Those European countries like Hungary, Poland, and Sweden, which still remain outside the Eurozone, might want to look at Finland’s recent sad experience before deciding to abandon their currencies for the Euro. Unlike Greece, Finland has played strictly by the Eurozone’s rules, especially in terms of maintaining ordered public finances. Yet its economy is now mired in a four-year long economic recession and it’s level of output today is some 5% below its pre-2008 peak. This has prompted the country’s finance minister to dub Finland the “sick man” of Europe.
The primary cause of Finland’s dismal economic performance over the past few years has been the fact that it has been hit by a variety of severe external shocks. These have included (a) the implosion of Nokia, on which Finland had become overly dependent; (b) the massive oil price-induced depreciation of the Russian ruble and the big setback in the Russian economy, which is one of Finland’s main trade partners; and (c) a big decline in external demand for Finland’s forestry products. These external shocks were the very sort of asymmetric shocks that Euro skeptics had long feared would hit Finland and that made Finland an inappropriate Eurozone member.
On previous occasions when the Finish economy was hit by external shocks, most notably when the Soviet Union fell apart in the late 1980s, the country resorted to currency devaluation to support its economy. Since 1999, however, that option has been precluded by Finland’s having given up its currency for the Euro. Compounding matters has been the fact that Eurozone membership has also obliged Finland to maintain a tight fiscal policy stance even at a time when cyclical considerations might have dictated the need for a sizeable fiscal stimulus.
The lesson that Finland’s experience should offer to those countries considering adopting the Euro is that Euro members can get into deep economic trouble even if they manage their public finances well. All it takes to get into trouble is to have one’s economy hit by a series of asymmetric negative economic shocks.
This would strongly suggest that, before saddling themselves with a Euro straitjacket, policymakers of those countries outside the Euro should ask themselves two basic questions: How likely are their countries to be hit by serious adverse external shocks that will not hit the rest of the Eurozone? Second, if their economy were to be hit by an asymmetric external shock, would it have the flexibility to weather that shock without the support from a currency depreciation? Finland’s experience would suggest that, if the answer to those two questions are negative, the country would be better served by staying outside the Euro.
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