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Thursday, 3 January, 2002, 17:09 GMT
The euro's next challenges
By BBC News Online's Steve Schifferes
The euro has passed its biggest test yet with flying colours, but more challenges lie ahead for Europe's single currency.
The smooth launch of the euro as a cash currency has demonstrated that the public is willing to accept the credibility of the new currency, and that business was prepared to pay the substantial costs of transition.
And the ECB gained plaudits for releasing enough of the new currency to facilitate the changeover without boosting inflation.
But the euro's supporters want more than just acceptance of the new currency.
But a number of obstacles still could derail this goal.
Among the most controversial are:
The strength of the euro will ultimately depend on the strength of the eurozone economy.
The European Central Bank was fashioned on the model of the German Bundesbank, giving it full political independence from politicians and a single objective of maintaining price stability of the new currency.
But there are questions whether the structure or objective of the ECB are appropriate for dealing with Europe's biggest economic slowdown since the euro was launched.
The ECB has been reluctant to cut interest rates as quickly as the US Federal Reserve bank in response.
That is partly because of its bulky Federal structure, with the governors of all 12 eurozone central banks being decision-making members of the ECB council, while economic conditions often differ between regions.
But it is also because price stability, not tackling high unemployment or stimulating economic growth, is its central objective.
The ECB has made some improvements in the way it presents itself to the public, revealing some of its economic projections and targets and reducing its interest-rate setting meetings to a monthly basis. But it has not changed its basic approach.
And eurozone governments are also limited in their response to recessions by the "stability pact" that accompanied the introduction of the euro, in which they pledged to keep budget deficits below 3% of gross domestic product (GDP).
At his news conference after the launch of the euro, ECB president Wim Duisenberg warned eurozone members against "fiscal activism".
As the monetary union draws European economies closer together, there have been tentative moves for greater coordination of fiscal policy.
As a first step, eurozone economies are being urged to publish their deficits at the same time and in a consistent manner.
But in the long run, more coordinated fiscal steps, such as harmonising taxes and budget deficits, could be on the cards - but would involve some painful choices.
The launch of the euro should help to even out prices between different European countries, increasing competition and benefiting consumers.
It is also bound to highlight the differences in prices caused by the different rates of VAT and excise duty on different goods.
That will increase pressure to harmonise even more closely these tax rates.
Excise duties, in particular, will be a difficulty for countries like the UK, which derive far more government income from taxes on alcohol, petrol and tobacco than most European states.
The euro also has some way to go to gain international credibility as a reserve currency.
Most central banks outside Europe rely on US dollars to keep their foreign exchange reserves, and even Mr Duisenberg admitted that there was slow progress.
But 20 non-eurozone central banks requested substantial cash transfers ahead of the euro cash launch, and 50 currencies are now linked one way or another to the euro.
The advantage for the United States in being an international reserve currency is that allows it to more easily run a trade deficit, as other countries are happy to hold dollars to finance its trade gap.
But if central banks are to hold euros, they need to be sure that its value on international currency markets is stable.
Despite its recent rise, the euro is worth 25% less than when it was first launched as an electronic currency against the dollar in 1999.
The credibility of the euro on foreign exchange markets is closely linked to progress on economic reform in Europe.
EU Commissioner Pedro Solbes recognised this when he told the BBC that "in the long term the exchange rate will be dependent on how we manage our economy".
The influence of the euro, however, already extends across the region beyond the 12 members of the eurozone.
The 10 accession countries of Eastern Europe, ranging from Poland to Malta, are eager to accept the euro to replace their unstable currencies when they join the European Union.
Kosovo and Montenegro, which linked their currency to the Deutschmark as part of their move to separate from Yugoslavia, have already adopted the euro.
EU officials, however, are worried that they need to wait until their economies are at a similar level to those of eurozone members.
Ultimately, the EU wants its economic weight to be reflected both in the value of its currency and its role in international bodies like the International Monetary Fund, where US influence predominates.
But that raises the question of who speaks for the EU on the international stage - the officials of the ECB and European Commission, or the elected politicians of the nations that make up the EU.
Although EU officials attend many international summits, such as the G8 meeting, on an informal basis, nation-states such as Britain and France who have a long-standing role in bodies like the IMF are reluctant to give up their status.
And the eurozone finance ministers themselves - although they meet regularly - only constitute an "informal group" within the EU structure.
This is one of the key areas where the success of the euro will sharpen the political dilemmas of the eurozone - and ultimately diminish the sovereignty of governments.
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