Euro Seen as Shield by Lithuanian Banker Wary of Russia

By Milda Seputyte  Dec 23, 2014 12:08 PM GMT+0200

 Bloomberg

On the eve of Lithuania’s euro adoption, the Baltic country’s top banker says Russia’s actions in Ukraine have pushed him into forbidden territory.

“The euro is an instrument for our deeper integration: the closer we are to the West, the further we are from the east,” Vitas Vasiliauskas said in an interview in Vilnius, the capital. “As a central bank governor, I shouldn’t get myself involved in geopolitical discussions. But these are the facts today.”

His nation of 3 million people, which regained independence from the Soviet Union in 1990, will become the euro area’s 19th member on Jan. 1, following fellow Baltic states Estonia and Latvia into the currency bloc. The standoff over Ukraine has driven a wedge between Russia and its former Cold War foes. It’s also raised tensions in the region, where Lithuania’s Defense Ministry says NATO intercepts of Russian jets are at a record.

At 41, Vasiliauskas, a former corporate lawyer and deputy finance minister, is the European Union’s youngest central bank chief. He backed the harsh austerity Lithuania imposed as its economy embarked on a 15 percent plunge in 2009 and joins the European Central Bank’s Governing Council amid President Mario Draghi’s push to start large-scale buying of government bonds.

“Vasiliauskas is a strong supporter of the Stability and Growth Pact and will likely join the pro-austerity side of the eurozone debate,” said Otilia Dhand, an analyst at Teneo Intelligence in London.

While Lithuania’s economic pain from five years ago will affect his decision-making, it’s too early to tell how it will shape specific issues when he arrives at the ECB, according to Vasiliauskas, who said he’s aware that his remit has broadened.

European Mandate

“You see that you have a European mandate -- not a Lithuanian one, not a Latvian one, not an Estonian and not a German one,” he said. “We fully understand that we have to step away from Lithuanian issues and look at all of the euro area, the focus is on the euro area as a whole. That’s not easy. It’s a turning point in your thinking.”

The Frankfurt-based bank is starting a new rotation system for voting and will in 2015 start publishing accounts of policy discussions, in line with other big central banks. Vasiliauskas spent the past four months as an observer at ECB Governing Council meetings and will join his first as a full member on Jan. 22. While Council members can’t fully detach themselves from domestic issues, the focus is always the euro, he said.

“It doesn’t mean there’s no arguing or differences of opinion, but what’s important is that the majority of decisions is being made in agreement,” he said. “This is a new experience, but I have to say, it’s great.”

Lithuania is adopting the common currency at the second attempt. Vasiliauskas set the nation on its euro path in 2004 from his vantage point in the Finance Ministry, locking the litas into the ERM-2 exchange-rate mechanism required for candidate countries. Two years later, Lithuania’s bid was rejected because inflation was 0.1 percentage point too high.

‘Galloping Horse’

The European Commission, the 28-member bloc’s executive arm, warned prices would jump further. It was right: inflation peaked at 12.5 percent in 2008.

“It’s obvious we miscalculated,” Vasiliauskas said. “It was like trying to jump into the saddle of a galloping horse. We’ve learned our lessons, endured our crisis and are now prepared to ride. We’re now much better prepared, with a far more stable and more sustainable economic foundation.”

Vasiliauskas brings experience in tackling two banking collapses. Eight months into his stint in 2011, he oversaw the takeover of insolvent Bankas Snoras AB, then the nation’s fifth-biggest deposit holder. More than a year later, Ukio Bankas AB, the nation’s sixth-largest lender by assets, also went bust.

On the mantelpiece in his office, Vasiliauskas keeps a framed cartoon from a local newspaper showing the governor at the controls of a wrecking ball dangling over the two banks.

‘Very Calm’

“We now don’t have any problems with the banking system,” he said. “This is a very clear, transparent system, there are no hidden sores. That’s why I’m so very calm today.”

Helping him cope with any future crises, Lithuania’s euro membership will grant access for domestic banks to the EU’s bank resolution fund. The government also estimates it will reduce borrowing costs and may boost economic growth by 2 percentage points during the next seven years.

The prospect of euro adoption has already lured investors. Lithuania sold 1 billion euros ($1.24 billion) of 12-year bonds, its longest-ever maturity, at record-low yields of 100 basis points above the benchmark swap rate on Oct. 22.

The yield on the 2026 debt fell 2 basis points to 1.91 percent today, according to data compiled by Bloomberg. That compares with 1.64 percent for similar maturity bonds of euro member Latvia. Poland, which uses the zloty, has a yield of 1.47 percent.

Front Line

Even so, the central bank cut Lithuania’s economic growth estimate to 3.1 percent for next year from the previous 3.3 percent as deflation risks in the euro area, Lithuania’s top trading partner, and looming recession in Russia threaten to undermine exports.

For now, geopolitics remains at the forefront of Lithuanian minds. The nation, which celebrates 25 years of independence in March, put military units on high-alert for five days this month to respond to increased Russian military activity close to its borders.

“We are almost a front-line country,” Vasiliauskas said. “Everything that pegs us to the West makes us safer.”

To contact the reporter on this story: Milda Seputyte in Vilnius at mseputyte@bloomberg.net

To contact the editors responsible for this story: Balazs Penz at bpenz@bloomberg.net Michael Winfrey, Andrea Dudik