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Wednesday, June 2, 1999 Published at 10:28 GMT 11:28 UK

Euro fault lines

European Economic and Monetary Union (EMU) is one of the most ambitious economic projects undertaken this century. And not everybody is convinced about its merits. Nearly every EU country has seen some kind of protest against monetary union, and three countries - Denmark, Sweden and the United Kingdom - have refused to participate (a fourth, Greece, did not qualify for economic reasons).

Even euro enthusiasts admit that there are a number of things that can go wrong. So what are the euro fault lines?

Select an issue:
Sovereignty ¦ Central Bank ¦ Control ¦ Spending ¦ Economy ¦ Costs ¦ Back to top


Outside the eurozone, and especially in the UK, sovereignty is one of the most discussed issues in the euro debate. Critics of the euro argue that giving up the national currency is tantamount to surrendering national sovereignty.

[ image: The sovereign and sovereignty are euro issues]
The sovereign and sovereignty are euro issues
The problem is not so much whether the new currency displays the Queen's head or not, but whether monetary union is one step too far down a slippery slope leading to political unification - where all nation states will be subsumed in a European super-state.

Some politicians - especially in France and Germany - have indeed argued that EMU should be the foundation for transforming the European Union into some kind of United States of Europe.

Less alarming, but still worrying for eurosceptics is the suggestion that monetary union will spell the end to a nation's ability to conduct its own economic policy.
The real issue here is monetary policy. For EMU to work, interest rates need to be set centrally for the whole eurozone - by the European Central Bank.

Most countries don't see this as a problem. Their central banks have been independent anyway, tasked to fight inflation and to support the government's economic policy only in the most general terms.

Low public debt, targeted spending programmes and the regulatory framework for the economy (or lack thereof) foster economic growth.

Elsewhere, however, setting the level of interest rates has been the main tool to fine-tune the economy. The UK government, for example, gave its central bank independence as recently as 1997, and interest rate levels are still seen as the main factor shaping the economy.

Sovereignty ¦ Central Bank ¦ Control ¦ Spending ¦ Economy ¦ Costs ¦ Back to top

Central Bank

The European Central Bank (ECB) is the lynchpin for the success of monetary union. If euro fans are critical about the venture, it is because of worries about how the ECB is organised.


The new central bank is ruled by a 17-member council: Six of them represent the ECB leadership, 11 are the governors and presidents of the national central banks of the countries participating in monetary union.

[ image: Wim Duisenberg, President of the ECB]
Wim Duisenberg, President of the ECB
Some economists demand a more centralised banking system and argue that the national central banks are keeping too much power. They say the council will not be able to react quickly to an economic crisis. Clear guidelines are missing on who is in charge of crisis management.

This is particularly acute in the area of banking supervision, which is fully in the domain of national central banks.

Furthermore, national banks could gang up against the Frankfurt-based leadership as they have an in-built majority of 11 to 6.

The ECB's defenders counter that the new central bank will work along the same lines as Germany's highly-successful Bundesbank.

Furthermore, national interests may not necessarily be able to overrule the ECB leadership. The council's six Frankfurt-based members will have to get only three central bankers on their side to achieve a majority.

One quibble about setting ECB policy has accompanied all European proceedings since the Treaty of Rome: Small countries have a disproportionately large share of the vote on the governing council.


A bigger problem for the ECB leadership is the fact that it is likely to be outgunned by its national counterparts.

The ECB has a staff of only 500 to analyse vital economic data and prepare policy papers. The bosses of the eleven central banks, on the other hand, can rely on the combined brainpower of 53,000 staff.


The lack of transparency, though, is probably the euro-bank's biggest fault.

The bank has decided to keep its proceedings secret. The council argues that this will reduce the threat of political pressure. If nobody knows how council members have voted, they cannot be taken to task for it.

The ECB's critics say that all this secrecy will make the bank accountable to no one but itself.

Politicians could therefore use the bank as an easy scapegoat. Financial markets, meanwhile, may be unduly nervous, as they cannot gauge the governing council's true thinking.

Sovereignty ¦ Central Bank ¦ Control ¦ Spending ¦ Economy ¦ Costs ¦ Back to top

Who is in control?

This question is central to monetary union. Officially, the European Central Bank is independent. But in the run-up to the launch of the single currency there have been several attempts by politicians to influence the bank's thinking.

Most notoriously, Germany's finance minister Oskar Lafontaine - who resigned earlier this year - told the ECB leadership to lower the eurozone's interest rate.

This triggered a very public row, with government politicians from France and Italy taking Mr Lafontaine's side, and central bankers from around the world supporting the ECB's independence.

On the insistence of France, the monetary dimension of EMU has been complemented by a political one, a so-called 'euro-11' committee of the EMU countries' finance ministers.

They are discussing fiscal and economic issues connected with monetary union, but some fear that the euro-11 could be an effective pressure group capable of bullying the ECB into monetary compliance.

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Spending and stability

Under its treaty obligations the ECB's main task is to keep inflation under control, and changing the level of interest rates is its main instrument to do so.

[ image: Who will have the hand in the tiller?]
Who will have the hand in the tiller?
For this monetary policy to work, it has to be complemented by a strict fiscal policy, because high budget deficits increase the inflationary pressure.

The ECB's problem is that is has to deal not with one but 11 governments, who all have differing budget policies.

If one or two governments decide to run up huge deficits, the ECB could be forced to raise interest rates to a level harmful to other EMU countries.

To prevent such a free-rider mentality by deficit-prone governments, the EMU members have signed a 'stability pact', pledging that they will adhere to strict spending limits or face financial fines.

Extraordinary economic circumstances though, may win a country permission to exceed narrow spending targets, and there are worries that an economic crisis could trigger huge budget deficits and a collapse of the euro.

Sovereignty ¦ Central Bank ¦ Control ¦ Spending ¦ Economy ¦ Costs ¦ Back to top

The economy:
Does one size fit all?

When the economy is in the doldrums, the first thing politicians do is call for a cut in interest rates.

But experience shows that while the level of interest rates may be good for some, it can be harmful to others. This was true even before EMU: Germany's rich west and poor east and the UK's still booming south and recession-prone North all have suffered at one point from a centrally-set interest rate level.

[ image: Europe's unemployed may not accept that high interest rates cripple their region's economy]
Europe's unemployed may not accept that high interest rates cripple their region's economy
The eleven-country Euroland makes such problems even more pronounced. The ECB initially set interest rates at 3%, and has since lowered them to 2.5%.

Some politicians have complained that this is still too high. They should spare a thought for Europe's smaller economies.

In Ireland, Spain and Portugal business is booming, and interest rates were high to prevent the economy from overheating. But already before the launch of EMU interest rates had to come down to the eurozone level, and this has triggered higher rates of inflation.

It is the old question of microeconomics versus macroeconomics. What is good for the economy as a whole may not be good for every sector and region.

This, however, is not EMU-specific. The same phenomenon occurs both in large countries like the United States, Germany and the United Kingdom, and in smaller ones like Belgium where the Flemish and Walloon regions have different monetary policy requirements.

Sovereignty ¦ Central Bank ¦ Control ¦ Spending ¦ Economy ¦ Costs ¦ Back to top


European Monetary Union does not come cheap.

The costs accumulate everywhere.

  • Central banks have to print and distribute the new money.
  • Commercial banks and stock markets have to change their financial systems, retail banks have to convert their automated teller machines (cash points).
  • Companies have to update their accounting software; convert old financial data; train staff and change price information on labels, packaging and marketing material.
  • Retailers have to buy new cash registers and recalibrate vending machines.
  • Consumers may lose out to fraudsters and could suffer hidden price increases.
This are just a few of the costs connected with monetary union.

Fans of monetary union, however, say that the one-off conversion costs are relatively small when compared to the long-term savings and general economic benefits.

Much of the exchange rate costs for trade within the eurozone will disappear. Much red tape is expected to go and prices in general are expected to fall because of monetary union.

Furthermore, some of the expenditure, e.g. for new cash registers, would be necessary anyway as many companies tackle the euro conversion and the millennium bug problem at the same time.

Sovereignty ¦ Central Bank ¦ Control ¦ Spending ¦ Economy ¦ Costs ¦ Back to top

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