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Chapter 35 European integration

Chapter 35 European integration. David Begg, Stanley Fischer and Rudiger Dornbusch, Economics , 8th Edition, McGraw-Hill, 2005 PowerPoint presentation by Alex Tackie and Damian Ward. Some key issues. The European Single Market what difference did it make? Economic and Monetary Union (EMU)

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Chapter 35 European integration

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  1. Chapter 35European integration David Begg, Stanley Fischer and Rudiger Dornbusch, Economics, 8th Edition, McGraw-Hill, 2005 PowerPoint presentation by Alex Tackie and Damian Ward

  2. Some key issues • The European Single Market • what difference did it make? • Economic and Monetary Union (EMU) • why did it happen? • what difference will it make? • Reform in Eastern Europe • how are these countries faring in their transition from central planning to market economies?

  3. The size of the single market, 2000 • Established under the Single European Act of 1987 • with December 1992 as the target date for completion • which was met

  4. Source:http://epp.eurostat.ec.europa.eu

  5. Objectives of the single market • Abolition of remaining foreign exchange controls on capital flows • removal of non-tariff barriers within the EU • elimination of bias in public sector provisioning • removal of frontier controls • with some provisos • progress towards harmonisation of tax rates.

  6. Benefits of the single market • Improved resource allocation • removal of non-tariff barriers allows more exploitation of comparative advantage • Scale economies • larger potential market increases the scope for economies of scale • Intensified competition • may stimulate greater cost efficiency • Factor mobility • enables greater efficiency through mobility of labour and capital

  7. Gains from the single market Source: Allen, Gasiorek and Smith (1998)

  8. From EMS to EMU • A monetary union has • permanently fixed exchange rates within the union • an integrated financial market • a single central bank setting the single interest rate for the union. • The Maastricht Treaty set criteria for EMU entry • to define ‘convergence’ • The single currency area began in January 1999 with 11 member countries.

  9. The Maastricht criteria • Inflation rate • no more than 1.5% above the average of the inflation rate of the lowest 3 countries in the EMS • Long-term interest rate • no more than 2% above the average of the lowest 3 EMS countries • Exchange rate • in the narrow band of ERM for 2 years • Budget deficit • no larger than 3% of GDP • National debt • no greater than 60% of GDP

  10. Sterling and Europe UK membership of ERM/EMU? North Sea oil made the UK different The UK is less integrated with the rest of Europe – but this is changing ... The UK has a greater tradition of macroeconomic sovereignty. Black Wednesday and the ERM crisis The UK’s business cycle was out of phase with the rest of Europe.

  11. The chancellor’s five economic tests • Sustainable convergence between Britain and the Euroland economies • Sufficient flexibility to cope with economic change • The effect on investment of joining the single currency • The impact on the UK financial services industry • Positive impact on employment.

  12. The economics of EMU • Optimal currency area • a group of countries better off with a common currency than keeping separate national currencies • 3 key attributes (Mundell) • countries that trade a lot with each other • countries with similar economic and industrial structures • flexibility in labour markets

  13. So is Europe an optimal currency area? • Europe is ‘quite’ but not very closely integrated • Some countries are more closely integrated than others • but the act of joining may itself feed the process of integration

  14. IS1 Suppose an external shock moves the IS curve to IS1 Y1 or fiscal policy will be required to enable more rapid adjustment. Macroeconomic policy for a small member of Euroland A small Euroland member faces a horizontal LM curve, given that interest rates are fixed by the ECB. IS0 LM r0 If the country is too small to influence the ECB to alter interest rates, either the country must wait for wage & prices to shift IS back via improved competitiveness, Y0

  15. Central and Eastern Europe GDP per capita in 1988/89

  16. Eastern Europe: some key issues • On the eve of transition • low per capita income • high international debt • Supply-side reforms • crucial for prices to reflect true scarcity • Trade and foreign investment • markets needed for products • and physical capital/management skills • Macroeconomic conditions • firm and credible macro policy needed • especially to avoid excessive inflation.

  17. A progress report on the transition(selected countries) Growth of real GDP Inflation

  18. Inflation & GDP Growth Figures for Turkey Inflation Growth of real GDP Source: Central Bank of the Republic of Turkey. Source: SPO

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