Consumers will also benefit directly from monetary union. Most goods purchased today include a proportion of foreign components and, therefore, of costs linked to the multiplicity of currencies. The elimination of these costs will help reduce prices and raise the purchasing power of the consumer proportionately.
Lower interest rates as the EU central bank cuts interest rates and the EU being such a large area where there is a great diversity in the amount and type of markets available would attract many new firms in. Thus domestic firms would be at advantage as these foreign firms would invest and come up with new products which they in turn could follow their lead thus reducing investment costs.
Another benefit is that the removal of exchange-rate variations between the countries of the EU would provide much more assurance to corporate location decisions. At present, a company takes account of the risk of exchange-rate variation in its location decision, and this may lead it to 'scatter' its plants across the various economies, to hedge against the risk of exchange rate variation. Removing this source of uncertainty allows investors to locate according to economies of scale and may lead to more plants of optimum size, a reduction in unit cost of production, and increase in efficiency.
The most clear-cut benefit of a single currency is that it will no longer be necessary to incur the costs of exchange from one currency to another. Travelers know that these costs are not negligible. First of all, there is a commission charge (usually a fixed amount); secondly, the price at which the traveler purchases foreign currency for domestic currency differs from the price of exchanging back surplus foreign currency. The removal of these transaction costs constitutes a gain from monetary union.
Reduce exchange rate costs, no exchange rate costs in making transactions. Costless for a French firm to buy a Germany factory rather than a French one thus allowing firms within the EU to make a wider choice and more diversification decisions can be implemented. As firms would be able to buy from the cheapest price there would be near perfect knowledge as the exchange rate is the same as there is a single currency thus reduce the costs for firms. A single currency makes it easier for consumers to compare prices between 2 different countries and thus can buy from the cheapest source.
Greater integration between firms with those in the trades goods sector as increase in supplying to the EU market rather than just the domestic market thus the full economies of scale can be exploited thus a further decrease in price for consumers. As the market size increases the supply would increase to meet the increase in demand as shown in the diagram below the supply and demand was at S1 and D1 respectively as the EU causes 11 markets to integrate into 1 large one. The demand would shift to D2 whilst supply would shift to S2 thus leading to increase in quantity supplied and demanded with little or no change in price.
Lowest costs of production as possible: As firms could and would know where the cost of production would be the lowest they would in the long run shift their factors of production to that area. For example the labor wages in France is lower than that of Germany so firms in Germany now would in the future if permitted would shift to France where everything else costs the same.
Attractive investment and financing opportunities will be offered by a much broader financial market without currency risks. Investors can profit from a wider portfolio spread due to more competition between banks and insurance companies, European businesses will be able to choose between better offers. Low public debt and a controlled rate of inflation will lead to low interest rates.
The benefits for consumers would be wider choice of commodities to produce thus causing cheaper price and better quality of goods and services. Also it would be easier for them to hold only one currency and travel to any part of the EU and be able to purchase goods and services with it. Joining the Euro will make pricing by companies much more transparent and give consumers a much better deal.
For what might a single European currency might disadvantageous to a member country.
It would be impossible if not extremely difficult for the European Central bank to be able to tailor an interest rate, which would be able to effect the economies for all countries in a positive way. Even for parts of the UK the single interest rates has caused problems as part of the UK such as the north east is declining whilst the south west is in a boom. Therefore it would be even more difficult for the central bank of EU to be able to decide on an interest rate which would benefit all 11 countries.
Although the exchange rate is fixed (the single exchange currency) the interest rates by definition doesn’t have to be fixed. In reality it is because if the interest rates was higher in B than in A. People would borrow money from A causing a balance of surplus in A. As they are exporting a surplus in the Capital account whilst could try B would be facing a lower demand for loans. Thus a deficit in the capital account causing friction between countries thus interest rates for the whole of the EU has to be the same.
Inefficient parts of the EU would be highlighted as the currency is the same everywhere in the EU thus inefficient parts of the EU where the costs of production would be highlighted as the currency is the same and comparisons could be easily made.
If the country enters the currency too high then it would have to result to dirty floating to ensure that the value of it’s currency to be able to be exchanged on international markets at the set price. This might lead to unwanted inflation and unemployment as the currency would have to be artificially high thus imports are cheap whilst exports are expensive thus balance of payment problem would arise.
Governments can control inflation, unemployment, balance of payment and economic growth by resulting to large fluctuations in the fiscal policies and changes in the supply side. Large fluctuations in the fiscal policies would deter potential investments as firms would feel that that particular country is unstable at the moment. Any returns which they might receive might be lost as they might be taxed away thus unable to accurately determine their revenue they might not chose to invest in that country and chose to invest in a relatively more stable one.
Particularly if the economy was a weak economy it might not be able to pay for the transaction costs of changing it’s currency into the single currency thus resulting in economic downturn and possible recession. Members would be unable to devalue in order to boost exports, to borrow more to boost job creation or to cut taxes when they see fit because of the public deficit.
All the EU countries have different economic cycles, or are at different stages in the cycle between boom and recession. The UK economy, for example, is currently growing reasonably well, while Germany is having problems. This is the reverse of the situation in 1990. The creation of a single currency will abolish the policy option to set interest rates separately at the level appropriate for each country.
Furthermore, the point of having separate currencies with an exchange rate between them is to be able to let that exchange rate change. In classical economies, the purpose of allowing exchange rate changes is to have it act as a shock absorber for disturbances that impact on the partner economies in different ways
Finally, a single European currency may lead to a loss of sovereignty. Monetary integration does require coordination between governments and Central Banks. Complete monetary union and a single currency would require a single monetary policy. This has led to some governments, especially the UK government, to argue that moves towards monetary integration involve a loss of sovereignty with respect to macroeconomic policy.
There would be a threat of surrender of national authority in addition to that in other policy areas, such as agricultural policy. The member states will have to accept limitations on public borrowing and public debt - they will no longer be able to create inflation or control an independent exchange rate and independent interest rates. Also the Member States retain control of taxation, public spending, most aspects of regulation and the right to invent new policy instruments which do not conflict with the Treaty
Exchange rate fluctuations are likely to increase if the prospect of monetary union disappears. The German currency may appreciate even further. A sharp increase in exchange rate volatility would have negative effects on employment and growth, since it would increase uncertainty and slow down productive investment. The prospect of achieving economies of scale, which was one of the motivations for the Single Market, would vanish, since companies would be led to spread their production capacities over several currency areas.
If a counties exports were selling badly on international markets if there was no single currency the price of that countries currency would fall. As shown in the diagram below the initial demand and supply of the exports are D1 and S1 respectively. The demand of exports decrease due to more competitive firms, recession in host country this would lead to decrease in demand for local goods causing price to drop as demand shift to the left to D2. The price of has decreased to P2 however because of the single currency the domestic value of exports cannot fall below P1. The local government would have to resolve to dirty floating causing the price of the value of it’s exports to be artificially high (a price floor) as shown in the diagram below.
Interest rates could rise in most countries. The coexistence of free capital mobility and frequent realignments also increases the instability of interest rates. In order to account for these risks, interest rates are likely to rise. This has negative effects on investment and employment.
Currency dumping would develop in the absence of common disciplines. Countries which are hit would, in turn, want to build up protection that is not allowed by the Single European Market. This would surely endanger the European Single Market.
If a particular country in the single currency area has an industry which faces a decline in demand in worldwide markets it might face unemployment thus workers would have less disposable income. As workers fear for their jobs they would be reluctant to spend thus resulting in decrease in aggregate demand for that region leading to unemployment. Whilst other regions face increase in demand for their products such as hi tech products their workers would be better paid and have more job security heading to increase in aggregate demand leading to inflation. Thus the gap between rich regions and poor regions increase (when Gin’s coefficient increases) thus resulting in lack of economic stability. The European central bank would have to make a decision of whether to reduce inflation or reduce unemployment, the Philips curve proves that in the short run it would be impossible to reduce inflation or reduce unemployment. This would cause decrease in economic growth in 1 region or increase unemployment in another thus the opportunity cost would be great. As shown in the diagram below the central bank can only fix inflation by increasing interest rates or reduce unemployment by reducing interest rates but not both.
However in the long run the economy would operate at the natural rate of employment thus any increase or decrease in interest rate would have no effect on the unemployment thus the central bank can use supply side policy to increase supply of labor.
