European Exchange Rate Mechanism

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This article is about the second European Exchange Rate Mechanism (ERM II).
For ERM I, see European Monetary System.

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  Eurozone

  ERM II

  ERM II with an opt-out

  Other EU members

  Monetary agreement

  Unilaterally adopted

The European Exchange Rate Mechanism (ERM) II, formerly ERM, is a

system introduced by the European Economic Community on 1 January 1999
alongside the introduction of a single currency, the euro (replacing ERM 1 and
the euro's predecessor, the ECU) as part of the European Monetary
System (EMS), to reduce exchange rate variability and achieve monetary
stability in Europe.
After the adoption of the euro, policy changed to linking currencies of EU
countries outside the eurozone to the euro (having the common currency as a
central point). The goal was to improve the stability of those currencies, as well
as to gain an evaluation mechanism for potential eurozone members. As of
2020, three currencies participate in ERM II: the Danish krone, the Croatian
kuna and the Bulgarian lev.

Contents

 1Intent and operation of the ERM II

 2Historical exchange-rate regimes for EU members
o 2.1Irish pound breaks parity with pound sterling
o 2.2Pound sterling's forced withdrawal from the ERM
o 2.3Increase of margins
 3History of the ERM II
o 3.1New EU members
o 3.2Current status
o 3.3Exchange rate bands
 3.3.1Historical reference
 4See also
 5Citations
 6External links

Intent and operation of the ERM II[edit]

The ERM is based on the concept of fixed currency exchange rate margins, but
with exchange rates variable within those margins. This is also known as a
semi-pegged system. Before the introduction of the euro, exchange rates were
based on the European Currency Unit (ECU), the European unit of account,
whose value was determined as a weighted average of the participating
currencies.[1]
A grid (known as the Parity Grid) of bilateral rates was calculated on the basis
of these central rates expressed in ECUs, and currency fluctuations had to be
contained within a margin of 2.25% on either side of the bilateral rates (with the
exception of the Italian lira, the Spanish peseta, the Portuguese escudo and the
pound sterling, which were allowed to fluctuate by ±6%). [2] Determined
intervention and loan arrangements protected the participating currencies from
greater exchange rate fluctuations.
United Kingdom Chancellor of the Exchequer Denis Healey reportedly chose
not to join the ERM in 1979 owing to concerns that it would benefit the German
economy by preventing the Deutsche mark from appreciating, at the expense of
the economies of other countries.[3] The UK did join the ERM in October 1990
under Chancellor John Major, in a move which at the time was largely
supported by business and the press,[4] but was forced to leave again two years
later on Black Wednesday.

Historical exchange-rate regimes for EU members[edit]

Further information: History of the euro
The chart below provides a full summary of all applying exchange-rate
regimes for EU members, since the European Monetary System with its
Exchange Rate Mechanism and the related new common currency ECU came
into being on 13 March 1979. The euro replaced the ECU 1:1 at the exchange
rate markets, on 1 January 1999. Between 1979 and 1999 the D-
Mark functioned as a de facto anchor for the ECU, meaning there was only a
minor difference between pegging a currency against the ECU and pegging it
against the D-mark.

Sources: EC convergence reports 1996-2014, Italian lira[dead link], Spanish peseta, Portuguese escudo, Finnish markka, Greek

drachma, UK pound

The eurozone was established with its first 11 member states on 1 January

1999. The first enlargement of the eurozone, to Greece, took place on 1
January 2001, one year before the euro had physically entered into circulation.
The zone's next enlargements were with states that joined the EU in 2004, and
then joined the eurozone on 1 January in the mentioned year: Slovenia (2007),
Cyprus (2008), Malta (2008), Slovakia (2009), Estonia (2011), Latvia (2014),
and Lithuania (2015).
All new EU members having joined the bloc after the signing of the Maastricht
Treaty in 1992 are obliged to adopt the euro under the terms of their accession
treaties.[5] However, the last of the five economic convergence criteria, which
need to be complied with in order to qualify for euro adoption, is the exchange
rate stability criterion. This requires having been a member of the ERM for a
minimum of two years without the presence of "severe tensions" for the
currency exchange rate.[6]
Irish pound breaks parity with pound sterling[edit]
To participate in the ERM, Ireland had to break the Irish pound's parity with
the pound sterling in 1979, because the pound sterling, which was not an ERM
currency, appreciated against all ERM currencies shortly after the launch of the
ERM. The continued parity between the Irish pound and the pound sterling
would have taken the Irish pound outside its agreed band. To fulfill the ERM
conditions, the Irish government was required to break the parity of the Irish
pound with the pound sterling.[7]
Pound sterling's forced withdrawal from the ERM[edit]
Main article: Black Wednesday
The United Kingdom entered the ERM in October 1990, but was forced to exit
the programme within two years after the pound sterling came under major
pressure from currency speculators. The ensuing crash of 16 September 1992
was subsequently dubbed "Black Wednesday". There has been some revision
of attitude towards this event given the UK's strong economic performance after
1992, with some commentators dubbing it "White Wednesday". [8]
Some commentators, following Norman Tebbit, took to referring to ERM as an
"Eternal Recession Mechanism",[9] after the UK fell into recession in 1990. The
UK spent over £6 billion trying to keep the currency within the narrow limits with
reports at the time widely noting that the controversial Hungarian-
American investor George Soros's individual profit of £1 billion equated to over
£12 for each man, woman and child in Britain and dubbing Soros "the man who
broke the Bank of England".[10][11][12]
Britain's membership of the ERM was also blamed for prolonging the recession
at the time,[13] and Britain's exit from the ERM was seen as an economic failure
which contributed significantly to the defeat of the Conservative government
of John Major at the general election in May 1997, despite the strong economic
recovery and significant fall in unemployment which that government had
overseen after Black Wednesday.[14]
Increase of margins[edit]
In August 1993, the margin was expanded to 15% to accommodate speculation
against the French franc and other currencies.[15]

History of the ERM II[edit]

On 31 December 1998, the European Currency Unit (ECU) [16] exchange rates of
the eurozone countries were frozen and the value of the euro, which then
superseded the ECU at par, was thus established.
In 1999, ERM II replaced the original ERM.[17] The Greek and Danish currencies
were part of the new mechanism, but when Greece joined the euro in 2001,
the Danish krone was left at that time as the only participant member. A
currency in ERM II is allowed to float within a range of ±15% with respect to a
central rate against the euro. In the case of the krone, Danmarks
Nationalbank keeps the exchange rate within the narrower range of ± 2.25%
against the central rate of EUR 1 = DKK 7.46038.
EU countries that have not adopted the euro are expected to participate for at
least two years in ERM II before joining the eurozone.[5][6]
New EU members[edit]
On 1 May 2004, the ten national central banks (NCBs) of the new member
countries became party to the ERM II Central Bank Agreement. The national
currencies themselves were to become part of the ERM II at dates to be
agreed.[18]
The Estonian kroon, Lithuanian litas, and Slovenian tolar were included in the
ERM II on 28 June 2004; the Cypriot pound, the Latvian lats and the Maltese
lira on 2 May 2005; the Slovak koruna on 28 November 2005.[19]
These states have all since joined the eurozone, and hence left ERM
II: Slovenia (1 January 2007), Cyprus (1 January 2008), Malta (1 January
2008), Slovakia (1 January 2009), Estonia (1 January 2011), Latvia (1 January
2014), and Lithuania (1 January 2015).[20]
On 10 July 2020 it was announced that the Bulgarian lev (which had joined the
EU on 1 January 2007) and Croatian kuna (which had joined the EU on 1 July
2013) would be included in the ERM II. [21][22]
Current status[edit]
As of 2020, three currencies participate in ERM II: the Danish krone,
the Croatian kuna and the Bulgarian lev. The currencies of Sweden
(the Swedish krona), the three largest countries which joined the European
Union on 1 May 2004 (the Polish złoty, the Czech koruna, and the Hungarian
forint), and the Romanian leu (Romania joined on 1 January 2007), are required
to join in accordance with the terms of the applicable treaties of accession.
Sweden has voted in a referendum to stay out of the mechanism, despite being
expected to join by the ECB, since Sweden has no opt-out like Denmark. EU
members are required to join the ERM by the Maastricht convergence criteria.[23]
Exchange rate bands[edit]
In theory, most of the currencies are allowed to fluctuate as much as 15% from
their assigned value.[15] In practice, however, the currency of Denmark deviates
very little.[24]

Band
Date of
Country Currency €1 =[25] Notes
entry [25]
Nominal Actual
 The Danish krone
entered the ERM II
in 1999, when the
7.4603
1 January 1999  Denmark Krone 2.25% <1% euro was created.
8
See Denmark and
the euro for more
information.

The Bulgarian lev

has been on the
currency board since
1997 through a fixed
1.9558 exchange rate of the
10 July 2020  Bulgaria Lev 15% TBD
3 Bulgarian lev against
the Deutsche Mark.
See Bulgaria and the
euro for more
information.

7.5345 See Croatia and the

10 July 2020  Croatia Kuna 15% TBD
0 Euro

Historical reference[edit]
The former members of ERM II are the Greek drachma, Slovenian tolar, Cypriot
pound, Estonian kroon, Maltese lira, Slovak koruna, Lithuanian litas and Latvian
lats.[20]

Band

Period Country Currency €1.00 = Notes

Nomina
Actual
l

1 Jan
1999 –
353.109[26] Unknown
16 Jan
2000

 Greece Drachma 15%

17 Jan
2000 –
340.75[27] Unknown
31 Dec
2000

28 Jun  Slovenia Tolar 239.64[28] 15% 0.16%[29]

2004 –
31 Dec
2006

2 May
2005 –
2.1%[29]
7 Dec
2007

 Cyprus Pound 0.585274 15%

7 Dec
2007 –
0%
31 Dec
2007

The Maltese lira has

been pegged to the
euro since joining
2 May ERM II. Only two
2005 – exceptions exist:
 Malta Lira 0.4293 15% 0%
31 Dec 2005-05-02 (ECB
2007 rate: 1 EUR = 0.4288
MTL) and 2005-08-
15 (ECB rate: 1 EUR
= 0.4292 MTL).[29]

28
Nov
2005 –
38.455[30][31][32] 12%[29]
16
Mar
2007

17
Mar
2007 –  Slovakia Koruna 15%
35.4424[33][34] 12%[29]
27
May
2008

28
May
2008 – 30.126[35] 1.9%[29]
31 Dec
2008

28 Jun  Estonia Kroon 15.6466 15% 0% The Estonian kroon

2004 – had been pegged to
31 Dec the German
 mark since its re-
introduction on 20
June 1992, and then
2010
to the euro. It was
fixed on 13 July
2010.

Latvia had a fixed

exchange-rate
2 May
system arrangement
2005 –
 Latvia Lats 0.702804 15% 1% whose anchor
31 Dec
switched from
2013
the SDR to the euro
on 1 January 2005.

The Lithuanian litas

28 Jun was pegged to the US
2004 – dollar until 2
 Lithuania Litas 3.4528 15% 0%
31 Dec February 2002, when
2014 it switched to a euro
peg.

See also[edit]
 Euro convergence criteria
 List of acronyms associated with the eurozone
crisis

Citations[edit]
1. ^ "European Currency Unit Definition from Financial Times
Lexicon".  lexicon.ft.com. Retrieved  31 December  2016.
2. ^ Phase 2: the European Monetary System, European
Commission, http://ec.europa.eu/economy_finance/euro/em
u/road/ems_en.htm
3. ^ William Keegan: David Cameron's EU referendum raises
spectre of Thatcher-era euroscepticism W. Keegan,
International Business Times, 19 Oct 2015
4. ^ John Major (1999).  John Major: The Autobiography.
Harper Collins. p. 163.
5. ^ Jump up to:a b "The problem with Europe is the euro".  The
Guardian. 10 August 2016.  ISSN  0261-3077. Retrieved 31
December  2016.
6. ^ Jump up to:a b "Radio Prague - Czech officials talk up euro
adoption but target date still not on agenda". Retrieved  31
December  2016.
7. ^ Irish Central Bank (Spring 2003).  "The Irish Pound: From
Origins to EMU"  (PDF). Quarterly Bulletin. IE. Retrieved 13
July 2020.
8. ^ Kaletsky, Anatole (9 June 2005). "The reason that Europe
is having a breakdown...it's the Euro, stupid". The Times.
UK. Retrieved  30 December  2008.
9. ^ Tebbit, Norman (10 February 2005). "An electoral curse
yet to be lifted". The Guardian. UK. Retrieved  30
December  2008.
10. ^ Slater, Robert (1996).  Soros  : the life, times & trading
secrets of the world's greatest investor. Burr Ridge, Ill.: Irwin
Professional Pub. p.  186. ISBN 0786303611.
11. ^ Constable, Nick (2003). This is gambling. London:
Sanctuary. pp.  46, 168.  ISBN  1860744958.
12. ^ Slater, Robert (2009).  Soros the world's most influential
investor. New York: McGraw-Hill.  ISBN  0071608451.
13. ^ Davis, Evan (15 September 2002).  "Lessons learned on
'Black Wednesday'". BBC News.
14. ^ "1997: Labour landslide ends Tory rule". BBC News. 15
April 2005.
15. ^ Jump up to:a b Sirtaine, Sophie; Skamnelos, Ilias (1 January
2007).  Credit Growth in Emerging Europe: A Cause for
Stability Concerns?. World Bank Publications. p. 30.
16. ^ "Council Regulation (EC) No 1103/97 of 17 June 1997 on
certain provisions relating to the introduction of the euro".
Retrieved  25 April 2010.
17. ^ Bitzenis, Aristidis (23 March 2016). The Balkans: Foreign
Direct Investment and EU Accession.
Routledge.  ISBN  9781317040651.
18. ^ "What is ERM II? - European Commission". ec.europa.eu.
Retrieved  31 December  2016.
19. ^ "European Central Bank". European Central Bank.
Retrieved  26 April 2011.
20. ^ Jump up to:a b "A timeline of the eurozone's
growth".  POLITICO. 31 December 2016. Retrieved 31
December  2016.
21. ^https://www.ecb.europa.eu/press/pr/date/2020/html/ecb.pr
200710~4aa5e3565a.en.html
22. ^https://www.ecb.europa.eu/press/pr/date/2020/html/ecb.pr
200710_1~88c0f764e7.en.html
23. ^ "Sweden 'not ready' for euro". BBC News. 22 May 2002.
Retrieved  14 December  2011.
24. ^ Ryan (19 May 2016).  "Danish Central Bank Stumbles with
Its Currency Peg to the Euro". Mises Institute. Retrieved 31
December  2016.
25. ^ Jump up to:a b "Foreign exchange operations". European
Central Bank. Retrieved  12 July 2020.
26. ^ "31 December 1998 – Euro central rates and intervention
rates in ERM II". European Central Bank. Retrieved 26
April 2011.
27. ^ "17 January 2000 – Euro central rates and intervention
rates in ERM II". European Central Bank. Retrieved 26
April 2011.
28. ^ "28 June 2004 – Euro central rates and compulsory
intervention rates in ERM II". European Central Bank.
Retrieved  26 April 2011.
29. ^ Jump up to:a b c d e f "ECB historic exchange rates". Ecb.eu.
Retrieved  26 April 2011.
 30. ^ "28 November 2005 – Euro central rates and compulsory
intervention rates in ERM II". European Central Bank.
Retrieved  26 April 2011.
31. ^ "Slovak Koruna Included in the ERM II". National Bank of
Slovakia. 28 November 2005. Archived from the original  on
2 October 2006. Retrieved  17 March 2007.
32. ^ European Commission.  "Exchange Rate Mechanism II
(ERM II)". Archived from  the original on 23 April 2007.
Retrieved  17 March 2007.
33. ^ Radoslav Tomek and Meera Louis (17 March
2007).  "Slovakia, EU Raise Koruna's Central Rate After
Appreciation".  Bloomberg. Retrieved 17 March  2007.
34. ^ "Euro central rates and compulsory intervention rates in
ERM II". European Central Bank. 19 March 2007.
Retrieved  26 April2011.
35. ^ "Euro central rates and compulsory intervention rates in
ERM II". European Central Bank. 29 May 2008.
Retrieved  26 April2011.

External links[edit]
 The ERM on the UK Parliament website
 European Central Bank press releases
 Guardian Unlimited | Special reports | Pound drops
out of ERM – 17 September 1992
show

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