The deepening crisis in the euro area will have significant repercussions in the largest Central European member of the EU – Poland. At issue is nothing less than the government’s flagship economic policy – accession to the euro area at the earliest opportunity.

Poland has become something of a cause celebre, being the only EU economy to report positive growth in 2009. But it has also raised eyebrows owing to its dogged determination to continue to seek euro area membership as soon as possible.  Despite having abandoned its goal to enter ERM2 (the euro area’s antechamber) last year – which would have paved the way for adopting the euro in 2012 – it remains determined to press on with joining the euro area. Most analysts now see 2015 as the most likely date of entry.

With the risks of adopting the single currency laid bare for all to see, the burning question is: Why is Poland so determined to press ahead? The answer, as is frequently the case, is to be found in politics. The Civic Platform (PO) government, which was formed in late 2007, represents the modern, Europe-oriented Poland that has finally overcome its post-Communist complexes. But, in the eyes of the PO leadership, this transformation cannot be completed, and its benefits fully realised, until Poland takes its seat at the high table of the EU club – the euro area.

Domestically, the prospects for this have improved following the recent tragic death of President Lech Kaczynski, a Eurosceptic with both the ability and the will to obstruct the process. Kaczynski’s successor is likely to be the PO’s candidate in June’s presidential elections and the current acting president, Bronislaw Komorowski. Thus, if the PO wins the parliamentary elections in 2011 (as we expect), it will have a complete hold on political power, sufficient to implement the necessary structural and constitutional reforms.

Poland’s remarkable economic performance last year can be attributed to a combination of structural features and decisive policy steps. Unlike its Central European neighbours, Poland is a relatively large economy of 38 million consumers; and private consumption was boosted by personal income tax reforms passed in late 2008. Its banking system was relatively healthy, having avoided “toxic” financial instruments, while foreign currency-denominated consumer debt (which hit Latvia and Hungary particularly hard) was relatively low. And while refraining from a discretionary fiscal boost, the automatic stabilisers were allowed to take full effect – hence the elevated fiscal deficit, which provided timely support for the economy. However, most important in terms of the direct contribution to GDP growth – and particularly pertinent for the debate on the pros and cons of euro adoption - Poland’s exports were boosted by the loss of a third of the zloty’s value against the euro between mid-summer 2008 and February 2009.

GDP growth and components’ contribution

Source: Ecowin and Daiwa Capital Markets Europe Ltd.

We believe that, although Poland’s recent economic performance and political trends boost its chances of entering the euro area in 2015, there is now considerable uncertainty that it will do so. First, persistent uncertainty over the global economic outlook is bound to cast doubt on any projections of speedy fiscal deficit reduction to the Maastricht level of 3% of GDP. This will be compounded by the risk that public sector debt will exceed the Maastricht limit of 60% of GDP – the IMF, for one, estimates that this could happen in 2014. Second, with the euro area teetering on the brink, an outbreak of euroscepticism cannot be ruled out even among the PO ranks; and so it is not unlikely that the government might eventually opt for remaining outside the euro for an indeterminate period (emulating the likes of the UK and Sweden).

Third, in future, we expect the ECB and EU to be much more demanding in their approval of new candidates for euro membership and infinitely more rigorous in scrutinising their structural credentials. In this new environment, the timing of euro area accession will be determined by the speed of implementation of structural and institutional reforms, rather than by often fanciful, politically-determined “road-maps”. In this respect, the Tusk regime could well face an uphill struggle even if it wins complete control over Poland’s politics. In the end, therefore, economic realities may well win out over politics, frustrating the PO’s euro area accession ambitions. However, as perfectly illustrated by the ongoing crisis at the euro area’s periphery, this might well prove to be no bad thing at all.

Vlad Sobell, Senior Emerging Markets Economist

Disclaimer:

This research report is produced by Daiwa Securities Capital Markets Co., Ltd and/or its affiliates and is distributed by Daiwa Capital Markets Europe Limited in the European Union, Iceland, Liechtenstein, Norway and Switzerland. Daiwa Capital Markets Europe Limited is authorised and regulated by The Financial Services Authority and is a member of the London Stock Exchange, Chi-X, Eurex and NYSE Liffe. Daiwa Capital Markets Europe Limited and its affiliates may, from time to time, to the extent permitted by law, participate or invest in other financing transactions with the issuers of the securities referred to herein (the “Securities”), perform services for or solicit business from such issuers, and/or have a position or effect transactions in the Securities or options thereof and/or may have acted as an underwriter during the past twelve months for the issuer of such securities. In addition, employees of Daiwa Capital Markets Europe Limited and its affiliates may have positions and effect transactions in such securities or options and may serve as Directors of such issuers. Daiwa Capital Markets Europe Limited may, to the extent permitted by applicable UK law and other applicable law or regulation, effect transactions in the Securities before this material is published to recipients.

This publication is intended for investors who are not Retail Clients in the United Kingdom within the meaning of the Rules of the FSA and should not therefore be distributed to such Retail Clients in the United Kingdom. Should you enter into investment business with Daiwa Capital Markets Europe’s affiliates outside the United Kingdom, we are obliged to advise that the protection afforded by the United Kingdom regulatory system may not apply; in particular, the benefits of the Financial Services Compensation Scheme may not be available.

Daiwa Capital Markets Europe Limited has in place organisational arrangements for the prevention and avoidance of conflicts of interest. Our conflict management policy is available at http://www.uk.daiwacm.com/about-us/corporate-governance-and-regulatory. Regulatory disclosures of investment banking relationships are available at http://www.us.daiwacm.com/.

For more details, please contact:

Vlad Sobell, Economic Research
Daiwa Capital Markets Europe Limited
5 King William Street, London, EC4N 7AX

+44 (0)20 7597 8466

vlad.sobell@uk.daiwacm.com

For up to date Research analysis, see our blog site here.

Sign up for news/events alerts