Bulgaria’s accession to the Eurozone became again a part of public discourse, after the minister of finance of the first Borisov government gave up on it in 2012. This will without a doubt bring opportunities as well as threats for the economy, and more often than not opinions are polarized – the introduction of the common currency is presented either as a positive, or a negative development. A thorough analysis of all the opportunities and threats is missing. As a result, it is hard to assess which arguments are prevalent.
One of the arguments against the accession to the Eurozone is the expected drop in interest rates on public debt, which could lead to a loosening of fiscal policy, either as a result of populism or a desire to support companies with ties to the ruling elite, or both. This was one of the reasons why Greece ended up in the situation that it has been in for the past ten years, as the accession to the Eurozone nearly erased the risk premiums between the countries within it. Up until the 2008-2009 economic crisis, the financial markets considered the financing of all Eurozone countries to bear similar risks, and Greece took advantage of that, raked in its budget deficit and debt, until the point when the financing ran out and the crisis in the country began.
After the onset of the 2008-2009 crisis, the differences in these interest rates returned, as “problematic countries” like Greece, Ireland, Portugal, Spain, and Italy have significantly higher risk premiums than the rest. In the past years of increased economic activity, these differences started to decrease again, but they are still far from the pre-crisis period. In other words, unlike the period before 2008, when the financial markets considered all Eurozone countries to share similar risk levels, this is no longer true for the years after 2009.
The situation is very different for the new EU member-states, which already joined the Eurozone. There is some convergence of interest rates in them, but at a much slower rate compared to the older member states. Something more – the convergence in 2004-2005 can be seen both among newer member states and in comparison with Germany’s interest rates. This, however, is also the period when those countries join the exchange rate mechanism (ERM II), not the Eurozone itself, and as a result the markets maintained a certain risk premium. After the crisis and as a result of the experience of countries like Greece, Ireland, Portugal, Spain, and Italy, and the problems of Lithuania and Latvia, the interest rates on debt started to diverge again. In other words, the markets started to make separate risk assessments for each country rather than classify all together as low-risk economies.
Interest rates in Bulgaria, despite being outside of the ERM II, have followed the common trend and are not very different from those of the new members of Eurzone. If the government wants to spend recklessly due to cheap financing, it can do so today. Something more – the worsening of public finances will immediately affect interest rates, regardless of whether the country is in the Eurozone or not, as is evident from the data on both new and old member states. We also need to take into consideration mechanisms introduced after the EU economic and financial crisis, such as the European semester, which have some disciplinary effects.
In other words, neither markets, nor bureaucrats in the EU will allow a small country such as Bulgaria to do whatever it desires, regardless of it being in or out of the Eurozone. This makes the fears of loosening of the country’s fiscal policy look rather unfounded.