UPDATE 1-Polish c.bank's Belka criticizes banking union plans, wary on deflation

Wed May 21, 2014 7:48am EDT

Related Topics

* Polish central bank head warns of banking union disadvantages

* Possibility exists of deflation taking hold in Poland

* Joining the euro remains unlikely any time soon (Adds quotes, detail, background)

By Marc Jones and Carolyn Cohn

LONDON, May 21 (Reuters) - Poland's central bank governor Marek Belka criticized Europe's plans for a banking union on Wednesday, saying non-euro zone countries that joined it would be at a disadvantage and have little influence over key decisions.

He also said he could not rule out the possibility of deflation taking hold in Poland, while his country joining the euro was not likely to happen any time soon.

Final preparations are under way for the European Central Bank to take control of banking supervision in the euro zone, which has left the door open for other European countries to join if they wish.

Belka said there were parts of the plans, however, that his country and countries like Sweden, also outside the euro zone, did not like.

"There is the argument that the non-euro countries will not be treated the same," Belka said at a Polish-British forum.

"Non-euro zone countries will not have access to the liquidity of the European Central Bank... this is a fundamental problem."

"The final decisions will by taken by the EU, by the ECB basically," he added.

Banking union and the clean-up of banks' books that will accompany it are intended to restore confidence in the financial sector battered by the euro crisis, helping foster growth in the 18 economies that use the euro.

It is also supposed to break the vicious circle linking indebted states to the banks that buy their debt, which is treated in law as 'risk-free' despite Greece, for example, defaulting just two years ago.

"I think it is a problematic solution of the banking union that they want to make macro prudential policy common, or very much coordinated, for the euro zone countries with others," said Belka.

"If you don't have recourse to your own exchange rate policy, to your own interest rate policy, you have to have some other instruments in the war chest."

"If something happens locally - and all things happen locally - then you have to have an instrument to react (with) that is country-specific."

DEFLATION RISKS

Poland's economic growth is accelerating more than that of big neighbours like Germany and the Czech Republic, but like many it is experiencing a slump in inflation.

Last month inflation slowed more than expected to just 0.3 percent year-on-year, well below the 2.5 percent level that the central bank sees as optimal for the economy.

"I cannot dismiss the possibility (of deflation)," he told reporters on the sidelines of the conference, declining to give a time frame for any possible swing into deflation.

"As long as the economy is in good and improving shape, this does not cause us much of a headache."

Belka said there was some appeal in the idea of Poland joining the euro zone, but "the balance of risks from euro adoption remains unchanged - it is probably negative".

Political opposition to the idea also meant the constitutional change required to adopt the euro was unlikely to be approved.

Belka said last week that scrapping ERM2 exchange rate mechanism prior to euro zone entry would make euro adoption easier for Poland. Under ERM2 a country seeking to join the euro must peg its currency to the euro for at least two years and keep it in a narrow range.

"I am raising this issue of ERM2," he said on Wednesday.

"Slovakia had to suffer a very steep appreciation of its currency. I do not want to risk the same." (Reporting by Marc Jones and Carolyn Cohn; Editing by Hugh Lawson)

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