Euro revision notes

The Euro is the single European countries adopted by 18 out of 28 EU countries. The UK has not joined.

The Euro involves:

  • Common currency
  • Common monetary policy – Eurozone interest rates set by the ECB in Brussels.
  • Some fiscal rules, e.g. The Fiscal Compact (2012) limiting the amount of government borrowing (a balanced budget of less than 3% of GDP)

The Euro is the second largest reserve currency in the world after the US Dollar.

Benefits of the Euro

  • Lower transaction costs for trade, tourism and consumers.
  • Greater price transparency (leading to more price competition and lower prices for consumers)
  • Eliminates exchange rate volatility, encouraging trade and inward investment.
  • In theory, lower inflation and lower interest rates.
  • See more: benefits of the Euro

Problems of the Euro

  • Common monetary policy not always suitable for all 18 members. e.g. southern Eurozone in recession, but ECB have kept monetary policy quite tight (relatively high interest rates). This means countries can be at risk of recession (if ECB keep interest rates too high) or boom if ECB don’t tackle inflationary pressure in that country.
  • Uncompetitiveness. Countries in the Euro cannot devalue their currency against European neighbours. If an economy becomes uncompetitive (e.g. relatively higher inflation / wages) then they will become uncompetitive and there will be: a fall in demand for exports and growth and a current account deficit.
  • Geographical immobilities. The Eurozone is quite diverse, it is difficult for unemployed Spanish workers to move to Germany to take advantage of jobs there. This lack of mobility makes a common monetary policy difficult.
  • Fiscal compact has created pressure for austerity, leading to lower growth. Countries in the Eurozone have few policies to increase aggregate demand (AD) in a recession.
  • Higher bond yields. Countries in Eurozone have faced rising bond yields because they have no Central Bank to act as lender of last resort.
  • Recession and low growth. Since 2008, the Eurozone has experienced low growth, high unemployment. Many fear the Eurozone has a deflationary bias.

More details – problems of the Euro

Should the UK join the Euro?

Yes

  1. Reduce exchange rate volatility
  2. Encourage trade and inward investment with main trading partners

No

  1. UK would suffer from losing independent monetary policy, e.g. no quantitative easing could have made recession worse.
  2. UK housing market very sensitive to interest rates.
  3. UK exports could end up becoming uncompetitive lack Southern Europe
  4. Growth likely to be lower.
  5. Past five years suggest membership of the Euro could contribute to very serious recession.

Should UK join the Euro?

Possible essay questions on the Euro

  • Discuss whether an Eastern Europe country like Latvia is likely to benefit from adopting the Euro?
  • Discuss how the UK economy would be affected if it adopted the Euro?

 

Topical reading

 

 

 

 

 

 

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