Importance of Euro for Economic and Monetary Union

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Euro ZoneAfter introducing the Euro, the single currency in Europe raises questions that are of vital importance to Britains interest. Whether or not Britain will eventually participate in the unified currency is another question and its affect on the rest of the European Union and Western Civilization. A unified or single currency has several impacts that the United Kingdom must consider before instituting the euro. A single currency will affect the financial markets and services, employment, and business. Europe has embarked on an extraordinary undertaking: to create a single European currency. Although the Maastricht Treaty committed the European Union to the goal of economic and monetary union (EMU) several years ago, debate over the matters still continue to rage in several countries. Britain is not the only country reluctant to conform to this unified monetary system, although Sweden and Denmark have announced their intention of holding referendums in 2003. As of January 1, all other European Union states have began to accept this simplified currency. These states include: Belgium, Germany, Greece, Spain, France, Italy, Ireland, Luxembourg, The Netherlands, Austria, Portugal, and Finland. The opposition states that the introduction of the euro is merely nothing more than an ill-advised and disastrous undertaking. Opponents also see it as a distraction from the two most urgent tasks facing the European Union: completion of the single market and enlargement of the Union to the east.Supporters of euro argue that the EMU is as essential to creating a stronger European Union, with greater economic, political and social cohesion. This, they believe, offers the only hope for helping former communist-bloc countries: closer integration among the current European Union members helps the prospects for enlargement. Without the unified currency, the reality of the single (unified) market will not be achieved and Europes economies will remain divided and weak, unable to compete internationally either with the low-wage economies of Asia or with the large, integrated high-waged economy of the United States. Supporters argue that only a stronger and integrated Europe will be able to exercise leadership on the global issues facing the world economy (Economist, 48).

For the financial industry the effects of the EMU maybe more profound. For banks and other financial operators in the markets for money and foreign exchange, currency is the raw material of the business. Typically commercial banking, the presence of many currencies has acted like a barrier to competition: a bank wishing to enter the market of another member country needed to establish systems allowing it to operate in the other national currency, and this raised the costs of entry. By removing this barrier to entry, EMU will strengthen competitive pressures among the various banking directives associated with the single market. Currently, the single market has had disappointing results in this industry, largely because of the second banking directive, which was agreed to in 1992, has only recently come into force. With this the EMU would rationalize the banking system and deliver a cheaper and better service with wider choice: the customer will be the ultimate beneficiary, though there could be job losses in certain traditional sectors such as branch banking (Business Week, 32).

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If one EMU member experiences economic fluctuations that are different from those in the rest of the monetary union their economy will have problems adjusting. The exchange-rate weapon will be ruled out, so adjustment will be forced through other channels: workers can move and wages can change. The first adjustment mechanism is labour mobility. If one country in EMU suffers a sustained recession, then the resulting unemployment may well encourage workers to move to seek jobs. This helps to rebalance the labour market and the rest of the economy more quickly. Language and loyalty to nation and the national way of life mean that few people move around Europe in search of a job in the way that they move within the United States. This may change, but until then main burden of adjustment in any country with above-average unemployment will be downward pressure on wages (Warner, 31).

The evidence on wage flexibility in Europe is uncertain, but suggests that real wages are quite sluggish. If, for example, demand falls in a recession, unemployment tends to need to rise, and stay high for sometime, before wages adjust to the change in circumstances. This is not good recipe for stability. However, it does not necessarily mean that losing flexibility in the exchange rate, by joining EMU, would make things worse. A fall in the exchange rate means higher prices, but does not feed into nominal wages, thus eroding the value of the real wage. In practice, wages in Europe tend to show a reasonably quick responses to prices, so that any real impact of exchange rate movements is quickly eroded.

A unified currency will have important consequences for European business. Moving to a single currency offers three main benefits for business. Lower costs of managing cash. For companies, operating across national boundaries in Europe, it eliminates the costs of converting money from one national currency to another within the EMU zone. These cost are quite small for big companies, which enjoy benefits of scale, but may be more significant for small and medium-sized companies.

Another benefit for business is less currency risk. Within Europe, currency risk would be entirely eliminated. The need to hedge business transactions is likewise eliminated within the euro zone, and is therefore restricted to the dollar, yen and other non-euro currencies, though for some companies this may be the majority of their business. The third benefit for business is bigger markets. Companies will face a much larger, more integrated market across Europe. Customers will more readily purchase across national boundaries, unimpeded by the complexities of different currencies. The only remaining barriers to crossborder trade of any significance will be nonmonetary (Semon, 7).

The more competitive market that this creates will pose both threats and opportunities. The efficient, customer-oriented company will have the opportunities of operating across a much larger customers base. But the inefficient or unresponsive company will find itself under pressure from the more intense competition. The resulting rationalization of European industries will see winners and losers. But the customer will benefit through price reductions and improved service.

The manufacturing sector, with long-lived factories, would benefit most from the elimination of exchange risk. Companies with long-lived assets are the ones most subject to exchange-rate uncertainty. Financial businesses, and the trading sector more generally, are also exposed through their investment in reputation, goodwill and personnel development. But their exposure tends on average to be less. This is true even when they trade in long-term assets, because their positions in these are more easily liquidated. So they have less to gain from greater stability of exchange rates within Europe (Forbes, 24).

To sum up, the European economies, which are each quite small individually, face quite strong constraints on their conduct of monetary policy, whether or not they participate in a single European currency. But monetary policy undoubtedly would be more constrained within EMU. Whether this should be seen as a disadvantage or benefit depends on ones confidence in the national monetary authorities to use a monetary independence wisely. This is an area of policy in which a government has a great capacity to get it wrong. The point has wide application: modern governments retain great powers, but in a modern interdependent world, many of these powers are negative ones to mess things up, not positive ones to direct events for the good.

The EMU will determine the future development of Europe over the coming decades, for better or worse; and that the uncertainties about the EMU process are such that no single forecast is worth a great deal since it is too unreliable. On the positive case for EMU, there is very real risk that exchange-rate variability will limit the development of the single market, and that the EU will stagnate. While there is much debate about the euro and Britains decision not to adapt to the unified currency, this will remain a changing part of western civilization.

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