Finance  

CURRENCY REFORM PROCESS FOR LITHUANIA

by Michael Pitts

Lithuania declared its political independence from Moscow in 1990. At this point economic integration into the Soviet system was thorough. 90% of Lithuania's trade was with other Soviet republics (Shen,54).

Political independence brought significant economic reform. Reform was aimed at economic independence, privatization of economic activities, and integration of the economy into the world economy. This could only occur with a fundamental change in the traditional role assumed by money and the financial instruments of the Soviet system. Currency reform is, without a doubt, one of the most important parts of the reform process. Currency reform from the provisional currency, the talona, to the newer lita will be analyzed. It will be shown that a number of difficulties marred the currency reform process and has put Lithuania behind its Baltic neighbors.

Developments in Russia and neighboring republics of the former USSR obliged Lithuania to hasten the process of currency reform in the early 1990's. After Lithuania's declaration of independence in 1990 supply of rouble notes to branches of Moscow's Gosbank, central bank, in Lithuania ceased ( Van Arkadie, 183 ). This was compounded by unprecedented inflation, creating a severe shortage of bank notes available for financial transactions. Moscow instituted an embargo on Lithuania and the other Baltic states. The embargo dried up the supply of essential inputs for the regional industrial and agricultural production. Lithuania was financially unsuccessful in securing these factors of production from the West and a severe recession ensued (Misiunas, 54 ). During this recession production plummeted and prices soared. Inflationary pressure was further fueled by influences from other republics. Inflationary pressure in these republics, primarily Russia, led to the flooding of the Lithuanian market with speculators and traders looking for cheaper goods. Russia finally resorted to unwarranted money printing in a desperate effort to stem the its rampant inflation and budgetary crisis. This rendered the roubles still in circulation in Lithuania nearly worthless. Remaining in the ruble zone meant sharing in the economic calamities outside of the country. It is obvious that economic and political independence, not to mention basic monetary stability, could only be attained with an independent currency.

On May 1,1992, Lithuania began supplementing rubles with a provisional currency termed talonas, also referred to simply as coupons. This provisional currency had some unfortunate characteristics that resulted in several difficulties. The manner in which the talonas was introduced evidenced inadequate preparations on the part of policy formulators (Shen, 57). First, an insufficient quantity of talonas was printed and circulated. Secondly, authorities permitted the circulation of roubles alongside talonas for months. This, combined with the fact that a variable exchange rate between the talona and the ruble was not allowed to develop, subjected the Lithuanian economy to the adverse effects of external ruble inflation. Not only was the inflation detrimental, but the ruble influence prevented planners from making an accurate assessment of money in circulation.

The actual talonas themselves were of an inferior quality. This led to widespread inflation within a month of its appearance, which further compromised the ability of the central bank to monitor and control the monetary supply. From its initial introduction in May 1992 until a year later the talona lost more than 50% of its value (Shen,56).

Among the three Baltic states, Lithuania maintained the least restrictive border controls with the other republics of the former USSR as a goodwill gesture (Smith, 76). This gesture allowed speculators to draw on Lithuania's supply of consumer goods, leaving behind an abundant supply of worthless rubles. This helped further the inflationary pressure as well.

The permanent currency, the lita, was introduced in June 1993. It had significant gold and foreign reserves and received currency stabilization grants from the IMF. The total reserves were not disclosed, however, Romualdas Visokavicius, former president of Lithuania's central bank, stated that Lithuania possessed more currency stabilization reserves than Estonia did when the latter introduced its kroons a year earlier (Smith, 81). Estonia's currency reform was a tremendous success by the time Lithuania introduced its litas. Visokavicius attempted to instill confidence in Lithuania's forthcoming introduction of litas to assist the litas' success.

Three days before the introduction of the litas, Visokavicius gave assurance that the litas' value would be pegged against a basket of four convertible currencies: the U.S. dollar, the Deutsche mark, the British pound, and the French franc (Smith, 82). One day after the litas' introduction, the bank's president disavowed the initial intent of the pegging. Instead, the central bank's discretionary power determined the relative value of the litas, employing U.S. dollars and DMs as flexible references. The process of replacing talonas by litas was completed by July 22, 1993. Between June 25 and July 31, 1993, the litas' value inexplicably gained nearly 12 percent against the U.S. dollar (Shen, 56). The litas appeared strong and stable.

It was a contrived appearance, however. With justifiable cause, the public's confidence in the nation's permanent currency, in its government, and in its reform program remains conditional at best.

The government contracted with a U.S. company to print the litas. The company took no precautionary measures against possible counterfeits, omitting security threads on currency notes. When litas were introduced on June 25, 1993, average consumers on the streets were puzzled by its inferior quality. More astute consumers knew that any denomination below 100 litas, equivalent at the time to 25 US dollars, could be readily counterfeited. On August 2, 1993, one day after litas became the sole legal tender in Lithuania, "the first, high quality counterfeit 20-lita note was discovered by a bank in Klaipeda" ( Baltic Independent, 1993: 8 ). Given counterfeiter's abundant experience during the June 1992 to July 1993 period when talonas were still in circulation, apprehension about counterfeit litas is prevalent.

Since 1993 the lita has stabilized significantly. Finding the Deutschmark too strong, bank officials set it to the U.S. dollar. By late September 1993 it was tied at a rate of 4.25 to 1. By May 1994 it was tightened to 4.0 litas per dollar. As of Monday December 11, 1995 it was still at that rate ( Wall Street Journal, c25 ).

Currency instability can severely threaten any nation's reform program. Lithuania has been committed to a responsible currency but a number of mistakes has cost the country dearly. Both the talona and the lita experienced problems with counterfeiting and more importantly a lack of confidence. This can be blamed on policy formulators themselves who often contradicted each other and themselves personally. This can be contrasted directly to Lithuania's neighbor Estonia which committed itself to a clear and rigid policy early on.

References:

  • The Baltic Independent.

  • Misiunas, Romuald., and Reih Taagepara. " The Baltic States. " Berkeley, Ca. :UCal Press. 1993.

  • Shen, Raphael. " Restructuring the Baltic Economies. " London, Praeger. 1994.

  • Smith, Graham. " The Baltic States. " New York: St. Martin's Press. 1994.

  • Van Arkadie, Brian., Mats Karlsson. " Economic Survey of the Baltic States." New York: NYU Press. 1992.

  • The Wall Street Journal.

 

 

 

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