Sunday, 5 October 2003

From Single Market to Single Currency: Evaluating Europe's Economic Experiment

Dr Martin Holmes 

This article first appeared on the website of The Bruges Group, an independent all-party think tank.

Economic and Monetary Union


European monetary union is a very old idea. The Roman Empire effectively
exercised a single currency system, and during the last few hundred years,
particularly the eighteenth and nineteenth centuries, gold and silver were
effectively common European currencies which existed alongside national
currencies. Napoleon planned a customs union and monetary union, and during
World War Two, not surprisingly, there were German plans for a European
currency once Hitler had been victorious. The Maastricht Treaty is the second
attempt to bring about monetary union within the EC. Originally the Werner
Report of 1970 advocated monetary union by 1980. But because of the world oil
crisis, during which the price of oil quadrupled, and inflation and
unemployment rose sharply, the focus shifted away from monetary union, and the
plans were dropped. This time the EC is determined to succeed driven as much
by the logic of federal integration, which led to the Maastricht Treaty, as by
purely economic considerations.

Single Market, Single Currency

Perhaps the best known economic argument for economic and monetary union
(EMU) is that if Europe has a single market it needs to have a single
currency. So the argument runs, the United States has a single market, and it
has a single currency, the dollar; similarly, Japan has a single market, and
it has a single currency, the yen. The European Commission once argued that if
the Americans really wanted to assist the European economy, they would permit
each of the 50 states of the Union to have its own currency, creating similar
circumstances to those in Europe. In making such a satirical observation, the
EC has advanced the argument that to remove the barriers to trade and commerce
it is necessary to remove the currencies of the member states.

The second argument in favour of monetary union is that it will reduce
transaction costs. For travellers, tourists, and businessmen a single currency
eliminates unnecessary currency conversion. So the argument runs, it would be
easier to do business across the EC without the problems caused by volatility
in exchange rates, which might make the difference between profit and

Models of EMU

To achieve this end, three particular models for economic and monetary
union have been considered. The parallel currency model was suggested in 1989
by the then Chancellor of the Exchequer, Nigel Lawson, who proposed that the
currency of each member state should be legal tender in all the other member
states; so that, for example, the pound sterling could be used in all the
other countries, as could the Greek drachma. In reality this would mean the
creation of a Deutschmark zone, because the German currency is the strongest
with a proven record of low inflation. Mr Lawson made clear that this would
not mean the abolition of each national currency; people in Britain, if they
wished to retain the pound, could do so. And, as he told a press conference,
this would not mean that to buy stamps at a post office in the heart of rural
England, it would be necessary to use Italian lira or Greek drachmae. This
plan was comprehensively rejected; the other 11 European countries were
unconvinced of its merits.

The second suggested model of monetary union was the common currency
proposal which was half-heartedly advocated by Nigel Lawson’s successor John
Major. Mr Major, when he became Chancellor of the Exchequer, was a household
name; alas, only in the Major household. Perhaps his plan for the common
currency would make his name in Europe? Major suggested that the existing ecu
should be made into a hard currency which could be issued by a European
central bank, but which would co exist with each national currency. Under this
model an additional currency in Europe, the ecu, could be used in all the
member states alongside their national currencies. John Major argued that the
advantage of this proposal was that it would bring about competition between
currencies, so that the good currencies would drive out the bad. In this way,
it was hoped, there would be an anti- inflationary incentive, and an
anti-inflationary discipline in the system. For example, business would want
the hard ecu to have the lowest level of inflation of all the existing
currencies; so if the German inflation rate was only 1%, there would be an
incentive for the European central bank to make sure that the inflation rate
for the ecu was no more than 1%. But if the ecu rate was 1% and in Greece
inflation was 15%, people would switch to the ecu. In these circumstances, the
ecu would gain in popularity because it would keep its value. Naturally
contracts, international business, trade and commerce would be much more
likely to be conducted in the ecu if it kept its value than if it did not. If
it turned out to be inflationary, then people would prefer to conduct business
in their national currencies. But John Major’s 1990 proposal, contained in a
Treasury paper just 16 pages long, was rejected.

Instead the EC countries opted for a single currency which would replace
existing national currencies. From the outset the assumption was that EC
economies would converge in the run-up to monetary union. Although the
evidence of the 1990s suggests divergence between EC countries the notion of
convergence has suffused all discussion since the Delors committee reported in
April 1989. The Delors Report proposed a three-stage movement towards a single
currency. 28 In the first stage, all the
currencies of the member states would join the Exchange Rate Mechanism of the
European Monetary System. Each currency would be tied to the Deutschmark
within either the narrow bands of the ERM, at the time 2.25%, or the wide
bands, at the time 6%. The second stage would be an irrevocable locking of
currencies at their parity against the Deutschmark as part of a fixed exchange
rate regime. Only at the third stage would there be the move to a single
currency issued by a European central bank. The value of the single currency
would theoretically be determined by the monetary policies of the independent
central bank with the national currencies converted to the single currency at
the existing rate to which they were irrevocably locked to the Deutschmark.
The stark truth of this approach was that the national currencies would be
abolished. Their fate would be similar to that of the East German Ostmark
after currency union in July 1990. The acceptance of the Delors Report 29 proved to be the basis for debate between 1989
and the negotiations for the Maastricht Treaty which were concluded in
December 1991, though final ratification was postponed until November

The Maastricht Treaty

The Maastricht Treaty stuck remarkably close to the Delors Report model.
30 As well as the three stage move to
EMU, convergence criteria established targets for inflation, debt/GDP ratio,
budget deficits at no more than 3% of GDP, and the requirement for all
currencies to join the narrow band rather than the wide band of the ERM. These
convergence criteria beefed up the arrangements of the original Delors Report
in the expectation that the European economy was actually converging. The
Maastricht Treaty stated that in 1997 a decision would be taken about whether
to move to stage three and how many of the countries had met the criteria to
do so. Thus the Treaty proposed in Article 3(A), ‘the irrevocable fixing of
exchange rates leading to the introduction of a single currency, the ECU, the
definition and conduct of a single monetary policy and exchange rate policy.’
To this end, it recommends the establishment of a European System of Central
Banks (ESCB) and a European Central Bank (ECB), independent of EC institutions
and the governments of member states. Consequently Article 107 reads, ‘when
exercising the powers and carrying out the tasks and duties conferred upon
them by this Treaty and the Statute of the ESCB, neither the ECB, nor a
national central bank, nor any member of their decision-making bodies shall
seek or take instructions … from any Government of a Member State.’ Article
103(1) states that ‘Member States shall regard their economic policies as a
matter of common concern and shall co-ordinate them’, while Article 103(2)
stipulates that ‘the Council shall, acting by a qualified majority on a
recommendation from the Commission, formulate a draft for the broad guidelines
of the economic policies of the Member States.’

Moreover, Article 102 (3) states that, ‘in order to ensure closer
co-ordination of economic policies and sustained convergence of the economic
performances of Member States, the Council shall, on the basis of reports
submitted by the Commission, monitor the economic developments in each of the
Member States … and regularly carry out an overall assessment.’ Furthermore,
under Article 103(4) ‘where it is established … that the economic policies
of a Member State prove not to be consistent with the broad guidelines … or
that they risk jeopardising the proper functioning of economic and monetary
union, the Council may, acting on a qualifies majority on a recommendation
from the Commission, make the necessary recommendations to the Member State

The development and implementation of monetary policy will be completely
subordinate to EC control. Article 105(2) states that ‘the basic tasks to be
carried through the ESCB shall be: to define and implement the monetary policy
of the Community; to conduct foreign exchange operations; to hold and manage
the official foreign reserves of the Member States.’ This will be achieved
through the provisions of Article 108(1) whereby ‘the ECB shall be consulted
by national authorities regarding any draft legislative provision’ and that
the ECB ‘may frame opinions for submission to the appropriate national
authorities on matters within its fields of competence.’ Moreover, Articles
105(4) and 108(3) state that ‘the ECB shall have the exclusive right to
authorise the issue of bank- notes within the Community’, such that ‘Member
States may issue coins subject to ECB approval of the volume of the

These intentions were broadly adhered to at a meeting of the European
finance ministers at Versailles in April 1995. The three-stage plan leading to
the single currency was re- endorsed albeit with an amended timetable.
Consequently in 1997 a decision will be taken as to which countries in 1999
will lock their currencies to the Deutschmark in a reformed and reconstituted
ERM. A period of fixed exchange rates from 1999 will now lead to the single
currency by the new target date of 2003. Solemn discussions have begun on the
single currency’s name.

Thus, despite predictions at the time, the turmoil on the international
currency markets since 1992 has not led to an abandonment of the whole
project. At a finance ministers’ meeting on 2 August 1993, the old system of
narrow and wide ERM bands was scrapped, to be replaced by a very wide band of
15%. To adhere to the original stage III timetable the EC has now proposed
that in 1999 there will be an ERM mark two, of four years of fixed exchange
rates leading to EMU. From 2003, the single currency will be introduced on the
assumption that member states have met the convergence criteria. What can be
concluded from these events? The single currency is going to happen. The EC
desperately wants to introduce it and has a new plan to do so. The only thing
that has changed in the last six years since the publication of the Delors
Report is the timetable. The principle of the single currency has not changed;
the principle of three stages has not changed; the principle of using the ERM
has not changed; and the principle of abolishing the existing currencies has
not changed.

Monetary union is being driven by the political will of the member states
and the European Commission which regards the 1992-3 implosion of the ERM as
the justification for EMU not as a reason for its abandonment. John Major’s
claim that the single currency may not happen defies the facts and stated
intentions of the EC. In April 1994 in an under- reported interview with
Der Spiegel, Mr Major stated that ‘if we were to move to a single
currency and it was to be successful, you would need proper convergence of the
economies across Europe. They would all need to be operating at the same sort
of efficiency. I know of no-one who believes that is remotely likely, it
simply is not going to happen.’ 31 During
the 1995 Conservative leadership election campaign, Mr Major reiterated his
belief that the single currency may never occur, oblivious to the decision at
the EC’s June 1995 Cannes summit (which he attended) to proceed to Stage III
in 1999 and to prepare the scenario for switching from national currencies at
the December 1995 Madrid summit. 32
Similarly the EC’s Monetary Affairs Commissioner Yves-Thibault de Silguy told
the European Parliament that, under the Commission’s plans, once exchange
rates were fixed, most transactions between private banks and the European
central bank would take place in ECUs, as would the bulk of interbank
transactions. This would allow for a “critical mass” of the EU’s financial
system to shift to the new currency. Mr de Silguy told the Parliament that
once exchange rates were fixed it would take another two to four years for
“the man in the street” to have the single currency coins or notes in his
pocket. He indicated that this period was needed not only for technical
reasons but also to woo the public. “You have to teach people to love the
currency”, he said. 33 In accordance with
these plans the EMI President Alexandre Lamfalussy suggested a competition to
select the best bank notes design for the single currency because a decision
was ‘urgent’. 34

There is no evidence to suggest that the current temporary breakdown of the
ERM has dented the resolve of the EC. It is too important for the construction
of the federal Europe of Maastricht for the EC to abandon the plans for EMU.
Too much political credibility is invested in it, and too many careers depend
upon it. As Karl-Otto Poehl, the former Bundesbank President, has argued ‘a
small monetary union could be founded almost immediately [emphasis
added] if the political will were at hand.’ 35 Moreover a single currency is essential to the
creation of a single European government which has been at the heart of the
integrationist project since the 1950s. As Sked and Cook noted, ‘the real
impetus behind monetary union was political: Europe could only become a single
state if it had a single currency. Hence the political objection to the Delors
Report by Mrs Thatcher: it was really designed to put an end to British
national sovereignty.’ 36

The common currency was rejected because it is incompatible with political
union. The 1990 hard ecu model is consistent with national sovereignty because
each country still retains the power to issue its own currency, to have its
own budgetary and monetary policy, and its own central bank. But the politics
of the EC has ruled that out because the scheme would conflict with the desire
for political integration. If there is a single currency, there is a single
monetary system with one central bank and only one currency. And if there is a
single central bank and monetary policy, there will be one budgetary policy.
If there is one budgetary policy, there will be one fiscal and taxation
policy. If there is one monetary policy, one budgetary policy and one fiscal
policy, there will be one government. Kenneth Clarke’s claim that the Irish
Republic maintained its political sovereignty up to the 1970s while sharing
the pound sterling is a false analogy with EMU. The Irish Republic never gave
up its right to issue its own currency after obtaining its constitutional
independence in 1922. Under Maastricht the member states would give up for
ever the right to issue their own currency. As Norman Lamont has commented,
‘under the Maastricht Treaty it would be illegal for Britain to re-establish
its own currency. That’s why the federalists are so keen on it.’ 37

Economic Objections

The more honest federalists such as Chancellor Kohl have always admitted
that political and monetary union are intertwined. But some in the EC prefer
to see EMU as an offspring of the Single Market. For example, the European
Commission has argued that it is necessary to have a single currency if there
is to be a successful single market. Among those disputing this claim is the
former president of the German Bundesbank, Dr Helmut Schlesinger, who in a
speech in Los Angeles in April 1993, said that:

Many economists feel that the single European market
will only have been completed economically if Europe actually also has a
single currency. Nothing expresses this conviction better than the well known
slogan, “one market, one money” However, I believe it to be somewhat
short-sighted simply to regard the European monetary union as the logical
conclusion to the process of economic integration. The monetary union is
rather a step with a significance of its very own. A single market can exist
and be beneficial without inevitably requiring further moves towards
integration in the monetary sphere. Nobody to my knowledge is calling for the
creation of a single North American currency, as the consequential
establishment of a North American free trade area. 38

As Dr Schlesinger argues, the analogy which the Commission has hitherto
used is inappropriate. The Commission has repeated that Europe should be
compared to the United States; but Dr Schlesinger’s argument is that Europe
should be compared to the whole region of North America – the USA, Canada, and
Mexico. But NAFTA does not have a plan for a single currency. There are no
plans to abolish the Canadian dollar or the Mexican peseta, nor need there be.
The same argument applies to Asia Pacific. The European Commission has always
referred to Japan, but it has not adequately considered the other countries.
In Asia Pacific, either with ASEAN or with APEC, there are no plans for a
single currency. Free trade zones are emerging and internal trade barriers are
coming down without the abolition of the existing currencies and the
imposition of an Asia Pacific currency. The one-dimensional Europe-Japan
analogy the EC Commission has proposed is inaccurate.

In the debate in Britain hitherto, advocates of EMU have assumed – rather
than proved – that the single currency will keep its value. 39 They point to the Delors Report and the
Maastricht Treaty which provide for an independent European central bank
immune from political interference. They anticipate that the European Central
Bank (ECB) would be as independent for Europe as the Bundesbank is for Germany
and the Federal Reserve is for the United States. But this stress on
operational independence is an incomplete rendering of recent German monetary
history. The reason why the Deutschmark has maintained its value since 1949 is
partly due to the independence of the Bundesbank; however that is a necessary
but not a sufficient condition. Equally significant is that German central
bankers are petrified of inflation because of the inter-war years of
hyper-inflation, when in 1923 inflation was measured not in percentage terms
but to the power of ten. Inflation destroyed the savings of the middle
classes, turning them to Hitler. When the slump followed after 1929, many of
the seven million unemployed also turned to the Nazis. To the German
mentality, after World War Two, inflation is associated with the collapse of
society, civil disorder, and the rise of fascism. In other words, it is the
mentality of central bankers, and their fear of inflation because of these
historical truths, which makes them so determined that the Deutschmark will
keep its value. In assessing any plan for EMU it is impossible to take the
central bankers out of central banking. All systems of central banking depend
on the individual decisions of central bankers. Independence from the
politicians does not by itself guarantee low inflation. A European central
bank on the model outlined in the Maastricht Treaty (Article 109a) would
contain, at most, seven German representatives out of twenty- one. But other
central bank governors sitting round the ECB table have definitions of low
inflation which are higher than that of the Germans. Fifteen central bank
governors may produce fifteen definitions of low inflation. Perhaps only the
German representative would prefer zero inflation. If decisions are taken on
the basis of compromise between different levels of inflation, it is likely
that a European single currency will have a higher inflation rate than the
recently abolished Deutschmark. The foreign exchange markets would be likely
to judge a new European currency in terms of its inflation rate compared to
the former Deutschmark, or compared to the existing Swiss franc. The
Maastricht Treaty, albeit with its provisions for establishing an independent
central bank, does not guarantee low inflation.

Nor does operational independence always have the redoubtable reputation it
does in Frankfurt. Any analysis of the American Federal Reserve suggests
periods in which it has lost control of inflation, most notably in the late
1970s when inflation reached 16%. Similarly the Federal Reserve has been
heavily criticised in the work of Milton Friedman and Anna Schwartz for its
reaction to the 1929 Wall Street crash when monetary policy became absurdly
tight. A wise central banker can be politically dependent; a foolish one can
be independent. Moreover, as Tony Cowgill has argued, how would the ECB set
monetary policy for Europe as a whole if, in the event of a steep rise in oil
prices, its effects are so different among member states? Germany is highly
dependent on imported oil and gas; France uses nuclear power for a high
proportion of energy needs; and the UR would witness a beneficial effect on
its North Sea sector. 40 The operational
independence stressed by the Maastricht Treaty does not address this question.
Operational independence by itself is a necessary but not a sufficient
condition for low inflation. A European currency on the Maastricht model,
irrespective of its time-tabling, would not keep its value in the way that the
Deutschmark has done. In these circumstances, incidentally, the City of London
would be better off with the pound outside EMU. Eddie George has argued that
‘the confidence in London’s future position does not depend on the UR being in
the vanguard of a move to EMU’, 41 while
Professor Tim Congdon has rightly noted that:

The City … has nothing to gain from Britain’s
participation in EMU. Indeed, an argument could be made that our international
financial industries could suffer from greater political integration in
Europe. At present most of these industries are relatively free from
government regulation. For example, banks in London can decide for themselves
how large their cash reserves need to be in relation to their foreign currency
liabilities, including their liabilities in European currencies. 42

If Britain adopted a single European currency, banks in the City might be
forced to hold the same cash reserves as banks elsewhere in Europe. These
imposed reserves would almost certainly be higher than those facing banks
outside Europe altogether. Because no interest is paid on such reserves, they
reduce profitability and are unpopular with banks’ managements.

The third objection to EMU relates to levels of growth and employment.
Critics of the single currency have always maintained that if the existing
currencies of the member states are tied to the Deutschmark in the ERM at an
over-valued level then the inevitable result is lower growth and higher
unemployment. This is the principle reason why unemployment in Europe during
the early 1990s, and during the mid 1990s recovery, has been far higher than
in the United States or in Asia Pacific. Interest rates have been kept high in
order to keep the value of currencies high against the Deutschmark. The policy
of high interest rate levels as the central tenet of exchange rate targeting
has penalised the companies of Europe whose international competitors saw
interest rates fall. The result has been lowergrowth, lower output and higher
unemployment. Martin Feldstein, the Professor of Economics at Harvard and
former chairman of the Council of Economic Advisers predicted in June 1992

Monetary union is not needed to achieve the advantages
of a free trade zone. On the contrary, an artificially contrived monetary
union might actually reduce the volume of trade, and would almost certainly
increase the level of unemployment. 43

This proved an accurate assessment of the consequences of artificially
induced European exchange rates as a result of ERM overvaluations. Another
example which further backs up these observations concerns Germany.
Unification in monetary terms, in July 1990, was successful; the deutschmark
replaced the ostmark. But the level of growth and employment in the former
East Germany increased markedly because the ostmark, at the point of
abolition, was grotesquely overvalued in relation to the deutschmark. We now
know that the Bundesbank had argued for a market rate conversion of ten
ostmarks for each deutschmark. But Chancellor Kohl, in order to win the
general election of December 1990, opted for a politically popular exchange
rate of 1:1, swamping the former East Germany with deutschmarks. The
consequences were predictable. Wage rates in the former DDR rose to 70% of
those in West Germany, when they should have been only 30% of the West German
rate. Monetary union thus created a disincentive to the hiring of workers who
were subsequently unemployed in the former East Germany. If the German
experience is replicated throughout the EC, with each currency overvalued
against the deutschmark at the moment of its abolition, the whole continent
will have to contend with lower growth rates and higher unemployment. 44

Nor can such unemployment be solved by redistributive fiscal transfers
through regional policy. Budgetary policy cannot solve a problem whose origin
is monetary. As Professor Pedro Schwartz of the University of Madrid correctly
predicted in 1990:

Free currency competition and flexible exchange rates
are the cheapest kind of regional policy. During the time when a poorer region
lags behind, a relatively weak exchange rate can help the region

The Delors Report’s answer to the regional harshness of
an imposed single currency is to propose handing out grants to underprivileged
regions. But it will be near to impossible tofine-tune these handouts to
compensate for the difference between transaction-cost benefits of a single
currency, and losses that result from being forced to use the German interest
rate. Given the political mechanisms of the Common Market, this proposal could
well deuelop into another subsidy mess like Europe’s Common Agricultural
Policy. 45

This important lesson was learned the hard way in Britain following the
decision to join the ERM in 1990. Virtually everyone supported that decision:
the CBI, the trade unions, the Conservative party, the Labour party, the
Liberal party, most academic economists, the City of London, the Bank of
England, and the research departments of most of the large banks. In October
1990, when the pound did join the ERM, this author predicted in an article in
the Times Higher Education Supplement that:

By joining the ERM with a grotesquely overvalued pound,
Britain is locked into a semi- fxed exchange rate regime which will gravely
damage industry, hinder exports, exacerbate the balance of payments deficit,
reduce output, increase bankruptcies, lower economic growth, and increase
unemployment. By joining the ERM, the government will repeat thefollies of
1925 when Churchill returned the pound to the gold standard followed by a
massive increase in unemployment and of the overvalued pound of the Bretton
Woods era. ERM entry under current conditions presages several years of an
unnecessary masochistic squeeze on the real economy, with the unemployed its
immediate victim. 46

Between October 1990 and September 1992 that is exactly what happened. The
pound was hopelessly overvalued. The government stubbornly maintained its
defence of the existing parity of 2.95 deutschmarks in the wide 6% band. High
real interest rates were set in the expectation of defending that parity; but
it was clear to the rest of the world in general and to the foreign exchange
markets in particular that the pound was unsustainably overvalued. The
government’s view was that a strong currency creates a strong economy. Never
has there been a greater economic fallacy. A strong currency is the result of
a strong economy, and not the other way round, as any cursory experience of
the art)ficially rigged currencies of the former COMECON countries graphically
test)fies. Despite the government’s exhortations the markets never accepted
the pound’s ERM parity against the deutschmark and Britain duly left the ERM
on 16 September, 1992. Mercifully the pound has yet to return, despite Kenneth
Clarke’s preference that it should do so.

Judging by the effects on France, Ireland, Spain and Portugal, it seems
clear that the experience of the ERM for virtually al1 the member states was
the same. For example, in Denmark during 1993 because of the ERM, nominal
interest rates were 10%, the inflation rate was 1%, with the real interest
rate 9%. The rate of growth was zero and unemployment was 10%.

The operation of the ERM by the system of exchange rate targeting against
the Deutschmark has gravely damaged the European economy. Ironically this
outcome was even predicted by the Wilson government’s own propaganda which
urged a “Yes” vote in the 1975 referendum. Referring to the then demise of the
Werner Report the government argued that:

There was a threat to employment in Britain from the
movement in the Common Market towards an Economic and Monetary Union. This
could have forced us to accept fixed exchange rates for the pound, restricting
industrial growth and so putting jobs at risk. This threat has been removed.

Alas the threat is still very real. If after 1999 Britain returns to a
remodelled ERM, with each currency tied to the Deutschmark and with interest
rates set not according to domestic monetary circumstances, but to target the
exchange rate, then a repetition of the same experience is inevitable. The
current plans for monetary union, which depend on a fixed exchange rate
regime, will repeat the same mistakes which led to the implosion of the ERM in
August 1993. It is of course technically possible to achieve monetary union.
48 The question is, will the cost be too

Dr Hans Tietmeyer, the Bundesbank President, in a speech in Berlin on 9
September 1994, argued that:

Stable exchange rates cannot be determined by government
ordinance or fixed arbitrarily by policy makers. Ultimately, durably fxed
exchange rates are possible only in cases where economic performance is
sufficiently convergent and economic policies have identical aims and models.
In recent years, Europe has had to experience yet again how much damage can be
done by fixing exchange rates in the absence of due convergence between
economies if the fixed exchange rate has to be defended by unlimited central
bank intervention. 49

Reinforcing this powerful argument, on 20 April 1995, Dr Tietmeyer
commented further that:

…[the Bundesbank] is not pursuing an exchange rate
target by our decision [on interest rates] even if observers largely foreign
do not wish to believe it. We know in fact that monetary policy alone has only
a limited inf luence on exchange rates, and that a monetary policy oriented on
exchange rates can easily cause deviation from the internal course of
stability, particularly in an anchor currency country. 50

Dr Tietmeyer admits that the Bundesbank is not particularly enthusiastic
about any return to the old ERM system; although the German government favours
such a return, and favours the single currency, the Bundesbank is aware that
rigidly linking European currencies to the Deutschmark did not work well
before and is not likely to work again.

Such fears are echoed by Sir Alan Walters whose critique of the ERM over
the past decade has been so trenchant and accurate. In October 1993 Sir Alan
predicted that ‘I am sure we will rejoin the ERM. It will be put together
again like Humpty-Dumpty next year. I do not believe Major’s assurances that
we will not rejoin. I also fear the EEC will introduce powers to impose a
transaction tax on foreign currencies to discourage speculation against
European currencies and to protect their reserves. But I do not believe you
can “fix” the ERM.’ 51 Even Eddie George,
the Governor of the Bank of England, contemplating the relationship between
unemployment and a single currency on 31 January 1995 argued that:

It seems quite possible that a part of the answer to the
widely differing levels of structural unemployment will need to be relative
real wage adjustment. It is hard to imagine that this could be brought about
through a reduction in nominal wages in the high unemployment countries, and
without that it is possible that there would be a need for exchange rate
adjustment to help bring about a real wage adjustment. Inadequate conversion
would be likely to mean slower growth and higher or rapidly rising
unemployment in some countries than in others. In that case, the imbalances
could only be addressed through some combination of three possible adjustment
mechanisms: one, long-term stagnation and unemployment in some parts of the
monetary union; two, migration; three, fiscal transfers to the higher
unemployment countries. None of these mechanisms appears particularly
attractive, and if the tension were substantial then they could become
politically divisive. The important thing is that we should recognise the
economic significance of monetary union and debate the economic issues
dispassionately. 52

Monetary union therefore risks high unemployment and low growth in the
medium to long term. A single European currency after 2003 would be the ERM in
perpetuity. Political as well as monetary union will prevent member states
from making the necessary economic response of regulating their own interest
rates. 53 In the worst possible case, the
single currency would neither keep its value nor would guarantee a reasonable
level of employment or growth. The quicker the British government activates
its famous Maastricht opt-out and repudiates monetary union in principle, the
better for all concerned.


27. The Cost to Business of complying with VAT
, HMSO, 1994 (reported in The Times 5 August 1994).

28. For an initial critique of the Delors Report see
Martin Holmes, European Monetary System is not for Britain, Wall Street
Journal – Europe
, 6 June 1989 and Britain and the EMS?, Bruges Group
publication 1989.

29. Sympathetic analysis of the Delors Report included
D. Gros and N. Thygesen, European Monetary Integration, Longman,
1992, and M. Frahanni and J. von Hagen, The European Monetary System and
European Monetary Union
, Westview, 1992.

30. For an account favourable to this process see A.
Britton and D. Mayes, Achieving Monetary Union in Europe, Sage/NESR,

31. Interview Der Spiegel, 25 April

32. See The Times, 28 June 1995.

33. Reported in The Wall Street Journal -
, 26 May 1995.

34. The Times, 20 June 1995.

35. Article in The Wall Street Journal -
, 1 February 1995.

36. A. Sked and C. Cook, Post-war Britain: a
political history 1945-92
, Penguin, 1993, p.541.

37. Speech in Oxford, 17 February 1995.

38. Speech in Los Angeles, 16 April 1993.

39. See, for example, the Kingsdown Enquiry of June

40. Tony Cowgill, speech 23 February 1995, reported by

41. Speech at Bath, 2 October 1991.

42. Sunday Telegraph, 20 October

43. The Economist, 13 June 1992.

44. See R. Barrell (ed.), Economic Convergence and
Monetary Union in Europe
, Sage/ NIESR, 1992 for an optimistic view of
this process.

45. Wall Street Journal – Europe, 18 June

46. THES, 26 October 1990.

47. HM Government 1975 Referendum advice.

48. See P. Temperton (ed.), The European Currency
, Probus 1993 and C. Border et al, European Currency
Crisis and After
, mup, 1995.

49. Speech in Berlin 9 September 1994.

50. Press Conference 20 April 1995.

51. Reported in Sunday Telegraph, 31 October

52. Speech 31 January 1995.

53. National interest is not confined to interest
rates determination. As Tim Melville Ross argued in The Times 7 March
1995 the housing market and pensions would also be gravely affected:

In Britain, for example, 80 per cent of all personal debt is in the
form of mortgages, and 90 per cent of all mortgage debt is variable-rate. By
contrast, most consumer debt in France and Germany is fixed-rate. So what
would happen when the European central bank put up interest rates to control
inflation? Simple. The British house buyer would be hit far harder than his
French or German counterparts, with devastating consequences for the British
housing market. Which is not exactly the way to ensure even economic
development across the Community.

Or consider pensions: Britain has more funded pension provision than
the rest of the EU put together. Most of our future pensions obligations are
coloured in this way. Not so France, Germany and Italy, which rely on
pay-as-you-go schemes. The governments of these states are at their wits’ ends
trying to devise means of coping with the demographic time-bomb which will
mean that “somebody” will have to pay for the pensions of the increasing
numbers retiring in the next 20-30 years.

So who will pay? Governments will either have to tax more heavily or
borrow on a huge scale. Higher borrowing means higher interest rates. Thus,
within a European monetary union, Britain would find itself with higher
interest rates as a result of higher borrowing elsewhere. Should monetary
union lead to fiscal union, British citizens might also find themselves paying
higher taxes to subsidise pensioners abroad.