Britain must join the game

Decisions about the nature of monetary union should not be left to others, argues David Marsh
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The Independent Online
Suddenly European economic and monetary union is back in the news. Yesterday two British organisations issued weighty reports taking opposing views - the pro-European group ACE for, the free market Institute of Directors against - on whether EMU is feasible. Tonight in Paris, President Jacques Chirac will host a dinner with European Union heads of government to discuss whether the Maastricht show is still on the road. Chirac and his prime minister, Alain Juppe have proclaimed that by sticking to its hard currency policy, France is still on track for EMU by the Maastricht target date of 1999. The currency markets, however, have their doubts - as does an increasing number of European commentators and economists. The weakness of the franc since Chirac's election victory last month, in spite of high French interest rates, shows the difficulty of dispersing the whiff of devaluation once it has entered the collective nostrils of the world's foreign exchange dealing fraternity.

Chirac's victory indeed heralds problems for the timetable for monetary union set under the Maastricht treaty, elaborated in last week's somewhat optimistic Green Paper from the European Commission. On the wider plane of the Franco-German relationship, Chancellor Helmut Kohl will find Chirac a more awkward presidential partner than his defeated Gaullist rival, Edouard Balladur, would have been - as Bonn officials with memories of Chirac's time as a nationally minded agriculture minister in 1972-74 ruefully acknowledge.

None the less Schadenfreude-prone British Eurosceptics should guard against believing that the EMU process has been derailed. France faces an uphill struggle in meeting the Maastricht economic "convergence criteria" for qualifying for monetary union. But Chirac is a doughty fighter and, barring accidents, he will be in the Elysee Palace until 2002. He will play the EMU game with Germany long and hard - and he will play to win. If Franco- German differences over monetary union do emerge in coming months, Britain's response should be not to gloat from the sidelines, but to offer assistance. Britain must recognise that it can still play an important part in bringing about a form of monetary union early next century from which all members of the European Union can benefit.

The Bundesbank's desire to build monetary union on impregnable anti-inflationary bedrock, combined with setbacks caused by slow European economic growth, mean that a single currency will come later than thought when Maastricht was agreed in 1991. Yet there is no sign that Chirac is deviating from the aim French governments have followed for 10 years: to weaken Germany's preponderance in European monetary affairs by establishing a supranational Euro-currency to replace the dominant D-Mark. As prime minister in 1987, Chirac launched an earlier drive to curb the power of the Bundesbank through a Franco-German finance and economic council designed to "harmonise" Germany's monetary policies along lines favoured by France.

Most German voters remain hostile to the EMU plan, partly because they fear (rightly) that those in Paris who wish to emasculate the D-Mark do not always have Germany's best interests at heart. However, there are a number of reasons why EMU will not go away. Kohl's belief in EMU as an instrument of European integration is unwavering. Furthermore, contrary to his earlier assertions, he now looks likely to stand in Germany's 1998 general elections, giving him the chance to carry the EMU banner into the next century. Despite the electorate's hesitations, Germany has invested so much political capital (and its good name) in the idea of single currency that the country cannot possibly renounce it unilaterally. Additionally, German industry has good reason to support EMU (and France's adherence to it) to safeguard European export markets. Why, then, are the foreign exchange markets so sceptical about France's position? One reason is the promotion of a political radical, Alain Madelin, as the new minister for economics and finance. During the ERM crises in 1992/93, Madelin was a fierce opponent of the franc fort policy, arguing (like many in Britain before September 1992) that monetary stringency imposed to maintain the franc's D-Mark link was garrotting the domestic economy. Although Madelin has since toned down his views, his appointment reflects the dilemma in Paris about whether the painful jeu of high interest rates is worth the flickering chandelle of EMU.

More fundamentally, many economists doubt whether France can meet the Maastricht requirement of reducing its budget deficit to 3 per cent of gross domestic product, against 6 per cent last year. Steps outlined by Chirac and Juppe to revitalise France's economy, particularly the plan to create jobs through a cut in employers' social security levies, are likely to raise the budget deficit in the shorter term - the opposite of what the "convergence criteria" require. Furthermore, with short-term French interest rates 2.5 percentage points above levels in Germany, many economists speculate that it may only be a matter of time before Chirac instructs the Bank of France to ease credit, ending any idea that the Bank can play an independent Bundesbank-style role in European monetary affairs.

In his battle with the currency markets and the Maastricht targets, Chirac, however, has one trump card to play: help from Germany. The confluence of interests between France and Germany has become less all-embracing since German unification, but it is still broad enough to allow Chirac to draw on German goodwill to overcome some of his obstacles. A compromise cannot be ruled out under which the Bundesbank could agree further interest rate cuts in return for binding assurance from Chirac not to change the franc's present parity against the D-Mark.

Although the EMU timetable will have to be treated flexibly, both Germany and France in coming months are likely to intensify their public proclamations in support of a single currency. In the background, however, differences will persist: Germany wants the European currency to resemble the D-Mark (hence the opposition in Bonn and Frankfurt to the name Ecu), while France wants to make it a genuine monnaie europeenne.This leaves Britain with a potentially vital role as an arbiter trusted by both sides. For different reasons - France because it dislikes Germany's over-zealousness on inflation, Germany because it worries about France's residual leanings towards dirigiste Colbertism - Europe's Big Two would prefer British participation when monetary union eventually becomes reality. If John Major or his successor can realise that fact, and use the opportunities for constructive diplomacy that flow from it, Britain will be able to exert considerable influence over the creation of Europe's future monetary system.

The writer is director of European Strategy at Robert Fleming, the London- based investment bank.