An idiot's guide to monetary union

To join or not to join? Yvette Cooper weighs up the pros and cons
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The Independent Online
It's the topic of the week. Market turmoil and the Conservatives' technical loss of their majority on Friday, may have caused a temporary eclipse, but it's still the biggest political hot potato around: Europe and the single currency. And with MPs wrangling in the Commons and government heads slugging it out in Dublin, we can soon expect to hear a lot about EMU.

For most people the entire debate is baffling, the reason being that there is no easy answer to what Britain should do about a single currency. And, the only thing the economists agree on, so far, is that there are valid arguments on both sides - as shown by our guide below.

The case for staying out

The single currency will not bring significant advantages above and beyond the single market. ( A controversial claim.) q Britain would suffer by losing control of its fiscal and monetary policy. Economists disagree passionately about how much control we would really lose, and about how much we would suffer, or benefit, if we did. Interest rates would be set by a European Central Bank, rather than the Chancellor.There would be constraints on how much governments could borrow.

It is not sensible to have a single rate for all European countries, since they differ. Interest rates and exchange rates are useful tools for adjusting to shocks. Response to economic change depends on the country affected. For example, the British economy is more closely linked to the US than other European economies. If the US has a recession, Britain - but perhaps no other country - might need an interest rate cut to help her companies and prevent a recession. But with a euro-based economy, that kind of adjustment would not be possible.

Britain should not have the same interest rates as other European countries because our economy reacts in a different way when interest rates alter. Britain, far more so than France and Germany, is heavily dependent on mortgages. If interest rates go up, mortgage repayments rise, and consumers scream. An increase in interest rates could choke off inflationary pressures far more severely in Britain than in other European countries.

The case for going in

No more currency speculation - at least between Britain and Europe. Hooray.

A truly single European market is impossible without the euro. (So say the single-cur- rency enthusiasts.) Firms would benefit from significant productivity gains, operating freely within a huge market.

EMU will go ahead whether we join or not. Being outside could put us at a competitive disadvantage. France and Germany may be so annoyed at Britain's failure to join the single cur- rency they might renege on their commitment to allow us the privileges of the single market. Legally, they cannot discriminate against British companies, but covert barriers could put our firms at a disadvantage. Inward investment might start to seep outwards, as the foreign-owned car plants and electronics factories in Britain move into the European market.

We will not lose any real freedom to manoeuvre on fiscal policy. Britain can still tax and spend as much or as little as she likes. Borrowing is already constrained by the financial markets.

We would not lose a huge amount of genuine freedom over monetary policy.We will be heavily affected by European interest rates anyway.

A single currency will force us to confront our long-term economic failings. In the past, when British goods have been uncom- petitive compared with foreign goods, we have devalued the pound to let our goods become cheaper on foreign shelves. Many economists say this has led Brit-ish companies to avoid investing and making improvements to remain genuinely competitive with foreign firms. Devaluation is an easy short-term solution if British inflation is running higher than inflation abroad. If we cannot devalue - for being locked into the euro - we will have to face our inflationary problems.

Joining will make it easier to convince the financial markets we are serious about keeping inflation low. The markets will view sterling as a weaker currency compared to the euro, and a greater inflationary risk. They will demand higher interest rates to protect their assets against inflation. But higher interest rates will reduce investment by British firms, be bad for jobs, and may deter inward investors.

A regional policy could counteract some of the problems of having a single interest rate for various countries. Countries could run higher deficits while their economies were undergoing difficulties. Other nations could share the burden by transferring resources towards the country in trouble. However, taxpayers would have to consent to paying lots of money to help people in other countries.

The case for delay

Chances are it won't work. Let other countries take the risk.

Better to wait until the British economy is better integrated with Europe so that it can cope with the same level of interest rates for most of the time.

Better to wait until pro- European sentiment increases. Given that the euro will only work if there are big fiscal transfers from affluent regions to suffering regions, people need to believe there is a European public interest worth the sacrifice. All very well Croydon paying higher taxes to help the unemployed in Liverpool, but will Brits pay higher taxes for people out of work in Italy?

The case for joining the first wave

If we do not go in straight away, we lose all influence over the setting up of the European Central Bank, and over all kinds of important structural questions. The European Community was set up without us and in a way which didn't suit us. Why make the same mistake again?

If we delay, our entire economic policy debate will be dominated by speculation over when, whether and how sterling should join the single currency - just as economic policy in the 1980swas heavily affected by speculation about the ERM.

The British economy will only become thoroughly integrated with Europe if we go ahead with a single currency and force ourselves to make the difficult decision to adapt. In other words ... jump straight in and get the pain over with.