Maintaining an exchange rate peg over such a long time span is hard, though changes to the composition of the currency basket allowed some flexibility. Throughout this period, the lira was only devalued once, in 1992, in the wake of the turbulence seen in Europe, which saw the pound sterling ejected from the Exchange Rate Mechanism (ERM) and the devaluation of the Italian lira among others. Otherwise, the Bank’s determination to maintain the peg never wavered. We never blinked. The ability to maintain the peg may have been partly due to restrictions on trade and stringent controls on capital movements, at least in the early decades. By the mid-1990s, however, trade and financial market liberalisation meant that these factors became less and less important. Instead, major reforms in 1994 brought about fuller independence for the Central Bank and a gradual liberalisation of interest rates amid increasing recognition that, in the absence of capital controls, monetary policy had to be more actively oriented towards maintaining the peg. Throughout, the lira was buttressed by a healthy stock of external reserves. The Central Bank of Malta was legally bound to maintain reserves equivalent to at least 60% of the monetary base, but in 3  For a review of Malta’s monetary and exchange rate policy over the years, see Anton Caruana Galizia (1989) “Malta’s exchange rate policy since the breakdown of the Bretton Woods system” in the Central Bank of Malta Quarterly Review, June 1989 and Aaron G Grech (2003) “The framework of monetary policy in Malta”.
I would now like to turn briefly to the experience of the Central Bank of Malta in dealing with these policy issues over almost 50 years of its existence. Malta is an extremely small, open economy, highly dependent on international trade for its prosperity. The Bank’s monetary policy objective was initially set as the promotion of “the orderly and balanced development of Malta and a rising level of employment and income consistent with the maintenance of monetary stability in Malta and the external value of the currency”. In practice, among these multiple objectives, the Bank gave priority to maintaining stability in the external value of the Maltese lira (or pound as it was initially known). An exchange rate peg was seen as necessary to support foreign trade and inward investment from abroad. Moreover, given Malta’s  2  For an account of the euro area’s exchange rate policy during the first decade of its existence, see Lorenzo Bini Smaghi, “The euro area’s exchange rate policy and the experience with international monetary coordination during the crisis”. Speech delivered on 6 April 2009 in Brussels. 2  dependence on imported goods to satisfy domestic consumer demand, the peg was also seen as a prerequisite to safeguard domestic purchasing power. 3  Throughout its existence, therefore, the  Bank’s monetary policy orientation was always focused on a fixed exchange rate as the nominal policy anchor.