On Latvia's Participation in the Exchange Rate Mechanism II

At the 29 April 2005 meeting in Brussels of the representatives of the euro area countries, the European Central Bank and the participants of the Exchange Rate Mechanism II (ERM II) (Denmark, Estonia, Lithuania and Slovenia) a decision was taken to approve Latvia's application for joining ERM II.

ERM II is a multilateral agreement aimed at fostering exchange rate stability and coordination in Europe. Joining ERM II is also necessary for Latvia to introduce the euro and become a full-fledged member of the Economic and Monetary Union (EMU). ERM II is an arrangement whereby, following multilateral consultations that involve the EMU Member States, the European Central Bank, the European Commission, ERM II participating countries and the ERM II candidate country, an ERM II participant pegs its national currency to the euro.

During its stay in ERM II the country that is preparing to introduce the euro must ensure a stable exchange rate of its national currency and fulfil Maastricht criteria (a set of economic conditions that includes the requirements on inflation, interest rates, the budget deficit and the level of the government debt).

Latvia joined ERM II on 2 May 2005, with the lats pegged to the euro at 1 EUR = 0.702804 LVL. In ERM II, rate moves within the standard ±15% fluctuation margins around the central rate are allowed. However, Latvia made a unilateral commitment to ensure a band of ±1% thus maintaining the existing fluctuation band that has been accepted by the financial market and effective as of pegging the lats to SDR in 1994 and was kept when re-pegging the lats to the euro on 1 January 2005.

The Latvian government has thus accomplished a significant step toward the implementation of the plan for the introduction of the euro. In future, the joint effort of the government and the central bank will be directed towards reducing inflation and ensuring compliance with the Maastricht criteria. Ilmars Rimsevics, Governor of the Bank of Latvia, points out that fighting inflation is necessary not only to fulfil the Maastricht criteria, but also to promote welfare as reiterated also in the research by the International Monetary Fund about the link between low inflation and rapid economic growth.

After joining ERM II, the Latvian monetary system must operate within this framework for at least two years, though the length of staying in the mechanism depends on the country's ability to fulfil the Maastricht criteria.

Compliance with the Maastricht Criteria