Estonia has changed over to the euro – why?

Updated: 17.02.2011

Estonia will change over to the euro - why and how?

Estonia is a small country with a small and open economy. Changeover to the euro, a world currency, will have a positive effect on the confidence of the economy and people of Estonia. The euro will support our economic stability, facilitate trade relations with EU Member States and establish Estonia as a part of one of the most influential economic regions in the world. In addition, adoption of the euro will decrease the risk that the value of our money would decline and savings would be reduced. Transition to the euro will make travelling more convenient and cut the costs of currency exchange for both private individuals and businesses.

The decision to join the European Union, which was approved at the autumn referendum of 2003, expressed also support for accession to the euro area.

Shortly after obtaining EU membership Estonia joined the exchange rate mechanism ERM II, which is considered as the "antechamber" to the euro area. By now, Estonia has passed two out of the three stages of obtaining full membership in the Economic and Monetary Union: accession to the EU and joining of the exchange rate mechanism ERM II. The third task left is to change over to the euro. The Estonian Government and Eesti Pank have established the goal of introducing the euro at the first opportunity.

On 1 September 2005, the Government approved the first version of the national changeover plan, which establishes the entire changeover process in Estonia.See the latest, 9th version (.pdf).

The Estonian kroon is pegged to the euro

The Estonian kroon has been pegged first to the Deutsche Mark and later to the euro during the entire circulation period. Due to the fixed exchange rate and the peg to the euro, we are almost members of the euro area, except that our banknotes are different. Thus, the changeover from the kroon to the euro will not bring along any major economic changes, whereas transaction costs will decrease and the possible risks endangering the kroon as a small currency with fixed exchange rate will disappear.

Estonia's accession to the Economic and Monetary Union is the best and most reliable way of ensuring the stability and low inflation level of the currency in circulation.

In addition:
     - it will be easier to compare prices across euro area countries;
     - risks related to the exchange rate will be minimized;
     - the risk of sudden increases in interest rates will be smaller;
     - transaction costs will decrease.

Conclusion:
If Estonia becomes a member of the Economic and Monetary Union, its economic potential will be higher than in the case of retaining the Estonian kroon. Moreover, accession to the euro area will, for the first time in history, give Estonia the opportunity to participate in the European monetary policy decision-making process (see also How does changeover to the euro affect economic policy?).

Stable currency improves the standard of living

Close integration with the EU economy as well as higher investment activity should, in the coming years, lead to stable growth in employment in both the industrial and the services sector. Economic growth and the increased corporate profitability, brought along by productivity growth, will contribute to a faster increase in wages. In addition, wage growth will be affected by the tightened competition in the qualified labour market.

Transition to the euro will make travelling more convenient and cut the costs of currency exchange for both private individuals and businesses. Other, less obvious advantages accompanying the transition to the single currency include, for example, lower interest rates on loans, which have, as a so-called advance payment, already helped improve the living conditions of many Estonian people. Loan interest rates have witnessed a remarkable decline over the past seven years as a consequence of Estonia's integration with the EU, which has been accompanied by a higher sovereign rating. The latter, in turn, has increased the confidence of foreign investors in Estonia.

Favourable interest rates

As a result, loan interest rates for both private individuals and businesses are already lower than in other countries comparable to Estonia in terms of the standard of living or the current account deficit, including most of the Central and Eastern European Countries. In other words, the higher the sovereign rating (i.e. economic credibility), the more investment the country receives and the more new jobs are created there. We should not forget that prior to the euro changeover in the EU, restrictions on the movement of capital were lifted. This surely contributed to the fact that Estonia's banking market is now controlled by strong Nordic investors, and the heavy competition in the banking market has facilitated developments beneficial for loan market customers.

It is also quite clear that accession to the euro area is more beneficial for countries whose economies are more closely integrated with the euro area. Close integration of Estonia's and EU economies reflects in the fact that Member States account for 80% of Estonia's external trade and more than 80% of foreign investment in Estonia. The adoption of the euro will result in smaller transaction costs, as the need for currency exchange will decrease. Based on the experience of other countries, this allows to save up to 0.2% of GDP. Most of Estonia's trade is euro-based, which means it will be easier for companies to conduct business when the country joins the euro area: there will be no need to settle in two currencies or exchange currencies, and prices will be comprehensible and more easily comparable without extra calculations.

Joining the euro area and transition to the single currency will hedge the risk of adverse exchange rate movements. A stable monetary environment, in turn, promotes fast economic growth. At the same time, accession to the euro area will entail the obligation for Estonia to follow a balanced economic policy in the future as well.

As regards the emotional aspects of replacing the Estonian kroon, the contour of Estonia depicted on the national side of the Estonian euro coins will pass on our national symbol. The coins will find their way into the wallets of many other nations and hopefully the beautiful image of our country will evoke interest in Estonia in many people.