 come to the Wiser Centre for Emerging Democracies Lecture. My name is Anax Mabuse, and I'm the director of the Wiser Centres. And it is my great pleasure and honor to introduce to you today Madagbelka, who is the president of the National Bank of Poland. And the breadth and depth of his political and economic experience is vast. And it's all the more impressive because he has repeatedly served under very difficult circumstances with great deafness and accomplishment. He's widely and deeply respected for both his expertise and skill and for his very welcome ability to step into and resolve crisis situations in both domestic and international politics. In Polish domestic politics, he has played an enormously important role, first serving as deputy prime minister in 1997, the minister of finance from 2001 to 2002, and the prime minister of Poland from 2004 to 2005, taking over and restoring stability after a period of conflict and political turmoil in the government. In the international arena, his record is equally distinguished. He has served as the undersecretary general at the United Nations, an executive secretary of the UN Economic Commission for Europe. He was also an advisor to the World Bank, JP Morgan, and to the prime minister of Albania from 97 to 2001 after the near collapse of that country's political and economic structures. And finally, in 2003, he was asked to lead economic policy in the interim coalition administration of Iraq and asked to spearhead the economic recovery of Iraq. Most recently, before becoming the president of the Polish National Bank in June, he was the director of the IMF's European department. And today, we are delighted and honored to welcome President Belka to the University of Michigan and to the Ronald and Aileen Weiser Center for Emerging Democracies, and very much look forward to his speech entitled The European Dimension of the Global Crisis. Thank you. Good afternoon. The presentation that you'll see on the screen is for economists. But I understand that not many or not everybody here is economists. So I will do the talking, which will slightly or occasionally divert from the text and use a less cryptic language. The topic is European dimension of the global crisis. And I thought that it would be a bit boring if I concentrate only on Poland. On the contrary, I think that it's interesting what is happening both in Europe as a whole, especially in the European Union. And then, or before this, in the region, in Central and Eastern Europe, which is sometimes called the post-transition part of Europe, or emerging Europe, most of which is now within the European Union. Well, I'll start with some very general statements about the crisis. And I'm not going to go deeper into the origin and the causes of the crisis. What is important here is that it originated somewhere between the city of London and the Wall Street. And yet, it hit European economy probably more than other parts of the global economy, even the American economy. Although recently, the sentiment is changing so that Europe is seen in a more benign terms and more concern is about the American economy. But generally, the commentators, analysts, economists, politicians point to three main causes of the crisis that started somewhere in 2007. And, well, is or is not over yet, or at least it's mutating into different forms. There are the three most frequently quoted causes. Low interest rates in the US is the most straightforward and simplistic, I would say simplistic explanation. Such economists like John Tyler, the John Tyler of Tyler rule is the main proponent of this theory. Global imbalances, basically meaning there are some countries which save too much and some that save too little or consume too much. And this translates into structural deficits or surpluses on the current account balance. Intermediation failure, this is the cryptic language the economists use. It's about the inefficiency of the banking and financial systems. It's that what they mean when they say intermediation failure is that this whole amount of savings or capital that was created somewhere or should be used somewhere else should be allocated according to the theory of efficient markets in a proper, optimal way. And it was not. So the three probably played together to produce the situation that bordered on a meltdown. On, I venture to say, on the greatest catastrophe, the history of global economy. Well, this is just a graph that shows these global imbalances. On the upper side, you have the different countries or categories of countries that post surpluses on the current account. And below zero is those that have structural deficits. So in the upper side, you see China and Germany, Japan, all the usual suspects, oil producers. In the lower part, you have US and others. And as you see, the global imbalances should be treated as a sum of this upper and lower part of the chart. So the longer the chart, the bar, I'm sorry, the longer the bar, the bigger the global imbalances are. And as you see, they have fallen a bit since the crisis. But they are still quite substantial. Real short-term interest rates, this is the second cause of the crisis that I mentioned. Remember this, low interest rates. What we are really concerned about, we economists, is the real short-term interest rates, short-term meaning interest rate minus inflation. And here, you see that the United States had the real interest rates consistently between zero and one and Japan and the euro area went even below zero and remain as a matter of below zero. OK, so this is a little bit more about the causes of crisis. Access liquidity brought about by savings glut paves the way towards a falling risk aversion. What it means is that when you have too much money and it's very cheap, then you tend to actively look for higher yields, especially that financial institutions are obviously looking for higher profits in the short term, as short as possible, immediately, every quarter. So then you are looking for higher yields, for higher profits, and it happens so that the investment that yields higher profit are also more risky. Remember junk bonds? OK. And the ninja effect. The ninja effect is specific to the American subprime mortgage credit. You know what ninja means. No income, no job, neither assets. And still, you get a credit. A credit collateralized by the piece of real estate, by your home. And it's all hinged on the expectation that the prices of these real estate will go up and up and up and up. And it did for many decades, as a matter of fact. But it stopped. Greenspan put it's about the low interest rates, basically engineered by the Federal Reserve in the early 2000s. A very losing of a fragmented financial supervision. Well, this is part of the problem. The banks and the shadow banks and the para banks and what have you were not supervised, were not regulated and then supervised. In fact, they were supervised after the Great Depression to the late 70s. But then the process of deregulation started, which ended up in much less sketchy regulation and also what we sometimes call a burst of financial innovation. Financial innovation. Innovation, this is a term that carries a positive connotation, of course, yes? Well, not necessarily. Some people say that the only real financial innovation that was worse, its good reputation was the ATM. The rest was not. That's probably an exaggeration, of course. But I am not going to go into this. OK. So what's the European dimension of it? It started in America and it hit US, yes? But then it hit Europe more than it deserved. At least we thought so in Europe. Well, a crisis reveals vulnerabilities, weaknesses that are somehow covered up in good times. What were those vulnerabilities, those weaknesses in Europe? Well, this is a little bit of a history that when the subprime crisis occurred in mid-2007, it generated a strong upward pressure on several European currencies. So the first reaction, OK, the US is in trouble, but not Europe. So the euro and other European currencies strengthened. But then after Lehman, this tendency was reversed, maybe because the investors thought, oh my, this is really something close to a disaster that we may look for a safe haven. Safe haven. Haven, not necessarily. Safe haven. And so the capital, the money, turned back to the US. Well, they called it, it's flight to quality. I never believed it. It was a flight to quality. It was flight to liquidity because it is, and it was, it is, and it will remain for years, the biggest, the most liquid market in which you could easily dispose of your investment if you wish to. So you fly to where it's easier to sell rather than when you believe that the quality of investment is very high. But that is why the money flew from places like Poland, for example, which was never in danger, but it's much more difficult to sell your financial instruments on the Warsaw Stock Exchange or in Warsaw over the counter than in at Wall Street. OK, so what were these vulnerabilities? What were these weaknesses? At the beginning, well, this is basically the, again, in the cryptic language, but this is the summary of the three vulnerabilities, three weaknesses that the European economy displayed. Well, one was characteristic for Eastern Europe, for this emerging part of the economy, like Poland, Hungary, the Baltic states, less so the Czech Republic. The Czech Republic, and it's not only because Jan Schwenner is here, the Czech Republic is absolutely exceptional. And I'll try to guess why. So what was the weakness of these countries? Well, they behaved in an exemplary way over the whole period of transition. They did right things. They built up institutions. They reformed, as we would say more generally. And they imported capital. As a matter of fact, according to all economic textbooks, capital should flow downhill, as we say. So from more advanced richer countries to less advanced poorer countries. Why? Well, because the profitability of investment in those letter group should be higher. So it's all that we expected, that the money should flow from, say, Germany, France, to Poland. And it did. And it did. But it should have happened. The same should have happened in other emerging regions, like Asia or Latin America. Well, of course, Africa. Nothing like this happened, however. In the run up to the crisis in the, so before 2007, the capital flew to the emerging Europe. But it went uphill from China, from Indonesia, from Korea to America. The same happened with Latin America and even in Africa. Well, just think of the oil producers, also raw materials producers in Africa. They were afloat with money. And instead of spending it domestically to develop infrastructure, for example, they invested this abroad. Of course, for the oil producers, it's probably expected they should invest most of their oil proceeds abroad. So good thing happened, basically. The capital was flowing to these converging economies, to these economies that were catching up with their more affluent and more developed neighbors in Western Europe. However, too much of a good thing is not good. Some of these countries became really addicted to capital inflow. The flip side of the capital inflow of capital inflows are current account deficits. And those grew to two levels that were unprecedented in our history, in European history. 25% current account deficit a year for a number of years happened in countries like Bulgaria or Latvia, Estonia. Yes, those countries grew at the rate of 10% for a number of years. The standard of living increased. People started buying and building houses, apartments. Nothing like this happened in the history of Latvia or Estonia or Bulgaria. But the problem was that one day when bad time comes, those capital starts, stops flowing and maybe even returns to the home country. So this was the vulnerability of the countries like Poland, not really Poland, it didn't happen in Poland happily, but in most countries in the region. What was the story in Western Europe? Well, what was the vulnerability of Western Europe? Here you can see the story of unfinished convergence. Unfinished convergence, I would also add insufficient institutional framework behind the common currency. So suddenly, the strengths of European economy, the euro, the common currency became its weakness. Why so? Well, a joint currency, common currency in Europe, proved to be a great thing for many years for many countries. Why? Because it shielded them from foreign exchange crisis, which was that haunted European economies for years, in the 70s, in the 80s even. And then suddenly, you had this umbrella of stability, euro, which provided maybe too much of complacency. Complacency is always bad, too much of calm over the economy. And also, what turned out to be a weakness in these crisis is that euro as a common currency doesn't have a fiscal backup. What do I mean? Why is it that you want to have a currency? Well, for settlement reasons, I mean payment reasons, of course, but also to be able to issue that instrument in this currency. So the US can issue treasury bonds, treasury bills, and sell them all over the world, borrowing money freely. But then those who buy treasury bonds think of, well, when something happens, who will repay these debts? Who will buy, repurchase these bonds? Well, it's the American taxpayer. I know that the American taxpayer is not the best partner to count on. But one day, you will introduce VAT tax, and everything will be repaid or not. But in the case of Europe, it's different. You don't have a European taxpayer. You have a German taxpayer. You have Greek taxpayer, and so on, and so on. You have 27 taxpayers, or 16. Now, with Estonia joining euro in January, it will be 17 taxpayers. And it turned out that the bonds, the German euro denominated debt instruments, bonds, were improperly priced almost equally to the euro denominated papers issued by the Greek governments. This was a market failure. The markets were somehow fooled into thinking that being a member of euro basically guarantees repayment. I will continue with this, but the real problem is that when you don't want to have a state and still a common currency, you have to agree on common fiscal policy, on common budget policy, on some coordination in this. Well, in the US, you have central budget. In the EU, you don't have. Well, what is called the European budget is 1.40 of what is needed. And this is spent only for the structural and cohesion funds for the new member states to uplift them. So instead, the Europeans concluded a gentleman's agreement. It's called the Maastricht Treaty. And they agreed that they will behave. They will not spend too much. They will not let the public deficit to grow over a certain level. And they failed. It turned out that there were very few gentlemen in the European Union. Well, so I will return to it in a lighter way. So this is the problem in Western Europe. OK, and the third bullet point here is UK and Iceland and possibly Ireland and Spain, they turned out to be a little bit like US. Overleveraged, as far as that is concerned, with too big a financial sector compared to its economy. And all this burst, the bubble burst, and part of the economy of Ireland, especially, or Spain, just disappeared. Ireland was banking too many big banks for a small economy. Spain too much construction for the needs of the Spanish. They thought that the population of Spain will grow and grow and grow. And all the Europeans in retirement will move to Spain to live better. But they overdid. So these were the weaknesses of Europe. So now we come back to the Central and Eastern Europe. And basically, you can look at the text, but I will just say the following. Some of those countries became almost addicted to capital inflows. Yes, they tried to defend or to provide for bigger reserves in case of crisis like this. Here you see the upper side of this chart. International reserves, foreign reserves were growing in different regions, also in emerging Europe, but much less than in Latin America, no, in Latin, in Middle East and Asia. OK. Also, those countries started growing very fast. And when the economy grows very fast, then tax revenues also grow very fast. And then you are fooled into this thinking it's going to be like this for eternity. And you start spending money also. So even if budget deficit, the headline budget deficit, looked very good. As a matter of fact, some of these countries even had budget surpluses like Bulgaria, like Estonia. Some of them didn't have public debt at all. Bulgaria until today has sort of public assets rather than public debt. But it was not enough. When the economy grew 10% a year, and then the capital stopped flowing, immediately the whole construction, the whole house of cards collapsed. And then, well, I was very much close to this. Many of those countries got to the IMF for financing. In most of these countries, the program was financed jointly by the EU and the IMF. And of course, what they had to do is simply to adjust the budgetary expenditures. Reforms, not so, because they were reforming quite vigorously in the past before the crisis. And there was really little to do. Greece has to do more. Portugal has to do more. Spain has to do more, but not Latvia really, or even Bulgaria. These were properly reformed countries, but not properly managed in macroeconomic terms. And also one additional comment on this. Most of these countries were totally geared, if not obsessed, on euro adoption as soon as possible. Some of them had fixed exchange rates, currency board, which is the most stringent form of fixing the currency. You can say Bulgaria and all three Baltic states had this arrangement, more or less. I mean, Latvia is a slightly different case. But what it means that, number one, you don't have an option to devalue your currency when it's needed. Second, you have to be extremely careful with your fiscal policy, because you really cannot afford having a pressure on your currency unless you have enormous reserves, which some of them had. But if you hoped for euro accession soon, and you had fixed exchange rate, what was the risk for Swedish banks, say, to channel money from Sweden to their subsidiaries in all these three countries and lend to consumers, to households in euros, at low interest rates. It seems risk-free. Lithuania, Latvia, Estonia, they thought, will be joining euro in a matter of two, three years. There is no exchange rate risk, because it was fixed. So there is no hell. We follow this business pattern basically without any risk, I mean, perception of risk. But then suddenly, it turned out that these countries had problems in refinancing their borrowing needs. Suddenly, this capital stopped flowing, and the economy contracted. Those high-growing economies contracted altogether by about 20%. 15% in 2009 alone, and altogether, it's about 20%. You may say, my god, if you grow 10% a year for five years, then if you have a correction of 20%, what is the problem? Well, there is a big problem, because you get used to the level of consumption. But also, you acquire debt that you have to repay households, corporates. But I must say that the Baltic states behaved really very courageously. Latvia, who went into crisis first, they got financing from international financial institutions. It was not true that the IMF imposed a tough program on them. That's not true. It's on the reverse. They wanted to do more than the IMF had ever imagined of requiring, of demanding. This was impossible. In one year, Latvia reduced their internal consumption by 40%, 4-0, in one year. Well, Ireland reduced its internal consumption by 20% in two years, which is also remarkable for a developed economy. The same is happening in Greece. So when crisis strikes, people can sacrifice. And even, it turns out, they re-elect politicians who apply those measures on them. But if the people are convinced that it is necessary and the people are honest, as they think about Waldis Dąbrowski's in Latvia or Georges Papandreou in Greece, they re-elect these guys. It's a nice observation for the political scientists. Poland, Hungary, Romania, and Czech Republic were the four countries that had floating exchange rates. So they could avail themselves of the benefit of weaker currency in crisis. Did it help them? Yes, it helped Poland. It helped Czech Republic. It didn't help Romania and Hungary because the two countries accumulated such physical imbalances that they were deprived access to capital markets. One day, simply, the Romanians couldn't sell their bonds on the market. The same went for the Hungarians. And they had to come to Washington, kept in hands, and asked for money or to Brussels. And they are now still not out of the woods. So having a flexible exchange rate helps, but it's not enough. If you are irresponsible as far as fiscal policy is concerned, when crisis strikes, you fall into a recession. Well, this shows you how the exchange rate of Polish swat against euro, sweat franc, and US dollar behaved. You see, there was a big appreciation in the run up to the crisis. Then the swat weakened precipitously, but only for a very short period of time, and then rebounded. We are now again in an appreciation cycle. This is something that I. OK, then let's turn to euro area. I have already discussed some of these issues. I made the observation that the financial markets were wrong not to distinguish different countries having different fiscal policies. They were fooled into thinking that euro zone is one country, that this is a one fiscal policy. It was not. So the fiscal stability was phony. All of the sudden, this is probably the most important of all the. All of the sudden, European sovereign bonds became local toxic assets. Most of European banks, it's not true probably, but we like to say so that they are free of subprime related assets. I don't believe it. Those smart guys from Goldman, when they wanted to dispose of some of this junk, they had to find that someone naive enough, and they almost invariably found them on the Rhine. But by and large, European banks were free of those toxic assets. Toxic? What does it mean toxic? Well, you don't know how much it worth, really. So you cannot really assess the value of those assets. And then suddenly, it turned out that we have, we Europeans have our own toxic assets, which is Greek bonds, Portuguese bonds, Spanish bonds, maybe Irish bonds. What else? Because we don't know how much. Will they default? You have followed this discussion. Will Greece default? What does it mean, really? Will Greece default? Whether there will be some kind of debt restructuring. So if you hold a Greek bond, is it worth 100% of the coupon, of the face value, or is it worth 80% or maybe 50%? So this is the problem of this toxic character. Well, having criticized the European Union or the eurozone, let me just say that European integration still pays off. First, when the crisis struck, the countries were given liquidity from the European Central Bank. All the eurozone countries were given liquidity plus Denmark. Denmark was somehow treated as if they were in the eurozone, not Poland, although we applied. And the Czech Republic, although they applied too. So we were told, hm, you are different. We'll not forget about it. But if the countries like Hungary and Romania and Latvia needed money, they could use a certain facility which was created many years ago in the European Commission, which is called Balance of Payment Facility, BOP. It was supplemented by the Fund, by the European International Monetary Fund. As a matter of fact, IMF gave about 60% or 70% of what was needed. And they were not left alone. They were not left alone. As a matter of fact, even those crisis countries in the east didn't repeat the fate of, say, Thailand in 1997 or Mexico or Argentina in many episodes in Latin America. What happened is that those countries got help from their more affluent brothers in the west. Second, the banks behaved differently from other episodes, crisis episodes in the past. When the crisis struck in 1997, foreign banks just left Thailand. But not even one single Western bank left Ukraine, even, that is going still through a really full-fledged banking crisis. Not even Ukraine, not mentioning any other crisis case. So all the Western banks treated their investment in the region, in the Eastern, Central, East European countries as long-term, as stable, as profitable, prospective, domestic, almost. Although I'm not sure whether this is a politically correct thing to say that the Austrian banks treat their investment in Hungary and Czech Republic as domestic investment. But they do. But they do. And it's good. And it's good. We thought that they will drain liquidity from these countries. So use their subsidiaries as conduits to channel money back to their headquarters, to their home markets, where they needed this money. No, it didn't happen because ECB provided huge amounts of quantity, all liquidity that was needed, simply. And there was no reason for, say, Rifeisenbank, an Austrian bank that is very active in the region, or Unicredito, a huge Italian bank that is also present in every country in the region. They left the money in those countries also because it brought higher profits. So in the short term, and I'm coming to the end, the euro served as an umbrella, provided liquidity. But of course, it didn't prevent differentiation of cost of money. You see the upper part of the graph, 10-year sovereign bond yields, which means how much a country has to pay for borrowing on the market's long term. And you see this upper curve. It's Greece. So it went up to 9%. And it stays like that. Even Ireland is now paying more than Poland, which is not a euro country. However, what was exposed by the crisis is that the Europeans had to do something with their institutions. The Maastricht Treaty was conceived many years ago. I called it a gentleman's agreement. The countries simply committed to behave properly, but there were no sanctions. And a bad example came from the most important members, France and Germany. In 2003, 2004, both countries basically ignored Maastricht Treaty. Even if the economy was in good shape, they had budget deficits over the prescribed 3% threshold. So how can you really be tough with the Greeks? Well, the Greeks were really an exception because they failed on this account in every single year of euro. So they never succeeded in keeping their budget deficit below 3%. But they didn't care for regulating their banks, the Europeans. One of the big achievements of European integration is the full integration of the financial market. You can set up a branch of your bank in any country of the European economic area. European economic area is the European Union plus Norway plus Iceland, which is important in this case. And it is regulated and supervised by the home country. It's great in good times. But when a country, but when a bank goes bust, who pays? Well, this is an unresolved issue. This is I was already telling. This is the impact of the crisis, you see. In 2009, the contraction was 18% in Latvia, some result. OK, so what was the response of the Europeans? First, even it was against the Maastricht Treaty, the European Treaty, as it is called. The European Treaty says it very clearly. There is no bailout for countries. And yet, the Europeans behaved in a practical way. They organized a bailout together with the IMF. 110 billion euro for a small country, immense. But the Greece is now forced to do what it didn't do in the last 20 years. What they're doing, they are cutting expenditure. They are reforming their economy. They are liberalizing the economy for the first time in years. Everything was regulated. Access to all occupations, all important occupations, was regulated. And the share of state ownership in infrastructure especially was basically 100%. Something like this could never happen in the new Europe, so to say, but Greece is a very old Europe. Now they have to catch up very, very dramatically. What else they did? Well, OK, they set up this program for Greece. And yet, the markets were still hysterical. And the European Union was on the brink of collapse. Because if the next country would be Portugal and Greece and Spain, and suddenly the Spanish and the Portuguese would be also denied access to the market, which means default, that there is no money in the world to help Spain, or at least in Europe. Well, the finance ministers of all 27 countries convened in Brussels. And they agreed on establishing a fund that is 500 billion euro big, plus the IMF committed 250 if needed. So it's altogether 750. And what is even more important, the European Central Bank against all the rules that they have imposed on itself, which is not the case in the Bank of England or with the Federal Reserve. They started buying sovereign debt, which means treasuries, treasury bonds of countries in distress. We in Poland were taught by Western advisors that this is something you can never do because this means printing money that will immediately lead to inflation. I'm not commenting about it. But they did it. And well, it is how the economy, the European economy, was saved. But what it really meant is that it was like a shot of morphine. I used this, and I was criticized heavily because nobody knew what this shot of morphine. The morphine is given on your deathbed. I thought that this shot of morphine was for the markets, for the European financial markets. They were sort of given a shot of morphine to stabilize, not to go on with hysteria because they overreacted. They never reacted in the run up to the crisis. They mixed the Greek bonds with the German bonds. But then when the crisis hit, suddenly they became very, very sort of allergic to any kind of risk. So we have now a situation in which European Union is strengthening its fiscal policy. I'm not going to get into details. They are doing, well, they have decided not to build a state. That's most important thing. Well, it's unrealistic. It's unrealistic in Europe. They have decided, however, to strengthen the existing fiscal arrangements to make it more intrusive, stronger surveillance, backed with some sanctions. And hopefully, the gentleman will now behave if they see that there is a stick in the closet. Well, what for the? So this is a watershed for the European Union. It may change the European Union. It may initiate a process of strengthening fiscal policy. It may strengthen the process of further integration. The problem is, what will happen in the central and eastern Europe? And I will say, I'll just say two things, and it is the last two sentences of my lecture. Well, should they join Europe? This is the one, question number one. If not, is there anything wrong with their business model so far? And what has to be changed? Development model, convergence model, rather than business model. You say business model is when you mean banks or corporates, but not countries. So is there something fundamentally wrong in these countries that they have to change? Well, number one, they have to remember capital inflows can be a trap. Too much of a good thing is not good. So they have to rely on domestic resources, on domestic savings more. They have to regulate the banks, even if the banks are in the hands of foreign European banks in a tougher way, more closely. Many of those countries sort of neglected their usual early strengths in transition. That is, competitiveness in international markets. With this huge inflow of capital, they started losing competitiveness. And so countries like Latvia or Bulgaria grew only because of the non-tradable sectors. Non-tradable, meaning financial services, real estate. And they have been losing market shares, or not gaining market shares as they should, in sort of traditional exports. Now they have to get back to this. So they have to sort of start again with reforms. Well, and they are not starting from scratch, because many of those economies are very resilient, very flexible, and they rebound quite nicely now when the recovery comes. Second, should they be obsessed with the European currency? Should they join the euro zone, acquire the euro? Well, some of them have no choice. Those who have already fixed their currencies, like the Baltics and Bulgaria, they have already sort of paid the price of joining the euro. Now it's only the upside if they are allowed to enjoy the upside, like the Estonians did, like the Estonians are allowed to. So they have no reason to change their strategy. But Poland, Czech Republic, Hungary, Romania, they have a choice. Well, theoretically, they have to join the euro because this is part of the accession treaty. But when it's the matter of choice. So it can be in five years, in 10 years, in two years, Well now, a little bit about Poland. When I am asked, are you for the euro accession? I say, yes, I am for the euro accession. Why? Well, let's start with political reason. When you are outside of the euro zone, you are marginalized within the European Union. The decisions will be made in the euro zone and applied to you, imposed on you. And you will not be at the table. And this is more and more evident that the European Union is moving into the double speed or two-speed organization. The inner circle is the European monetary or, to be precise, the euro zone. And the others are decision takers. So politically, it is deadly to be outside of Europe. Well, what about economics? Well, the euro is like a highway. You know, when you have a good car, you can get to the highway and drive faster than on the country road. But if your car is broken, don't get there. So what does it mean? You have to prepare yourself to get to the euro. What does it mean? Well, you have to close the gap with the more advanced countries. You have to prepare for fighting all the bubbles that will immediately show up when you get to the euro. Suppose Poland embraces euro next year. Our interest rate, the benchmark central bank interest rate, is 3.5. Imagine what would happen if our interest rate is down to 1%, as it is in the euro zone, as of January. Well, it will be a boom, a great investment boom, consumption boom, that can we manage this? Well, that's the problem. The Latvians didn't. So we could, of course, compensate this for by very tough fiscal policy, difficult, by very tough regulatory and supervisory policy over the banks, tough but possible. We can compensate this by very flexible labor markets, which we have to an extent, but not enough maybe. So it has perils. It has problems. When something like this happens in a country that is still a catching up country, it may become a trap. It may become a trap. So my response to the question about euro is, yes, we want to get to the euro. But for the moment, we have the comfort to wait. We have to put our fiscal house in order to reduce deficit. Second, we have to wait until the euro zone itself puts its house in order. It is a little bit risky to get to the euro zone now and start paying the costs of bailout or possible bailout for Greece and others. And the Slovaks were the first to pay the price. So we take it easy, which does not mean that we don't want to get to euro. The only real long-term argument for not getting to euro is political because the euro is necessarily a beginning of deeper integration. I don't want to call it state, but some elements of European states will be built around common currency. And if you hate it, like some politicians in our countries do, you should consistently be against it. But if you don't hate it, you should be for it. So that's the last thing that I want to say. Thank you very much. I want to ask a question. I'd like to thank President Belka for a wonderful talk. And also thank Jan Schwenar and the International Policy Center at the Ford School for making this visit and this talk possible. So thank you very much. OK, one, two. It's you should regulate the traffic, yes. Let's get next year regulate traffic. Just a couple real quick questions. What do you see during these still volatile times in vis-a-vis our country, the United States, regarding a possible financial collapse in the immediate or even within the next couple years globally, depression-wise? I don't want to use the word depression, but that's what I'm looking at as far as what is the biggest threat to Europe that you believe or the EU believes would be caused by US policy? Well, the biggest problem in the global economy is how to reduce global imbalances. So how to wind down these surpluses and deficits on the current account? So how to mend the situation in which China is the producer of goods that are consumed by Americans and the Germans possibly are delivering machinery to China so that the Chinese could produce all those goodies for Americans, for those hungry Americans. And we and the Czechs are providing some small parts to these machines so that everything can go on and on. Well, this is untenable and, well, one thing. And this process has already began. Well, first, the Americans started saving, saving money. I mean, American households are saving money so that even some are worried that they are saving too much so that the economy is slowing down. But the process has began. Now the Chinese. Well, with the Chinese, there is this pressure on the China to revalue yuan, which is part of the problem. But the sheer revaluation of yuan could help. But it will not do the trick because what really is the reason of these imbalances is the growth model of China. The Chinese have grown with a huge success. Basically, 500 people were starving and they are not starving. Now they are studying here, some of them. So I mean, probably the biggest success in the history of mankind, economic success. However, such a change brings about consequences. And of course, the internal structure of China is not fully catching up with this economic success. China is still basically deprived of a social security system to speak of, a modern health service to speak of. And also, I understand that the demographic patterns have changed. So people have to save money for rainy days, for health, for, well, and one kid cannot take care of the parents as well as, I mean, so well as it was possible when they had five kids. So what has to change, it's the internal structure of the Chinese economy. And there is this tension between, say, China and the US, but the strains are all over. And the Americans tell the Chinese, OK, devalue. I mean, revalue you on. And the Chinese tell them, no, it's a process. It will take years. We have already started this. And if we do something abrupt to our gross model, it will bring about huge social unrest. You don't want a social unrest in China, do you? You don't. OK, so this is one problem. It's between the two big countries. But then, where is Europe? Well, Europe is sort of officially not interested. We are not at war, at currency war, declared treachery. But the outcome would be that the euro will get stronger. So U1 will not be revalued against the dollar, but it will be devalued against the euro. So yes, the dollar will get weaker, but not against the U1, but against the euro. So it's the Europeans that could pay for it. So this is one of the problems. Now what is the problem for a country like us, like Poland? Well, if the Americans care as they do about fiscal sustainability, as I understand the Federal Reserve is worried about, so they get into this quantitative easing too, whatever. They are printing money. They are providing liquidity. And even if Ben Bernanke says, no, this money is staying in the US, it's not flowing out. Well, just think of all the pension funds in America. They are starving for higher yields. And if only 1% of this money gets to Poland, as about 5% gets to Brazil, or maybe 6%, or maybe 10%, this completely ruins the competitive position of Brazil. So for emerging countries, the negative consequence of the American monetary policy is that it's producing an attack on their currencies. So these are the immediate dangers for European economy. But you probably were asked about some sort of doomsday scenarios, which I don't even think of. Yeah. Great lecture. Let me continue on the previous question. So you talked about China. And in a way, for us observing things from the distance, Poland is like a smaller China in that China did not go into a recession when everybody else did. And Poland didn't either. In fact, Poland was the only European country that did not go into a recession. So can you tell us a little bit why? What's the magic bullet there? And is Poland bound to sort of restart faster now, like China is growing very fast, and in some sense, pulling Germany and everybody else? And then the second question relates then to the euro. Given that Poland and these other centrist European countries are such open economies, in my view, haven't been putting much emphasis on the fact that the major fluctuation in currencies, so Zloty and Poland and Checkround and others vis-à-vis the euro, makes it very difficult for companies to plan and withstand. I mean, there is easily a 20% move in one direction versus another, so it sort of completely swamps other things. Hedging is costly, so it's difficult for them. So wouldn't that be an argument to enter faster rather than sooner the euro zone? Faster, sooner rather than slower? Well, let me start with the second question. Yes, it's definitely an argument. However, when we look at the 20 years of transition, and I'm talking about Poland more than the Czech Republic, one of the big differences between the two countries is that when you think about the early reform package of Balsarowicz, it was considered to be a big bank. But it was a big bank as far as the real economy is concerned. There was no big bank as far as disinflation was concerned. Inflation was still about 10% in 1999. So the disinflation took very long, which of course resulted in inflationary expectations to be much more deeply rooted in Poland than in the Czech Republic. OK, it may go to the days of command economy and communism. I mean, Czech economy was stagnant, but stable. Polish economy was unstable, destabilized periodically, and so it was the worst of all worlds. So coming back, yes, the volatility of the currency is an argument to join euro. And we thought that Złoty is doomed to appreciate. And yes, it did appreciate either really means that the inflation is higher than, say, in the reference area, which is the euro zone or Western euro, or nominally, which is what you see at the counter. So it did appreciate up to about 2004. When we joined the euro, we thought, my, now the Złoty will really sort of strengthen unbearably. It didn't happen. Yes, there is a lot of fluctuation, but the nominal interest rate in Poland now is about the same, or almost the same, as at the day of EU accession. And the inflation rate was only slightly, slightly higher. So we didn't lose our competitiveness at all. And with all the higher productivity growth, we are, as a matter of fact, gaining in market shares. But yes, what we are terrified with is the volatility of currency. That is why we are afraid of getting into ERM-2. Because we think that when you are in this ERM-2, it's a two-year waiting period in which you have to stabilize your currency before joining euro in the range of minus plus 15%. When you get into something like this, all the speculators of the world will be flocking in and try to play on this. As long as we abstain from setting any band, any target rate, it's difficult to speculate. So yes, this is something that we are taking into consideration. But well, so far it's an on-issue. The Minister of Finance is struggling with the budget deficit of close to 8%. Second question is, why did Poland avoid a recession? Oh, many reasons, many reasons. Well, first, I think that we are less open with bigger internal market. The internal market was carried by consumption, which didn't really fail, which didn't fall at all. Never. Why? Well, two reasons. There was very little labor shedding, if at all, contrary to the episode from 1999, 2001, we had a slowdown, and there was a huge increase in unemployment there. Now the corporates didn't do it. They were afraid of doing this because of the cost of rehiring. Second, well, Poland was the country that applied fiscal stimulus two years before the crisis happened. It was a complete nonsense, macroeconomic nonsense. But it is exactly what happened in the years 2006 and 2007 and was enacted one year later. The government reduced both personal income taxes and social security contributions 2.5% of GDP worth. So we had a fiscal stimulus 2.5% of GDP, which translated into stable consumption. Of course, now we have a big problem. What to do with this? Because it created a structural type of deficit. So this tells you that fiscal policy can be very powerful, but also completely useless. Because you have to have this perfect poor side that Mr. Kaczynski had when he was the prime minister to impose this, to impose, to reduce taxation. Because he, of course, I am joking. This was just purely by chance. But there were also some other factors. What was flexible? So it fell. You saw the graph, which shielded exporters completely from any reduction of proceeds in Złoty. So you can go with this list. But let me tell you, Poland survived the crisis as Czech Republic rebounded nicely. So as did Slovakia, after one year just of an export led blip. Because all these countries build up decent institutions. People believe in stability of their currency. Poland, maybe contrary to other countries, have a reasonably deep financial market where it can satisfy about 80% of its public borrowing needs with very little records to international markets. And most important, Poland is really successful in developing entrepreneurial class. I mean, unparalleled in the region. And this is helpful. These people care for themselves. They cannot be fired from their companies because they are bosses. Many of them developed their businesses to a medium-sized export businesses. They sell goods to the European market. So our exports is not only export of international companies, and we are not only part of these international distribution channels, chains. We are also exporters of final goods. So all this added up to a good performance. And I think we are poised to grow nicely over the years. Of course, a slowdown in Western Europe will not help. But I'm not worried so much. As the global reserve currency, there's some talk about this kind of introducing certain burden. Well, this is both a blessing and a curse for the American economy. But what's your view of this? Most of the blessing, I would say. What's your view of this from European perspective? Well, if there is a change, it's only gradual. Because I don't believe in a mandated change in the system or imposed by the IMF that, OK, guys, now from now on will introduce SDRs, you know, whatever. This doesn't make sense because the SDR is not marketable. There's no market for SDRs. The only market maker is IMF so far. However, why shouldn't the yuan or rupee or real be also traded internationally? Well, I think the will should come from these countries. Well, I don't know. This is nobody's view. It's just my speculation. What would happen if the Chinese would tell Americans, OK, we are going to lend you money? But you won. So please issue treasury bonds denominated in yuan. Love? Laughter? It's unfound. There is nothing funny in this. That would reduce the pressure for yuan appreciation. Of course. Of course. Of course. Of course. This would be one way to circumvent this pressure. The US will have no say. Sorry. Because it's the Chinese who can dictate the conditions. One day, at least. If the thing goes as they go now, the Chinese one day will say, OK, fine, but issue bonds in yuan. Why not? And then, from this moment on yuan will start being an international currency. It's about, do you want now? Yeah, I like what you said earlier about the idea that the Baltic states, you said, behaved heroically when they were able to reduce their internal consumption by as much as 40% in one year. Latvia, yes. But I guess my question is, how much of that is heroic behavior versus the idea that their spending was just so egregiously poor and out of control that this was just a correction of the fact of something that was vaguely normal? Yeah, very sobering remark. Of course. Of course, this 40% reduction would not be possible if it were not in a special situation. The crisis in these countries was preceded by exuberance. And the people there didn't yet get used to the idea that they were so affluent. So it was easy for them to get back to where they were, let's say, two, three years ago. But also, when I talked to the Latvians and we were very unhappy about what we had to do in the other IMF with Latvia and we didn't have trust in Latvia to a certain point, we thought that the country will collapse. And we discussed these issues with the Latvians. And how can you survive such a crisis? And then the Latvians said, well, what crisis? Come on, don't exaggerate. We had a crisis. In the memory of the Latvians, the crisis was when the people were sent to Siberia by the Soviets. This was a crisis. Now it's just, well, a correction. This is the problem with the Greeks, that they don't have such a memory. But they are doing considerably well. They're doing well. The media are obviously projecting on us those pictures from the streets of Athens. But this is a margin. As a matter of fact, the people in Greece are accepting reforms. Papandreou is popular. And all those trackers or what have you, regulated professions, they are not enjoying support of the population, I mean of the majority of the population. So when you have to do heroic things, you do heroic things. But you are right. What happened in Latvia is a special conjuncture of events. What happened was not real. So now they are back in real. Thank you.