Emu is ready for take-off - but will it send Europe's economies crashing?

EMU. Or not EMU?

Most European Union governments and financial markets now believe that the euro, the EU's planned single currency, will be launched on schedule in January 1999. Alongside this faith, however, exists considerable uncertainty about some of the project's most important aspects.

Which countries will be in the euro, and which will remain outside, voluntarily or not? What rules on economic and financial discipline will participating countries bind themselves to observe in order to make the project a success?

Will the euro lock in dangerously high levels of unemployment in those countries using it? To what extent will the euro lead to a common fiscal policy, and so to a political union transcending national sovereignties?

Finally, are ordinary Europeans genuinely ready for the euro? A recent opinion poll in Germany, without whose participation the single currency is unthinkable, showed that only one in five people wanted the euro in 1999.

Under the Maastricht treaty timetable, participating countries will irrevocably fix their exchange rates in January 1999. The euro will gradually replace national currencies in the first half of 2002.

Yet at the start of this year, there were many doubts over the wisdom of sticking to this timetable. Much of Europe was stuck in the economic doldrums, and most EU states seemed likely to experience difficulty in meeting the Maastricht criteria for joining monetary union.

Hence a common opinion was that, if the euro went ahead on time, membership in the first instance would be restricted to Austria, Belgium, France, Germany, Luxembourg and the Netherlands, with Finland and Ireland fairly credible contenders. Britain, Denmark, Greece and Sweden were viewed as certain or almost certain not to join in 1999, and Italy, Portugal and Spain were seen as doubtful.

These predictions have come under assault in recent months, largely because the "Club Med" states - Italy, Portugal and Spain - have made desperate efforts to cut spending and raise revenues so that they can qualify for first-wave membership. The European Commission even suggested in early November that 12 countries would broadly meet the Maastricht criteria in 1997, although it grouped Italy with Britain and Greece as the countries not making the grade.

Such forecasts hold little appeal for Germany. Fearful of being manoeuvred into accepting a "soft euro", German officials have moved the argument away from the issue of which countries may fulfil the public-debt and budget-deficit criteria in 1997, and towards the more fundamental question of which countries are capable of surviving over the long term in a "hard- euro" zone.

The implication is that Italy, and perhaps Portugal and Spain, will be kept out of the euro's founding group in 1999. However, they might be allowed to join the final phase of monetary union in 2002, or soon afterwards, if they show their recent conversion to budgetary discipline is not a one-off wonder.

Whether this will satisfy the Italians is another matter. The Prime Minister, Romano Prodi, has warned apocalyptically that the Italian state could collapse if Italy suffered the humiliation of not being a founder-member of the euro.

Two developments could still disrupt the project. One is turbulence on financial markets, destroying exchange-rate stability among prospective single-currency members. The other is social unrest in the form of strikes and protests against austerity measures being introduced across the EU to ensure the euro is launched on time.

Yet most EU leaders are determined to go ahead. If nerves hold in France and Germany, the key players in the game, the euro will become a fact of life.

Casualties litter

road to the euro

GERMANY

Bonn - Swelling dole queues, labour unrest, eroding living standards and rampant social insecurity are poised to usher in the age of the euro. Many Germans resent the abolition of the mark, but most accept the new currency will arrive on schedule, and are now discovering more will be lost in transit than their most potent emblem of nationhood.

Because of the euro, those who had looked forward to their imminent retirement will have to wait a few more years. The pension age was the only thing raised in the government's latest manoeuvres to shave a few decimal points off the budget deficit. Everything else is being cut.

The Maastricht treaty had decreed - at German instigation - a 3 per cent ceiling on public borrowing, which Bonn bust last year, will bust this year, and is in danger of crashing through in 1997. To qualify for Emu, which half the country does not want, Germans are being asked to give up some of their recent heritage: a cosseting welfare system, outstanding public services, and social consensus. In short, the German model is being chipped away.

The first victim to fall under the euro-bandwagon was the programme to halve unemployment by the turn of the century. Chancellor Helmut Kohl promised that to the unions earlier this year. But then the numbers were added up and Mr Kohl discovered he had no money to create jobs, short of scuppering Emu.

So unemployment keeps climbing, high above the once intolerable level of 4 million, not counting another million who are on temporary make- work schemes. They are next in the firing line. Some job creation programmes will be abolished from next year - lobbing a bit more off the dreaded deficit. In the east, where one-third of adults have no real jobs but are offered self-respect through various "retaining projects", hundreds of thousands will find themselves redundant.

The dole is also being cut, as is sick pay. As the spending squeeze filters through to local authorities, services will have to be reduced, and libraries and schools shut, putting yet more people out of work.

Building works are being shelved, though the government has pledged to continue the reconstruction of the east. The Reichstag and the new government quarters will be ready by 1999, but how the rest of Berlin will cope with its bankrupt finances the city fathers cannot fathom.

Economists have calculated Mr Kohl still needs to find 10bn German marks (pounds 4bn) in next year's budget to attain the Maastricht criteria. It is the same amount the coal industry receives in subsidies every year. The government has discovered this happy coincidence, and is rumoured to have developed a secret plan to cut this item from its expenditure. The resulting pit closures would rob tens of thousands of people of their livelihoods in the Ruhr.

Not all the effects of the scramble towards monetary union have been negative. Exporters are gathering the windfall from a sliding mark. However, the government has not been able to trumpet this success. The mark is falling because it is being dumped by investors in the expectation that it will soon be replaced by a less trustworthy currency - a verdict Mr Kohl would not wish to publicise.

Charm fails as the mask slips

FRANCE

Paris - Until recently, the question of the single European currency was one of those (many) issues of national importance that are the preserve of the French political elite. The public held a generally benevolent feeling towards a single currency: accepting it as part and parcel of being a good European. And, even when their lorry drivers are blocking EU commerce, the French consider themselves exemplary Europeans.

But there was no real discussion. The fact that the euro will replace the franc, that a central European bank will dilute national economic sovereignty, that France's high labour costs will be shown up for what they are, were not mentioned.

The government also made great efforts to deflect responsibility from Brussels whenever "Europe" risked being blamed for unpopular measures, even when it meant ministers taking the flak. The reform of the expensive welfare system last year, which precipitated a month-long revolt by public- sector trade unions, was defended as necessary for national good housekeeping, not as a measure forced by the Maastricht criteria for the single currency.

The government has taken the same approach this year. The public sector has been too scared about job security to protest in earnest. Lorry drivers notwithstanding, this is largely because government tactics during this year's budget discussion have been far more sophisticated.

There have been promises of tax cuts, the freeze on public-sector pay has been lifted (in principle only), restructuring plans (for railways and banks) have been suspended as soon as real trouble was sighted, and other potential trouble spots, such as local transport, have been bought off.

Many public spending cuts deemed necessary for sound housekeeping, or to meet the Maastricht criteria, have been deftly delegated. After defence, one of the areas hardest hit this year is local government - but this is described as "devolving" power to the regions.

The result is that mayors are bearing the brunt of protests from ratepayers facing increases in local taxes. The government has also employed financial sleight of hand. It plans to transfer the France Telecom pension fund to government coffers to pay off half next year's domestic deficit.

The one issue the government has not been able to dissociate from Brussels in the public mind is deregulation, which instils great fear intrade unions and workers over "unfair" competition from low-paid workers from Britain, Spain and Portugal. The depth of this suspicion convinced the government it had to bring "Europe closer to the citizens" and mount a "charm campaign" for the single currency.

But, the more that people find out about the loss of the franc, "shared" economic sovereignty, and the likelihood that not only strong-currency countries like Germany, but Italy and Spain, could also join the single currency at the start, the more questions are raised.They have also discovered, thanks to a magazine article by the former president Valery Giscard d'Estaing, that even pro-Europeans have different views. In coming months, France could see a single-currency debate almost as divisive as the one in Britain.

Search for salvation could damn a nation

ITALY

Rome - For the longest time, at least as far back as Dante, European integration has meant just one thing to Italians: salvation. Salvation from their status as a joke country on the southern rim of the continent, salvation from nepotism and corruption in public life, salvation from an incestuous, conspiratorial brand of government.

But salvation, as this Catholic society is discovering, does not come without a passage through purgatory. For years Italy persuaded itself of the high-minded ideals of European integration while ignoring the price it would have to pay. It treated Europe like a dream come true, merrily soaking up development funds and agricultural subsidies while ignoring production quotas, economic targets and commitments to liberalise trading practices.

Now, with a single currency around the corner, the crunch has come. All those decades of wanton public spending, of Byzantine bureaucratic structures, of chronic political instability, of economic strength based on unaccountable family structures, are going to have to come to an abrupt end if Italy is to have a chance of making the A-team when monetary union gets off the ground on 1 January 1999.

In one sense, the reform process began four years ago, when magistrates felled the entire political order through relentless exposure of its rotten core. But that, it turns out, was the easy part. The tough part has been paying for the profligacy the magistrates uncovered. Last year's Prime Minister, Lamberto Dini, made a start by reducing the budget deficit for the first time since the 1960s. But the bulk of the burden has fallen on the present government, which is trying to raise more than 60 trillion lire (pounds 25bn) for next year's budget.

Being a broad, unstable coalition, the team led by the Prime Minister, Romano Prodi, has found it difficult to attack deep-rooted lobbies, and has opted for the simplest, most painful, option - a budget package based overwhelmingly on tax increases.

Italy already has one of the highest income-tax thresholds in Europe - around 50 per cent, on average - and now tax-payers are going to be whacked with a one-off Euro-tax meant to cover a quarter of the budget package. Italians are famed tax- evaders, so half the country will end up crippled by taxes while the other half will continue to pay none at all.

The new budget proposals have cast a pall of gloom over the country. When the centre-right opposition organised an anti-tax demonstration in Rome three weeks ago, more than half a million showed up.

If Italy is lucky, the pain will be temporary, the country will qualify for monetary union on time and a healthier, more stable political environment will evolve in conjunction with new pan-European structures.

That is the dream scenario. If Italy is unlucky, the budget won't do enough to clean up the public finances, tax increases will continue alongside cuts in pensions, the country will have to wait for admission to the single European currency and the mood will turn truly ugly.

Deep social unrest, political turmoil - possibly including secession by the northern third of the country - a new ascendance of the Mafia; these are the nightmare scenarios. Italy will have to be careful that salvation through Europe does not mutate into eternal damnation.

Dream sours after years

of recession

SPAIN

Madrid - Spaniards, understandably, want to have their cake and eat it. A survey this week found that almost two-thirds think Spain should join the single currency by 1999 "but only if this does not demand important economic sacrifices".

The austerity measures which were imposed in pursuit of the 1999 deadline are already rebounding against the government. After only seven months in power it has fallen behind the Socialist opposition in popularity. But, desperate to herd Spaniards through the Euro-gates in time, the conservative Popular Party reckons it can afford a stretch of unpopularity so early in its mandate.

Despite grumblings, the corset is being tightened without causing widespread revolt. The trade unions, cowed by unemployment of 22 per cent and by proliferating short-term ("junk") labour contracts, are protesting, but only feebly.

Most affected are the public sector workers, whose wages have been frozen. But a planned public sector strike on 11 December seems unlikely to shake the government. The coal miners have been more successful. Strikes two weeks ago against plans to remove the industry's bloated subsidies prompted the government to step back rather than face a showdown. But the "reconversion" of this high-cost energy producer has only been postponed.

For millions of Spaniards - the unemployed and those working in doomed state industries - the European dream so widely shared 10 years ago has soured. Spain's love affair with Europe was always primarily political rather than economic. Membership in 1986 set the seal upon the post-Franco democracy, ended decades of isolation and offered the ultimate guarantee that the generals would never return.

This explains Madrid's eagerness to chime in with the European chorus, to swot hard and pass the exam. Spain makes up in commitment what it may lack in economic performance, but the euphoria has evaporated under the impact of one of Europe's longest and deepest recessions. Even now, with the economy picking up, consumption is stagnant and the popular mood is sombre.

Spain falls short on all the criteria for monetary union, although not drastically so. The key indicators are moving the right way and experts believe that it has a fighting chance of making it first time round.

Failure to meet the 1999 deadline would be a devastating blow for the government. When in a rash moment this spring, the new Finance Minister, Rodrigo Rato, talked of "stopping the clock" on monetary union, he was forced to eat his words before lunchtime. The public may have felt relieved. But now Spain's econo-my is so bound up with the rest of Europe, it would certainly be fearful of what might follow.