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USJI Voice Vol.30

Considering the “White Paper on the Future of Europe” ― Designing Systems with Clear Distinctions

November 02,2017
Kenji Iwata
Kenji Iwata
Director, EU Centre, Kyushu University / Professor, Graduate School of Economics, Kyushu University / President, European Union Studies Association Japan

Sixty Years Since the Treaties of Rome – the Economic Successes and Challenges of an Integrated Europe

This year marks the 60th anniversary of the signing of the Treaties of Rome, which declared the establishment of the European Economic Community (EEC), from which the European Union (EU) originated. The achievements of the integration in the economic field from the establishment of the EEC can be summarized in the following two categories: the Single Market (including the Customs Union and Common Agricultural Policy) that was completed through market integration in 1992, and the Single Currency Euro that began with the establishment of the EMU (Economic and Monetary Union) in 1999. Completely different economic logic drives these two categories of economic integration, and each has its own unique cost-benefit structure.

The benefits of the Single Market (including the Customs Union) are 1) lower prices achieved through the customs union and 2) a) reduced costs by eliminating non-tariff barriers b) economies of scale through cross-border competition among businesses within the internal market, achieved through market integration. The primary cost of obtaining such benefits is compensating comparatively disadvantaged industries and regions that cannot enjoy the benefits of integration. Several efforts to create a single market, from the establishment of the Customs Union in 1968 to the completion of the market integration in 1992, have supported economic growth by expanding trade and investment and achieving economies of scale. These efforts brought about 1) the convergence of economic standards in developed member states, and 2) the convergence of the economic standards of newly-joined peripheral member states with those of core members (For data, please refer to Morii, Yuichi [Ed.] “Introduction to the Politics and Economy of Europe,” Yuhikaku Publishing, Chapter 11).

Meanwhile, the introduction of a single currency excludes speculative attacks within the single currency zone and eliminates the costs of foreign exchange and uncertainty in exchange rates. In an era of financial globalization, the benefits of such stability are huge. The introduction of the euro by three Baltic countries from 2011 to 2014 during the height of the debt crisis in the Euro Zone clearly illustrates this advantage. On the other hand, to realize these benefits, member states should abandon their own monetary policies and lose the ability for external adjustments through movements of the nominal exchange rate. Yet the experiences of the Euro Zone since the introduction of the euro demonstrate that such costs (particularly the latter) are larger than initially expected. Substitutes for these two existing adjustment methods have been supposed: 1) wage adjustments, 2) movement of labor, and 3) fiscal transfer. However, none of these methods have functioned well enough, and there have long been discussions regarding which methods are desirable. In reality, divergence rather than convergence of GDP per capita among member states, especially between Germany which has been the sole economic winner after the Euro Zone debt crisis, and Italy which has long been facing serious structural problems, has been observed since the introduction of the euro in 1999 (see Figure 1).

Considering the “White Paper on the Future of Europe”
– Distinguishing the Two Categories of Integration is Crucial for Building an Effective EU Economy

During the 2000s, the EU economy was hit by the global financial crisis and then the Euro Zone debt crisis. In terms of the two primary areas of integration discussed above, this means that the balance of benefits and costs temporarily leaned (heavily) in the direction of costs, and the net economic benefit of integration was exhausted. In particular, the question of how to minimize costs to maintain a single currency has been a major issue.

Meanwhile, in March of 2017 the European Commission released the “White Paper on the Future of Europe.” The paper presented five possible scenarios for the future of the EU with 27 Member States excluding the United Kingdom: a) carrying on, b) nothing but the single market, c) those who want more do more, d) doing less more efficiently, and e) doing much more together.

The white paper inaugurated widespread discussions in every field of EU policy. From the point of view of economic integration theory, the future EU must re-visualize the net economic benefits in terms of two different categories of integration—the Single Market and the Single Currency—and then put these benefits in a form that can be widely distributed to EU citizens. When considered from that perspective, the best avenue to the correct answer would be to wisely combine multiple scenarios rather than to select only one of the five scenarios presented in the white paper. Specifically, the avenue would be as follows: 1) the fundamental framework would be the multispeed integration described in scenario “c)” with the scope of “multi” being limited only to the single market and the single currency; 2) for those countries participating in the single market, only scenario “b)” should be applied, and 3) for those countries participating in the single currency, scenario “e)” should be applied.

The Single Market: Pursuing Enlargement Rather Than Contraction
― “One Market, One Money” Is Not an Absolute Proposition

First of all, based on the above argument that a single market and a single currency have entirely different logic and cost-benefit structures, it is important to discuss them separately. Based on the idea of “One Money, One Market,” countries joining the EU are currently required not only to participate in the single market, but also to prepare to introduce the single currency. In order to avoid the latter, member states must pursue an opt-out clause, as the UK did. This system should be replaced by the new EU system, where the member states could fully enjoy the net benefits of single market without being obliged to participate in the single currency.

Then, with a mere single market, all the EU has to do is to simply maximize the benefits of the single market that can be distributed to member states. When considering that the economies of scale lie in the center of the benefit of the single market, Brexit is negative not only for the UK, but also for all the other remaining 27 EU Member States. In particular, the EU stands to lose a great deal when it comes to industries in which the UK has comparative advantages, such as the financial and manufacturing sectors, especially automobiles and pharmaceuticals. Therefore, keeping the UK’s access to the single market through “Soft Brexit” could benefit not only the UK but also the EU. Also, experiences of European economic integration over the past 60 years suggest that the single market enlarging to all the EU neighboring countries whose GDP per capita have reached 60% of the EU average would result in benefits to the whole area. In this regard, in addition to the Balkan countries applying for EU membership, North African countries could also be candidates.

Single Currency: Deepening Integration Is the Euro’s Only Path to Survival

Reform of the euro is underway to minimize the costs of the single currency, which have been larger than anticipated. In June of 2015, the EU released “Completing Europe’s Economic and Monetary Union (The Five President’s Report),” showing a roadmap for completing the EMU with the following unions in two steps by 2025: the Financial Union, which attempts to stabilize the banking system and strengthen the function of capital markets; the Economic Union, whose goals include economic convergence within the EU and an increase in employment and growth; and the Fiscal Union, which attempts to oversee budgets of member states within the Euro area and to stabilize the area’s economy through common budgetary instruments. Among these Unions, the current focus is to make the Economic Union highly effective and to reconstruct “a community of convergence and prosperity” in the euro area. This would involve putting an end to the unprecedented divergence between the German economy, which has become the sole winner through strong exports after the Euro area debt crisis, and Southern European economies (especially Italy), which have been facing problems in economic structure and suffering with government debt and/or banking crises. In order to achieve this goal, more power than ever before to pursue macroeconomic policy should be allocated to the EU. This would force Germany, for example, to stimulate domestic demand and to make Italy accelerate sometimes painful economic structural reforms. Without such a visible result of economic convergence within the euro area being achieved through the Economic Union, it is obvious that the Fiscal Union will become a system of one-way transfer of public funds from northern member states such as Germany to the southern member states such as Italy—a system that will never be approved by the former. In order for the euro to survive in the future, there is a strong need for the further deepening of the integration with the proper sequence: achieving visual results from the Economic Union before proceeding with the Fiscal Union.

At present, there is widespread debate regarding the “White Paper on the Future of Europe” among the European Parliament, citizens, etc., and the European Council is going to adopt the first conclusions at its December meeting. The conclusions are expected to be in line with the theoretical framework of economic integration that is discussed above.

 


The USJI Voice is a policy-related opinion paper produced by researchers at USJI-affiliated universities. The USJI Voice is written for experts in areas connected to U.S.-Japan relations. Please share with us your opinions and suggestions related to your areas of interest.

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