Prospects in EMU

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Prospects in EMU - Reimut Jochimsen

Just a few days after the signing of the Maastricht Treaty, David Marsh, who has in-depth knowledge of the European economic and financial scene, summed up his impression in a gloomy forecast published in the Financial Times (December 24, 1991): "The Mark was disappeared and the Age of Stability would be no more." This prophecy went to the heart of the matter. Then, as now, the general public was calling for a clear and unequivocal prospect of stability; for the abolition of their currency not to be a political end in itself, and for the Euro to give us not just a new single currency by also a good one. People, particularly in Germany, are skeptical because all the efforts to create additional pillars of support for stability in the Maastricht structure (such as the stability pact, ERM II, the informal "Euro-x" council, etc.) do not, by themselves, imply anything about the long-term preconditions for the success of this ambitious epoch-making project. How sustainable and durable will the economic, institutional and political basis of monetary union be? And what additional efforts will be needed to create the preconditions for long-term success?

If it is created in the right way, the Euro undoubtedly has the potential to be as stable as the Deutsche mark. But how soundly this project is tackled will be pivotal for the Euro' s success - and, in that respect, one must regrettably entertain quite considerable doubts. Let us briefly recall: before any data on the state of convergence had been made available, the word was being spread by many interested parties that a definitive decision had already been taken on the start of EMU and on which countries would be members. Thus, the entire process of examining convergence was downgraded to a show-event having a token character and made fun of, which is certainly not an advertisement for the credibility of the decision.

A further example of the doubts about the sound design of the project: senior politicians of the governing coalition in Germany have converted to the firm opinion that the abolition of the D-mark is not only the political "morning gift" that had been promised as an exchange for European integration. They believe it will also break the stalemate over reform in Germany and in Europe in economic terms, and even inevitably bring about all the necessary adjustments and changes geared toward European solidarity, as well as economic, political and social convergence and political projection. In other words, they see the Euro as a fail-safe remedy for everything and anything -for more growth, more jobs, a closer political union, etc. However, it would certainly be asking too much of the Euro to serve as a "prime mover," to act as a magic lever for all future problems in Europe, or to be the only project of integration which is still capable of achieving a consensus at present in an environment of growing neo-nationalism in a Europe of national states (without a common foreign, security or domestic policy).

Therefore, my concern is all the greater that 1998, the "year of the final spurt" and the "year of decisions," will become the year of "carrying on regardless," in which the preconditions that are not in place, the "soft" conditions and unresolved differences and contradictions of that ambitious political project will simply be swept under the table and ignored for reasons of sheer "political correctness." To say that price movements are all right, that inflation is dead, that the market's judgment speaks for itself in terms of interest and exchange rates, and that we shall then manage somehow or other to get indebtedness under control in monetary union is, in my opinion, extremely dangerous and a very risky bet on financial policy indolence.

There can be no doubt about the fact that the degree of price stability achieved in Europe was hardly deemed possible even just a few years ago. In terms of convergence in the capital market interest rates and exchange rate stability, things look different, however. Here, the progress made is undoubtedly based on inflation rates that have been lowered considerably; but this does not explain everything. In addition, as a kind of self-fulfilling prophecy, there is the expectation of the markets that policymakers will make sure EMU starts on time and with a large group of member states. I can only warn urgently against overestimating markets' ability to function as a referee on the success and failure of national economic policies. Markets can err, too, as history has shown in many cases.

Promises must be kept - therefore, the criteria must be completely and strictly complied with in every respect and by each country. With regard to the financial criteria, the focus is on sustainability. One-off compliance with the target values is not enough here, and even less so if creative accounting ("cooking the books") and other tricks are involved.

Much more important than the wrangling over decimal places in terms of the deficit is the correct medium-term trend. Particularly in this field, however, the facts so far have had little or no connection with the sustainability that is called for. And if government debt far exceeds the reference value, the country concerned will have to have demonstrated over a number of years that debt has been reduced at a satisfactory pace. A country, such as Germany, which has exceeded the reference value only recently but with an unstoppable upward trend, faces a very special problem, as this eventuality is not considered in the Treaty at all.

Political convergence in economic policymakers' minds, attitudes and actions is just as important as the convergence of nominal data required by the Treaty. European monetary policy would soon be overstrained if it had to do without the support of management and labor and of national financial policies.

In addition, there is a further legacy burdening monetary union: unemployment in Europe, which is far too high. Those who praise the single currency, of all things, as a prerequisite for solving the employment problem are arousing completely false hopes. One market, one currency -that implies raising efficiency as a result of even fiercer competition. Some people even hope that we would be able to attain a competitive advantage and spare ourselves internal reforms by means of a cheap Euro that is undervalued against the US dollar and the yen. This will not work, either: a Euro with a weak external value and a strong internal one are incompatible, too.

Solving the problem of employment and reforming the labor markets are, in fact, indispensable conditions for monetary union to have any chance at all of developing into a durable and lasting community of stability that is capable of bearing strains. The more pressing the problems of employment, the more likely the European Central Bank is to run the risk of being called upon by other economic policymakers to introduce an easy money policy or depreciation strategies rather than gradual reforms.

To rely merely on hope is not enough -neither in labor market policy nor in respect of the other preconditions for monetary union's success. A premature start by immature partners would not only gamble away the opportunities which the single currency offers, but would even harbor substantial additional risks, particularly political and social ones. That is because, in the final stage, everyone is liable for everyone else, even if there were no formal bail-out. The resulting political tensions can easily be imagined. And it is also obvious that, under such auspices as a lack of agreement but great needs for adjustment, EMU is hardly likely to accelerate the future process of integration.

To start the final stage on time will in any case be mere child's play compared with the enormous and persistent challenge of keeping the Euro durably stable after that date. We still have some way to go before we arrive at a new Age of Stability.

Reimut Jochimsen is President of the Landeszentralbank in North Rhine-Westphalia, Dusseldorf, and a member of the Central Bank Council of the Deutsche Bundesbank in Frankfurt/Main. He has served two terms as Minister for Economics, Light Industry and Transport of the State of North Rhine-Westphalia. He has also served as the Minister for Science and Research for the same state.