September 30, 2002	Monday	Rajab 22, 1423

IF AN economic analysis does not provide enough support for a shift towards single currency, why were there such strong voices in Europe calling for a monetary union that will replace national currencies with a single European currency?

There are three distinct political reasons for this advocacy. First, there are those who see a single currency and a European central bank as a way of restricting the ability of national governments to pursue inflationary monetary policy. European central bankers in particular, who must now answer to their finance ministers, see the move to a single currency and a European central bank as a chance to make monetary policy with much less political interference.

They argue that although each government could by itself pursue a non-inflationary monetary policy, it is politically easier for the ECB to do so than it is for the individual governments. Although the European central bank is accountable to the European parliament to an extent, distance from national capitals and national parliaments will most likely reduce the pressure of domestic politics on the monetary policy.

They and others who make this argument would accept a much-restricted scope for good monetary policy in each nation in order to reduce the political temptations of bad national policies. Quite apart from the question that may be raised about the making of monetary policy in democratic states, it implies a possibly very large sacrifice of potentially good monetary policy in order to reduce the risk of a bad policy being chosen.

Moreover, although this argument is logically sound, as a practical matter it is much weakened by the success of the current EMS arrangement in which German hegemony has encouraged other countries to pursue a German-style anti-inflationary policy. Why force every country to give up the possibility of stabilizing monetary adjustments in order to prevent inflationary policies that are only hypothetical?

Indeed, it is the success of the German hegemony that creates the second of the political motivations for the European monetary union. Put simply, nobody but the Germans, is fully in favour of letting the Bundesbank make monetary policy for all Europe. For many non-Germans, the creation of a European central bank that manages a European currency is a matter of national pride. For non-German central bankers, it is an opportunity to play an active role in the making of monetary policy.

But the reason for replacing the Bundesbank with a European central bank goes beyond national pride and the wishes of European central bankers. Not everyone shares Germany’s strong anti-inflationary preferences. A European central bank might today adopt a more expansionary monetary policy that accepts a permanently higher inflation to avoid slow growth.

It is ironic that while some advocates of single currency and a European central bank argue that they want to reduce the risk of inflation, others see it as a way of relaxing the very tough German anti-inflationary policy now forced on Europe by the Bundesbank.

All of which reinforces the belief that the strong advocacy of European Monetary Union does not reflect the political economy of monetary policy any more than it does a technical belief in the ability of monetary union to enhance trade within the community. Those who fervently advocate monetary union do so because they see it as a step towards a political union, and a particular type of political union at that.

Those who want to see Europe evolve into a political union see monetary union as a helpful point along the way. A single currency would give the people of Europe a sense that they are a part of single country even though they speak different languages and remember different national histories. A single currency of European central bank would transfer substantial power away from national governments and to nascent European central government. Many expect that this would be followed by limits on national fiscal policies and by enhanced centralized taxation.

The events in the Eastern Europe have complicated the scenario. The economic costs of a single currency union for all Europe increase as the number of countries with their different economic situations increase. As a practical matter the single currency and the European central bank would not include many of those countries that are currently not a part of EC.

Although there is much talk about a single all-encompassing European community that would welcome the countries of Eastern Europe, the move to a European monetary union now would create a two-class Europe in which those countries excluded from the proposed monetary union would be second class Europeans. With the Eastern European and probably some of the northern European countries excluded, Germany would be on the edge of the primary European community and France would be in the centre.

One may coclude by reiterating that monetary union is not needed to achieve the advantages of a free trade zone. On the contrary, an artificially contrived European Monetary Union might actually reduce the volume of trade among the members and would almost certainly increase the average level of unemployment over time.