What happened to €urogeddon? If you were to believe the collective hysteria of the UK media a few months back, then surely the euro should’ve collapsed by now, or at least been subject to a few ignominious exits. Those of us who pointed out (including, dare I say, yours truly) that there was little prospect of that were lone voices. And people who put money on it have lost; the euro was at its strongest this week since May.
It was ever thus with the British psyche. It does not logically follow that the fact that some European countries have got some economic problems to fix (don’t we all?) means that the single currency is doomed, despite the existence of a substantial vein in British public opinion that would enjoy saying ‘I told you so’. To build my case, I am now going to argue something completely at odds with public opinion, and I look forward to the debate that will ensue.
If anything, what the events of the last few years have shown is that Britain is nearer to meeting the original 1997 five economic tests for membership of the euro than we have ever been. No, that does not mean that I think political leaders should expend political capital right now trying to convince the public to join. I’m just saying it because it’s true, and to point out the huge gulf that exists between economic reality and political discussions, particularly in this country where Europe is concerned.
Remember the tests?
The first was concerned with business cycles: the convergence test. Twenty years ago there was a significant difference in business cycles between the UK and both France and Germany; 10 years ago, in the words of the 2003 assessment of the five tests, ‘the UK now exhibits a greater degree of cyclical convergence than some EMU members demonstrated in the run-up to the start of EMU in 1999’. The effect of the financial crisis has been to jolt the two together. Forecasts for the UK and eurozone are now practically identical (both are sluggish) interest rates are a mere 0.25 per cent apart, and markets on Wednesday are pricing them to come together. Structural differences in the housing market between the UK and the rest of Europe have long been a concern, but the effect of the financial crisis over the last five years has again been to push us more towards the European norm: now that first-time mortgages are harder to come by, there has been an upsurge in renting, and for those who can borrow, fixed-rate mortgages are extremely attractive given interest rates are so low.
Test two simply asked: if problems emerge is there sufficient flexibility to deal with them? Back in 2003, the verdict was that more needed to be done to enhance ‘resilience to shocks, particularly in the labour market’. This is not a test that can be empirically proven. However, all economists agree that UK labour market’s response to financial crisis has been remarkable. Unemployment did not rise nearly as far as traditional models had predicted, with many firms and staff alike managing to reduce hours and switch to part-time work rather than lay people off; a trend confirmed by the latest labour market figures released yesterday. Like it or not, the UK labour market today has proved itself the most flexible it has ever been.
Test three was concerned with investment – would Britain attract more companies to invest inside the euro? Back in 2003, the Treasury argued that if the first two tests were met sufficiently to join, then this would follow, and indeed there was some evidence already that the UK was missing out. With business investment the only hope of economic recovery, surely now is the time to call this one in? Test four concerned the impact on the City of London. Already met back in 2003, the dangers of remaining outside are now blindingly apparent with the publication this week of proposed reforms to the new European Banking Authority that reduce the influence of countries outside the euro area.
The fifth test was more general: in summary would joining EMU promote higher growth, stability and a lasting increase in jobs? The depths of the original Treasury assessment made it clear that in the long run the best way to drive up innovation, productivity and therefore economic growth is to subject our firms to greater competitive pressure, which being part of a single currency would help bring about. And in the short term, to be frank, given that the main external instability we face (ie problems that cannot be solved at the ballot box) comes from the volatility of the euro, what better way to box that off in the eyes of the global markets than to have a big country sign up to join?
I repeat, none of this is to say that we should resuscitate a pro-euro campaign in Britain today. Our voters would find it incredulous to say the least, when our own recession means we are struggling to make ends meet and our televisions remind us of the difficulties across the continent. I simply say that in matters of Europe, realpolitik and reality can be very different things.
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