WARSAW/RIGA – When Latvia adopts the euro on Wednesday, it will bring with it a banking sector that is swelling with suspicious money from Russia and the East — just as the currency bloc is trying to clamp down on such havens.
It was just nine months ago that the eurozone had to rescue Cyprus, a similarly tiny member state that also specialized in attracting huge deposits from Russia. Since then, eurozone leaders have vowed to crack down on financial sanctuaries and improve transparency.
But as the 18th member of the eurozone, Latvia is likely to see a greater — not smaller — influx of dirty money, as the country will be viewed as safer than other former Soviet states while financial oversight remains loose.
For years, Latvia’s political and financial leaders had hoped to create a mini-Switzerland in Eastern Europe — a place where capital in unstable countries such as Russia or Kazakhstan could either park for a while or channel its way farther west to banking meccas like Zurich or London.
After a slight dip during Latvia’s financial crisis from 2008 to 2010, the amount of nonresident bank deposits has risen rapidly over the past two years ahead of the country’s entry into the eurozone.
Latvia has 20 domestically registered banks, or one for every 100,000 residents — an extremely high ratio. Of these, about 13 are considered “boutique banks” that rely almost exclusively on foreign funds, mainly from volatile countries of the former Soviet Union. Rather than lend to businesses and consumers, these tiny financial institutions primarily serve as safe havens or money transfer operations. They tend to keep their money in liquid assets so it can quickly be moved.
Some of the money is dirty. This past year, Latvia’s bank regulator slapped a 100,000-lat ($200,000) fine on a bank for failing to exercise sufficient internal controls with money connected to the so-called Magnitsky case.
After Latvia, Lithuania is aiming to join the eurozone in 2015, completing a Baltic embrace of Europe’s troubled single currency, but other nations in the region are in no rush to adopt it.
Concerns over the influence of Soviet-era master Russia and their small size prompted the Baltic trio to relish eurozone entry, but larger economies like Poland and the Czech Republic, less worried by Moscow, are more circumspect.
“Other countries are more relaxed about joining. They’re looking more at the costs and benefits, rather than the Baltic attitude of joining the eurozone at any price,” said Witold Orlowski, a Warsaw-based PricewaterhouseCoopers analyst and former adviser to the Polish president.
In a bid to boost stability, Baltic states including Estonia, which adopted the euro in 2011, pegged their currencies to it in 2004.
Only Bulgaria has made this move among other eurozone candidates, all of which agreed to join in their EU entry deals.
They include regional heavyweight Poland and the Czech Republic, which experts believe could meet eurozone entry targets on deficits and inflation within three to four years.
Warsaw insists it will be euro-ready by 2015, but has been coy about pegging a target entry date.
Others, like Bulgaria, Hungary, Romania and Croatia, have a longer road of reform ahead.
“There’s no pressure” to join the eurozone in Poland and the Czech Republic, where inflation and interest rates are “pretty low,” Orlowski observed.
“Both countries are quite happy with a flexible exchange rate,” he noted, adding that the eurozone’s debt woes had also prompted a “wait and see” approach.
Poland was the only EU member to avoid recession in recent years, thanks largely to that flexibility, which boosted exports as its currency, the zloty, weakened against the euro during both the world financial and eurozone crises.
Poland’s new Finance Minister Mateusz Szczurek has put it more bluntly. “The alleged benefits of the euro area — better positioning of the economy on access to capital and its affordability, stability of foreign funding — have proved to be a fiction,” he insisted.
Struggling to emerge from recession and disinflation, the Czech Republic cherishes its ability to use monetary policy as an economic stimulus tool, something it will have to give up once inside the eurozone.
Its central bank recently intervened on the foreign-exchange market to weaken the koruna in a bid to boost exports and push inflation closer to the central bank’s target of 2.0 percent.
According to Czech central bank chief Miroslav Singer, Prague could adopt the euro in 2019 at the soonest, but this is not a priority for the new left-populist coalition.
Smaller Lithuania is likely to achieve its entry target of Jan. 1, 2015, according to Swedbank.
“The chances of Lithuania complying with the Maastricht criteria are increasing,” it noted in a recent report. With average annual inflation down to 1.3 percent, “the scenario of its entry into the eurozone in 2015 is the most plausible,” it said. For Hungary, the timeline is decades.
Bulgaria, the EU’s poorest member, is banking on meeting eurozone entry targets within the next four years, according to Finance Minister Petar Tchobanov.
Romania’s Prime Minister Victor Ponta recently said Bucharest wants to join in 2018, the centenary of modern-day Romania as created after World War I.
Having entered the EU in July, Croatians are also keen to join the eurozone, but struggling with a high debt and deficit, the government in Zagreb does not expect to be ready within the next three to four years.
Aside from Estonia, ex-communist Slovenia and Slovakia already use the euro, having adopted it in 2007 and 2009.
Estonia and Slovakia expect moderate growth this year. But struggling with recession, Slovenia was also recently forced to recapitalize its three largest state-owned banks, sinking under a mountain of debt.