1995 Governments agree to call the single currency the euro.
1998 European Central Bank established.
1999 Stage 3 of European Monetary Union begins on 1 January. Financial institutions start trading euros on global markets; individuals and businesses can open bank accounts and carry out non-cash transactions in euros. Coins and notes are due to follow by January 200.
Participating countries of the EMU
The eurozone or ‘Euroland’ as some call it, is huge. Its 12 members are: Austria, Belgium, Finland, France, Germany, Ireland, Luxembourg, Netherlands, Spain, Portugal and a recent joined member – Greece.
Only three countries which are the members of EMU but are not currently joining the single currency: Denmark, Sweden and the United Kingdom.
Population: with 300 million inhabitants the eurozone is larger than the United States.
Economy: Together the EMU countries boast a gross domestic product (GDP) of more than $6, 490 bn, a bit smaller than the US GDP of $7,610bn.
Exports: In international trading the euro zone comes out on top, its members export more than $680bn, and have an additional
Rule for joining the single currency.
Twelve of the 15 EU countries have joined monetary union, if the remaining three want to adopt the single currency at a later stage. They will have to meet certain requirements, the "Maastricht" criteria, named after the treaty that set out the timetable for money union.
Their inflation rate should be within 1.5% of that of the eurozone.
Their exchange rate should be stable in relation to the euro.
Their annual budget deficit should be below 3% of their GDP
The total amount of money owed by the state, known as public debt, has to be less than 60% of GDP.
Who controls the euro?
The European Central Bank (ECB) sets monetary policy for all EU countries that have introduced the single currency.
The ECB’s key tasks are:
Define and implement monetary policy, such as setting interest rates:
Maintain price stability;
Support economic policies of member states as long as they do not affect price stability;
Conduct foreign exchange operations and look after the official foreign reserves of the member states;
Promote smooth operation of payment systems that link banks.
ECB policy is set by a governing council that meets every fortnight. The council is joined by 12 members of the euro.
I. Why have a single currency?
There are economic and political arguments for a single currency in Europe.
The economic argument is that a single currency makes life easier and cheaper for everyone from shoppers in a supermarket to multinational corporations investing billions in new factories. The benefits are:
2.Stability
Currencies go up and down in value compared with each other constantly, depending on how currency traders rate the performance of their economies.
That means businesses face constant uncertainty about the prices they will be able to charge for their products in other countries and how much they will have to pay for raw materials and other supplies in other countries. A single currency ends the uncertainty.
Businesses can plan ahead with more confidence and that makes investors more willing to put money into new projects.
Lower cost
This applies to individual shoppers as much as to businesses. Every time you head over the Channel for a weekend break in Britain, for example, or export thousand of cashmere sweaters from the Scottish borders to boutiques in Milan, you have to deal with at least two and perhaps more national currencies.
That’s expensive because each time you exchange money, you have to pay a commission to a bank. A single currency cut out that cost.
Imagine a British manufacturer making washing machines in Birmingham, sending them to a distribution centre in Belgium, and then transporting machines to retailers in Italy, Germany, Spain and Portugal. That’s six countries, all with their respective national currencies. So every time the business sends out a batch of machines and pays its contractors, hauliers and staff it has to be able handle that six currencies, shifting money around between them and paying a commission charge every time. A single currency can sort out this matter.
More competitive prices.
Shoppers and businesses can easily compare prices across all the countries using the single currency. It will be painfully obvious if dealers in Germany, say, are charging much more for cars, than dealers in France, or shops in Netherlands are charging more for CDs or computers than shops in Italy.
People will travel or use mail order to take advantage of the lowest prices, and this will put pressure on companies to bring their prices into line. The same applies to businesses. They will be able to compare prices from suppliers in different countries.
Then there is a political for a single currency.
The ultimate goal of the European Union, as stated in the 1992 Treaty of Maastricht, is to "continue the process of creating an ever closer union among the peoples of Europe, in which decisions are taken as closely as possible to the citizen."
The Union’s objectives are to promote balanced, sustainable economic and social progress, assert the European identity on the international scene and introduce a European citizenship for the national and nationals of the Member States.
Or anyone who supports the goal of "ever closer union", the euro is essential. It binds the countries using it together in a way, which is almost irrevocable, and gives them a vital interest in cooperating more and more closely on economic policy.
I. Will it create a super state?
The euro brings a European super state a big step closer, but it does not make it inevitable. The only way a single currency can work is by member governments giving up much of their power to set economy policy.
They have to hand over the power to set interest rates to the European Central Banks and cooperate very closely on deciding levels of government spending and taxation, so that their economies grow at the same speed. Pooling that amount of economic decision- making goes a long way to creating a single European government.
There are still some very large steps to go, though, before the EU becomes the United States of Europe.
Firstly, the structure of the EU is still an association of independent nations. The highest authority is the Council, made up of heads of government and ministers from each of the member states.
Members of the Council have all been elected- but each by their own people.
Secondly, a credible federal state would have to have a coherent foreign policy and its own armed forces.
The EU has been trying to develop a Common Foreign and Security Policy but progress has been far slower than on economic cooperation. Some members of the EU, such as Ireland, have historically been neutral, that is they have refused to take sides in major conflicts such as the Second World War and do not belong to NATO, the main western alliance.
Can it challenge the dollar? (Please turn to chapter two)
Chapter Two
Can the euro challenge the dollar as the world’s international currency?
I. The euro- the new Global Currency.
When the euro was first dreamed up in the 1980s, it was not just the hope of further economic integration that was the driving force.
It was also the turmoil on the world currency markets that had emerged following the collapse of fixed exchange rates, the system known as Bretton Woods.
European leaders wanted to create an island of stability so that their countries' economies would not be battered again by wild fluctuations in the value of their currencies.
But the euro has been launched during a period of instability, which began with the massive devaluations of Asian currencies.
The creation of a single European currency is the most important development in the evolution of the international monetary system since the widespread adoption of flexible exchange rates in the early 1970s. The euro is the first real competitor to the dollar since it surpassed sterling as the world's dominant money during the interwar period. As much as $1 trillion of international investment may shift from dollars into euros. Volatility between the world's key currencies will increase substantially, requiring new forms of international cooperation to avoid severe costs for the global economy when the euro actually in market (on January 2002)
The political impact of the euro is also at least as large as these economic effects. A bipolar currency regime dominated by Europe and the United States, with Japan as a junior partner, will replace the dollar-centered system that has prevailed for most of this century. A quantum jump in transatlantic cooperation will be required to handle both the transition to the new regime and its longer-term prospects.
The global economic roles of the European Union and United States are virtually identical. The EU accounts for about 31 percent of world output and 20 percent of world trade (excluding intra-EU transactions). The United States provides about 27 percent of global production and 18 percent of world trade. The dollar, however, maintains a share of world finance that far exceeds the economic weight of the United States: 40 to 60 per cent, depending on the category of transactions and whether intra-EU holdings are excluded (as they will be with the creation of the euro). This total far exceeds the global role of 10 to 40 percent of the combined European national currencies. The dollar's market share is three to five times that of the DM, the only individual European currency that is now used globally.
So the question is will the euro be the global currency as the dollar?
To answer this question we need to look at five key factors that determine whether a currency will play a global role:
The size of its underlying economy and global trade;
The economy’s independence from external constraints;
Avoidance of exchange controls;
The breadth, depth, and liquidity of the economy’s capital markets;
And the economy’s strength, stability, and external position.
On the first two criteria, the euro – 12 countries are a close match for the United States. Their combined GDP is $ 6.9 trillion in 1999, compared with $8.1 trillion for the United States. Growth of potential output is similar in the two regions, so their relative position should hold. The European also has a larger volume of global trade. EU external trade total nearly $2 trillion in 1999, compared with $1.9 trillion for the United States.
Now that America’s economy appears to heading for a recession, will the dollar go with it?
Returning to the second factor that determines a strong currency. In term of openness, the euro’s member countries’ share of international trade outside the euro area (20%) is a shade larger than that of the United States (18%). Taken together, bond markets in euro countries are somewhat smaller than America’s- although Europe’s equity markets are much smaller than Wall Street. Both regions are thus largely independent of external constraints and can manage their policies without being thrown off course by any but the most severe external shocks.
The dollar’s role in international finance is, however, far bigger than America’s relative weight would suggest. It is the main currency used for the world trade and investment. Roughly half of world’s trade is invoiced in dollars. Almost all commodities are priced in dollars.
According to a recent survey by the Bank for International Settlements, the dollar features in at least one side of 87% of all foreign-exchange transactions, the D-mark in 30% and the euro’s member currencies in only 24%. This is a negative factor for the euro.
It is virtually inconceivable that either the EU or US would unilaterally resort to exchange or capital controls. Globalization of capital markets has reached the point where all major financial centers, including many in the developing world, would have to act together to effectively alter international capital flows. Hence the two regions will remain parallel on this key currency criterion as well.
It is less clear when Europe will reach full parity with the United States in terms of the breadth, depth and liquidity of its capital markets. The American market for domestic securities is about twice as large as the combined European markets. The European financial markets are highly decentralized. There will be no central governmental borrower like the US Treasury to provide a fulcrum for the market. It may take some time to align the relevant standards and practices across the EU, especially if London is included. But London has not joined the euro yet because of its interests.
Although the dollar’s share of international bond issuance has fallen substantially since the early 1980s, over 50% of international notes and bonds are still in dollars, compared with 28% for the combined euro countries. Bank lending shows the same dollar preponderance: 45% of cross-border loans are dollar-dominated.
The final criterion is the strength and stability of the European economy. There is obviously no risk of hyperinflation or any of the other extreme instabilities that could disqualify the euro from international status. To the contrary, the ECB as noted is virtually certain to run a responsible monetary policy and achieve rapid credibility. On the other hand, it is true that Europe may not carry out the structural reforms needed to restore dynamic economic growth. But markets prize stability more than growth, as indicated by the continued dominance of the dollar through extended periods of sluggish American economic performance. Hence the euro is sure to qualify on these grounds as well.
In addition, America's external economic position will continue to pose doubts about the future stability and value of the dollar due to the recent economy slow down that I mentioned above. The United States has run current account deficits for the last fifteen years. Its net foreign debt exceeds $1 trillion and is rising annually by 15 to 20 percent. The EU, by contrast, has a roughly balanced international asset position and has run modest surpluses in its international accounts in recent years. On this important criterion, the EU is decidedly superior to the United States.
These five criteria qualify a currency for international status. The shares of different currencies then depend on their relative positions on the criteria, as already discussed, and the relative importance of the criteria.
The relative size of countries' economies and trade flows is of central salience. A large economy has a naturally large base for its currency and thus possesses important economies of scale and scope. A large volume of trade gives a country's firms considerable leverage to finance in their own currency. Large economies are less vulnerable to external shocks and thus offer a "safe haven" for investors. They are more likely to have the large capital markets that are required for key currency status.
There is a clear historical correlation between size and key currency status. Sterling and the dollar became dominant during the periods when the United Kingdom and the United States, respectively, were the world's main economies and especially traders. The only global currencies today are those of the world's three largest economies and traders: the United States, Germany and Japan. And now the real challenger for the dollar, unquestionable, is the euro.
Conclusion.
The euro will become another benchmark currency like the dollar. The German mark has weakly filled that role in Europe, but only the dollar has had global economic strength. Now, the emergence of the euro should create somewhat less demand for the dollar internationally. There will be less currency arbitrage and conversion, of course, with fewer currencies around. Currency traders and European banks will therefore lose income. The dollar still plays important role in financial markets but will be at the different level because of the euro.
As the euro gears up, it is expected to turn the EMU into a large unified market with clout comparable to the United States. No country or region previously came close. Costs are lower within the 12 member states for tourists and travelers, for foreign companies, and for financial institutions. The hassle and expense of currency conversio0n has obviously been reduced. Price comparisons are easier. Multinational businesses outside of the EMU enjoy the same lower costs of business as native European entities.
If the euro is strong enough, investors will diversify their portfolios into euros. But I think the euro needs to establish a good record before investors move into it, because many economists are still point out the euro is still weak compared with the dollar
In summary, the creation of the euro is really a big milestone for the early 21st century, the century of globalisation and transition. This is the first currency that can challenge the dollar since it dominated the world’s international market.
With the launch of euro banknotes and coins less than one year away I believe that the European Central Bank will intervene and boost the euro further. And the euro will still have a lot of obstacles ahead that need time to solve. The new one always meets obstacles- that is the rule of natural law.
Bibliography
Journals
"Currency Projections", The Economist, April 26, 2001
"The International Euro", The Economist, November 14, 1998
Samuel Brittan, "Watch the dollar, not the euro", Financial Times, December 10, 2000
Bill Jamieson, "Euro to Challenge Dollar to be Leading Currency," Washington Times, December 31, 1998.
Thomas Kamm, "Emergence of Euro Embodies Challenge and Hope for Europe," Wall Street Journal, January 4, 1999.
Anna J. Schwartz (National Bureau of Economic Research), "What Europe Can Learn From the Fed," Wall Street Journal, December 31, 1998.
Robert L. Bartley (WSJ editor), "The Mystery Of the Vanishing Euro," Wall Street Journal, May 15, 2000.
George Melloan, "Europe's Sharp Left Turn Clouds the Euro's Future," Wall Street Journal, October 27, 1998.
