Report from the Commission convergence report 2010 (Prepared in accordance with Article 140(1) of the Treaty) {SEC(2010) 598 final}
Date: 2010-05-12
Institutions: European Commission
Subjects: EU Member State, convergence criteria, economic convergence, report

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EUROPEAN COMMISSION 

Brussels, 12.5.2010 
COM(2010) 238 final 

REPORT FROM THE COMMISSION  

CONVERGENCE REPORT 2010 

(Prepared in accordance with Article 140(1) of the Treaty) 

{SEC(2010) 598 final} 

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1. 

PURPOSE OF THE REPORT 

Article 140(1) of the Treaty on the Functioning of the European Union (henceforth 
TFEU) requires the Commission and the ECB to report to the Council, at least once 
every  two  years,  or  at  the  request  of  a  Member  State  with  a  derogation,  on  the 
progress  made  by  the  Member  States  in  fulfilling  their  obligations  regarding  the 
achievement  of  economic  and  monetary  union.  The  latest  Commission  and  ECB 
regular Convergence Reports were adopted in May 2008. 

The  2010  Convergence  Report  covers  the  following  nine  Member  States  with  a 
derogation:  Bulgaria,  the  Czech  Republic,  Estonia,  Latvia,  Lithuania,  Hungary, 
Poland, Romania and Sweden. Denmark and the United Kingdom have not expressed 
a  wish  to  adopt  the  euro  and  are  therefore  not  covered  in  the  assessment.  A  more 
detailed  assessment  of  the  state  of  convergence  in  these  countries  is  provided  in  a 
Technical Annex to this report (SEC(2010) 598).  

The content of the reports prepared by the Commission and the ECB is governed by 
Article  140(1)  of  the  TFEU.  This  Article  requires  the  reports  to  include  an 
examination of the compatibility of national legislation, including the statutes of its 
national central bank, with Articles 130 and 131 of the TFEU and the Statute of the 
ESCB  and  of  the  ECB  (henceforth  ESCB/ECB  Statute).  The  reports  must  also 
examine whether a high degree of sustainable convergence has been achieved in the 
Member  State  concerned  by  reference  to  the  fulfilment  of  the  convergence  criteria 
(price  stability,  government  budgetary  position,  exchange  rate  stability,  long-term 
interest  rates),  and  by  taking  account  of  other  factors  mentioned  in  the  final  sub-
paragraph of Article 140(1). The four convergence criteria are developed further in a 
Protocol annexed to the TFEU (Protocol No 13 on the convergence criteria). 

The examination of the compatibility of national legislation, including the statutes of 
the  national  central  banks,  with  Articles  130  and  131  of  the  TFEU  and  the 
ESCB/ECB Statute requires also an assessment of compliance with the prohibition of 
monetary  financing  (Article  123)  and  the  prohibition  of  privileged  access  (Article 
124);  consistency  with  the  ESCB's  objectives  (Article  127(1));  and  integration  of 
national  central  banks  into  the  ESCB  (several  TFEU  and  ESCB/ECB  Statute 
Articles). 

The  price  stability  criterion  is  defined  in  the  first  indent  of  Article  140(1)  of  the 
TFEU:  “the  achievement  of  a  high  degree  of  price  stability  […]  will  be  apparent 
from a rate of inflation which is close to that of, at most, the three best performing 
Member States in terms of price stability”. 

Article  1  of  the  Protocol  on  the  convergence  criteria  further  stipulates  that  “the 
criterion  on  price  stability  […]  shall  mean  that  a  Member  State  has  a  price 
performance  that  is  sustainable  and  an  average  rate  of  inflation,  observed  over  a 
period  of  one  year  before  the  examination,  that  does  not  exceed  by  more  than  1.5 
percentage points that of, at most, the three best-performing Member States in terms 
of price stability. Inflation shall be measured by means of the consumer price index 

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on a comparable basis, taking into account differences in national definitions”1. The 
requirement of sustainability implies that the satisfactory inflation performance must 
essentially  be  attributable  to  the  behaviour  of  input  costs  and  other  factors 
influencing  price  developments  in  a  structural  manner,  rather  than  the  influence  of 
temporary  factors.  Therefore,  the  convergence  examination  includes  an  assessment 
of  the  factors  underlying  inflation  and  of  medium-term  prospects.  From  a  forward-
looking perspective, the report also assesses whether the country is likely to meet the 
reference  value  in  the  months  ahead2.  The  sustainability  of  inflation  performance 
deserves  particular  attention  at  the  current  juncture.  The  fall-out  from  the  financial 
crisis  has  significantly  impacted  on  inflation  performance  in  many  countries  and 
macroeconomic volatility is high. The inflation reference value was calculated to be 
1.0%  in  March  2010,  with  Portugal,  Estonia  and  Belgium  as  the  three  best-
performing Member States3. At the current juncture characterised by large common 
adverse  shocks  (the  global  economic  and  financial  crisis  and  the  associated  strong 
disinflationary pressures), an unusual number of countries face episodes of negative 
inflation rates. In these specific circumstances, negative rates of inflation constitute 
an  economically  meaningful  benchmark  against  which  to  assess  countries'  price 
stability  performance.  However  it  seems  warranted  to  exclude  from  the  best 
performers those countries whose average inflation rate is distant from the euro area 
average  inflation  (0.3%  in  March  2010)  by  a  wide  margin  –  in  line  with  the 
precedent of the 2004 Convergence Report4 – as these outliers cannot reasonably be 
judged as being best performers in terms of price stability and including them would 
severely  affect  the  reference  value  and  thus  the  fairness  of  the  criterion.  In  March 
2010,  this  leads  to  the  exclusion  of  Ireland,  the  only  country  whose  12-month 
average inflation rate (at -2.3% in March 2010) deviated by a wide margin from that 
of  the  euro  area  and  other  Member  States,  mainly  reflecting  the  severe  economic 
downturn.  

The convergence criterion dealing with the government budgetary position is defined 
in  the  second  indent  of  Article  140(1)  of  the  TFEU  as  “the  sustainability  of  the 
government  financial  position:  this  will  be  apparent  from  having  achieved  a 
government  budgetary  position  without  a  deficit  that  is  excessive  as  determined  in 
accordance  with  Article  126(6)”.  Furthermore,  Article  2  of  the  Protocol  on  the 
convergence  criteria  states  that  this  criterion  means  that  “at  the  time  of  the 
examination the Member State is not the subject of a Council decision under Article 
126(6) of the said Treaty that an excessive deficit exists”. 

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For  the  purpose  of  the  criterion  on  price  stability,  inflation  is  measured  by  the  Harmonised  Index  of 
Consumer Prices (HICP) defined in Council Regulation (EC) No 2494/95, amended by Regulation (EC) 
No 1882/2003 of the European Parliament and the Council and by Regulation (EC) No 596/2009 of the 
European Parliament and the Council.  
All  the  forecasts  for  inflation  and  other  variables  in  the  current  report  are  from  the  Commission 
services'  Spring  2010  Forecast.  The  Commission  services'  forecasts  are  based  on  a  set  of  common 
assumptions  for  external  variables  and  on  a  no-policy  change  assumption  while  taking  into 
consideration measures that are known in sufficient detail. The forecast of the reference value is subject 
to significant uncertainties given that it is calculated on the basis of the inflation forecasts for the three 
Member  States  projected  to  be  the  best  performers  in  terms  of  price  stability  in  the  forecast  period, 
thereby increasing the possible margin of error. 
The cut-off date for the data used in this report is 23 April 2010.  
When  Lithuania's  average  12-month  inflation  was  2.3  percentage  points  below  the  euro  area  average 
12-month inflation and was excluded from the best performers. 

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The TFEU refers to the exchange rate criterion in the third indent of Article 140(1) 
as “the observance of the normal fluctuation margins provided for by the exchange-
rate  mechanism  of  the  European  Monetary  System,  for  at  least  two  years,  without 
devaluing against the euro”. 

Article  3  of  the  Protocol  on  the  convergence  criteria  stipulates:  “The  criterion  on 
participation in the exchange rate mechanism of the European Monetary System (…) 
shall  mean  that  a  Member  State  has  respected  the  normal  fluctuation  margins 
provided  for  by  the  exchange-rate  mechanism  of  the  European  Monetary  System 
without  severe  tensions  for  at  least  the  last  two  years  before  the  examination.  In 
particular, the Member State shall not have devalued its currency’s bilateral central 
rate against the euro on its own initiative for the same period”5. 

The relevant two-year period for assessing exchange rate stability in this report is 24 
April  2008  to  23  April  2010.  When  assessing  exchange  rate  developments,  the 
analysis  takes  into  account  the  impact  of  external  official  financing  arrangements 
wherever  relevant,  including  their  size,  the  amount  and  profile  of  assistance  flows 
and the possible policy conditionality. 

The  fourth  indent  of  Article  140(1)  of  the  TFEU  requires  “the  durability  of 
convergence achieved by the Member State with a derogation and of its participation 
in  the  exchange  rate  mechanism  being  reflected  in  the  long-term  interest  rate 
levels”.  Article  4  of  the  Protocol  on  the  convergence  criteria  further  stipulates  that 
“the  criterion  on  the  convergence  of  interest  rates  (…)  shall  mean  that,  observed 
over  a  period  of  one  year  before  the  examination,  a  Member  State  has  had  an 
average  nominal  long-term  interest  rate  that  does  not  exceed  by  more  than  2 
percentage points that of, at most, the three best-performing Member States in terms 
of  price  stability.  Interest  rates  shall  be  measured  on  the  basis  of  long-term 
government  bonds  or  comparable  securities,  taking  into  account  differences  in 
national definitions”. 

The interest rate reference value was calculated to be 6.0% in March 20106. 

Article 140(1) of the TFEU also requires an examination of other factors relevant to 
economic integration and convergence. These additional factors include financial and 
product  market integration, the development of the balance of payments on current 
account and the development of unit labour costs and other price indices. The latter 
are covered within the assessment of price stability. 

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In  assessing  compliance  with  the  exchange  rate  criterion,  the  Commission  examines  whether  the 
exchange rate has remained close to the ERM II central rate, while reasons for an appreciation may be 
taken into account, in accordance with the Common Statement on Acceding Countries and ERM2 by 
the Informal ECOFIN Council, Athens, 5 April 2003. 
Estonia, which was one of the best performing Member States in terms of price stability in March 2010, 
does not have a harmonized benchmark long-term government bond or a comparable security that could 
be  used  for  the  calculation  of  the  reference  value.  Therefore,  in  line  with  Article  4  of  the  Protocol 
(referring to 'at most the three best performing Member States'), the reference value for March 2010 is 
calculated as the simple average of the average long-term interest rates in the two other best performing 
Member  States  in  terms  of  price  stability  -  Portugal  (4.2%)  and  Belgium  (3.8%)  -  plus  2  percentage 
points. 

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2. 

BULGARIA 

Legislation  in  Bulgaria  -  in  particular  the  Law  on  the  Bulgarian  National  Bank 
(henceforth  BNB)  -  is  not  fully  compatible  with  Article  130  and  131  of  the  TFEU 
and  the  ESCB/ECB  Statute.  The  law  on  conflicts  of  interests  contains  provisions 
which  are  incompatible  with  the  independence  of  the  BNB.  Incompatibilities  and 
imperfections  as  regards  the  central  bank  integration  into  the  ESCB  subsist  in  the 
fields of monetary policy, banknotes and coins issues, the promotion of the smooth 
operation  of  payment  systems,  the  ECB's  approval  before  participation  in 
international  monetary  institutions,  the  statistical  role  of  the  ECB  and  the  EU,  the 
auditing  by 
institutional  and  personal 
independence,  as  well  as  the  prohibition  on  monetary  financing.  A  draft  law 
elaborated by the Bulgarian Government in cooperation with the BNB, subject to its 
entry into force, would remove some of the existing imperfections. However, it does 
not cover the issues related to the integration of the BNB into the Eurosystem. 

independent  external  auditors, 

the 

In Bulgaria, 12-month average inflation has been above the reference value since EU 
accession  in  2007.  The  average  inflation  rate  in  Bulgaria  during  the  12  months  to 
March 2010 was 1.7%, above the reference value of 1.0%. It is expected to remain 
above but move close to the reference value in the months ahead. 

Annual HICP inflation increased strongly in the first half of 2008, peaking at 15% as 
a result of buoyant domestic demand and rapid increases in global food and energy 
prices. Since the onset of the financial crisis, inflation declined sharply to about 1.6% 
in late-2009 as commodity prices fell, domestic demand weakened significantly and 
unit  labour  costs  increased  at  a  more  moderate  pace.  It  picked  up  slightly  again  in 
early 2010 on the back of higher excise duties and rebounding fuel prices. In March 
2010, annual HICP stood at 2.4%. 

Inflation  is  expected  to  remain  moderate  at  around  2.3%  in  2010  according  to  the 
Commission  services'  Spring  2010  Forecast,  reflecting  the  negative  output  gap, 
subdued unit labour cost increases and moderate growth of food and energy prices. 
Inflation is, however, likely to accelerate slightly to 2.7% in 2011 amid strengthening 
economic activity. The relatively low price level in Bulgaria (48% of the euro area 
average in 2008) suggests significant potential for further price level convergence in 
the long term. 

Bulgaria does not fulfil the criterion on price stability.  

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Graph 1a: Bulgaria - Inflation criterion since 2004

 (percent, 12-month mov ing av erage)

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Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

B ulgaria

Reference value

Note: The dots show the projected reference value and 12-month average inflation 
in the country in December 2010.
Sources: Eurostat, Commission services' Spring 2010 Forecast.

Bulgaria's  general  government  balance  was  maintained  in  surplus  over  the  period 
2004-2008, amounting to 1.7% of GDP on average. With the onset of the crisis, the 
general government budget balance deteriorated significantly to a deficit of 3.9% of 
GDP in 2009 on the back of increased expenditures and falling revenues. According 
to  the  Commission  services'  Spring  2010  Forecast,  the  deficit-to-GDP  ratio  will 
amount to 2.8% in 2010 and 2.2% in 2011, under a no-policy-change assumption. In 
early  2010  the  budget  gap  was  still  expanding  amid  weak  revenue  collection  and 
higher  than  foreseen  expenditure.  However,  improvements  in  the  macroeconomic 
environment  and  the  already  adopted  additional  fiscal  consolidation  measures  are 
expected to set the budget deficit on a declining path starting from the middle of the 
year. The gross public debt ratio remained low at around 15% of GDP in 2009, but it 
is projected to increase to about 17% of GDP in 2010 and 19% of GDP in 2011.  

As  the  3%  of  GDP  limit  for  the  general  government  deficit  has  been  breached  in 
2009,  the  Commission  has  submitted  a  report  in  accordance  with  Article  126(3)  of 
the Treaty, as required by the Stability and Growth Pact.  

(in percent of GDP)

Graph 1b: Bulgaria - Government budget balance and debt
Inverted scale
-4
-3
-2
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2005

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2008

2009

2010(*)

2011(*)

Go vernment balance (lhs)

Cyclically-adjusted balance (lhs)

Gro ss debt (rhs)

(*) Co mmissio n services' Spring 2010 Fo recast.

So urce: Euro stat, Co mmissio n services.

The  Bulgarian  lev  is  not  participating  in  ERM  II.  The  Bulgarian  National  Bank 
pursues its primary objective of price stability through an exchange rate anchor in the 
context of a Currency Board Arrangement (CBA). Bulgaria introduced its CBA on 1 

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July  1997,  pegging  the  Bulgarian  lev  to  the  German  mark  and  later  the  euro. 
Additional  indicators,  such  as  the  developments  in  foreign  exchange  reserves  and 
short-term  interest  rates,  point  to  an  increase  in  investors'  risk  perceptions  in  the 
context  of  the  global  financial  crisis,  which  has  however  reversed  partly  since 
autumn 2009. A sizeable official reserves buffer continues to underpin the resilience 
of the CBA. During the two-year assessment period, the Bulgarian lev remained fully 
stable vis-à-vis the euro, in line with the operation of the CBA.  

Bulgaria does not fulfil the exchange rate criterion. 

The average long-term interest rate in Bulgaria in the year to March 2010 was 6.9%, 
above  the  reference  value  of  6.0%.  Average  long-term  interest  rates  in  Bulgaria 
stayed  below  the  reference  value  from  2005  to  mid-2009,  but  since  then  have 
exceeded  the  reference  value.  Yield  spreads  vis-à-vis  the  euro  area  long-term 
benchmark bonds7 gradually widened from about 30 basis points in 2007 to around 
110 basis points in late 2008, reflecting inflation differentials and broader concerns 
about  the  overheating  of  the  Bulgarian  economy.  Long-term  interest  spreads 
increased  further  in  2009,  reaching  350  basis  points  in  the  first  half  of  the  year  as 
global  risk  appetite  declined  and  country  risk  premia  increased.  Spreads  started  to 
narrow in the second half of 2009 on returning investors' confidence, and declined to 
220 basis points in March 2010.  

Bulgaria does not fulfil the criterion on the convergence of long-term interest rates.  

Additional  factors  have  also  been  examined,  including  balance  of  payments 
developments  and  product  and  financial  market  integration.  Bulgaria’s  external 
deficit  widened  significantly  over  the  last  decade,  reaching  some  27%  of  GDP  in 
2007,  before  contracting  to  9%  in  2009  as  the  trade  gap  started  to  close  amid 
weakening domestic demand. The external deficit remains however relatively large. 
External  financing  has  sharply  contracted  as  previously  large  net  FDI  inflows 
declined  and  private  credit  flows  slowed.  The  Bulgarian  economy  is  highly 
integrated  within  the  EU.  In  particular,  trade  and  FDI  relations  with  other  Member 
States are extensive and integration of the domestic financial sector into the broader 
EU  financial  sector  is  also  substantial,  mainly  thanks  to  a  high  level  of  foreign 
ownership of the banking system.  

In  the  light  of  its  assessment  on  legal  compatibility  and  on  the  fulfilment  of  the 
convergence criteria, and taking into account the additional factors, the Commission 
considers that Bulgaria does not fulfil the conditions for the adoption of the euro.  

3. 

THE CZECH REPUBLIC 

Legislation in the Czech Republic - in particular, the Act on the Czech National Bank 
(henceforth  CNB)  and  the  Act  on  the  Financial  Arbitrator  -  is  not  fully  compatible 
with Article 130 and 131 of the TFEU and the ESCB/ECB Statute. Incompatibilities 
notably  concern  the  central  bank  integration  into  the  ESCB  at  the  time  of  euro 

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Countries' long-term interest spreads vis-à-vis the euro area long-term benchmark bonds are computed 
using the monthly series "EMU convergence criterion bond yields" published by Eurostat. The series is 
also published by the ECB under the name "Long-term interest rate for convergence purposes". 

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adoption, the central bank independence and the prohibition on monetary financing. 
The Act on the CNB also contains imperfections relating to the role of the ECB in 
the  field  of  international  cooperation,  the  role  of  the  ECB  and  the  EU  for  the 
collection of statistics and for the appointment of external auditors, the promotion of 
smooth operation of payment systems, the absence of an obligation to comply with 
the Eurosystem's regime for the financial reporting of NCB operations, the personal 
independence and the prohibition on monetary financing. 

In  the  Czech  Republic,  12-month  average  inflation  has  been  below  the  reference 
value  since  January  2010.  The  average  inflation  rate  in  the  Czech  Republic  during 
the 12 months to March 2010 was 0.3%, below the reference value of 1.0%, and it is 
likely to remain below the reference value in the months ahead.  

Inflation  in  the  Czech  Republic  picked  up  sharply  in  the  second  half  of  2007  and 
averaged  6.3%  in  2008.  This  was  the  combined  result  of  rising  energy  and  food 
prices,  indirect  tax  changes  and  administered  price  increases.  When  the  one-off 
impact  of  cost-push  factors  ebbed  away  and  the  Czech  economy  entered  into 
recession,  headline  inflation  dropped  rapidly,  averaging  0.6%  in  2009.  Headline 
inflation remained moderate in the first quarter of 2010, despite further increases in 
indirect taxes.  

Inflation is expected to average around 1.0% in 2010, according to the Commission 
services' Spring 2010 Forecast, reflecting subdued economic activity and favourable 
unit  labour  cost  developments.  It  is  forecasted  to  increase  moderately  in  2011  to 
around 1.3% on average, in line with a recovery in economic activity. The price level 
in the Czech Republic (about 70% of the euro area average in 2008) suggests some 
potential  for  price  level  convergence  in  the  long  term.  The  favourable  past  track 
record and the anchoring of inflation expectations at a low level provide the basis for 
sustainable low inflation in the future.  

The Czech Republic fulfils the criterion on price stability. 

Graph 2a: Czech Republic - Inflation criterion since 2004
 (percent, 12-month mov ing av erage)

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3

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1

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Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

Czech Republic

Reference value

Note: The dots show the projected reference value and 12-month average inflation 
in the country in December 2010.
Sources: Eurostat, Commission services' Spring 2010 Forecast.

The Czech Republic is at present the subject of a Council Decision on the existence 
of  an  excessive  deficit  (Council  Decision  of  2  December  2009).  The  Council 
recommended  the  Czech  Republic  to  correct  the  excessive  deficit  by  2013  and  to 

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take  effective  action  by  2  June  2010.  The  general  government  deficit  in  the  Czech 
Republic bottomed out at 0.7% of GDP in 2007, partly reflecting favourable cyclical 
conditions, but rebounded to 2.7% of GDP in 2008 and increased further to 5.9% of 
GDP in 2009. According to the Commission services' Spring 2010 Forecast, which is 
based  on  a  no-policy-change  assumption,  the  deficit-to-GDP  ratio  will  amount  to 
5.7% in both 2010 and 2011, while general government debt is expected to increase 
from 39.8% of GDP in 2010 to 43.5% in 2011. 

The  Czech  Republic  does  not  fulfil  the  criterion  on  the  government  budgetary 
position.  

(in percent of GDP)

Graph 2b: Czech Rep - Government budget balance and debt
Inverted scale
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-2
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20

25

30

35

40

45

15

2004

2005

2006

2007

2008

2009

2010(*)

2011(*)

Go vernment balance (lhs)

Cyclically-adjusted balance (lhs)

Gro ss debt (rhs)

(*) Co mmissio n services' Spring 2010 Fo recast.

So urce: Euro stat, Co mmissio n services.

The  Czech  koruna  is  not  participating  in  ERM  II.  The  Czech  Republic  operates  a 
floating  exchange  rate  regime.  Following  a  steady  appreciation  since  2004,  the 
exchange rate of the koruna strengthened to an all-time high against the euro in July 
2008.  The  koruna  depreciated  strongly  vis-à-vis  the  major  currencies  during  the 
second  half  of  2008  amid  the  intensifying  global  financial  crisis,  despite  the 
emergence of positive short-term interest rate spreads. The koruna recovered part of 
its  losses  in  2009  and  early  2010,  amid  heightened  currency  volatility,  reflecting  a 
moderation  in  global  risk  aversion  and  the  improving  external  balance.  During  the 
two years before this assessment, the koruna depreciated against the euro by 1.1%. 

The Czech Republic does not fulfil the exchange rate criterion. 

The average long-term interest rate in the Czech Republic in the year to March 2010 
was 4.7%, below the reference value of 6.0%. Average long-term interest rates in the 
Czech  Republic  have  been  below  the  reference  value  since  EU  accession  in  May 
2004.  Yield  spreads  vis-à-vis  euro  area  long-term  benchmark  bonds  widened  amid 
the intensification of the global financial crisis in the second half 2008. Nonetheless, 
the yields on Czech government bonds have been less affected than other non euro 
area Member States. Spreads vis-à-vis the euro narrowed in the second half of 2009 
and in the first quarter 2010, reflecting notably cuts in the central bank's policy rates 
as  well  as  the  comparatively  strong  fundamentals  of  the  country.  Spreads  were  at 
around 40 basis points in March 2010.  

The  Czech  Republic  fulfils  the  criterion  on  the  convergence  of  long-term  interest 
rates.  

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Additional  factors  have  also  been  examined,  including  balance  of  payments 
developments  and  product  and  financial  market  integration.  After  having  reached  a 
deficit  of  2.6%  of  GDP  in  2007,  the  external  balance  of  the  Czech  Republic 
improved to a moderate surplus in 2008-2009, reflecting both a higher trade surplus 
and a narrowing income balance deficit. The improvement in the external balance of 
the  Czech  Republic  suggests  that  external  financing  constraints  pose  no  major 
problems. The Czech economy is highly integrated with the EU. In particular, trade 
and  FDI  relations  with  other  Member  States  are  extensive  and  integration  of  the 
domestic  financial  sector  into  the  broader  EU  sector  has  progressed  substantially, 
mainly through a high degree of foreign ownership of financial intermediaries.  

In  the  light  of  its  assessment  on  legal  compatibility  and  on  the  fulfilment  of  the 
convergence criteria, and taking into account the additional factors, the Commission 
considers that the Czech Republic does not fulfil the conditions for the adoption of 
the euro.  

4. 

ESTONIA 

Legislation in Estonia is fully compatible with Article 130 and 131 of the TFEU and 
the ESCB/ECB Statute. The revised Eesti Pank Act was adopted by the Parliament 
on April 22, 2010, and as amended is now compatible with Article 130 and 131. The 
Currency Law and the Law on the Security of the Estonian kroon was repealed and 
replaced by the Law on Introduction of euro adopted by the Parliament also on April 
22,  2010,  with  effect  from  the  date  of  the  introduction  of  the  euro  foreseen  on  1 
January 2011. Article 111 of Estonia's Constitution is not formally compatible with 
the  requirements  of  the  TFEU  and  the  ECB/ESCB  Statute,  as  regards  the  central 
bank integration into the ESCB at the time of euro adoption. However, the ruling of 
May  11,  2006  of  the  Constitutional  Review  Chamber  of  Estonia's  Supreme  Court 
removes the need for further amendment. 

In  Estonia,  12-month  average  inflation  has  been  below  the  reference  value  since 
December 2009. The average inflation rate in Estonia during the 12 months to March 
2010 was -0.7%, well below the reference value of 1.0%, and it is likely to remain 
below the reference value in the months ahead.  

HICP annual inflation picked up in 2007 on the back of strong domestic demand and 
rapid wage increases, amid increasing capacity constraints in the economy. Inflation 
peaked  at  double  digits  in  2008,  followed  by  a  rapid  decline  in  2009.  Domestic 
demand-related pressures started to ease in early 2008 as the economic cycle started 
to  turn,  although  increases  in  excise  duties  and  rising  global  commodity  prices 
delayed the downward adjustment. The economic downturn and the ensuing decline 
in demand and wages led to negative annual inflation rates from the second half of 
2009 onwards, while inflation turned positive again in March following an increase 
in  administered  prices  in  January  and  March  2010  and  increases  in  global  energy 
prices.  

Inflation  is  expected  to  remain  subdued  in  2010  and  to  pick  up  slightly  to  2.0%  in 
2011 according to the Commission services' Spring 2010 Forecast. In 2010 inflation 
is  likely  to  be  driven  mainly  by  increased  indirect  taxes,  as  underlying  inflationary 
pressures  remain  subdued,  with  consumption  and  nominal  wages  projected  to 

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strengthen moderately only from 2011. The price level in Estonia (75% of the euro 
area average in 2008) suggests some potential for further price level convergence in 
the long term. 

Sustainable  convergence  implies  that  respect  of  the  reference  value  reflects 
underlying  fundamentals  rather  than  temporary  factors.  In  the  case  of  Estonia,  the 
steep economic downturn has been an important temporary factor driving 12-month 
average  inflation  to  its  current  negative  level,  and  a  moderate  rebound  is  expected 
once  the  recovery  gains  hold.  At  the  same  time,  the  pace  of  disinflation  and  the 
evolution  of  underlying  domestic  drivers  (notably  unit  labour  costs)  point  to  a 
broadly flexible wage and price formation process.  

Medium-term  inflation  prospects  will  critically  depend  on  the  alignment  of  wage 
setting  and  productivity  developments.  Continued  flexible  labour  markets  together 
with  competitive  price  formation  in  product  markets  will  be  key  to  maintain  price 
stability in the medium term. Price developments will also depend on maintaining an 
ambitious fiscal policy stance, including cautious wage setting in the public sector, to 
keep  domestic  demand  in  line  with  fundamentals  and  help  anchor  inflation 
expectations  at  low  levels.  The  combination  of  factors  that  drove  buoyant  credit 
expansion  in  the  past  (pent-up  credit  demand,  accelerated  financial  deepening  and 
integration, rapid risk spread compression) is not expected to recur.  

Together  with  the  fact  that  the  reference  value  is  met  by  a  wide  margin,  these 
considerations  support  a  positive  assessment  on  the  fulfilment  of  the  price  stability 
criterion.  Nevertheless,  continued  vigilance  will  be  important  to  prevent  the  re-
emergence of  domestic demand  pressures  as the recovery takes hold.  These factors 
imply that the prospects for the sustainability of low inflation are overall favourable, 
provided that stability-oriented policies are maintained.  

Estonia fulfils the criterion on price stability.  

Graph 3a: Estonia - Inflation criterion since 2004
 (percent, 12-month mov ing av erage)

12

10

8

6

4

2

0

-2
Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

Esto nia

Reference value

Note: The dots show the projected reference value and 12-month average inflation 
in the country in December 2010.
Sources: Eurostat, Commission services' Spring 2010 Forecast.

Estonia  is  not  the  subject  of  a  Council  Decision  on  the  existence  of  an  excessive 
deficit. Estonian public finances were in surplus between 2002 and 2007. In 2008, a 
general government deficit of 2.7% of GDP was recorded, followed by a deficit of 
1.7% of GDP in 2009. According to the Commission services' Spring 2010 Forecast, 

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the deficit-to-GDP ratio would amount to around 2½% in both 2010 and 2011 under 
a no-policy-change assumption. Gross public debt increased to 7.2% of GDP in 2009 
and  is  projected  to  increase  further  to  12.4%  of  GDP  in  2011  according  to  the 
Commission services' Spring 2010 Forecast. The government maintained a positive 
net  asset  position  in  2009,  owing  to  robust  fiscal  reserves  accumulated  over  the 
previous years. 

Estonia fulfils the criterion on the government budgetary position.  

(in percent of GDP)

Graph 3b: Estonia - Government budget balance and debt
Inverted scale
-5
-4
-3
-2
-1
0
1
2
3

16
14
12
10
8
6
4
2
0

2004

2005

2006

2007

2008

2009

2010(*) 2011(*)

Go vernment balance (lhs)

Cyclically-adjusted balance (lhs)

Gro ss debt (rhs)

(*) Co mmissio n services' Spring 2010 Fo recast.

So urce: Euro stat, Co mmissio n services.

The Estonian kroon has participated in ERM II since 28 June 2004, i.e. for close to 
six years at the time of adoption of this report. Estonia has been operating a Currency 
Board  Arrangement  since  the  reintroduction  of  the  kroon  in  1992,  with  the  kroon 
initially  pegged  to  the  Deutsche  mark,  and  later  the  euro.  Upon  ERM  II  entry, 
Estonia  unilaterally  committed  to  maintain  the  currency  board  arrangement  within 
the  mechanism.  Additional  indicators,  such  as  developments  in  short-term  interest 
rates,  point  to  a  temporary  increase  in  risk  perceptions  in  the  context  of  the  global 
financial  crisis,  which  reversed  towards  the  end  of  2009  and  in  early  2010  amid  a 
resumption  of  investor  confidence.  The  Currency  Board  Arrangement  remains  well 
supported  by  official  reserves.  A  precautionary  agreement  with  the  Swedish 
Riksbank in the context of cross-border financial stability co-operation was in place 
between February and December 2009, but has not been used. During the two-year 
assessment  period,  the  kroon  did  not  deviate  from  the  central  rate,  and  it  did  not 
experience severe tensions.  

Estonia fulfils the exchange rate criterion. 

As a result of Estonia's very low level of gross public debt, no benchmark long-term 
government  bonds  or  other  appropriate  securities  are  available  to  assess  the 
durability  of  convergence  as  reflected  in  long-term  interest  rates.  A  qualitative 
assessment based on relevant market indicators suggests that risk perceptions vis-à-
vis  Estonia  increased  at  the  height  of  the  crisis,  but  declined  again  significantly 
towards  the  end  of  2009  amid  a  stabilising  economic  situation  and  a  determined 
policy  response  to  the  crisis.  More  broadly,  factors  such  as  Estonia's  fiscal  policy 
track record, low public debt and comparatively flexible economy are conducive to 
the durability of convergence. Against this background, the development of financial 
market indicators during the reference period, as well as a broader assessment on the 

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durability  of  convergence,  would  support  a  positive  assessment  on  Estonia's 
fulfilment of the long-term interest rate criterion.  

Additional  factors  have  also  been  examined,  including  balance  of  payments 
developments  and  product  and  financial  market  integration.  Estonia's  external 
balance turned to a significant surplus of 7.4% of GDP in 2009, after several years of 
high deficits reaching a peak of about 18% of GDP in 2007. The surplus reflected a 
sharp narrowing of the trade deficit, resulting from contracting domestic demand, as 
well  as  an  improvement  of  the  income  balance.  According  to  the  Commission 
services'  2010  Spring  Forecast,  Estonia's  external  balance  is  expected  to  remain  in 
surplus  in  2010  and  2011.  External  financing  contracted  during  the  crisis,  but 
rollover  risks  are  mitigated  by  the  largely  foreign-owned  banking  system  and 
considerable external buffers. The Estonian economy is highly integrated within the 
EU.  In  particular,  trade  and  FDI  relations  with  other  Member  States  are  extensive, 
and  integration  of  the  domestic  financial  sector  into  the  broader  EU  sector  has 
progressed  substantially,  mainly  through  a  high  degree  of  foreign  ownership  of 
financial intermediaries.  

In  the  light  of  its  assessment  on  legal  compatibility  and  on  the  fulfilment  of  the 
convergence criteria, and taking into account the additional factors, the Commission 
considers that Estonia fulfils the conditions for the adoption of the euro.  

5. 

LATVIA 

Legislation  in  Latvia  -  in  particular  the  Law  on  the  Bank  of  Latvia  -  is  not  fully 
compatible  with  Article  130  and  131  of  the  TFEU  and  the  ESCB/ECB  Statute. 
Incompatibilities  notably  concern  the  central  bank  integration  into  the  ESCB  at  the 
time of euro adoption,  the  independence of the  central  bank  and  the  prohibition  on 
monetary financing. Imperfections subsist as regards the objectives of the ESCB, the 
promotion  of  the  smooth  operation  of  payment  systems,  the  statistical  role  of  the 
ECB  and  the  EU,  the  appointment  of  external  auditors  and  the  scope  of  audit 
performed by the audit commission, the role of the ECB in the field of international 
cooperation, the rules for publishing balance sheets and the Eurosystem's regime for 
institutional  and  financial 
the  financial  reporting  of  NCB  operations, 
independence of the Bank, as well as the personal independence of the members of 
the Bank of Latvia’s decision-making bodies. 

the 

In Latvia, the 12-month average inflation rate was above the reference value between 
May  2004  and  February  2010.  The  average  inflation  rate  in  Latvia  during  the  12 
months to March 2010 was 0.1%, i.e. below the reference value of 1.0% for the first 
time since EU accession and it is likely to remain well below the reference value in 
the months ahead.  

Between late 2004 and 2008, HICP inflation in Latvia was among the highest in the 
EU,  reaching  a  double-digit  peak  in  mid-2008.  Subsequently,  however,  HICP 
inflation  has  been  decreasing  rapidly,  driven  by  sharply  contracting  domestic 
demand,  falling  wages  and  declining  import  prices.  Year-on-year  inflation  rates 
turned negative in October 2009. 

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HICP  inflation  is  expected  to  remain  in  negative  territory  in  2010  and  2011 
according  to  the  Commission  services'  Spring  2010  Forecast,  largely  driven  by 
domestic  factors.  The  severe  recession,  which  has  led  to  a  rapid  increase  in 
unemployment and a nominal reduction of gross wages, will be reflected in further 
declining unit labour costs, weak domestic demand and subdued headline inflation in 
the  near  to  medium  term.  While  it  is  still  too  early  to  conclude  that  the  necessary 
realignment of wages and productivity has been fully attained, the limited scope for 
further  price  and  wage  reductions  in  a  small  open  economy  with  a  high  share  of 
imports in consumption like Latvia and possible outward migration suggest a return 
to positive inflation over the coming years. The price level in Latvia (almost 70% of 
the  euro  area  average  in  2008)  suggests  some  potential  for  further  price  level 
convergence over the long term.  

Latvia fulfils the criterion on price stability.  

Graph 4a: Latvia - Inflation criterion since 2004
 (percent, 12-month mov ing av erage)

16

12

8

4

0

-4
Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

Latvia

Reference value

Note: The dots show the projected reference value and 12-month average inflation 
in the country in December 2010.
Sources: Eurostat, Commission services' Spring 2010 Forecast.

Latvia is at present the subject of a Council Decision on the existence of an excessive 
deficit  (Council  Decision  of  7  July  2009)8.  The  Council  recommended  Latvia  to 
correct  the  excessive  deficit  by  2012.  The  general  government  deficit  in  Latvia 
reached 4.1% of GDP in 2008 and increased further to 9.0% of GDP in 2009. The 
Commission  services'  Spring  2010  Forecast  projects  the  deficit-to-GDP  ratio  to  be 
8.6% in 2010 and 9.9% in 2011 under a no-policy-change assumption. Gross public 
debt increased to above 36% of GDP in 2009 and is projected to further increase to 
about 57% of GDP in 2011.  

Latvia does not fulfil the criterion on the government budgetary position.  

8 

2009/591/EC, OJ L 202, 4.8.2009, p.50 

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Graph 4b: Latvia - Government budget balance and debt

Inverted scale
-12

(in percent of GDP)

-10

-8

-6

-4

-2

0

70
60
50
40
30
20
10
0

2004

2005

2006

2007

2008

2009

2010(*) 2011(*)

Go vernment balance (lhs)

Cyclically-adjusted balance (lhs)

Gro ss debt (rhs)

(*) Co mmissio n services' Spring 2010 Fo recast.

So urce: Euro stat, Co mmissio n services.

The Latvian lats has participated in ERM II since 2 May 2005, i.e. for more than five 
years  at  the  time  of  adoption  of  this  report.  Upon  ERM  II  entry,  the  authorities 
unilaterally committed to keep the lats within the ±1% fluctuation margin around the 
central rate. During the two years preceding this assessment, the lats exchange rate 
did not deviate from its central rate by more than ±1%. However the exchange rate 
was subject to episodes of severe tensions, as reflected in the evolution of additional 
indicators such as developments in official reserves and short-term interest rates.  

The lats came under heavy pressures in autumn 2008 when, against a background of 
large  and  increasing  macro-imbalances,  markets  grew  increasingly  concerned  over 
the sustainability of the peg. The Latvian authorities' initial responses to stabilise the 
financial  system  failed  to  stem  the  capital  outflows  and  the  Bank  of  Latvia  was 
forced to sell roughly one quarter of its international reserves in currency exchanges 
until year-end. In December 2008, an agreement to provide Latvia with a coordinated 
package of  international financial assistance helped ease pressures on the exchange 
rate temporarily.  

The exchange rate peg came under renewed pressure in the first  half of 2009 amid 
political  instability  and  a  sharply  deteriorating  economic  outlook.  Tensions 
culminated in June when short-term interbank market rates temporarily rose to above 
30%,  reflecting  inter  alia  the  system-wide  lats  liquidity  shortage  and  mounting 
uncertainty about the authorities' capacity to sustain the exchange rate regime. While 
the peg was successfully defended, gross foreign assets were depleted by more than 
one third between end-February and end-June. Financial market conditions improved 
visibly during summer 2009, following the loan disbursements in the context of the 
coordinated international financial assistance package. Since the second half of 2009, 
pressures on the exchange rate have been largely absent.  

Latvia does not fulfil the exchange rate criterion. 

The average long-term interest rate in Latvia in the year to March 2010 was 12.7%, 
well above the reference value of 6.0%. The average long-term interest rate in Latvia 
was below the reference value from May 2004 until the end of 2008. In December 
2008, the 12-month moving average long-term interest rate rose above the reference 
value and has increased further since then. Latvia's long-term spreads to the euro area 
widened  considerably  in  the  second  half  of  2008  and  in  2009,  reacting  to  adverse 

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changes in sentiment among investors and rating agencies towards the country amid 
the  economic  and  financial  crisis.  Following  signs  of  economic  stabilisation  and 
easing  financial  market  conditions,  the  yield  differential  narrowed  somewhat.  It 
stood around 7 percentage points in March 2010. 

Latvia does not fulfil the criterion on the convergence of long-term interest rates.  

Additional  factors  have  also  been  examined,  including  balance  of  payments 
developments  and  product  and  financial  market  integration.  In  the  pre-crisis  years, 
the  booming  economy  led  to  a  very  large  widening  of  deficits  on  the  external 
balance,  to  above  20%  of  GDP  in  both  2006  and  2007.  In  the  course  of  2008  and 
2009,  the  external  balance  adjusted  rapidly  to  the  recession  that  hit  the  country.  It 
turned  into  a  sizeable  surplus  in  2009,  almost  12%  of  GDP,  reflecting  inter  alia  an 
improvement in the trade balance, mainly due to a sharp fall in imports (much more 
rapid  than  that  of  exports),  positive  figures  on  the  income  account  and  advanced 
payments by the EU structural funds.  

With the escalation of the international financial turmoil in the second half of 2008, 
the  financing  of  the  external  deficit  became  increasingly  difficult.  The  global 
liquidity crisis prevented the private and public sectors from accessing international 
private  capital  markets  and  obtaining  the  foreign  currency  needed  to  ease  the 
mounting liquidity strains in the banking system. In late 2008, the European Union, 
the IMF, the World Bank and the EBRD agreed to provide Latvia with a coordinated 
package of international financial assistance totalling up to EUR 7.5 billion over the 
period to 2011, of which up to EUR 3.1 billion under the EU Balance of Payments 
facility,  accompanied  by  comprehensive  policy  conditionality  so  as  to  restore 
balance-of-payments  viability.  By  end-March  2010,  more  than  half  of  the  pre-
committed  financial  resources  had  been  disbursed  following  the  fulfilment  of  the 
policy conditionality associated to the successive tranches of the assistance.  

The  Latvian  economy  is  increasingly  integrated  within  the  EU,  and  trade  and  FDI 
relations  with  EU  Member  States  are  growing,  in  particular  with  the  neighbouring 
Baltic countries but also with other new Member States. Latvia's financial sector is 
well  integrated  into  the  broader  EU  economy,  mainly  through  a  high  degree  of 
foreign ownership of financial intermediaries.  

In  the  light  of  its  assessment  on  legal  compatibility  and  on  the  fulfilment  of  the 
convergence criteria, and taking into account the additional factors, the Commission 
considers that Latvia does not fulfil the conditions for the adoption of the euro.  

6. 

LITHUANIA 

The  Law  on  the  Bank  of  Lithuania  and  other  legislation  concerning  the  Bank  of 
Lithuania  were  considered  fully  compatible  in  the  Convergence  Report  2008. 
However,  following  their  amendments,  Article  23  of  the  Law  on  the  Bank  of 
Lithuania  introduced  a  new  rule  on  the  allocation  of  the  Bank  of  Lithuania  profits 
and Article 14(4) of the Law on the State Audit Office now explicitly empowers the 
State  Audit  Office  to  perform  the  audit  in  the  Bank  of  Lithuania.  These  are  two 
imperfections with regard to the independence of the Central Bank. In Lithuania, 12-
month  average  inflation  remained  above  the  reference  value  in  2008  and  2009, 

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although  the  gap  vis-à-vis  the  reference  value  narrowed  gradually.  The  average 
inflation rate in Lithuania during the 12 months to March 2010 was 2.0%, above the 
reference  value  of  1.0%,  and  it  is  expected to  fall  below  the  reference  value  in  the 
months ahead. 

Annual  HICP  inflation  increased  sharply  in  the  first  half  of  2008  amid  buoyant 
domestic demand and strong increases in global commodity prices. Inflation peaked 
in mid-2008 and has been on a declining trend since then, on the back of falling oil 
and  food  prices,  contracting  domestic  demand  and  declining  wages.  Increases  in 
indirect  taxes  and  administered  prices  only  partially  offset  the  disinflationary 
pressures. Annual HICP inflation receded to -0.4% in March 2010.  

Inflation is expected to remain around zero in 2010 and to increase modestly to 1.4% 
in 2011 according to the Commission services' Spring 2010 Forecast, reflecting weak 
domestic demand, falling labour costs and ample spare capacity. The relatively low 
price  level  in  Lithuania  (around  62%  of  the  euro  area  average  in  2008)  suggests 
potential for further price level convergence in the long term. 

Lithuania does not fulfil the criterion on price stability.  

Graph 5a: Lithuania - Inflation criterion since 2004

 (percent, 12-month mov ing av erage)

12

10

8

6

4

2

0

-2
Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

Lithuania

Reference value

Note: The dots show the projected reference value and 12-month average inflation 
in the country in December 2010.
Sources: Eurostat, Commission services' Spring 2010 Forecast.

Lithuania  is  at  present  the  subject  of  a  Council  Decision  on  the  existence  of  an 
excessive deficit (Council Decision of 7 July 2009)9. In February 2010, the Council 
recommended  Lithuania  to  correct  the  excessive  deficit  by  2012.  After  recording 
rather  limited  deficits  over  the  period  2004-2007,  the  general  government  balance 
reached  3.2%  of  GDP  in  2008  and  an  estimated  8.9%  for  2009,  despite  the 
significant fiscal consolidation effort. According to the Commission services' Spring 
2010  Forecast,  the  deficit-to-GDP  ratio  will  amount  to  around  8.4%  in  2010  and 
8.5% in 2011 under a no-policy-change assumption. The gross public debt ratio, after 
declining steadily to 15.6% in 2008, increased to 29.3% in 2009 and is projected to 
further increase to 45.4% of GDP in 2011. 

Lithuania does not fulfil the criterion on the government budgetary position.  

9 

2009/588/EC, OJ L 202, 4.8.3009, p44-45 

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Graph 5b: Lithuania - Government budget balance and debt

Inverted scale
-10

(in percent of GDP)

-8

-6

-4

-2

0

50

40

30

20

10

2004

2005

2006

2007

2008

2009

2010(*) 2011(*)

Go vernment balance (lhs)

Cyclically-adjusted balance (lhs)

Gro ss debt (rhs)

(*) Co mmissio n services' Spring 2010 Fo recast.

So urce: Euro stat, Co mmissio n services.

Lithuania  entered  ERM  II  on  28  June  2004  and  has  been  participating  in  the 
mechanism  for  close  to  six  years  at  the  time  of  the  adoption  of  this  report.  Upon 
ERM  II  entry,  the  authorities  unilaterally  committed  to  maintain  the  prevailing 
Currency  Board  Arrangement  in  the  mechanism.  Additional  indicators,  such  as 
developments  in  short-term  interest  rates,  point  to  a  temporary  increase  in  risk 
perception in the context of the global financial crisis, which reversed in late 2009. 
The  Currency  Board  Arrangement  remains  well  supported  by  official  reserves. 
During the two-year assessment period, the litas did not deviate from the central rate, 
and it did not experience severe tensions.  

Lithuania fulfils the exchange rate criterion. 

The  average  long-term  interest  rate  in  Lithuania  in  the  year  to  March  2010  was 
12.1%, well above the reference value of 6.0%. Average long-term interest rates in 
Lithuania  stayed  consistently  below  the  reference  value  during  2004–2008.  Since 
2009, long-term interest rates have been above the reference value, driven by a small 
number  of  low-volume  trades  executed  in  January  amid  high  risk  perceptions 
towards  the  region,  as  no  new  trades  took  place  for  the  subsequent  11  months.  As 
new trades were executed in late 2009 and early 2010, the average long-term interest 
rate spread vis-à-vis the euro area narrowed markedly. Lithuania's long-term interest 
rate spread stood at around 150 basis points in March 2010.  

Lithuania does not fulfil the criterion on the convergence of long-term interest rates.  

Additional  factors  have  also  been  examined,  including  balance  of  payments 
developments  and  product  and  financial  market  integration.  After  having  reached  a 
deficit  of  some  10%  of  GDP  in  2008,  Lithuania's  external  balance  turned  into  a 
surplus  of  7%  of  GDP  in  2009,  led  by  a  sharp  narrowing  of  the  trade  deficit  amid 
falling  domestic  demand.  According  to  the  Commission  services'  2010  Spring 
Forecast,  Lithuania's  external  balance  is  expected  to  remain  in  surplus  in  2010  and 
2011. External financing has been hit by the global financial crisis, as private sector 
capital  flows  reversed  sharply.  The  Lithuanian  economy  is  highly  open  and  well 
integrated  within  the  EU.  In  particular,  trade  and  FDI  relations  with  other  Member 
States are strong, and Lithuania’s financial system is well integrated into the broader 
EU financial system, mainly through a high degree of foreign ownership of financial 
intermediaries.  

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In  the  light  of  its  assessment  on  legal  compatibility  and  on  the  fulfilment  of  the 
convergence criteria, and taking into account the additional factors, the Commission 
considers that Lithuania does not fulfil the conditions for the adoption of the euro.  

7. 

HUNGARY 

Legislation  in  Hungary  -  in  particular  the  Act  on  the  Magyar  Nemzeti  Bank 
(henceforth  MNB),  the  Statutes  of  the  MNB,  the  Constitution  of  Hungary  and  the 
Credit Institutions Act - is not fully compatible with the TFEU and the ESCB/ECB 
Statute. Incompatibilities concern the central bank integration into the ESCB at the 
time  of  euro  adoption,  the  independence  as  well  as  the  prohibition  on  monetary 
financing.  Imperfections  subsist  as  regards  the  objectives  of  the  ESCB,  banknotes 
and  coins  issues,  the  promotion  of  the  smooth  operations  of  payment  systems,  the 
statistical  role  of  the  ECB  and  the  EU,  the  role  of  the  ECB  in  the  field  of 
international cooperation, the absence of an obligation to comply with Eurosystem's 
financial reporting regime, the  financial and personal independence of the MNB as 
well as the prohibition on monetary financing. 

In Hungary, 12-month average inflation has been above the reference value since EU 
accession.  The  average  inflation  rate  in  Hungary  during  the  12  months  to  March 
2010  was  4.8%,  well  above  the  reference  value  of  1.0%,  and  it  is  likely  to  remain 
above the reference value in the months ahead.  

HICP annual inflation peaked in early 2007 as a result of a surge in energy and food 
prices and increases in indirect taxes and administered prices. Inflation then declined 
until January 2009, as inflation in food and energy items gradually receded and the 
inflationary  impact  of  one-off  measures  faded  out.  Inflation  started  to  rise  again  in 
the  first  half  of  2009  driven  by  the  pass-through  of  the  weaker  exchange  rate  to 
unprocessed  food  and  industrial  goods  prices.  As  the  downward  adjustment  in 
growth of nominal compensation per employee did not fully match the drop in labour 
productivity in the recession, growth of nominal unit labour costs remained positive. 
A  VAT  increase  in  July  2009  induced  a  further  jump  in  consumer  prices.  HICP 
inflation averaged 4.0% in 2009.  

Inflation is expected to drop to below 3% in the second half of 2011. The fading out 
of the inflationary impact of one-off measures adopted in 2009 is expected to be the 
main driver of the disinflationary process, while the substantial negative output gap 
is  likely  to  further  constrain  underlying  inflationary  pressures  and  unit  labour  cost 
increases.  The  relatively  low  price  level  in  Hungary  (about  65%  of  the  euro  area 
average  in  2008)  suggests  potential  for  further  price  level  convergence  in  the  long 
term. 

Hungary does not fulfil the criterion on price stability.  

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19 

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Graph 6a: Hungary - Inflation criterion since 2004

 (percent, 12-month mov ing av erage)

8

6

4

2

0
Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

Hungary

Reference value

Note: The dots show the projected reference value and 12-month average inflation 
in the country in December 2010.
Sources: Eurostat, Commission services' Spring 2010 Forecast.

Hungary  is  at  present  the  subject  of  a  Council  Decision  on  the  existence  of  an 
excessive  deficit  (Council  Decision  of  5  July  2004)10.  The  most  recent  Council 
Recommendation  under  Article  104(7)  TEC  was  adopted  on  7  July  2009.  The 
Council  recommended  Hungary  to  put  an  end  to  the  existing  excessive  deficit  by 
2011 at the latest. The general government deficit reached 3.8% of GDP in 2008 and 
remained broadly stable at 4.0% of GDP in 2009 despite a substantial deterioration in 
domestic  economic  activity.  According  to  the  Commission  services'  Spring  2010 
Forecast,  the  deficit-to-GDP  ratio  should  remain  broadly  unchanged  in  both  2010 
and 2011 under a no-policy-change assumption. Government gross debt increased to 
almost 80% of GDP in 2009 and is projected to remain broadly stable until 2011.  

Hungary does not fulfil the criterion on the government budgetary position.  

Graph 6b: Hungary - Government budget balance and debt
Inverted scale
-12

(in percent of GDP)

85

-10

-8

-6

-4

-2

0

80

75

70

65

60

55

2004

2005

2006

2007

2008

2009

2010(*) 2011(*)

Go vernment balance (lhs)

Cyclically-adjusted balance (lhs)

Gro ss debt (rhs)

(*) Co mmissio n services' Spring 2010 Fo recast.

So urce: Euro stat, Co mmissio n services.

The  Hungarian  forint  is  not  participating  in  ERM  II.  In  February  2008,  Hungary 
moved to a free-floating exchange rate regime, abandoning the unilateral peg of the 
forint to the euro (with a +/- 15% fluctuation band). The forint appreciated strongly 
in the first half of 2008 supported by three successive policy rate hikes by the central 

10 

2004/918/EC, OJ L 389, 30.12.2004, p.27. 

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20 

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bank.  However,  the  exchange  rate  depreciated  substantially  in  the  subsequent  three 
months  as  the  Hungarian  economy  appeared  to  be  particularly  vulnerable  to  the 
global  financial  market  turmoil.  The  agreement  to  provide  Hungary  with  a 
coordinated package of international financial assistance coupled with a tightening of 
monetary  policy  led  to  a  temporary  stabilization  of  the  exchange  rate,  but 
depreciation pressures resumed in early 2009. In line with the general improvement 
in  global  financial  markets,  the  forint  started  to  recover  in  early  March  2009  and 
followed  an  appreciating  trend  until  July  2009.  Thereafter,  the  exchange  rate 
remained relatively stable, amid a gradual loosening of monetary policy. During the 
two-year assessment period, the forint depreciated by about 4.6% against the euro.  

Hungary does not fulfil the exchange rate criterion. 

The average long-term interest rate in Hungary in the year to March 2010 was 8.4%, 
above  the  reference  value  of  6.0%.  Average  long-term  interest  rates  in  Hungary 
stayed above the reference value since EU accession, reflecting high risk premia in 
view of perceived weak macroeconomic fundamentals. From a low of less than 200 
basis  points  in  July  2007,  spreads  vis-à-vis  euro  area  long-term  benchmark  bonds 
widened  to  above  700  basis  points  in  March  2009.  The  upward  trend  initially 
reflected lower global risk appetite vis-à-vis emerging markets but later increasingly 
also  specific  concerns  about  Hungarian  financial  stability.  An  improving  global 
financial  market  situation  and  the  adoption  of  additional  fiscal  consolidation 
measures brought about a gradual narrowing of spreads to the euro area, to about 350 
basis points in March 2010.  

Hungary does not fulfil the criterion on the convergence of long-term interest rates.  

Additional  factors  have  also  been  examined,  including  balance  of  payments 
developments  and  product  and  financial  market  integration.  After  having  reached  a 
deficit of some 6% of GDP in 2008, Hungary's external balance turned into a surplus 
of  1.6%  of  GDP  in  2009,  mainly  as  a  result  of  a  large  improvement  in  the  trade 
balance  induced  by  a  substantial  fall  in  domestic  demand.  The  composition  of 
external financing changed substantially following EU accession, with net portfolio 
inflows  turning  negative  in  2007  and  FDI  coverage  of  the  external  deficit  also 
declining substantially in 2008. As a result, other investment, notably banks' external 
borrowing,  became  the  major  source  of  external  financing  since  2007.  The  large 
vulnerability  to  shifts  in  external  financing  conditions  led  to  balance  of  payments 
difficulties  in  autumn  2008,  as  private  foreign  capital  inflows  contracted  in  the 
context  of  the  global  financial  market  turmoil.  In  late  October  2008,  the  European 
Union,  the  International  Monetary  Fund  and  the  World  Bank  agreed  on  a  EUR  20 
billion  assistance  package  for  Hungary,  of  which  EUR  6.5  billion  under  the  EU 
Balance of Payments facility. The majority of the pre-committed financial resources 
was  disbursed  in  late  2008  and  throughout  2009,  following  the  fulfilment  of  the 
policy conditionality associated to the successive tranches of the assistance.  

The Hungarian economy is highly integrated within the EU. In particular, trade and 
FDI relations with other Member States are extensive and integration of the domestic 
financial  sector  into  the  broader  EU  financial  sector  is  also  substantial,  mainly 
through a high degree of foreign ownership of financial intermediaries. 

EN 

21 

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In  the  light  of  its  assessment  on  legal  compatibility  and  on  the  fulfilment  of  the 
convergence criteria, and taking into account the additional factors, the Commission 
considers that Hungary does not fulfil the conditions for the adoption of the euro.  

8. 

POLAND 

Legislation  in  Poland  -  in  particular  the  Act  on  the  National  Bank  of  Poland 
(henceforth  NBP)  and  the  Constitution  of  Poland  -  is  not  fully  compatible  with 
Article 130 and 131 TFEU and the ESCB/ECB Statute. Incompatibilities concern the 
objectives  of  the  ESCB,  the  central  bank  integration  into  the  ESCB  at  the  time  of 
euro  adoption,  the  independence  of  the  central  bank,  the  prohibition  on  monetary 
financing and the objectives of the monetary policy. Imperfections subsist as regards 
the reference  to the objectives  of the  ESCB, the  statistical  role  of  the  ECB  and  the 
EU, the role of the ECB in the field of international cooperation, the role of the ECB 
and  the  Council  for  appointing  the  external  auditor,  the  role  of  the  ECB  for  the 
functioning  of  payment  systems,  the  absence  of  an  obligation  to  comply  with 
Eurosystem's financial reporting regime, the obligation to consult the ECB for certain 
acts and the personal independence of the NBP's decision-making bodies. 

In  Poland,  12-month  average  inflation  has  been  above  the  reference  value  since 
October 2008.  The  average inflation rate in Poland during the 12 months to March 
2010  was  3.9%,  well  above  the  reference  value  of  1.0%,  and  it  is  likely  to  remain 
above the reference value in the months ahead.  

HICP annual inflation was elevated in 2008-2009, averaging about 4%. In 2008, this 
reflected the rapid increase in global food and energy prices, together with buoyant 
domestic  demand  and  a  rapid  increase  in  unit  labour  costs.  In  2009,  a  surge  in 
unprocessed food prices, increases in administered prices (notably of electricity and 
gas), higher excises taxes as well as the effect of the strong weakening of the zloty in 
the  second  half  of  2008  and  early  2009  offset  the  dampening  effect  of  weaker 
demand  on  inflation.  Subsequently,  the  disinflationary  effect  of  low  domestic 
demand contributed to a moderate decline in HICP inflation. 

Inflation is expected to be lower in 2010 and 2011, averaging about 2.5% according 
to  the  Commission  services'  Spring  2010  Forecast.  The  projected  fall  in  inflation 
reflects the negative output gap following the crisis, subdued increases in unit labour 
cost and the expected lower growth of food and energy prices. Inflation is likely to 
increase  somewhat  in  the  course  of  2011,  on  the  back  of  a  rebound  in  economic 
activity. The relatively low price level in Poland (about 66% of the euro area average 
in 2008) suggests potential for further price level convergence in the long term. 

Poland does not fulfil the criterion on price stability.  

EN 

22 

   EN 

 
Graph 7a: Poland - Inflation criterion since 2004

 (percent, 12-month mov ing av erage)

5

4

3

2

1

0
Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

P o land

Reference value

Note: The dots show the projected reference value and 12-month average inflation 
in the country in December 2010.
Sources: Eurostat, Commission services' Spring 2010 Forecast.

Poland  is  at  present  the  subject  of  a  Council  Decision  on  the  existence  of  an 
excessive  deficit  (Council  Decision  of  6  July  2009)11.  The  Council  recommended 
Poland  to  correct  the  excessive  deficit  by  2012.  The  general  government  deficit  in 
Poland reached 3.6% of GDP in 2008 and increased further to 7.1% of GDP in 2009. 
According  to  the  Commission  services'  Spring  2010  Forecast,  the  deficit-to-GDP 
ratio will amount to around 7 ½% in both 2010 and 2011 under a no-policy-change 
assumption.  Despite  high  average  real  GDP  growth,  gross  public  debt  increased  to 
51%  of  GDP  in  2009  and  is  projected  to  further  increase  to  about  59%  of  GDP  in 
2011.  

Poland does not fulfil the criterion on the government budgetary position.  

(in percent of GDP)

Graph 7b: Poland - Government budget balance and debt
Inverted scale
-8
-7
-6
-5
-4
-3
-2
-1
0

65
60
55
50
45
40
35
30

2004

2005

2006

2007

2008

2009

2010(*)

2011(*)

Go vernment balance (lhs)

Cyclically-adjusted balance (lhs)

Gro ss debt (rhs)

(*) Co mmissio n services' Spring 2010 Fo recast.

So urce: Euro stat, Co mmissio n services.

The Polish zloty is not participating in ERM II. Poland operates a floating exchange 
rate regime. Following a steady appreciation between 2004 and mid-2008, the zloty 
lost about 30% against the euro between July 2008 and February 2009. The impact of 
a generalised increase in risk aversion of investors during the financial crisis and the 
deterioration  in  sentiment  vis-à-vis  emerging  markets  were  amplified  by  the 

11 

2009/589/EC, OJ L 202, 4.8.2009, p.46. 

EN 

23 

   EN 

 
 
 
                                                 
exercising of foreign exchange option contracts. In this period, there was also a sharp 
widening of 3-month interest rate spreads vis-à-vis the euro area, to above 300 basis 
points. Since March 2009, the zloty has been on a broadly appreciating trend, amid 
improved market sentiment and supported by the granting of an IMF Flexible Credit 
Line,  which  has  however  not  been  drawn  on  by  the  Polish  authorities.  During  the 
two-year assessment period, the zloty depreciated by about 12% against the euro.  

Poland does not fulfil the exchange rate criterion. 

The average long-term interest rate in Poland in the year to March 2010 was 6.1%, 
above the reference value of 6.0%. Average long-term interest rates in Poland stayed 
below  the  reference  value  from  November  2005  to  December  2009,  but  since  then 
have  been  slightly  above  it.  From  a  relatively  low  level  of  below  100  basis  points, 
yield  spreads  vis-à-vis  the  euro  area  gradually  widened  in  the  course  of  2007  and 
2008,  initially  reflecting  expectations  of  further  tightening  of  monetary  policy  and, 
from the second half of 2008, a broad sell-off of emerging markets' assets. Long-term 
yield spreads to the euro area remained broadly stable at around 230 basis points on 
average in 2009 and stood at about 200 basis points in March 2010.  

Poland does not fulfil the criterion on the convergence of long-term interest rates.  

Additional  factors  have  also  been  examined,  including  balance  of  payments 
developments  and  product  and  financial  market  integration.  After  having  reached  a 
deficit  of  some  4%  of  GDP  in  2008,  Poland's  external  account  was  broadly  in 
balance in 2009, led by a sharp narrowing of the trade deficit resulting from a fall in 
domestic demand and a price-driven shift in the composition of imports in favour of 
domestically produced goods. External financing has remained broadly resilient, with 
the external deficit financed by net FDI inflows and, to an increasing extent, by intra-
group  bank  and  corporate  lending.  The  Polish  economy  is  increasingly  integrated 
within  the  EU.  In  particular,  trade  and  FDI  relations  with  other  Member  States  are 
growing, and integration of the domestic financial sector into the broader EU sector 
has progressed substantially, mainly through a high degree of foreign ownership of 
financial intermediaries.  

In  the  light  of  its  assessment  on  legal  compatibility  and  on  the  fulfilment  of  the 
convergence criteria, and taking into account the additional factors, the Commission 
considers that Poland does not fulfil the conditions for the adoption of the euro.  

9. 

ROMANIA 

Legislation  in  Romania,  in  particular  the  Law  on  the  BNR,  is  not  fully  compatible 
with Article 130 and 131 of the TFEU and the ESCB/ECB Statute. Incompatibilities 
concern the central bank integration into the ESCB at the time of euro adoption, the 
independence  of  the  Banca  Naţională  a  României  (henceforth  BNR)  as  well  as  the 
prohibition on monetary financing. Imperfections subsist as regards the reference to 
the objectives of the ESCB, institutional and personal independence, the ECB's right 
to be consulted in its  fields of  competence, the absence of an obligation to  comply 
with  the  Eurosystem's  regime  for  the  financial  reporting  of  NCB  operations,  the 
promotion  of  the  smooth  operation  of  payment  systems,  the  statistical  role  of  the 
ECB and of the EU and their role for the appointment of an external auditor. 

EN 

24 

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In Romania, 12-month average inflation has been above the reference value since EU 
accession  in  2007.  The  average  inflation  rate  in  Romania  during  the  12  months  to 
March  2010  was  5.0%,  well  above  the  reference  value  of  1.0%,  and  it  is  likely  to 
remain well above the reference value in the months ahead.  

Romanian inflation was elevated in recent years. Annual inflation increased sharply 
in  the  second  half  of  2007  on  the  back  of  rising  food  and  fuel  prices,  and  strong 
growth  of  unit  labour  costs.  Inflation  peaked  at  a  three-year  high  of  9.1%  in  July 
2008. In 2009, HICP inflation remained high despite the sharp economic downturn, 
averaging 5.6%. This reflected inter alia substantial increases in excise duties as well 
as persistently high inflation in services.  

Inflation is expected to moderate in 2010 and 2011 on the back of muted economic 
activity  and  in  line  with  fading  price  effects  related  to  the  excise  duty  hikes.  The 
Commission  services'  Spring  2010  Forecast  projects  annual  HICP  inflation  to 
average 4.3% in 2010 and 3.0% in 2011. The relatively low price level in Romania 
(around  58%  of  the  euro  area  average  in  2008)  suggests  significant  potential  for 
further price level convergence in the long term. 

Romania does not fulfil the criterion on price stability.  

Graph 8a: Romania - Inflation criterion since 2004

 (percent, 12-month mov ing av erage)

16

14

12

10

8

6

4

2

0
Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

Ro mania

Reference value

Note: The dots show the projected reference value and 12-month average inflation 
in the country in December 2010.
Sources: Eurostat, Commission services' Spring 2010 Forecast.

Romania  is  at  present  the  subject  of  a  Council  Decision  on  the  existence  of  an 
excessive deficit (Council Decision of 7 July 2009)12. In February 2010, the Council 
recommended  Romania  to  correct  the  excessive  deficit  by  2012.  The  general 
government deficit in Romania exceeded the 3% threshold in 2008, reaching 5.4% of 
GDP,  and  deteriorated  further  to  8.3%  of  GDP  in  2009.  According  to  the 
Commission  services'  Spring  2010  Forecast,  which  is  based  on  a  no-policy-change 
assumption,  the  deficit-to-GDP  ratio  will  amount  to  8.0%  in  2010  and  decrease  to 
7.4% in 2011, while general government debt is expected to increase from 30.5% of 
GDP in 2010 to 35.8% in 2011. 

Romania does not fulfil the criterion on the government budgetary position.  

12 

2009/589/EC, OJ L 202, 4.8.2009, p.46. 

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25 

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(in percent of GDP)

Graph 8b: Romania - Government budget balance and debt
Inverted scale
-9
-8
-7
-6
-5
-4
-3
-2
-1
0

0

40

30

20

10

2004

2005

2006

2007

2008

2009

2010(*)

2011(*)

Go vernment balance (lhs)

Cyclically-adjusted balance (lhs)

Gro ss debt (rhs)

(*) Co mmissio n services' Spring 2010 Fo recast.

So urce: Euro stat, Co mmissio n services.

The  Romanian  leu  is  not  participating  in  ERM  II.  Romania  operates  a  floating 
exchange rate regime. Following an appreciation trend between end-2004 and mid-
2007, the start of turbulences on world financial markets in the second half of 2007 
led  to  a  substantial  depreciation  of  the  exchange  rate  of  the  leu.  Strong  weakening 
pressures  set  in  again  during  autumn  2008  amid  the  intensification  of  the  global 
financial  crisis  and  against  a  background  of  large  domestic  macroeconomic 
imbalances.  Short-term  interest  rate  differentials  vis-à-vis  the  euro  area  started  to 
widen  in  late  2008  as  the  ensuing  lack  of  liquidity  drove  up  Romanian  short-term 
interest  rates,  reflecting  heightened  risk  aversion  among  financial  institutions. 
Following  an  agreement  in  early  2009  to  provide  Romania  with  a  coordinated 
package  of  international  financial  assistance,  financial  market  pressures  eased 
somewhat and the Romanian leu broadly stabilised in the course of 2009 and in early 
2010. Short-term interest rate spreads vis-à-vis the euro area narrowed in 2009 and 
early  2010,  reflecting  notably  improved  money  market  conditions,  declines  in  the 
BNR's  key  policy  rates  as  well  as  positive  confidence  effects  related  to  the 
disbursements of the international financial assistance. During the two years before 
this assessment, the leu depreciated against the euro by 12.9%.  

Romania does not fulfil the exchange rate criterion. 

Average  long-term  interest  rates  in  Romania  have  been  above  the  reference  value 
since  EU  accession.  The  average  long-term  interest  rate  in  Romania  in  the  year  to 
March 2010 was 9.4%, above the reference value of 6.0%. Spreads vis-à-vis the euro 
area  widened  in  the  second  half  of  2007  and  in  2008,  in  the  wake  of  the  global 
financial  crisis  and  domestic  imbalances.  Long-term  interest  rates  in  Romania 
remained  elevated  in  2009  amid  increased  volatility,  before  narrowing  slightly  in 
early 2010 on the back of some signs of easing in domestic market conditions. The 
spread vis-à-vis the euro area was around 350 basis points in March 2010.  

Romania does not fulfil the criterion on the convergence of long-term interest rates.  

Additional  factors  have  also  been  examined,  including  balance  of  payments 
developments  and  product  and  financial  market  integration.  Romania's  external 
deficit  reached  a  peak  in  2007-2008,  averaging  some  12%  of  GDP.  This  reflected 
mainly  a  worsening  trade  balance  as  imports  were  buoyed  by  rapid  growth  in 
domestic  demand.  Romania's  external  deficit  fell  sharply  to  4.0%  of  GDP  in  2009, 

EN 

26 

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led  by  a  sharp  narrowing  of  the  trade  deficit  induced  by  an  abrupt  contraction  in 
domestic demand and changes in the relative prices of domestic and foreign goods. 
The  sizeable  external  shortfall  raised  concerns  about  external  debt  sustainability 
amid tightening external funding conditions in the context of the intensifying global 
turmoil.  With  the  government  also  facing  increasing  difficulties  to  meet  growing 
refinancing needs in the market, the EU, IMF, World Bank, EIB and EBRD agreed 
in  early  2009  to  provide  Romania  with  a  co-ordinated  package  of  international 
financial assistance totalling up to EUR 20 billion over the period to 2012, of which 
up  to  EUR  5  billion  under  the  EU  Balance  of  Payments  facility.  Following  the 
granting  of  international  financial  assistance,  external  financing  pressures  eased 
somewhat by late 2009 and in early 2010, in line with the rapid improvement in the 
external  balance  and  with  some  stabilisation  in  domestic  financial  markets.  By 
March 2010, more than half of the pre-committed financial resources were disbursed 
following the fulfilment of the policy conditionality associated to successive tranches 
of the assistance.  

The Romanian economy is increasingly integrated within the EU. In particular, trade 
and  FDI  relations  with  other  Member  States  are  growing,  and  integration  of  the 
domestic  financial  sector  into  the  broader  EU  sector  has  progressed  substantially, 
mainly through a high degree of foreign ownership of financial intermediaries.  

In  the  light  of  its  assessment  on  legal  compatibility  and  on  the  fulfilment  of  the 
convergence criteria, and taking into account the additional factors, the Commission 
considers that Romania does not fulfil the conditions for the adoption of the euro.  

10. 

SWEDEN  

Legislation  in  Sweden  -  in  particular  the  Sveriges  Riksbank  Act,  the  Instrument  of 
Government  (part  of  the  Swedish Constitution) and the Law on the Exchange Rate 
Policy  -  is  not  fully  compatible  with  Articles  130  and  131  of  the  TFEU  and  the 
ESCB/ECB Statute. Incompatibilities concern the prohibition on monetary financing, 
the independence of the central bank as well as its integration into the ESCB at the 
time of euro adoption. Several imperfections subsist as regards the objectives of the 
Central  Bank,  the  promotion  of  the  smooth  operation  of  payment  systems,  the 
prohibition  on  monetary  financing,  the  role  of  the  ECB  for  the  functioning  of  the 
payment systems and in the field of international cooperation, the statistical role of 
the  ECB  and  of  the  EU  and  the  ECB  and  Council's  role  for  the  appointment  of 
external auditors. 

In  Sweden,  12-month  average  inflation  moved  above  the  reference  value  in  July 
2009  for  the first time since  December  1996.  The average  inflation  rate in  Sweden 
during the 12 months to March 2010 was 2.1%, above the reference value of 1.0%, 
but it is likely to return below the reference value in the months ahead.  

HICP  annual  inflation  was  fairly  elevated  in  2008,  averaging  about  3.3%.  This 
reflected rapid increases in global food and energy prices as well as rising unit labour 
costs and the impact of a weaker krona. At the end of 2008, inflation began to fall 
quickly  amid  a  steep  downturn  in  economic  activity  and  decelerating  food  and 
energy prices. On average, inflation amounted to 1.9% in 2009. 

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Inflation  is  expected  to  remain  moderate  in  2010  and  2011,  averaging  about  1.7% 
according to the Commission services' Spring 2010 Forecast, as ample spare capacity 
is expected to hold down price and unit labour cost increases.  

Sweden does not fulfil the criterion on price stability.  

Graph 9a: Sweden - Inflation criterion since 2004

 (percent, 12-month mov ing av erage)

5

4

3

2

1

0
Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

Sweden

Reference value

Note: The dots show the projected reference value and 12-month average inflation 
in the country in December 2010.
Sources: Eurostat, Commission services' Spring 2010 Forecast.

Sweden  is  not  the  subject  of  a  Council  Decision  on  the  existence  of  an  excessive 
deficit.  Over  the  period  2002-2007,  the  general  government  balance  improved, 
peaking  at  a  surplus  of  3.8%  of  GDP  in  2007.  With  the  onset  of  the  crisis,  the 
budgetary position deteriorated, with the surplus shrinking to 2.5% of GDP in 2008 
and  turning  into  a  deficit  of  0.8%  of  GDP  in  2009.  According  to  the  Commission 
services' Spring 2010 Forecast, the deficit-to-GDP ratio will amount to around 2.1% 
in  2010  and  1.6%  in  2011  under  a  no-policy-change  assumption.  The  gross  public 
debt ratio increased to 42.8% of GDP in 2009 and it is projected to increase further to 
about 46% of GDP in 2010 and 2011.  

Sweden fulfils the criterion on the government budgetary position.  

(in percent of GDP)

Graph 9b: Sweden - Government budget balance and debt
Inverted scale
-3
-2
-1
0
1
2
3
4

60
55
50
45
40
35
30
25

2004

2005

2006

2007

2008

2009

2010(*)

2011(*)

Go vernment balance (lhs)

Cyclically-adjusted balance (lhs)

Gro ss debt (rhs)

(*) Co mmissio n services' Spring 2010 Fo recast.

So urce: Euro stat, Co mmissio n services.

The  Swedish  krona  is  not  participating  in  ERM  II.  Sweden  has  pursued  a  floating 
exchange  rate  regime  and  inflation  targeting  since  the  early  1990s.  The  krona 

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depreciated  sharply  in  connection  with  the  aggravation  of  the  financial  crisis  in 
September 2008 as investors became more risk averse. Between August 2008 and the 
beginning of March 2009, the krona lost almost 20% against the euro, partly also due 
to a negative short-term interest spread vis-à-vis the euro area. However, the krona 
has  since  then  recovered  a  large  part  of  its  losses  on  the  back  of  a  stabilisation  in 
financial  markets  and  an  improved  global  economic  outlook.  During  the  two-year 
assessment period, the krona depreciated by 3% against the euro.  

Sweden does not fulfil the exchange rate criterion. 

The average long-term interest rate in Sweden in the year to March 2010 was 3.3%, 
below the reference value of 6.0%. Average long-term interest rates have been below 
the reference value since EU accession in 1995. The yield spreads vis-à-vis euro area 
long-term  benchmark  bonds  turned  negative  in  2008,  reaching  a  low  of  minus  100 
basis  points  around  the  turn  of  the  year  2008/2009.  The  negative  yield  spread 
subsequently narrowed but still remains around minus 45 basis points. 

Sweden fulfils the criterion on the convergence of long-term interest rates.  

Additional  factors  have  also  been  examined,  including  balance  of  payments 
developments  and  product  and  financial  market  integration.  The  Swedish  external 
account has been in surplus since the mid-1990s, driven by high net exports in goods 
and recently also in services. The external account surplus has increased from around 
4% of GDP in the early 2000s to a level of around 7-8% since 2003. The Swedish 
economy is open and well integrated within the EU, with a share of intra-EU trade in 
goods  well  above  the  EU  average  and  a  growing  share  of  intra-EU  FDI.  Sweden’s 
financial  sector  is  well  integrated  into  the  broader  EU  financial  sector,  with 
particularly  strong  links  to  other  Nordic  countries  and  the  Baltic  States.  Sweden’s 
financial sector is well developed, both in size and sophistication and corresponds to 
its advanced stage of economic development.  

In  the  light  of  its  assessment  on  legal  compatibility  and  on  the  fulfilment  of  the 
convergence  criteria,  the  Commission  considers  that  Sweden  does  not  fulfil  the 
conditions for the adoption of the euro.  

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