EUROPEAN ECONOMIC AND MONETARY UNION

1. EUROPEAN ECONOMIC AND MONETARY UNION LECTURER ITIR BAGDADI

2. OVERVIEW • Economic Integration • One of the most powerful dynamics of this era in world politics • Nations are increasingly driven to unite their economies for greater efficiency and growth • Integrated markets do NOT necessarily mean integrated states

3. EUROPEAN UNION • Began life in 1957 as the European Economic Community (EEC) – often called the Common Market • 1980s - “economic” element in group's name was eliminated – European Community (EC) created • 1993 – name changed to the European Union (EU) • Fundamental question: Is economics more important than politics? • Does the individualistic motives of the market matter more than the unifying social values of the nation-state?

4. 20th Century in Europe • Most violent century in history • 2 common enemies: • External threat of the USSR during the Cold War • Internal threat of a return to divisions and conflicts that created war and instability in Europe in the past • Europe has been able to achieve political cooperation and even unify by using economics as a political tool

5. 21st Century • Regionalism is a distinctive feature of IPE in the 21st century • IPE is pulled in 2 directions: • On the one hand security concerns make the state as important now as it has ever been. • At the same time, the forces of economic globalization are blurring the distinction between home and abroad. From an economic standpoint the world is defined by markets – and they are global.

6. Regionalism • Refers to the process by which groups of nation-states, usually in the same geographic region, agree to cooperate and share responsibility to achieve common goals. • Regional groups are “clubs” formed by nation-states to accomplish objectives that require coordinated or collective action • The goals may be narrow and specific (ex. Ecotourism) or very broad and ambigous (like the EU) • Regionalism takes many forms in IPE • Regional environmental agreements, regional economic development programs, regional scientific and health regimes, and regional security arrangements • Regionalism is not a new thing but what is new is its strength as an organizing force due to the incrasing importance of economic integration and the rise of regional trade blocs

7. ECONOMIC INTEGRATION • The process by which a group of nation states agree to ignore their national boundaries for at least some economic purposes, creating a larger and more tightly connected system of markets • Several degrees of economic integration: • Free Trade Area (FTA) • Customs Union • Economic Union

8. Free Trade Area • Involves a relatively minimal degree of integration • Nations in FTA agree to eliminate tariff barriers to trade for goods and services they produce themselves • However, each nation still retains the right to set its own tariff barriers with respect to products from outside the FTA • In essence, some goods are still subject to differential trade barriers while some goods are tariff-fee (for ex. Goods from other countries) – this leads to complications

9. North American Free Trade Area (NAFTA) • Example of an FTA • Goods from the USA, Canada and Mexico will be traded freely within NAFTA borders • Goods from other countries will be subject to differential trade barriers of these three countries • (ex. Chile has negotiated three separate bilateral trade agreements with each of the NAFTA members separately)

10. NAFTA • Trade bloc in North America created by the U.S.A, Canada and Mexico • Came into effect January 1, 1994 • Between 1993 – 2004 trade among NAFTA members increased 129.3%

11. Customs Union (example: Turkey - EU) • A group of nations agree both to tariff free trade within their collective borders and to a common set of external trade barriers • If NAFTA were to evolve into a customs union, the USA, Canada and Mexico would need to agree to a unified set of tariff barriers that would apply to products from other countries • The Treaty of Rome, which created the EEC, was based upon the idea of a customs union • The movement to a customs union is an important step in terms of economic and political integration

12. Customs Union (cont.) • Nations involved give up some degree of sovereignty or national political economy since they can no longer set their own trade barriers without consulting their economic partners • Nations gain a far greater degree of economic integration • Products flow more easily within a customs union without need for border inspections or customs fees because of the unified trade structure (however, member nations still retain right to impose some non-tariff barriers such as health and safety standards

13. Turkey – EU Customs Union • Came into effect on 31 December 1995 • Does not cover essential economic areas like agriculture (bilateral trade concessions still apply) and services • Turkey applied for full EU membership in 1987 • Helsinki Summit (December 1999) – Turkey given candidate country status • October 3, 2005 – European Council began accession negotiations with Turkey

14. Turkish Exports

15. Turkey in World Trade in Regional Perspective in 1993, 1996 and 2004

16. Turkey’s Foreign Trade By Sectors

17. Turkey’s Foreign Trade by Country Groups

18. Direction and Dynamics of Turkey’s Trade in 1985, 1995 and 2001-2004 (in millions of dollars and percent)

19. Change in shares in EU external imports in 1992-2004

20. Economic Union (example: EU) • The final stage of economic and political integration • Non-tariff barriers are eliminated along with tariff barriers creating an even more fully integrated market • Member nations also agree to four “freedoms” of movement: • Goods • Services • People • Capital

21. Economic Union (cont.) • Four freedoms represent significant limitations on national sovereignty but have significant effects on economic activity • Free Movement of Goods: • Goes beyond the elimination of tariff barriers • Requires a variety of governmental health, safety and other standards and regulations to be “harmonized” so that a product that can be sold somewhere in the economic union can be sold everywhere in it • Free Movement of Services: • The service sector includes many industries such as banking and finance traditionally subject to heavy regulation that varies considerably among nations

22. Economic Union (cont.) • Free Movement of People: • Requires a unified immigration policy since a person free to enter and work in one member of the economic union would be able to live and work anywhere in the area • Free Movement of Capital: • Individual nations give up their ability to regulate investment inflows and outflows • Many nations have traditionally imposed capital controls to encourage domestic investment, promote financial stability or reduce foreign exchange variations • These controls are not eliminated in an economic union but must be “harmonized” so that national regulations are similar enough to not become a barrier to economic activity

23. Economic Union (cont.) • If we consider the different state in an alliance, then the US is the most successful economic union in the world • Economic integration is appealing because it is a way for nations to achieve greater efficieny in their use of scarce resources and higher rates of economic growth • Leads to both static efficiency gains and dynamic efficiency gains

24. Static Efficieny Gains • With completely free trade within the area, each member nation is able to specialize in producing the goods and services in which it is most efficient • Protective barriers that preserve inefficient industries and promote redundancy are eliminated • The creation of a large, integrated market promotes efficiency in certain industries where large scale production or long production runs are possible. These gains from “economies of scale” make products cheaper and more competitive

25. Dynamic Efficiency Gains • Promotion of economic growth • A larger and more competitive market is likely to be more innovative • As internal trade barriers are removed, previously protected firms are forced to compete with one another and this makes them more “efficient” • If economic integration is successful, economic growth rates tend to increase, which raises living standards

26. Trade Diversion Effect • Regional Trade Blocs became important and controversial in the 1990s because of the trade diversion effect of a FTA, customs union or economic union • By dropping internal barriers members create more trade between and among member nations • Some of this is newly created trade but some of it is trade that is lost from another non-member partner • Ex. With NAFTA, Mexican trade to the USA increased while other developing nations’ trade decreased

27. Trade Diversion • Trade diversion is a two-fold problem: • It is an economic problem because it means that economic integration is not as efficient as it may seem. Trade blocs may be economically beneficial for the nations that form them but they create inefficiency and economic loss for other countries that suffer the loss. • It is also a political problem since as more and more countries enter into regional economic groups non members find themselves locked out and vulnerable. They have a strong motivation to gain membership in an existing bloc to get trade creation effects or to form their own bloc with other countries in the same boat. • The threat of trade diversion and of being left out has led to an expansion in size and number of trade blocs

28. Sovereignty at Risk: The Politics of Integration • There are many political implications that should be considered when looking at an economic union • Trade-offs between economic benefits and political costs • Cooperation in economic sphere = cooperation in political sphere • Example: an economic union requires that a nation negotiate a new immigration policy, safety standards, methods of financial regulation and adopt a harmonized system of investment controls • Political choices no longer influenced mainly by domestic voters and groups – now the wishes of groups in other member states must also be considered

29. Politics of Integration (cont.) • Fundamental problem: loss of sovereignty that occurs when nations form regional trade blocs • At some point each member state risks being forced to ignore national interests as a consequence of maintaing its international obligations • This tension between national interest and international obligations poses a severe dilemma for states which tend to value security and autonomy • Another school of thought that does not believe that economic integration weakens political power states that integration weakens the hold of national interest groups on political decisions – specific interest groups are less likely to benefit and resulting policies will reflect the public interest

30. Politics of Integration (cont.) • Another argument states that individual nations may actually gain political power, especially in relations with other nations, by being members of a powerful economic alliance. • Example: Belgium – a more powerful political presence as a leading nation of the EU than if it were simply a small but autonomous European nation • Basically, it is argued that smaller countries are far more powerful as members of a larger group than tney would be as separate, unaffiliated individual nations

31. European Economic Community (cont.) • Movement toward a united Europe was founded upon two important ideas: • It is possible for nations to live in a state of “perpetual peace” (attributed to Immanuel Kant) under a federal system of governance, where each yields some sovereignty and sacrifies some national interests in return for like actions by others. However, it was difficult to transform an environment of nearly perpetual war (Europe from 1914-1945) into one where Kant's vision of perpetual peace would take hold • Economic cooperation and the gains therefrom would strengthen the cooperative ties that bind European nations together (attributed to David Ricardo)

32. European Economic Community (cont.) • More than perpetual internal peace was desired. Postwar Western leaders sought to create strong, democratic, capitalist nations to a firm wall of resistance to the spread of communism • Marshall Plan (1948): • The first formal postwar step toward building an integrated European economy • President Harry S. Truman's Secretary of State, General George Marshall called upon the nations of Europe to form a continentwide economic market like the USA • Marshall Plan aid was designed to hasten economic recovery by providing a resource base on which to build a European community

33. How different states viewed European integration • USA – saw European integration as a strong anticommunist ally • Many Europeans – supported it as a solution to the “German problem” – the need to embed German political and economic power in supranational insitutions • Germany – wanted to be reintegrated into the international community after the disaster of Nazism • Great Britain – Winston Churchill saw the “United States of Europe” as a balance to US influence in the postwar era • France – President Charles de Gaulle imagined a “Europe of States” in which the structure of regionalism would enhance the sovereignty and status of all its members

34. European Economic Community (cont.) • An integrated Europe also needed European leadership • Jean Monnet, a French political economist, provided the intellectual guidance • He proposed an alliance along functional economic lines: a zone of free trade uniting the heavy industry regions that spanned the French-German border • This plan for the European Coal and Steel Community (ECSC) was implemented by Robert Schuman, a French statesman, in 1950 • ECSC was a critical test for Europe and provided a model for futher integration in Western Europe

35. European Economic Community (cont.) • 1957 – Treaty of Rome: • Created the European Economic Community (EEC, or the Common Market) – a customs union that brought together the markets of Italy, France, Belgium, Luxembourg, the Netherlands and West Germany • This union of “the six” was a great success because these nations were natural trading partners • Great Britain participated in the negotiations but decided against it for fear of losing political and economic autonomy and preferential trading relations with the Commonwealth nations and the USA

36. European Economic Community (cont.) • European Free Trade Area: • Great Britain did not want to be isolated from the rest of Europe and organized a weaker alliance of trading nations called the European Free Trade Area (EFTA) • EFTA brought together Denmark, Sweden, Austria, Switzerland, Portugal and the United Kingdom • An FTA, being more restricted than a customs union, could never offer these nations the benefit of a common market • Geographic separation, deep cultural divisions, huge economic gaps between rich and poor members contributed to limit trade and growth • EFTA members soon sought EEC membership

37. European Economic Community (cont.) • Trade among EEC members was never entirely free – non-tariff barriers to trade abounded and sometimes nations would simply refuse to accept imports of any items from another member, in violation of the Treaty of Rome because of domestic political or economic concerns • It was also necessary to create an elaborate system of agricultural subsidies across the EEC to defuse political opposition from powerful farm groups • The Common Agricultural Policy (CAP) provided for a complex pattern of payments to farmers in all EEC nations

38. European Economic Community (cont.) • Although a far cry from free trade and laissez-faire, CAP was the price of achieving greater liberalism and cooperation in other spheres of economic life. • The CAP eventually led to a budget crisis in the 1980s • The EEC changed its name to the European Community (EC) in 1967 signaling intention to move beyond purely economic issues

39. Common Agricultural Policy • One of the most controversial and divisive elements of economic and political integration in Europe • An EU-wide system of agricultural subsidies, financed through value-added-taxes imposed by EU member nations • Largest item of expenditure of the EU and has been a point of contention both within the EU and in its relations with other nations • Perfect example of the use of economic means to achieve political ends

40. Common Agricultural Policy

41. Common Agricultural Policy (cont.) • When the EEC was being formed, farm interests were a major political obstacle • Farmers feared a more comopetitive market would make them suffer to sell their own goods • Since farm groups could have potentially blocked the European integration the CAP was created • CAP created a unified system of farm subsidies that insulated farmers from many aspects of competitive market forces • CAP can be thought of as a system that collected some of the economic gains of European integration in the form of taxes that were then paid to farmers in exchange for their political support

42. Common Agricultural Policy (cont.) • Provides Europe's farmers with high prices through a system of price supports – the EU purchases excess farm produce to keep prices from falling and farm incomes from declining – a system that benefits farmers at the expense of the tax-paying public • Over the years the CAP's guarantees have encouraged European farmers to over-produce • CAP is now a source of deep political disagreement

43. Common Agricultural Policy (cont.) • Problems of CAP: • As the EU expanded, the cost of maintaining agricultural subsidies has grown. Rising costs have pitted nations that are net recipients of CAP funds against nations that are net payers of the taxes that fund the program • The future of the EU's expansion into Central and Eastern Europe have created additional pressures. The countries that believe they unfairly pay the bills are worried that the bills will get larger. At the smae time, current EU members are fearful that more subsidies to new EU members will come at the expense of payments to their own farmers • EU is under pressure from the US and other countries to reduce agricultural subsidies generally as part of the WTO's process of trade liberalization - Plans are in the works to reduce agricultural subsidies

44. Common Agricultural Policy

45. The European Community, 1973-1993 • The second stage of development of the EU lasted from 1973-1993 • Great Britain, Ireland and Denmark entered the EC in 1973 • Greece entered in 1981, followed by Spain and Portugal in 1986 • EC membership for these three countries was in part a reward for the triumph of democratic institutions over authoritarian governments. Free trade and closer economic ties were intended to solidify democracy and protect it from communist influence

46. The European Community (cont.) • The entry of poorer nations of Ireland, Greece, Spain and Portugal magnified a variety of tensions within the EC • Lower living standards limited the extent of their trade with richer member states • Lower wage structures threatened some jobs in EC industries • The entry of four largely agricultural nations to the EC institutions, like the CAP, put severe fiscal strains on the other nations

47. The European Community (cont.) • These economic and political stresses caused a split in the EC. • Jacques Delors, the new president of the European Commission tried to find a way to reunite the EC and he produced a proposal for the creation of a single market by 1992 – the Single Market Act • Although it seemed as if the EC was already a single market, it was still far from its goal • The goals were the “four freedoms”: • Free movement of goods • Free movement of servies • Free movment of capital • Free movement of people

48. The European Community (cont.) • National sovereignty and economic growth were often in conflict • For example: Germany wanted its stringent environmental laws applied to the EC but Portugal and Greece objected because it was too costly • The four freedoms required sacrifice of some domestic freedoms, such as the right to self-determination of environmental and safety standards • Not all of the goals of the Single Market were achieved by 1/1/1993, the basic thrust of the program succeeded, however, Europe did not immediately experience economic growth

49. 1995-2003 • 1995 – • Accession of Austria, Finland and Sweden to the EU • Schengen Agreement (abolishing border controls) implemented by Germany, France, Benelux states, Spain and Portugal • 1997 - European Council agrees on the Treaty of Amsterdam strengthening EU institutions • 1999 – The Euro goes into effect in 11 of the 15 EU member states • 2000 – European Council agrees on the Treaty of Nice • 2002 – Euro coins and banknotes enter circulation and replace national currencies • 2003 – The Draft of a Constitution for Europe presented

50. EU-27