Michael C Bonello: Malta’s journey to the euro and beyond Speech by Mr Michael C Bonello, Governor of the Central Bank of Malta, at the European Economics and Financial Centre, London, 1 February 2008. *  *  *  A month has passed since the euro became Malta’s new currency. Euro area membership is a major milestone for any country for there are clearly long-term benefits associated with participation in the world’s second most important currency area. There is indeed much evidence that the macroeconomic framework which supports the euro has delivered price stability, job creation and economic growth. For a small, open economy like Malta’s with a heightened vulnerability to external and sector specific shocks, the benefits of the single currency can be expected to be even more valuable. From a central banker’s perspective, moreover, euro area membership means replacing the manifold risks inherent in managing a small, vulnerable currency such as the Maltese lira by the greater security afforded of major reserve unit. Where have we come from? Although the Maltese economy had responded fairly well to the closure of the British military base in1979, it still suffered from considerable structural weaknesses when the authorities applied for EU membership in 1990. These were reflected in the dominant role of the public sector – which at the time provided 40% of all jobs – and in the extensive use of protective trade barriers that only served to entrench inefficient and uncompetitive practices.
There was, moreover, no departure from the Bank’s prudent approach to reserve management and the reserves remained well above the minimum statutory level. This was the case even during periods of rising international oil prices, which inflated the import bill, and in 2007 when the public started to convert Maltese lira holdings into euro and to hold on to euro earnings in anticipation of the change to the euro. Another favourable element during the ERM II phase was the comfortable surplus position on the capital and financial account, which more than offset the current account deficit. A combination of substantial inflows of FDI and inward portfolio investment flows provided strong support to the Maltese lira. The Central Bank of Malta’s credibility - based on its track record in delivering exchange rate and price stability - as well as the small size of Malta’s financial market probably also helped to ward off any unwanted attention. The absence of volatile short-term capital flows into and out of the country during this period supports this impression. Finally, Malta’s experience points to the importance of a shared vision between the government and the central bank on policy objectives, as well as of a holistic approach to achieving them. In this regard, the continued acceptance by economic operators of the need to support the fixed exchange regime facilitated the authorities’ task in imposing the fiscal and monetary discipline necessary to meet the nominal convergence criteria.