We’ve missed the boat!
The Eurozone is now eleven years old. In January 1999 11 European countries irrevocably aligned their currencies in preparation for the issue of euro notes and coins two years later. There are now 16 states in the Eurozone. Slovakia was the latest to join - in January 2009. What’s the betting we would be better off now if we had adopted the euro when we could?
OK it is a bet – there is no certainty – but I say we would definitely be better off if we had joined.
The argument against the euro has always been that “one size does not fit all” – an interest rate set by the European Central Bank will not necessarily be right for the UK. Better we should set our own interest rate, say the eurosceptics. This is a beguiling argument because of course it is true that no interest rate, at whatever level and set by whoever, is right for all situations. It is true but it does not invalidate the euro.
Whatever the ECB rate, some people in the Eurozone object. But, also, whatever the Bank of England rate, some people in the UK will object. Business wants low interest rates, savers want high interest rates. High interest rates are reckoned to tackle inflation but inhibit investment and growth: low interest rates are supposed to encourage growth but they risk inflation. The Bank of England raised interest rates well above those in euroland to control house prices in the South East but succeeded in clobbering the competitiveness of industry in the North. Is the interest rate set by the Bank of England any better for the whole of the UK than the interest rate set by the European Central Bank for the Eurozone? The answer must be No.
Until very recently, interest rates set by the Bank of England have been higher than those set by the ECB. It can be argued that this was necessary to support the value of sterling and certainly another reason has been to temper house price inflation. But high interest rates have neither prevented a slump in the value of the pound nor prevented a huge house price bubble. We are now bottom of the EU league even with our much vaunted independence. Very recently, the Bank of England has lowered interest rates and they are below those in euroland for the first time since the euro was launched. Sterling has slumped further and investors from abroad have seen their funds depreciate. Raw materials and other imported goods will rise further in price and counteract at least some of the benefit to exports. Our independence certainly complicates things for business.
By rejecting the euro we have installed a fundamental mismatch in our trade policy towards Europe. Eurosceptics accept the benefits of being in the European free trade area or Common Market but reject the euro. But trading in a common market without accepting the common currency is to hobble those trying to take advantage of the opportunities. Because we have not adopted the euro our importers and exporters and their suppliers and customers on the continent have to cope with fluctuating exchange rates and fluctuating interest rates. Will the profit margin seen when a trade is agreed be there when the goods are delivered? Uncertainty like that inhibits stable trading relationships and will certainly dissuade many companies from getting involved at all. There is less risk for a German firm trading with a Spanish or Finnish firm than there is trading with a firm in the UK. The German firm can take full advantage of the opportunities in a market with a population of over 300,000 without the risks of a fluctuating exchange rate.
While the usual objection to the euro is that ‘one size does not fit all’ this was not one of the five tests Gordon Brown concocted back in 1997. Over the years since then several studies have claimed that the tests have been met. What now seems certain is that recent events have nullified that position. Our economy is now liable to diverge from the eurozone as the credit crunch affects us more. Our economy has been flexible to cope hitherto but now government finances are in for a period of serious constraint. On the third criteria – Would investment in Britain be enhanced by joining the euro? – we have shot ourselves in the foot with devaluation of the currency in all but name. Foreign investors have lost out as sterling has dropped more than a third in value since 1999. They will be wary in the foreseeable future. Would the City benefit? was the fourth criteria. Well, we really have killed the golden goose and will now be reaping the folly of letting manufacturing slip. And what about employment, the fifth criteria? There’s no doubt in my mind that if we had joined the euro and accepted the disciplines and taken advantage of the opportunities we would be in a far more favourable position today.
We thought we knew best. The Anglo-Saxon model was superior. Gordon Brown told our partners in Europe many times. We let credit rip. Our banks were allowed to leverage their loan books and households were encouraged to borrow now and pay later. The Stock Exchange helped build the bubble economy. Some people grew very rich. Now the music has stopped and there is a lot of unwinding to be done. We followed America in our economic policy as we did with our foreign policy. We should have been more ready to listen to our neighbours.
Our much vaunted freedom to set interest rates and devalue the currency outside the eurozone has not worked.
There is a killer fact, almost hidden, amongst current economic statistics which calls into question our whole strategic stance on Europe and the euro. The trade deficit is still dire into 2010. How do eurosceptics explain the fact that we are still in recession even with our much vaunted independence from euro interest rates and our freedom to devalue our currency? Because we certainly have reduced our interest rates and we certainly have encouraged a huge devaluation.
For years we had higher interest rates than the eurozone to control the housing bubble in the South East. That did not work - but it did succeed in clobbering British manufacturing. With the current crisis we “took advantage” of our splendid isolation to lower interest rates below those of the eurozone in the belief that devaluation would boost exports and lower imports. That has not worked.
Our readiness over the years to vary interest rates and to devalue when the going gets tough has only served to confuse industry and boost casino activities in the City which play the market. We would have done better to follow the “steady as she goes” policies of “Europe” and not gamble our future for a fast buck. [21.2.10]