Project Report Euro

8/8/2019 Project Report Euro

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-: A PROJECT REPORT ON:-

EURO AND ITS IMPACT ON

EUROPEAN

ECONOMY

PREPARED BY:- SUBMITTED TO:-

SUPRIYA 35

AFSANA 36YOGESH 37

LILA 38

DEVANG KALE(SCHOOL OF

MANAGEMENT-SVU)


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ABOUT EUROPE ECONOMY

The economy of Europe comprises more than 731 million people in 48 different states. It

contributes 11% of the world's population. Like other continents, the wealth of Europe's

states varies, although the poorest are well above the poorest states of other continents in

terms of GDP and living standards. The difference in wealth across Europe can be seen in a

rough East-West divide. Whilst Western European states all have high GDPs and living

standards, many of Eastern Europe's economies are still rising from the collapse of the

communist Soviet Union and former Yugoslavia. Throughout this article "Europe" and

derivatives of the word are taken to include selected states whose territory is only partly in

Europe such as Turkey, Azerbaijan, and the Russian Federation and states that are

geographically in Asia, bordering Europe such as Armenia and Cyprus.

Europe was the first continent to industrialize led by the United Kingdom in the 18th

century and as a result, it has become one of the richest continents in the world today.

Europe's largest national economy is that of Germany, which ranks fourth globally in

nominal GDP, and fourth in purchasing (PPP) GDP; followed by the UK, which ranks sixth

globally in nominal GDP and fifth in PPP GDP; France, ranking seventh globally in nominal

GDP, followed by Italy. The end of World War II has since brought European countries

closer together, culminating in the formation of the European Union (EU) and in 1999, the

introduction of a unified currency the euro. If the European Union was taken as a single

country, today it would be the world's largest economy see List of countries by GDP. In

2009 Europe remained the wealthiest region. Its $37.1 trillion in assets under management

represented one-third of the worlds wealth. It was one of several regions where wealth

surpassed its pre crisis year-end peak.


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THE EORO CURRENCY:-

The euro was introduced to world financial markets as an accounting currency in 1999 andlaunched as physical coins and banknotes in most of the above countries in 2002. Sloveniajoined the Euro zone on 1 January 2007, Malta and Cyprus a year later, and Slovakia on 1January 2009. All EU member states are eligible to join if they comply with certainmonetary requirements, and eventual use of the euro is mandatory for all new EU memberstates.

The euro is managed and administered by the Frankfurt-based European Central Bank(ECB) and the European System of Central Banks (ESCB) (composed of the central banks ofits member states).

As an independent central bank, the ECB has sole authority to set monetary policy. TheESCB participates in the printing, minting and distribution of notes and coins in all memberstates, and the operation of the Euro zone payment systems.


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CHARACTERISTICS OF THE EURO

Coins and banknotes

The euro is divided into 100 cents (sometimes referred to as eurocents). All euro coins(including the 2 commemorative coins) have a common side showing the denomination(value) with the EU-countries in the background and a national side showing an imagespecifically chosen by the country that issued the coin. All coins can be used in all memberstates. The euro coins are 2, 1, 50c, 20c, 10c, 5c, 2c and 1c (known as tinies for theirsmall size), though the latter two are not minted in Finland or the Netherlands (but are stilllegal tender). Many shop owners in the Euro zone prefer having all their prices end in 0 or5 Cents, so that 1c and 2c coins are not needed. All euro banknotes have a common designfor each denomination on both sides. Notes are issued in 500, 200, 100, 50, 20, 10,5. Some of the higher denominations, such as 500 and 200, are not issued in a fewcountries, though are legal tender. The ECB has set up a clearing system for large euro

transactions (TARGET). All intra-Euro zone transfers shall cost the same as a domestic one.This is true for retail payments, although several ECB payment methods can be used. Creditcard charging and ATM withdrawals within the Euro zone are also charged as if they weredomestic. The ECB hasn't standardized paper based payment orders, such as cheques;these are still domestic-based.

The currency sign

A special euro currency sign () was designed after a public survey had narrowed theoriginal ten proposals down to two. The European Commission then chose the final design.The eventual winner was a design allegedly created by a team of four experts who have not

been officially named. The official story of the design history of the euro sign is disputed byArthur Eisenmenger, a former chief graphic designer for the EEC, who claims to havecreated it as a generic symbol of Europe.

The glyph is (according to the European Commission) "a combination of the Greek epsilon,as a sign of the weight of European civilization; an E for Europe; and the parallel linescrossing through standing for the stability of the euro". The European Commission alsospecified a euro logo with exact proportions and foreground/background color tones.Although some font designers simply copied the exact shape of this logo as the euro sign intheir fonts, most designed their own variants, often based upon the capital letter C in therespective font so that currency signs have the same width as Arabic numerals.

Placement of the currency sign varies from nation to nation. While the officialrecommendation is to place it before the number (contravening the general ISOrecommendation to place unit symbol after the number), people in many countries havekept the placement of their former currencies.


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ECONOMIC AND MONETARY UNION

History (1990-2006)

The euro was established by the provisions in the 1992 Maastricht Treaty on EuropeanUnion that was used to establish an economic and monetary union. In order to participatein the new currency, member states had to meet strict criteria such as a budget deficit ofless than three per cent of their GDP, a debt ratio of less than sixty per cent of GDP, lowinflation, and interest rates close to the EU average. Economists that helped create orcontributed to the euro include Robert Mundell, Wim Duisenberg, Robert Tollison, NeilDowling and Tommaso Padoa-Schioppa. (For macro-economic theory, see below.)

Due to differences in national conventions for rounding and significant digits, all conversionbetween the national currencies had to be carried out using the process of triangulation viathe euro. The definitive values in euro of these subdivisions (which represent the exchange

rates at which the currency entered the euro) are shown as:-

Currency Abbr Rate Fixed on

Austrian schilling ATS 13.7603 31/12/199

Belgian franc BEF 40.3399 31/12/199

Dutch gulden NLG 2.20371 31/12/199

Finnish mark FIM 5.94573 31/12/199

French franc FRF 6.55957 31/12/199

German mark DEM 1.95583 31/12/199

Irish pound IEP 0.787564 31/12/199

Italian lira ITL 1936.27 31/12/199

Luxembourg franc LUF 40.3399 31/12/199

Portuguese escudo PTE 200.482 31/12/199

Spanish peseta ESP 166.386 31/12/199

Greekdrachma GRD 340.750[4]19/06/200


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The rates were determined by the Council of the European Union, based on arecommendation from the European Commission based on the market rates on 31December 1998, so that one ECU (European Currency Unit) would equal one euro. (TheEuropean Currency Unit was an accounting unit used by the EU, based on the currencies ofthe member states; it was not a currency in its own right.) These rates were set by Council

Regulation 2866/98 (EC), of 31 December 1998. They could not be set earlier, because theECU depended on the closing exchange rate of the non-euro currencies (principally thepound sterling) that day.

The procedure used to fix the irrevocable conversion rate between the Drachma and theeuro was different, since the euro by then was already two years old. While the conversionrates for the initial eleven currencies were determined only hours before the euro wasintroduced, the conversion rate for the Greek Drachma was fixed several monthsbeforehand, in Council Regulation 1478/2000 (EC), of 19 June 2000.

The currency was introduced in non-physical form (travellers' cheques, electronic transfers,

banking, etc.) at midnight on 1 January 1999, when the national currencies of participatingcountries (the Euro zone) ceased to exist independently in that their exchange rates werelocked at fixed rates against each other, effectively making them mere non-decimalsubdivisions of the euro. The euro thus became the successor to the European CurrencyUnit (ECU). The notes and coins for the old currencies, however, continued to be used aslegal tender until new notes and coins were introduced on 1 January 2002.

The changeover period during which the former currencies' notes and coins wereexchanged for those of the euro lasted about two months, until 28 February 2002. Theofficial date on which the national currencies ceased to be legal tender varied from memberstate to member state. The earliest date was in Germany; the mark officially ceased to be

legal tender on 31 December 2001, though the exchange period lasted two months. Thefinal date was 28 February 2002, by which all national currencies ceased to be legal tenderin their respective member states. However, even after the official date, they continued tobe accepted by national central banks for several years up to forever in Austria, Germany,Ireland, and Spain. The earliest coins to become non-convertible were the Portugueseescudos, which ceased to have monetary value after 31 December 2002, althoughbanknotes remain exchangeable until 2022.

Current Euro zone

y The euro is the sole currency in Austria, Cyprus, Belgium, France, Finland, Germany, Greece,Ireland, Italy, Luxembourg, Malta, the Netherlands, Portugal, Slovakia, Slovenia and Spain. These 16countries together are frequently referred to as the eurozone or the euro area, or more informally'Euro land' or the 'Euro group'. The euro is also legal currency in the Euro zone overseas territoriesof French Guiana, Reunion, Saint-Pierre et Miquelon, Guadeloupe, Martinique and Mayotte.

y By virtue of some bilateral agreements the European microstates of Monaco, San Marino, andVatican City mint their own euro coins on behalf of the European Central Bank.


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y Andorra, Montenegro and Kosovo adopted the euro as their legal currency for movement ofcapital and payments without participation in the ESCB or the right to mint coins. Andorra is in theprocess of entering a monetary agreement similar to Monaco, San Marino, and the Vatican City.

EFFECTS OF A SINGLE CURRENCY

The introduction of a single currency for many separate countries presents a number ofadvantages and disadvantages for the participating countries. Opinions differ on the actualeffects of the euro so far, as most of them will take years to understand. Theories andpredictions abound.

Removal of exchange rate risk

One of the most important benefits of the euro will be lowered exchange rate risks, which

will make it easier to invest across borders. The risks of changes in the value of respectivecurrencies have always made it risky for companies or individuals to invest or evenimport/export outside their own currency zone. Profits could be quickly eliminated as aresult of exchange rate fluctuations. As a result, most investors and importers/exportershave to either accept the risk or "hedge" their bets, resulting in further costs on thefinancial markets. Consequently, it is less appealing to invest outside one's own currencyzone. The Euro zone greatly increases the potentially "exchange-risk free" investment area.Since Europe's economy is heavily dependent on intra-European exports, the benefits ofthis effect can hardly be overstated. This is particularly important for countries whosecurrencies have traditionally fluctuated a great deal such as the Mediterranean countries.

At the same time, this is likely to increase foreign investment in countries with more liberalmarkets and reduce that in those with rigid markets. Some people worry that thus will seeprofits flowing away from particular member states to the detriment of their traditionalsocial values. It might also result in the reduction of local decision makers in businesses.

Removal of conversion fees

A benefit is the removal of bank transaction charges that previously were a cost to bothindividuals and businesses when exchanging from one national currency to another.Although not an enormous cost, multiplied thousands of times, the savings add up across

the entire economy.

For electronic payments (e.g. credit cards, debit cards and cash machine withdrawals),banks in the Euro zone must now charge the same for intra-member cross-bordertransactions as they charge for domestic transactions. Banks in France have attempted tocircumvent this regulation by charging for all bank transfers (domestic and cross-border)unless the transfer is instructed via online banking a method unavailable to cross-


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border payments. In this way, banks in France continue to charge more for cross-bordertransfers than for domestic transfers.

Deeper financial markets

Another significant advantage of switching to the euro is the creation of deeper financialmarkets. Financial markets on the continent are expected to be far more liquid and flexiblethan they were in the past. There will be more competition for, and availability of financialproducts across the union. This will reduce the financial servicing costs to businesses andpossibly even individual consumers across the continent. The costs associated with publicdebt will also decrease. It is expected that the broader, deeper markets will lead toincreased stock market capitalization and investment. Larger, more internationallycompetitive financial and business institutions may arise.

Price parity

Another effect of the common European currency is that differences in prices inparticular in price levels should decrease. Differences in prices can trigger arbitrage, i.e.speculative trade in a commodity between countries purely to exploit the price differential,which will tend to equalise prices across the euro area. It is held that this is supposed toresult in increased competition or consolidation of companies, which should help tocontain inflation and which therefore will be beneficial to consumers. Similarly, pricetransparency across borders should help consumers find lower cost goods or services. Inreality, the effects of the euro over the level of the prices in Europe are disputable. Manycitizens cite the strong increase in prices in the years after the introduction of the euro,although numerous empirical studies have failed to find much real evidence of this. It isspeculated that the reason for this perception is that the prices of small, everyday itemswere rounded up significantly. For example, a cup of coffee that once cost two GermanMarks might now cost 1.50 or even 2.00 - a 50-100% increase. At the same time, a largeappliance or rent payment rounded up to the next obvious euro level would be a negligibleproportional increase. The fact that the prices people see every day were affected morestrongly might explain why so many people perceive the "euro effect" as being significant,while official studies which look at the breadth of expenditures, in proportion woulddownplay it.

Competitive funding

Competitive funding is also a benefit for many countries (and companies) that adopted theeuro. National and corporate bonds denominated in euro are significantly more liquid andhave lower interest rates than was historically the case when denominated in legacycurrency. Likewise, companies have greater freedom to borrow competitively from cross-border banks without incurring exchange rate risk. This has forced the incumbent banks toreduce their rates to compete.


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Macroeconomic stability

Improved macroeconomic stability is an important benefit of the euro for the entirecontinent. Much of Europe has been susceptible to economic problems such as inflationthroughout the last 50 years. Because a high level of inflation acts as a highly regressive tax

(Seigniorage) and theoretically discourages investment, it is generally viewed asundesirable. In spite of the downside, many countries have been unable or unwilling to dealwith serious inflationary pressures. Some countries have successfully contained byestablishing largely independent central banks. One such bank was the Bundesbank inGermany; since the European Central Bank is modeled on the Bundesbank, it isindependent of the pressures of national governments and has a mandate to keepinflationary pressures low. Member countries join the bank to credibly commit to lowerinflation, hoping to enjoy the macroeconomic stability associated with low levels ofexpected inflation. The ECB (unlike the Federal Reserve in the United States of America)does not have a second objective to sustain growth and employment.

Less-specific monetary policy

Some economists are concerned about the possible dangers of adopting a single currencyfor a large and diverse area. As the euro-Zone has a single monetary policy and a singleinterest rate set by the ECB, it cannot be fine-tuned for the economic situation in eachindividual country. Prior to the introduction of the euro, however, exchange rate volatilityhad reduced substantially after the European currency crisis in the early 1990s. Publicinvestment and fiscal policy in each country is thus the only way in which government-ledeconomic stimulus can be introduced specific to each region or nation. This inflexibleinterest rate might stifle growth in some areas, while over-promoting it in others. Theresult could be extended periods of economic depression in some areas of the continent,disadvantaged by the central interest rate. Given such a situation, resentment and frictionwithin the community and toward the bank might increase. Others point out that in today'sglobalised economy; individual countries do not really have power to effectively managetheir monetary policy, as it creates other imbalances. This effect was already visible in thelast European currency crises of 1992, when the Bundesbank was effectively coordinatingmonetary policy for the whole continent.

Some proponents of the euro point out that the Euro zone is similar in size and populationto the United States, which has a single currency and a single monetary policy set by theFederal Reserve. However, there are also substantial differences between the two regions.The US has a common fiscal policy (Fiscal federalism) that it can use as an instrument tosmooth out regional differences. The countries of the EU that may not all be 'in sync' each may be at a different stage in the boom and bust cycle, or just be experiencingdifferent inflationary pressures cannot appeal to a centralized fiscal authority forremedy. Furthermore, Labor mobility is also much lower in the Euro zone than across theUnited States, largely due to the vast differences in language and culture between Europeannations despite labor, capital and goods full mobility rules.


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A new reserve currency

The euro will probably become one of two, or perhaps three, major global reservecurrencies. Currently, international currency exchange is dominated by the US dollar(USD). The US dollar is used by banks world-wide as a stable reserve on which to ensure

their liquidity and international transactions and investments are often made in US dollars.

A currency is attractive for foreign transactions when it demonstrates a proven track recordof stability, a well-developed financial market to dispose of the currency in, and provenacceptability to others. The euro will almost certainly be able to match these criteria atleast as well as the US dollar, so given some time to become accepted, it will likely begin totake its place alongside the dollar as one of the worlds major international currencies.

Since money is effectively an interest free loan to the government by the holder of thecurrency foreign reserves act as subsidy to the country minting the currency (seeSeigniorage). As the euro assumes status a reserve currency, the EU member states stand to

gain a share of this benefit.

Euro and petroleum

The Euro zone consumes more imported petroleum than the US, meaning more Euros thanUS dollars would flow into the OPEC nations. However, oil is priced by those member statesin US dollars only. There have been frequent discussions at OPEC about pricing oil in Euros.In 2006, Iran announced its plans to open an International Oil Bourse for the expresspurpose of trading oil priced in other currencies, including petroeuros. This would requirecountries to hold stores of Euros to buy oil, rather than the US dollars they hold now. Ifimplemented by OPEC, the changeover to the euro would be a transfer of a 'float' thatpresently subsidizes the United States to subsidies the European Union instead.


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EURO EXCHANGE RATE

Flexible exchange rates

The ECB targets interest rates rather than exchange rates and in general does not interveneon the foreign exchange rate markets, because of the implications of the Mundell-FlemingModel, being the fact that a central bank cannot maintain an interest rate target and anexchange rate target simultaneously, as increasing the money supply would result in adepreciation of the currency. In the years following the Single European Act, the EU hasliberalized its capital markets, and as the ECB has chosen for monetary autonomy, theexchange rate regime of the euro is flexible, or floating. This explains why the exchange rateof the euro vis--vis other currencies is characterized by strong fluctuations. Most notableare the fluctuations of the euro vs. the US dollar, another freely floating currency. Howeverthis focus on the dollar-euro parity is partly subjective. It is taken as a reference becausethe European authorities expect the euro to compete with the dollar. The effect of thisselective reference is misleading, as it give to the observers the impression that a rise in thevalue of the euro vs the dollar is the effect of an increased global strength of the euro, whileit may be the effect of an intrinsic weakening of the dollar itself.

Against other major currencies

After the introduction of the euro, its exchange rate against other currencies, especially the

US dollar, declined heavily. At its introduction in 1999, the euro was traded at US$1.18; on26 October 2000, it fell to an all time low of $0.8228 per euro. It then began what at thetime was thought to be a recovery; by the beginning of 2001 it had risen to nearly $0.96. Itdeclined again, although less than previously, reaching a low of $0.8344 on 6 July 2001before commencing a steady appreciation. The two currencies reached parity on 15 July2002, and by the end of 2002 the euro had reached $1.04 as it climbed further.

On 23 May 2003, the euro surpassed its initial ($1.18=1.00) trading value for the first time.At the end of 2004, it had reached a peak of $1.3668 per euro (0.7316 per $) as the USdollar fell against all major currencies, fuelled by the so called twin deficit of the USaccounts. However, the dollar recovered in 2005, rising to $1.18 per euro (0.85 per

dollar) in July 2005 (and stable throughout the second half of 2005). The fast increase in USinterest rates during 2005 had much to do with this trend.


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EUROPEAN EXCHANGE RATE MECHANISM (ERM)

The European exchange rate mechanism (or ERM) was a system introduced by theEuropean Community in March 1979, as part of the European Monetary System (EMS), toreduce exchange-rate variability and achieve monetary stability in Europe, in preparationfor Economic and Monetary Union and the introduction of a single currency, the Euro,which took place in January 1999. All 9 member states of the Community at the time joinedthe EMS.

Until 1999, all member states that participated in the ERM, also participated in the ECU.

European Currency Unit

The European Currency Unit (; ECU) was a basket of the currencies of the EuropeanCommunity member states, used as the unit of account of the European Community, before

being replaced by the Euro. The European Exchange Rate Mechanism attempted to

minimize fluctuations between member state currencies and the ECU. The ECU was also

used in some international financial transactions. Just as the dollar was at the center of the

BW system and was its de facto numeraire and reserve asset (dollar is as good as gold),

the ECU was designed to be the unit of account and the reserve asset at the center of the

European Monetary System (EMS).

The ERM is based on the concept of fixed currency exchange rate margins, but with

exchange rates variable with those margins. It was a new institutional framework for

maintaining stability between Community currencies while allowing them to float against

the other currencies.

Before the introduction of the Euro, exchange rates were based on the ECU, the European

unit of account, whose value was determined as a weighted average of the participating

currencies. It was just more than a unit of account as ECU was also an official reserve asset

held by the European Monetary Cooperation Fund (later replaced with a European

Monetary Fund).

A grid of bilateral rates was calculated on the basis of these central rates expressed in ECUs,

and currency fluctuations had to be contained within a margin of 2.25% either side of the

bilateral rates (with the exception of the Italian lira, which was allowed a margin of 6%).

For example: FF/ECU divided by DM/ECU is the FF/DM bilateral central rate as a ratio of

two ECU central rates and the margin of fluctuation between FF and DM bilateral central

rate could not exceed the + or 2.25 percent.


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The structure of the bilateral central rates was to be agreed unanimously by the Ecofin

Council, composed of the Finance Ministers and by the Governors of the Central Banks of

the participating countries. The bilateral central rates were aligned 11 times between 1979

and 1987, once in 1990 and 5 times between 1992 and 1993 (due to the speculative attack

on the weaker currencies of the ERM). Last realignment was in 1995.

ECU also provided an early warning signal to participating member States that their

macroeconomic policies are inconsistent with the established ECU parities (central

parities).

ERM assigned more evenly the obligations between Member States with strong and weak

currencies: They both had a legal obligation to intervene in unlimited amounts to defend

these margins. The country with the strong currency had the obligation to prevent further

appreciation and the country with the weak currency had the obligation to prevent further

depreciation in excess of the predetermined margin of 2.25% either side of the bilateralrates. Determined intervention and loan arrangements protected the participating

currencies from greater exchange rates fluctuations.

For example: Suppose that bilateral central rate for FF and DM is set at 335.386FF=100DM

(or 3.35 FF=1DM) as of 1995. This is a fixed parity with 2.25% margin of fluctuations on

each side: The FF can go as low as 343.050FF=100DM or as high as 327.92FF=100DM).

If the actual FF/DM bilateral rate hits or exceeds 343.050FF=100DM, then FF is about to

cross the bilateral margin on the low edge (weak FF and strong DM), then Banque de

France is required to buy its own currency against the DM on the Paris foreign exchangemarket and the Bundesbank is required to lend DMs to Banque de France so that the latter

can purchase FF using the DMs at its disposal. Since Banque de France has to repay its

intervention credit in DMs or ECUs, its reserves at the EMCF is immediately reduced or its

liability is recorded while Bundesbanks reserves at the EMCF are immediately increased.

In support of this intervention, Bundesbank is required to sell its currency against the FF on

the Frankfurt exchange market. As a result of these transactions, the monetary base and

foreign exchange reserves in Germany increase and the monetary base and foreign

exchange reserves of France decreases.


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ADVANTAGES AND DISADVANTAGES OF ERM

ADVANTAGES:-

1. Transaction costs will be eliminated: - For instance, Uk firms currently spend about1.5 billion a year buying and selling foreign currencies to do business in the EU With the

EMU this is eliminated, so increasing profitability of EU firms. Adviceto young people:You

can go on holiday and not have to worry about getting your money changed, therefore

avoiding high conversion charges.

2. Price transparency: - EU firms and households often find it difficult to accuratelycompare the prices of goods, services and resources across the EU because of the distorting

effects of exchange rate differences. This discourages trade. According to economic theory,

prices should act as a mechanism to allocate resources in an optimal way, so as to improve

economic efficiency. There is a far greater chance of this happening across an area where

E.M.U exists.

Adviceto young people: We can buy things without wrecking our brains trying to calculate

what price it is in our currency.

3. Uncertainty caused by Exchange rate fluctuations eliminated: - Many firmsbecome wary when investing in other countries because of the uncertainty caused by the

fluctuating currencies in the EU. Investment would rise in the EMU area as the currency is

universal within the area; therefore the anxiety that was previously apparent is there nomore.

4. Single currency in single market makes sense: - Trade and everything else shouldoperate more effectively and efficiently with the Euro. Single currency in a single market

seems to be the way forward.

5. Rival to the "Big Two": - If we look out in the world today we can see strongcurrencies such as the Japanese Yen and The American $. America and Japan both have

strong economies and have millions of inhabitants. A newly found monetary union and a

new currency in Europe could be a rival to the "BIG TWO".

EMU can be self-supporting and so they could survive without trading with anyone outside

the EMU area.

This fact makes the Euro very strong already, and even George Soros couldn't affect it (well,

hopefully!!!!).


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The situation that EMU is in is good as it seems that it can survive on its own, with or

without the help of Japan and U.S.A.

6. Prevent war: - The EMU is, and will be a political project. It's founding is a steptowards European integration, to prevent war in the union. It's a well known fact that

countries that trade effectively together don't wage war on each other and if EMU means

more happy trade, then this means, peace throughout Europe and beyond (we hope).

7. Increased Trade and reduced costs to firms: - Proponents of the move argue that itbrings considerable economic trade through the wiping out of exchange rate fluctuations,

but as well as this it helps to lower costs to industry because companies will not have to

buy foreign exchange for use within the EU. For them, EU represents the completion of the

Single European Market. It is vital if Europe is to compete with the other large trading blocs

of the Far East and North America.

8. The Political agenda: - There is also a political agenda to European bank (theEuropean System of Central Banks -ESCB), the complete removal of national control over

monetary policy and the partial removal of control over fiscal policy. Individual nation

states will lose sovereignty (i.e. the ability to control their own affairs). It will be a

considerable step down the road towards political union. There are many in the EU who

favors economical den political union and they are very much in factor to EMU. There are

also many who wish to keep national sovereignty and are struggling to prevent EMU,

whatever its merits might be, from going ahead.

9. Inflation: - From the mid-1980s onwards, there were a number of economists andpoliticians who argued that, for the UK at least, EMU provided the best way forward to

achieve low inflation rates throughout the EU. During the first half of the 1980s high

inflation countries, such as France and Italy were forced to adopt policies which reduced

their inflation rates to something approximating the German inflation rates to something

approximating the German inflation rate. If they had not done this, the franc and the lira

would have had to be periodically devalued, negating the fixed exchange rate advantages of

the system. Effectively, the German central bank, the Bundesbank, set inflation targets and

therefore monetary targets for the rest of the EU. At the time, there was much discussion of

why Germany had a better inflation record than many other European countries. Theconsensus emerged that it was because the Bundesbank, the German central bank, was

independent of the German Government. In countries such as the UK and France, central

banks were controlled by governments. If the UK government decided to loosen monetary

policy, for example, by reducing interest rates, it had the power to order the Bank of

England to carry out this policy on its behalf. There have always been especially strong

pressures before an election for UK governments to loosen the monetary reins and create a


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boom in the economy, with the subsequent increase in inflation following the election. The

Bundesbank, in contrast, was independent of government. By law it has a duty to maintain

stable prices. It can resist pressures from the German government to pursue reflation

policies if it believes that these will increase inflation within the economy. Events of the

early 1990s have shaken the naive faith that linkage to the independent ESBC, the central

bank of Europe would solve all inflationary problems. This is because German inflation

rates in the early 1990s rose to over 4% as Germany shrugged with the consequences of

unification. In 1993, inflation was nearly three times as high in Germany as in the UK and

twice as high as that in France. Some countries, such as France, have made their central

banks independent on the Germany model and therefore arguably don't need to the EMU

link to Germany to maintained low inflation. The UK has gone a little way towards giving

more power to the central bank by publishing reports neither of monthly meetings

between the Chancellor of the Exchequer and the Govern nor of the Bank of England. This

forces the Government to justify its monetary policy publically and makes it harder for it to

use interest rates for short term political ends.


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DISADVANTAGES:-

1. The instability of the system: - Throughout most of the 1980s the UK refused to jointhe ERM (Exchange rate mechanism). It argued that it would be impossible to maintain

exchange rate stability within the ERM, especially in the early 1980s when the pound was a

petro-currency and when the UK inflation rate was consistently above that of Germany.

When the UK joined the ERM in 1990 there had been three years of relative currency

stability in Europe and it looked as though the system had become relatively robust. The

events of Sept. 1992, when the UK and Italy were forced to leave the system, showed that

the system was much less robust than had been thought.

2. Over estimation of Trade benefits: - Some economists argue that the trade and costadvantages of EMU have been grossly overestimated. There is little to be gained from

moving from the present system which has some stability built into it, to the rigidities

which EMU would bring.

3. Loss of Sovereignty: - On the political side, it is argued that an independent centralbank is undemocratic. Governments must be able to control the actions of the central banks

because Governments have been democratically elected by the people, whereas an

independent central bank would be controlled by a non elected body. Moreover, there

would be a considerable loss of sovereignty. Power would be transferred from London to

Brussels. This would be highly undesirable because national governments would lose the

ability to control policy. It would be one more step down the road towards a Europe where

Brussels was akin to Westminster and Westminster akin to a local authority.

4. Deflationary tendencies: - Perhaps the most important economic argument relatesto the deflationary tendencies within the system. In the 1980s and 90's France succeeded

in reducing her inflation rates to German levels, but at the cost of higher unemployment,

For the UK, it can be argued, that membership of the ERM between 1990 and 1992

prolonged unnecessarily the recessional period. This is because the adjustment mechanism

acts rather like that of the gold standard. Higher inflation in one ERM country means that it

is likely to generate current account deficits and put downward pressure on its currency.

To reduce the deficit and reduce inflation, the country has to deflate its economy. In the UK,

it could be argued that the battle to bring down inflation had been won by the time the UKjoined the ERM in 1990. However, the UK joined at too high an exchange rate. It was too

high because the UK was still running a large current account deficit at an exchange rate of

around 3 Dm to the pound. The UK government then spent the next two years defending

the value of the pound in the ERM with interest rates which were too high to allow the

economy to recover. Many forecasts predicted that, had the UK not left the ERM in Sept

1992, inflation in the UK in 1993 would have been negative (ie prices would have


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fallen).The economic cost of this would have been continued unemployment at 3million

and a stagnant economy. When the UK did leave the ERM and it rapidly cut interest rates

from 10% to five and a half %, there was strong economic growth and the current account

position improved, but there was an inflation cost.

Another problem that the early 1990s highlighted was that the needs of one part of Europe

can have a negative impact on the rest of Europe. In the early 1990s, the Germans struggled

with the economic consequences of German reunification. There was a large increase in

spending in Germany with a consequent rise in inflation. The Bundesbank responded by

raising German interest rates. As a result, there was an upward pressure on the DM as

speculative money was attracted into Germany. Germansy's ERM partners were then

forced to raise their interst rates to defend their currencies. However, higher interest rates

forced most of Europe into recession in 1992 - 1993. Countries such as France couldn't

then get out of recession by cutting interest rates because this would have put damaging

strains on the ERM. The overall result was that Europe suffered a recession because of localreunification problems in Germany. Critics of the ERM and EMU argue that this could be

repeated frequently if EMU were ever to be achieved. Local economies would suffer

economic shocks because of policies, forced on them, designed to meet the problems of

other parts of Europe.

One way around this would be to have large transfers of money from region to region when

a local area experienced a recession, e.g. N. Ireland which suffered structural

unemployment for most of the post war period, has had its economy propped up by large

transfers of resources from richer areas of the UK with lower unemployment. However,

regional transfers are very small at the moment unfortunately. Moreover to approximate

the regional transfers which occur at the moment in, say, Britain, there would have to be a

huge transfer of expenditures from national governments to Brussels - just what anti

Europeans are opposed to.


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IMPACT OF CURRENCY RISE IN EUROPEAN ECONOMY

While few believe that this increase will have a positive impact on some of the sectors in

the country, others voiced their concerns over the negative repercussions that this willhave on the overall economy.

Obviously the increase in euro exchange rate will affect the price structure in Lebanon,said head of Beirut traders association Nicolas Chammas who explained that traders will,to some extent, be able to eat the extra cost for a while but once the euro becomes veryexpensive they will not be able to sacrifice their margin anymore. They will have to relaythe impact of the increase in the exchange rate of euro on their selling prices, Chammastold The Daily Star.

Chammas believes that this will be translated into higher inflation in the country. This

takes us back to the year 2008 when the euro climbed to $1.50 and inflation rate waseating away the purchasing power of the population at that time, he added. It seems thatwe are getting there again.

Despite the euros fundamental weakness over the past year, the past few days have seenstrongly resurgent growth for the 16-nation single currency. The EUR/USD has recentlytouched an eight-month high mark and climbed above $1.40; the EUR/JPY and EUR/GBPare both at five-month highs, and still climbing; and the EUR/CAD ascended to a seven-month high to currently trade at 1.417.

As far as exports are concerned, Chammas said that Lebanons export of goods and services

should benefit from the weakening in the US dollar since the Lebanese pound is pegged tothe dollar. When you export to Europe for instance and you have a weakening US dollaryou will be able to export at more competitive prices, he added. However, the fact that theUS dollar is weakened is not enough by itself to be able to export your way out of thecrisis.

Chammas noted that the climb in the euro will create social tensions in Lebanon because alarge chunk of exports are euro denominated. So this promises to cause more demandsfrom the unions and other stakeholders in order to increase wages and perhaps subsidizesome products and this is not very good news, he added.

Moreover, when the dollar is weakened the price of commodities such as oil will increasebecause it moves in opposite to the dollar exchange rate, he said. Since oil is such animportant component of our imports, this will also cause some problems as far as thenational budget is concerned because you will have to have more transfers to EDL, he said.You cannot increase oil price for consumption and the state will be losing some of its taxrevenues, he added.


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Chammas concerns were echoed by the head of the association of food importers Adel AbiShaker who said that prices have not increased yet with the latest hike in the euroexchange rate but if the latter continues to go up, merchants are expected to increase theirprices by around 5 percent. Importers do not have the hobby of constantly increasing theirprices, and the process is not easy because they have to inform supermarkets every time

they do that, he said. But when the euro increases then prices will automatically go upand this is normal.

Shaker said that merchants normally would want to increase their profits. However, headded, it is fair to say that with the presence of a high competition in Lebanon it is hard forthem to generate a great profit.

Shaker doubted that some merchants attempt to hide their food products when the eurogets higher for them to increase their prices and generate higher profits. They have tostick to the date of production displayed on the commodities. Moreover, manufacturersusually give only a period of two years for the expiry date for them to be able to sell more,

he said.

From his side, head of the consumers protectionassociation Zouhair Berro said that prices movement in Lebanon has nothing to do with thechange in international prices. He argued that even when the euro goes down, prices inLebanon remain the same. However, when it climbs, merchants tend to take advantage ofthe situation and increase their prices.

Berro cited the example of the price of wheat which dropped from $600 per ton in 2008 to$180 per ton in June 2010 while the price of bread remained the same in Lebanon at thattime. Today, the price of wheat reached $330 per ton and the price of bread increased in

parallel, he said.

Meanwhile, economist Ghazi Wazneh believes that this increase will impact the prices ofgoods and services in addition to affecting the inflation rate. This increase will lead to afurther deficit in trade while negatively impacting the surplus in the balance of payments,not to forget that the number of Lebanese tourists to Europe will go down, he said.

Wazneh said that the prices will stay the same for the time being but he believes that theywill go up if the euro exchange rate climbs above $1.50. We still dont know if it will keepon increasing but if it does then traders will probably resort to the US for their imports.

However, Waznehs view of the situation was not totally pessimistic because this increase,in his opinion, will not have any negative impact on the public debt. Moreover, if the eurokeeps on increasing, Lebanese products will be more able to compete and exports willconsequently go up, he said.

Likewise, president of the Lebanese industrialists association Nemat Ifram expressed hisoptimistic view on the increase of euro and its impact on the Lebanese industrial sector.


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If we sell to countries who originally import from the euro zone, our goods will then beable to compete because European products will be much more expensive, he said.Moreover, he added that at the time of increase in the euro exchange rate, if Lebanon sellsits products to markets dealing with the euro currency, then it will be able to increase itsprices using the US dollar currency because the Lebanese economy is dollarized. Lebanon

will then be able to benefit from better selling prices.

However, Ifram said that if euro climbs to more than $2 then demand in the Europeancountries will go down and the European economy will witness a slowdown. However, weare still on the safe side because the euro exchange rate did not even reach $1.70 yet.

According to the statistics of the European commission, total EU-Lebanon trade amounts toapproximately 4.4 billion Euros ($6.12 billion), but is its third largest market for exports(12.4 percent), behind Syria (24.9 percent) and the United Arab Emirates (12.9 percent). Itsaid that EU goods exports to Lebanon in 2009 amounted to 4.2 billion Euros while EUgoods imports from Lebanon during the same year reached 0.25 billion euro.

As a result of the recent increase in the euro exchange rate, money exchange companies inLebanon agreed that the demand on the euro currency by businesses and companiesdropped since the currency started to climb. The demand on euro dropped by 40 percentcompared the same period of the year 2009, said Wissam Mallah, representative of CashUnited.

His comments were echoed by Khaled Shouman, one of the owners of Shouman exchangein Beirut, who said that demand on euro by businesses has dropped lately due to thissudden increase.


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DECLINE IN VALUE OF CURRENCY COULD LEAD TO INCREASE IN

EXPORTS

Many economists think the 16-country currency is headed for a significant decline

because of Europe's government debt crisis.Some are even predicting that by next year the euro will sink to what's called parity

against the U.S. dollar 1 equals $1, a level last seen in July 2002 and an 18 percent

slide from Friday's $1.23.

Such a decline would take some of the shine off Europe's vaunted project in a shared

currency. And it would cut European's purchasing power for imports. But if it happens

gradually enough, the slide in the euro's exchange rate could help exports and provide

the boost Europe's troubled economy needs.

Export-focused companies would be more competitive on price outside the eurozone,likely boosting their revenue and helping to remove the threat that Europe will drag

down the global economy and stock markets.

With a lower euro, Parisian hotel owners could sell more Left Bank hotel rooms to

tourists from North America, while Italy would surely sell more shoes and textiles. And

Spain just might be able to turn over some of that vacant seaside property left from a

U.S.-style real estate bubble.

And since China and other Asian countries link their currency to the dollar, the euro

would weaken in that direction as well and help trade with Asia.All that would come as a relief to U.S. officials and investors, who have seen Europe's

troubles weigh on stocks and expectations for the world economy in the past several

weeks.

Exports have been a key factor lifting Europe out of recession. In the fourth quarter of

2009, exports from the euro zone rose 1.9 percent over the prior quarter and totaled

838 billion or 36 percent of euro zone economic output.

Project Report Euro

Documents

Transcript of Project Report Euro