PROCEEDINGS OF THE COMMITTEE RELATING TO THE REPORT
WEDNESDAY 26 July 2000
Mr Giles Radice, in the Chair
|Mr Nigel Beard||Mr James Plaskitt
|Mrs Liz Blackman||Mr David Ruffley
|Mr Jim Cousins||Mr Brian Sedgemore
|Mr Edward Davey||Sir Michael Spicer
|Mr Michael Fallon||Sir Teddy Taylor
|Mr David Kidney||
The Committee deliberated.
* * * *
Draft Report [Economic and Monetary Union],
proposed by the Chairman, brought up and read.
Draft Report, proposed by Sir Teddy Taylor,
brought up and read, as follows:
AND MONETARY UNION
1. The Committee commenced its studies into aspects
of Economic and Monetary Union in the Spring of 1998 before the
Single Currency was established by eleven member states on 1 January
1999. In the course of these studies, it has had visits to Europe,
has met the Chairman and members of the European Central Bank,
and has taken evidence from a wide range of academic and business
opinion. It is no secret that the Committee has strong and differing
views within its membership about the merits of the UK joining
the Single Currency; and in these circumstances, it considered
that the most helpful advice it could give to Parliament was to
draw attention to certain significant issues of fact which have
emerged from our discussions.
2. The decision on whether or not to join is obviously
a significant and fundamental one for the United Kingdom, because
unlike the UK's experience with the ERM, when we had to pull sterling
out of the currency link after a period of massive borrowing,
higher interest rates and additional unemployment, a decision
to join the Single Currency will be "irreversible and irrevocable".
The other factor which must be borne in mind is that similar previous
single currencies have always collapsed; there have been two examples
within Europe, namely the Scandanavian Currency Union and the
Latin Currency Union. Although it would be wrong to condemn the
Single Currency simply because such an experiment has never worked
before, we should bear in mind that single currencies for any
area only appear to work when, as in the USA, there is one Government,
one Treasury and a feeling of nationhood.
3. The first point which we all noticed as a Committee
when visiting Europe before the currency was launched was that
there was astonishing optimism about the Euro. The business community,
in particular in France and Germany, appeared to consider it as
a disciplining mechanism which would prevent irresponsible national
governments introducing measures which were unfriendly or unfair
to business and commerce. Although it was not very clear how they
expected these dramatic changes to occur, there can be no denying
that their feeling of optimism was remarkable. It was also clear
that within the banking community there was a strong feeling of
optimism that the Euro would speedily become a world currency
to compete with the dollar and that it would be a strong and powerful
economic instrument. It would, we were advised in enthusiastic
terms, "go like a rocket".
4. The second point which must be made is that the
Euro currency has had a very disappointing and at times embarrassing
start. Instead of being strong, it has been weak and has fallen
considerably by comparison with the dollar, the yen and the pound.
Despite the endeavours of the other nations in the world to boost
confidence in the new currency, the fact is that its basic performance
has been disappointing. Of course this fall in currency could
be argued to be the consequence of the initial level being too
high, but what is probably the more worrying aspect of the decline
has been the amount of investment which has poured out of Europe.
Just as worrying has been the fact that the basic flaw in all
previous single currencies has emerged speedily within the Euro
block, namely the emergence of some areas like the Republic of
Ireland as unduly prosperous with high levels of inflation and
optimism while other areas have demonstrated the seeds of depression.
Another factor which cannot be ignored is that while all other
nations have been doing what they can to promote the Euro, with
Japan being a particular enthusiast, it is worrying that the analysts
indicate that the failure of the Euro to rally may reflect the
structural flaws in the European economy.
5. The third point which we feel should be considered
is that despite all the negative and worrying prophecies being
made about Britain's future if it remained outside the Euro, the
disasters have never emerged. The City of London, for example,
was warned that its business would fade away, but the reverse
has happened. And trade with Europe, despite the consistent deficits
since the UK joined, and the problems of dealing in trade with
a weak currency, has actually improved.
6. The fourth point which we believe should be considered,
by both those who support and those who oppose Britain's membership,
is that there is a danger of being influenced by propaganda and
special situations. What we should be doing is looking at facts.
For example, discussions of the perplexing problems of the car
industry have given the impression that Japanese investment is
flowing away from the UK. However, the facts show that in the
first twelve months of the Euro, 50 per cent of all Japanese investment
in Europe came to the UK. Perhaps more significant, the survey
done by the Japan External Trade Organisation showed that while
15 per cent of Japanese companies in the UK saw large merits in
joining the Euro, 15 per cent identified large demerits and a
staggering 41 per cent said that there were "no business
benefits" in joining the Euro.
7. A similar reservation needs to be made on the
many reports on our trade with Europe. Reference is often made
to 58 per cent or 60 per cent of Britain's trade being with Europe.
But this relates only to goods. If services and income are taken
into account, only 40 per cent of our exports go to Europe, and
the total is declining and in deficit. Sixty per cent of our exports
go to the rest of the world and are increasing and in surplus.
8. The final point which the Committee should wish
to stress is that a decision to join the Euro would involve a
great deal of expenditure by industry and commerce. The British
Bankers Association provided the Committee with some alarming
figures about the cost of changeover to banks, and public services
in general would have to spend a great deal. We believe it is
important that the nature of these costs should be publicised.
Likewise, there is always the danger of opinion being misrepresented
by enthusiasts. For example when the London Chamber of Commerce
did a survey of 100 foreign banks in London, they were advised
that UK involvement in the Euro was 2lst out of the 23 factors
9. Of course the final decision on whether Britain
should join the Euro is not one on which we would wish to express
an opinion. We have listened to the opponents who warn us against
joining up more with an over-regulated and overtaxed area with
bankrupt pension systems which will create a crisis; and we have
heard those who argue that it would be madness for Britain to
subject industry and commerce to a Euro interest rate which might
have no relevance to the UK. We have also listened to the enthusiasts
who have argued that Britain would be stronger and fitter if it
became truly involved in the united Eurostate. The only view we
would express is that the decision will be a vital one, which
should be given the most careful consideration.
Draft Report, proposed by Mr Michael Fallon, Mr David
Ruffley and Sir Michael Spicer, brought up and read, as follows:
1. We are unable to agree with the proposals in the
Chairman's draft Report on Economic and Monetary Union.
External value of the euro
2. There has been much debate about the weakness
of the euro, normally in relation to US dollar. But using the
European Central Bank's (ECB) calculation of the euro's nominal
effective exchange rate against 39 trading partners the euro declined
by 11.3 per cent from its launch in January 1999 to June 2000.
It appears to us that the euro's weaknesses owe much to the following:
(a) Failure of structural
reform in the euro-area economy leading to inflexibility. There
is a strong market perception that structural rigidities are not
being tackled adequately, leading over time to reduced economic
growth expectations. We agree with the Institute of Directors'
evidence that "given the lack of major labour, tax and social
security reforms ¼
in Euroland, it is difficult to see the euro as a strong currency".
(b) Statements from the
ECB and national policy makers have sometimes been in conflict,
confirming doubts and generating uncertainties about the fledgling
(c) The decline in investment
in euro assets has been caused by the replacement of eleven currencies
with one: investors have fewer possibilities to diversify investment.
These possibilities derive from the different characteristic of
countries' individual monetary policies.
(d) There is scepticism
in the markets about the fiscal prudence of certain euro area
countries. Italy's announcement in June 1999 that it would raise
its borrowing levels caused a fall in the euro's external value.
(e) The euro was overvalued
at its launch. This was suggested by Commissioner Solbes himself
when he said at the end of 1998 that the ecu was "too high".
This reinforces our grave concerns about the possibility of finding
the "right" or appropriate rate at which to lock in
European Central Bank
3. The governance of the ECB causes us concern. At
present the ECB takes monetary policy decisions by consensus,
not by majority voting, and this has contributed to confusion
surrounding the appropriateness of ECB interest rate decisions.
Under the present arrangements every member state's central bank
governor sits on the Governing Council. We are concerned that
with enlargement the Governing Council would become more cumbersome
and further undermine decisive policy making. We note that any
reforms to the Governing Council arrangements would involve changes
to the Maastricht Treaty.
4. We are also concerned about the openness with
which the ECB discloses the deliberations of the Governing Council.
Full minutes of the kind made available by other central banks
are not published by the ECB and this undermines a proper understanding
of ECB monetary policy making. We do not accept the Economic Secretary's
argument that it would be "difficult" for the ECB to
publish voting records.
5. We are concerned that the ECB defines, on its
own and without reference to any democratically elected body,
precisely the means by which the primary objective of "price
stability", as set out in the Maastricht Treaty, is to be
delivered. That is, the ECB has decided that price stability means
"year on year increase in the Harmonised Index of Consumer
Prices (HICP) for the euro area of below 2 per cent" over
the medium term. The problem is that there is no lower limit or
floor and the concept of medium term lacks proper definition.
We note the claim that the ECB has fulfilled its inflation remit.
However, given lags in the transmission mechanism between an interest
rate change and that change working through finally to the macro
and microeconomy, it is at least arguable that it is too early
to properly assess the ECB's performance to date.
6. We agree that structural reform must assume a
greater importance due to the loss of monetary policy independence
and the constraints placed on fully independent fiscal policy
among euro area members. However, we believe that there is convincing
empirical evidence showing that the necessary structural reforms
in relation to tax, labour and social security systems are not
in fact being implemented adequately, if at all. The evidence
points to resistance to structural reform in, for instance, Germany.
The German Finance Ministry were unable or unwilling to detail
specific measures they had implemented or proposed to implement.
Members of the Bundestag were more forthcoming, suggesting that
such reform would be very difficult, owing to opposition from
trade unions. In our view the UK Government is doing little of
practical value to insist on the delivery of meaningful structural
reform in euro-area states.
7. Coordination of EU fiscal policy is currently
operated through the Stability and Growth Pact and the Broad Economic
Policy Guidelines. We note that the Guidelines set out so-called
"general orientations" to all EU countries as well as
country-specific recommendations (ECB Monthly Report, July 2000),
which are not at present backed by the force of either Treaty
or directive. We were not persuaded by the Economic Secretary's
statement that the importance of these guidelines was as a means
of encouraging structural reform among EU members. Given the enthusiasm
of the Council of Ministers and the European Commission for greater
tax harmonisation across the EU, the Pact and the Guidelines could
be the means by which EU states have their freedom to set national
taxes curtailed. Whilst they are non-binding at present, we are
concerned that the Pact and the Guidelines could be imposed by
the back door. The Economic Secretary was unable to say what action
the Government was taking to prevent further steps towards tax
harmonisation, damaging to the UK's interest, taking place in
furtherance of economic and monetary union.
8. We are extremely concerned by the Government's
complacency about proposals from euro area members (the Euro 11
Group) to call meetings which will be held separately from ECOFIN
members and so exclude the UK from policy making meetings on fiscal
policy. The Economic Secretary indicated that this was not something
that concerned the Government, because the Euro 11 would "meet
to discuss issues connected with their shared responsibilities
for the single currency." However, in her evidence she blatantly
ignored evidence emanating from the German Deputy Finance Minister
Koch Weser who has stated that the Euro 11 would go ahead with
discussions, without the UK, on financial market integration,
financial services and monitoring the quality of public expenditure.
9. We note that the Government said in evidence that
it would not be able to veto steps taken by the Euro 11 to exclude
the UK Chancellor from such separate discussions.
10. Whether the qualifying criteria for joining the
euro can be fudged was a question raised by the decision for Greece
to enter into Stage 3 on 1 January 2001. The ECB itself in its
own 2000 Convergence Report on Greece stated that "there
must be ongoing concern as to whether the ratio of Government
debt to GDP will be 'sufficiently diminishing and approaching
the reference value at a satisfactory pace' and whether sustainability
of this fiscal position has been achieved." Whilst it is
acknowledged that the Greek economy constitutes about 1 per cent
of EU GDP, in our view the fudging of the criteria in Greece's
case for apparently political reasons sets a damaging precedent
for the future. It raises the prospect of other accession countries
in the enlargement process, especially former eastern European
communist states, being allowed to join even though the strict
economic criteria of Maastricht have not been adhered to.
UK and Euro entry
11. We note that there is a consensus that the UK
meets all of the Maastricht Convergence Criteria, save for exchange
rate stability. On this subject the UK Government appears incoherent.
The Treasury, whilst accepting that "exchange rate stability
is an important part of preparation for EMU", has argued
"what matters for exchange rate stability are sound economic
fundamentals. For Britain, the best way to achieve this is through
the monetary and fiscal framework which we have set in place."
(Government Reply to EMU 1998 Inquiry). We agree with most commentators
that it is likely that, in the absence of an explicit policy to
manage the level of sterling within certain bands, exchange rate
convergence could only be achieved by accident. In our view the
Chancellor's policy on exchange rate convergence can be summarised
as "It'll be all right on the night." In this respect
we have sympathy with the view that, in his current statements
on the exchange rate, the Chancellor is being economical with
the truth. We believe that supporters of UK entry to the euro
should explicitly state that a decision to join Stage 3 will involve
exchange rate stability replacing price stability as the primary
goal of monetary policy during the transition period before full
membership. We note the evidence of Professor Willem Buiter, former
MPC member, to the effect that "if the Chancellor and the
Government decide that joining is going to be a serious objective
then the exchange rate has to become the overriding nominal target.
You cannot be a little bit pregnant in these things. You have
to do it seriously and have a formal change in the [Bank of England's]
mandate." That is to say those advocating UK entry to the
euro should make it clear that entry requires the Bank to no longer
set interest ratesas it does nowin order to hit
the inflation target of 2.5 per cent. Instead the Bank would,
following an instruction from the Chancellor, have to set interest
rates in order to hit an exchange rate target for sterling.
12. We are surprised that the Chancellor has not
raised this controversial issue as a matter of public debate,
given the critical impact it is likely to have on the level of
interest rates and inflation in the UK.
The Chancellor's Five Economic Tests
13. We share widespread suspicion of the Chancellor's
five economic tests. Many witnesses have questioned the extent
to which they were truly objective measures of the economic case
for entry. We believe they are purely subjective tests which lack
proper economic precision. It appears they were designed by the
Chancellor to arrogate to himself the fullest possible discretion
to decide at some unspecified date in the future whether the UK
should join. In our view this is no basis whatever to decide one
of the largest economic and political decisions this country has
faced in generations. In particular, we note that many witnesses
from the financial services sector were agreed that the City of
London as a global financial centre has benefited from the UK's
position outside the euro. We further agree with Business for
Sterling's view that in the foreseeable future unemployment would
rise were we to join the euro "because the Euro-zone is chronically
over-regulated and over-taxed".