic option to reform the “punitive” monetary regime that has ravaged the country for a quarter of a century. The eurozone is definitely flawed and has risks, but it would be a salutary step forward for the country – assuming that demographic collapse and stubbornly low labour costs are something undesirable.
Sensible voices point out that Bulgaria’s future should indeed be in the euro area, but the huge difference in the income of the population and the structure of the economy hides many unknowns. It is therefore best to wait until we have caught up before pushing to join. Indeed, Eurostat data shows that Bulgaria’s GDP per capita at the end of 2021 is only 31.85% of the EU average.
This is a logical argument; the point is that with the current currency board in place it is very difficult, probably impossible, to achieve the convergence that is being sought. Bulgaria is definitely not ready for the euro area, but with the currency board regime it will never be ready. On the other hand, abolishing the currency board without moving to the euro area would be another shock, which this time could prove fatal for the tormented Bulgarian patient.
As if we do not have a useful move?
In this systemic impasse we can only choose between the lesser evil, and it seems that this is Bulgaria’s membership in the eurozone after all.
To return to the original question: why is no politician/governor in Bulgaria talking about the link between the weak development of the economy and the demographic collapse, on the one hand, and the currency board regime? The answer is personal.
Most authorities who comment publicly on financial matters today had a personal hand in the introduction of the currency board in 1997. Whatever the results, they will not throw a stone at what they themselves created. There is also a large group of specialists who understand the harmful effects of the currency board but have a personal interest in seeing it continue: it is, for example, profitable for banks (zero monetary risk combined with a risk premium as a ‘third’ party) and for employers profiting from cheap labour.
So let’s not be surprised at signs like the one that recently flashed on a central Sofia street, right in front of the building of one of the major employers’ organisations: “SAVE THE BULGARIAN LEV – THE LAST FORTRESS OF BULGARIA!”
A fortress that turned Bulgarians into serfs.
Photo: “Save the Bulgarian lev – the last fortress of Bulgaria!”. It is a message in front of the building of one of the major employers’ organisations in Bulgaria. (source: Dimitar Sabev, Economic Life)