Bulgaria: Eurozone entry long way off

By:
Farah Khalique
Published on:

Bulgaria’s ambition to join the euro is slipping further out of reach as the bank run on its fourth-largest lender Corporate Commercial Bank (KTB) brings allegations of corruption and political instability to the fore and further diminishes the country’s standing in Brussels, say analysts.

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People queuing outside the main office of Bulgaria's Corporate Commercial Bank after adverse media reports triggered a bank run

The country stated its intention to start the process to join the euro in 2009, having joined the European Union (EU) two years earlier, but the application was repeatedly delayed.

Bulgaria is required to adopt the euro and join the euro-area, according to European Commission (EC) rules. Indeed, the national currency, the lev, has been pegged to the euro since the single-currency introduction in January 1999.

However, this year’s EC convergence report, published in June, found Bulgaria still does not meet all the requisite conditions, despite an improvement in economic fundamentals, citing "incompatibilities and imperfections" with regards to central bank independence.

The ministry of finance published an official announcement that Bulgaria now meets the four numerical benchmarks for euro-area membership, but did not address the concerns about its central bank Bulgarian National Bank (BNB).

War of words

BNB has felt the heat since KTB suffered a bank run in June, prompting the central bank to seize control and shut the lender down until an audit is completed in October.

"Bulgaria’s central bank managed the [global] financial crisis very well, so the banking crisis at KTB came as a nasty surprise," says Gunter Deuber, head of CEE research at Raiffeisen Bank International. "We could speculate about how the bank became so big without interference from the regulator.

"The bank expanded strongly over the past few years in a challenging market which obviously had the potential to backfire, while its competitors remained on hold."

Earlier this month, Bulgaria’s state prosecutor charged KTB’s majority shareholder Tsvetan Vassilev with embezzlement and issued an international arrest warrant after he fled the country. Vassilev hit back on Monday at the charge in a post on his website, pointing the finger of blame at the central bank.

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Bulgaria’s woes are likely to delay its euro membership even further, says Peter Attard Montalto, emerging-markets economist at Nomura International.

"They run much deeper into reform agenda, corruption and policy commitment to modernize the economy," he says.

Historically, there has been a reluctance from EU authorities to put Bulgaria on track for euro-area membership and the banking scandal is not adding to its chances of joining, says Raiffeisen’s Deuber.

"The fact that such an event could happen to one of the country’s biggest lenders will certainly, at least from a short-term perspective, create a more cautious view of Bulgaria’s standing in Brussels," he says.

Small steps

Bulgaria’s announcement in July to voluntarily join the European banking union was a smart move, says Antonio Timoner-Salva, senior economist at business information and analytics company IHS.

"[This was one of the] few options they had with a political dimension," he says. "Of course, it’s a signal that they are committed to achieve much better standards of banking supervision."

The banking union is due to become operational in November, to supervise eurozone banks and prevent bank failures.

Deuber believes Bulgaria wants to join the banking union to gain credit in Brussels, and put them on track for euro-area membership.

"Bulgaria does not have the best reputation in Brussels, and the euro-area is more than just an economic club – it is also a political club," he says. "EU authorities are still concerned about the long-term effect of letting Bulgaria join the euro-area."

However, the Bulgarian public still needs convincing. The European sovereign debt crisis made Bulgarians more cautious about adopting the euro, and a recent survey by the Open Society Institute showed two-thirds of respondents do not wish to replace the lev with the euro.

Steve Hanke, professor of applied economics at the Johns Hopkins University in Baltimore, believes Bulgaria would be better off sticking with the lev.

Hanke was an adviser to Bulgarian president Petar Stoyanov in 1997 during a period of hyperinflation and helped introduce Bulgaria’s currency board. The board pegged the lev to the German Deutschemark which successfully put an end to hyperinflation, and later pegged the lev to the euro.

"Bulgaria should not join the euro," says Hanke. "It’s a bad idea because you lose all discipline. Bulgaria has a very rigorous monetary system. Just being a member of the EU but not part of the eurozone means they can’t get bailed out, so have to stand on their own two feet and be disciplined."