Sunday, June 15, 2003
No euro road map for industry
Posted by David Smith at 03:42 PM
Category: David Smith' s magazine articles

Gordon Brown duly published his “not yet” verdict on euro entry on June 9, as widely expected, and by sounding positive managed to bridge the gap between the pro and anti camps within the government.

Honour was satisfied for the prime minister, because of the chancellor’s pledge to review progress towards convergence with euroland at the time of his next budget in the spring and, if there has been enough movement, hold a further assessment (the third) of his five economic tests.

The Treasury, meanwhile, remains happy because it retains control of the decision. For Brown, the worst outcome this time would have been if Tony Blair had thanked him for his work but said that, in future, any euro decision would be for the cabinet as a whole, with the five tests effectively consigned to the dustbin.

But the tests are still alive, and the chancellor will retain control of them. A future euro decision will depend on the economics being right. It is a neat political deal.

For business, however, it is not nearly as good. Martin Temple, director general of the Engineering Employers’ Federation, spoke for many in industry when he said: “We support the conclusion that the time is not right to propose joining the euro and we welcome the chancellor' s renewed commitment to work for flexibility in the UK and eurozone economies.

“However, the government has failed to remove the potentially damaging speculation surrounding euro entry in this parliament. The economics on which a decision to join are based are so fundamental that it is difficult to envisage how they could be re-addressed in the current parliament. In the meantime, we run the risk of the government being increasingly distracted from its main task of maintaining the growth and stability of the UK economy.”

I share his sense of exasperation. We have had two years of on-off speculation about euro entry during this parliament but at least the June 2003 deadline appeared to offer a deadline, a chance of clarity to last for a time. The result of the assessment, of course, had been common knowledge for some time, which made the wait even more frustrating.

Now for at least the next nine or 10 months, a repeat performance is in prospect. Every speech will be read for signs that the chancellor believes enough progress is being made to have another assessment (which in practice would be a formality – it is hard to see him deciding to hold one and coming up with another negative assessment). Then, if the time is not right at the time of the next budget, perhaps it will be the one after that.

It is, in effect, the rolling assessment that business did not want and the Treasury insisted would never happen. And if the uncertainty undermines the economy, the government will only have itself to blame.

What else did we discover on June 9? We learnt that, in the opinion of the academic experts commissioned by the Treasury, the appropriate entry rate for sterling into the single currency would be about 1.37 euros, not far from the level it is at time of writing.

The chancellor also announced that, in future, the Bank of England will have a new inflation target, based on the so-called harmonised index of consumer prices (HICP), which differs from the retail prices index (RPI) mainly because it excludes housing.

This may look like one for the aficionados but it could have big implications. HICP inflation is currently 1.5%, compared with 3% for the Bank’s current target measure of inflation. Even with a lower target than the current 2.5%, the new measure would imply lower interest rates than we have had. That, indeed, is the point – euro interest rate levels have tended to be below those in Britain.
We also discovered that there are some potentially large trade benefits to be accrued from being part of euroland. The range of estimates is wide, but over the long-run trade with the euro economies could be boosted by up to 50% (or admittedly by as little as 5%). Even taking the midpoint of this range, it seems we are missing out by not being in the euro.

A little caution is, however, in order. While the potential trade benefits of being part of a successful single currency are very substantial, try telling that to Germany. Indeed, it is a feature of the euro area since 1999 that there is little evidence of the kind of dynamic gains such studies suggest.

Not only that, but there is a long way to go – in terms of changes in both Britain and Europe – before we are safely convergent with the euroland economies. The chancellor has paid lip service to the idea of a referendum before the next election. I, for one, would be very surprised if we get one.

From Industry magazine, June 2003

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