It won't work unless politicians show some guts

Focus on the euro: one view of the new currency's chances of success; scepticism on Wall Street; and British banks prepare for change; Painful reforms will be necessary for the single currency to deliver lasting benefits, writes George Magnus

THIS weekend, European heads of government set the final major conditions for the launch of the euro in seven months' time. Its creation will probably go down as one of the defining issues in international monetary history and as a fitting, unifying conclusion to a European century dominated by war and division.

The euro will continue its life as a radical force, shaping European financial services and altering the pricing, invoicing and payments mechanisms for companies. It will contribute to the development of more sophisticated capital markets and will stimulate investor interest in continental European equity markets and in the region's emerging markets.

But if you think the euro is going to change the economic outlook for Europe and guarantee economic success for this continent of 220 million people and nearly 20 per cent of world GDP (excluding the UK), think again. The euro, itself, is unlikely to do anything of the sort.

If you want a glimpse of how Europe will develop over the next few years, keep a hawkish eye on the German election campaign this summer and its outcome in September. This is far more important to Europe's future than the introduction of the single currency.

This begs an explanation. Euro cheerleaders argue that the single currency will administer market-oriented shock treatment. Trade and competition within Europe will increase; merger and restructuring activity will receive a boost, paving the way for faster productivity growth and higher living standards; and barriers to labour market rigidity and high taxation will tumble. Put simply, the euro will allow Europe to pick up America's new paradigm baton and the world had better watch out.

Unfortunately, this is a total fantasy - and one which more reasoned euro-protagonists are quite happy to concede. It is not without foundation, but to make it accord to some future reality there is one vital missing link: the political will and mandate to change and embark on broad-based structural reforms and deregulation.

If you recognise a UK link here, you've broken the code. Many of the factors listed in the preceding paragraph describe, to a large extent, the UK economy today, but this could not have occurred - and New Labour could not have inherited it - without many of the politically painful measures implemented over the past 20 years.

This is not to make a political point other than to note the cliche that if you are going to make an omelette, you have to break eggs first. Europe doesn't have to become Anglo-Saxon in the pejorative sense often heard on the Continent, but it is unlikely to achieve its own new economic paradigm without decisive political leadership, focused on structural change.

The real test for the euro will not be its creation, difficult though that has been at times over the last few years. Rather, it is going to be the political will and cohesion to implement change in the face of vested interests and occasional economic storms, including the first post- EMU recession, whenever that happens - which could be around 2000 or 2001.

To secure EMU's success over the medium term, European governments are going to have to deal with a plethora of so-called "supply-side" issues, the most important being to dismantle labour market rigidities, lower the burden of taxation while broadening the tax base, and creating a more conducive environment for an accelerated pace of development and the incorporation of new technologies. It is politics rather than the euro that will achieve these objectives.

The political acid test for the success of EMU in the first instance will be Europe's ability to deliver sustainable employment growth, higher labour force participation and, of course, a significant decline in unemployment. Just consider the US comparison: unemployment there is below 5 per cent, less than half of Europe's rate; US employment has been growing by over 2 per cent a year over the past few years, while it has been stagnant or falling in Europe until very recently; and over half of America's per capita GDP growth since 1994 has come from higher labour force participation - again stagnant and much lower in Europe.

That is why I think the German elections are more important than the introduction of the single currency per se. It seems most likely that Germany's Social Democratic Party will oust Chancellor Kohl and the CDU/CSU later this year. The key point, though, is the platform on which it may be elected. If the campaign is dominated by a debate about restructuring, reform and modernisation rather than employ-ment and social security protection, subsidies and income dis- tribution, then the door will be open not just for Europe's most important economy to fast-forward into the 21st century but also to carry the rest of Europe with it - yes, even the more dirigiste French establishment.

Then, perhaps, Europe can really build successfully on a euro platform - and beckon a still dubious UK. But if this does not happen, then Europe's economic prospects do not look very encouraging and the euro's birth and early years could become increasingly fractious amid sharp regional and country growth discrepancies and mounting pressure for a system of fiscal transfers, such as are specifically excluded from the Maastricht Treaty.

There is too much about EMU that none of us can know with any certainty yet. But as you see European politicians championing their achievements this weekend on the evening news, read their statements in the media over the next few days and wonder what the euro is really going to mean, bear in mind that this is just the beginning. Without meaningful political change, you'll get only a bit of loose change out the euro.

q George Magnus is chief economist at UBS and chief economist designate of Warburg Dillon Read on completion of the merger between UBS and SBC Warburg Dillon Read.

Suggested Topics
News
Russell Brand was in typically combative form during his promotional interview with Newsnight's Evan Davis
peopleReports that Brand could stand for Mayor on an 'anti-politics' ticket
News
The clocks go forward an hour at 1am on Sunday 30 March
news
Arts and Entertainment
The Doctor finds himself in a forest version of London in Doctor Who episode 'In the Forest of the Night'
TVReview: Is the Doctor ever going stop frowning? Apparently not.
News
Voluminous silk drawers were worn by Queen Victoria
newsThe silk underwear is part of a growing trade in celebrity smalls
PROMOTED VIDEO
Sport
footballMatch report: Real fight back to ruin Argentinian's debut
News
Candidates with surnames that start with an A have an electoral advantage
newsVoters are biased towards names with letters near start of alphabet
Arts and Entertainment
Isis with Lord Grantham (Hugh Bonneville)
TV
Arts and Entertainment
Jay James
TVReview: Performances were stale and cheesier than a chunk of Blue Stilton left out for a month
News
ebooksAn unforgettable anthology of contemporary reportage
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Compensation and Benefits Manager - Brentwood - Circa £60,000

£60000 per annum: Ashdown Group: Compensation and Benefits Manager - Compensat...

Data Analyst/Planning and Performance – Surrey – Up to £35k

£30000 - £35000 Per Annum plus excellent benefits: Clearwater People Solutions...

IT Systems Business Analyst - Watford - £28k + bonus + benefits

£24000 - £28000 per annum + bonus & benefits: Ashdown Group: IT Business Syste...

Markit EDM (CADIS) Developer

£50000 - £90000 per annum + benefits: Ampersand Consulting LLP: Markit EDM (CA...

Day In a Page

Wilko Johnson, now the bad news: musician splits with manager after police investigate assault claims

Wilko Johnson, now the bad news

Former Dr Feelgood splits with manager after police investigate assault claims
Mark Udall: The Democrat Senator with a fight on his hands ahead of the US midterm elections

Mark Udall: The Democrat Senator with a fight on his hands

The Senator for Colorado is for gay rights, for abortion rights – and in the Republicans’ sights as they threaten to take control of the Senate next month
New discoveries show more contact between far-flung prehistoric humans than had been thought

New discoveries show more contact between far-flung prehistoric humans than had been thought

Evidence found of contact between Easter Islanders and South America
Cerys Matthews reveals how her uncle taped 150 interviews for a biography of Dylan Thomas

Cerys Matthews on Dylan Thomas

The singer reveals how her uncle taped 150 interviews for a biography of the famous Welsh poet
DIY is not fun and we've finally realised this as a nation

Homebase closures: 'DIY is not fun'

Homebase has announced the closure of one in four of its stores. Nick Harding, who never did know his awl from his elbow, is glad to see the back of DIY
The Battle of the Five Armies: Air New Zealand releases new Hobbit-inspired in-flight video

Air New Zealand's wizard in-flight video

The airline has released a new Hobbit-inspired clip dubbed "The most epic safety video ever made"
Pumpkin spice is the flavour of the month - but can you stomach the sweetness?

Pumpkin spice is the flavour of the month

The combination of cinnamon, clove, nutmeg (and no actual pumpkin), now flavours everything from lattes to cream cheese in the US
11 best sonic skincare brushes

11 best sonic skincare brushes

Forget the flannel - take skincare to the next level by using your favourite cleanser with a sonic facial brush
Paul Scholes column: I'm not worried about Manchester United's defence - Chelsea test can be the making of Phil Jones and Marcos Rojo

Paul Scholes column

I'm not worried about Manchester United's defence - Chelsea test can be the making of Jones and Rojo
Frank Warren: Boxing has its problems but in all my time I've never seen a crooked fight

Frank Warren: Boxing has its problems but in all my time I've never seen a crooked fight

While other sports are stalked by corruption, we are an easy target for the critics
Jamie Roberts exclusive interview: 'I'm a man of my word – I'll stay in Paris'

Jamie Roberts: 'I'm a man of my word – I'll stay in Paris'

Wales centre says he’s not coming home but is looking to establish himself at Racing Métro
How could three tourists have been battered within an inch of their lives by a burglar in a plush London hotel?

A crime that reveals London's dark heart

How could three tourists have been battered within an inch of their lives by a burglar in a plush London hotel?