Options for Europe – Part 3

The title is my current working title for a book I am finalising over the next few months on the Eurozone. If all goes well (and it should) it will be published in both Italian and English by very well-known publishers. The publication date for the Italian edition is tentatively late April to early May 2014. The book will be about 180 pages long. Given the time constraints I plan to devote most of my blog time over the next 3 months to the production of the book. I will of-course break that pattern when there is a major data release and/or some influential person says something stupid or something sensible. I hope the daily additions will be of interest to you all. A lot has to be done! Because the drafting has to be tighter than the normal stream of consciousness that forms my usual blogs, the daily quotient is likely to be shorter.

You can access the entire sequence of blogs in this series through the – Euro book Category.

I cannot guarantee the sequence of daily additions will make sense overall because at times I will go back and fill in bits (that I needed library access or whatever for). But you should be able to pick up the thread over time although the full edited version will only be available in the final book (obviously).

[PRIOR MATERIAL HERE FOR CHAPTER 1]

CONTINUING … [STARTING WITH A REWRITE OF PART OF PART 2’s TEXT] …

After World War II, the 44 Allied nations agreed to return to a type of gold standard because they believed this would bring economic stability. The so-called Bretton Woods system was established in July 1944 and required the central banks of participating nations to maintain their currencies at agreed fixed rates against the US dollar with the newly created International Monetary Fund (IMF) empowered (with contributions from the member states) to offer short-term funding to any nations that could not earn sufficient foreign currency reserves via trade. The US government, in turn, agreed to convert US dollars into gold at a fixed price.

After the Treaty of Rome 1957, which established the European Economic Community (EEC), there was regular discussion about the need for closer economic cooperation between the member states. In February 1969, the so-called Barre Report which reaffirmed the European preference for fixed exchange rates and a move to a common monetary policy.

The Report stated (Barre, 1969: 3):

In the 1962 Memorandum, the Commission of the European Economic Community affirmed that the co-ordination of the Member States’ policies “would be incomplete, and therefore possibly ineffective, if no comparable action were taken in the field of monetary policy”. It recommended, among other things, the creation of a number of procedures for prior information and consultation, the establishment of a common position with regard to external monetary relations, and the negotiation of an agreement laying down “the extent of the obligations … with regard to mutual aid under the Treaty”.

The Europeans were concerned about developments in world currency markets and the depletion of US gold reserves, in the context of the commitment by the US government under Bretton Woods to guarantee US dollar convertibility into gold. During the 1960s a large quantity of gold reserves shifted from the US to Europe as a result of persistent US balance of payments deficits.

The use of the US dollar as a reserve currency exposed the instability of the Bretton Woods system. The economist Robert Triffin had warned in the early 1960s that the system required the US to run balance of payments deficits so that other nations, who used the US dollar as the dominant currency in international transactions, were able to acquire them. Certainly, in the 1950s, there was an international shortage of US dollars available as nations recovered from the War and trade expanded. But in the 1960s, the situation changed. Nations started to worry about the value of their growing US dollar reserve holdings and whether the US would continue to maintain convertibility into gold. These fears led nations to increasingly exercise their right to convert their US dollar holdings into gold which significantly reduced the stock of US-held gold reserves. The so-called Triffin paradox was that the Bretton Woods system which required the expansion of US dollars into world markets also undermined confidence in its value and led to increased demands for convertibility back into gold. The loss of gold reserves further reinforced the view that the US dollar was overvalued and the system would come unstuck (Triffin, 1960).

In his evidence before the US Congress Joint Economic Committee in December 1960 (US Congress, 1960: 230), Triffin said:

A fundamental reform of the international monetary system has long been overdue. Its necessity and urgency are further highlighted today by the imminent threat to the once mighty U.S. dollar.

The way out of the dilemma was for the US to raise its interest rates and attract the dollars back into investments in US-denominated financial assets or productive capital. But this would push the US economy into recession, which was politically unpalatable and increasingly inconsistent with other domestic developments (the War on Poverty) and the US foreign policy obsession with fighting communism exemplified by the build up of NATO installations in Western Europe and the prosecution of the Vietnam War. The ongoing US balance of payments deficits meant that US dollars were flooding world markets and convertibility meant that US gold reserves went to the surplus nations in Europe. The US spending associated with the Vietnam War also overheated the domestic US economy and expanded US dollar liquidity in the world markets further. The resulting inflation was then transmitted through the fixed exchange system to Europe and beyond because the increased trade deficits in the US were stimulatory trade surpluses in other nations and nations could not run an independent monetary policy.

It is important to note that the US balance of payments deficits were also a reflection of choices made by other nations. In the growth period after World War II, other nations demonstrated a strong desire to accumulate US dollar reserves and the only way they could do that was to run external surpluses against the US. In other words, they were exchanging real goods and services in favour of America in exchange for US dollar-denominated financial claims.

The unsustainable tensions within the Bretton Woods system came to a head on August 15, 1971, when US President Nixon suspended the convertibility of the US dollar into gold. That decision led to the collapse of the Bretton Woods system. It meant that national currencies were no longer associated with any gold backing. The US dollar was quickly devalued against the price of gold and most of the other major currencies were revalued. But a subsequent major US dollar devaluation in February 1973 led to the formal abandonment of the Bretton Woods system.

This shift established the modern era of fiat currencies, where there is no guaranteed convertibility into any other commodity (such as gold) and currencies are given legal status by dint of a legislative fiat at the imprimatur of the national government.

Various currency arrangements followed the formal abandonment of Bretton Woods system in March 1973. Most nations freely floated their currencies against other currencies, which means their values became determined by the forces of supply and demand in foreign exchange markets. That situation persists today. Other nations opted to peg their currency to another currency or perhaps to a basket of other currencies while others adopted a foreign currency outright (for example, nations that “dollarised” by accepting the US dollar as their domestic currency).

[THERE ENDS THE REWRITTEN SECTION – NEW TEXT FOR TODAY STARTS HERE]

In the immediate Post World War II period, the “European Project” was devised as an ambitious plan for European integration. The “European Project” was largely about detente after two very fracturing wars and lots of smaller disputes in the C20th. Somehow, by creating a political union the historical enmities would fade – and cordial relations could be fostered. It was an extension of the logic that led to the earlier (1904) Entente Cordiale between the French and the British which ended their long history of military conflicts.

It was logical that the EU would also seek to harmonise certain economic parameters as a way of working together for the betterment of all. The result was that during the early Post-World War II period, the sense of deep antagonism towards the Germans was actively discouraged and Germany grew out of the wreckage that they had wrought on themselves and the rest of Europe to become a strong economy. The impetus to the growth in Europe was, of-course, the Marshall Plan, which was a massive fiscal injection into the German economy from the US. It was also an early part of the plan for European integration in that it removed trade barriers within Europe and established European-level institutional structures to facilitate the socio-economic recovery from the War.

It is interesting to note that if the current fiscal austerity mentality and obsession with fiscal rules had have prevailed in the immediate Post World War II period, the Marshall Plan would have been impossible and Europe would have wallowed in the stagnant growth, high unemployment and food shortages that marked the late 1940s.

The first major achievement of the newly formed European Economic Community was the Common Agricultural Policy (CAP), which was introduced in 1962 and a major step towards the goal of integration. The policy introduced a common price by removing tariffs on agricultural products, although this took some time to achieve given the parochial resistance of rural communities in the participating nations. At the heart of the policy design were the competing interests of France, who wanted to protect their farmers, and Germany, who wanted to expand its industrial export market. The CAP, more or less, provided for a German subsidy to French farmers which was the compromise required to allow each nation to achieve its domestic political needs.

While the CAP carried these political tensions it also relied on the fixed exchange rates provided through the Bretton Woods system for administrative ease given the multitude of agricultural prices that had to be supported across the Community. The uncertainty of the Bretton Woods system in the 1960s accelerated the idea that a common currency within the Community would be desirable.

That idea was seriously advanced for the first time at the December 2, 1969 European summit conference attended by the Heads of State or Government of the Six member states. If the intent of the December 1969 European summit conference in Den Haag had been carried through, there would have been a common European currency in the 1970s, and probably, the chaos that is now leaving millions of Europeans without work or hope would have come two decades earlier.

The Final Communiqué of the summit (EC, 1969) spoke of the Community arriving at “a turning point in history” and the “irreversible nature of the work” towards a “united Europe”. It talked about the “completion of the Communities” which as a “final stage” would “lay down a definitive financial arrangement for the common agricultural policy by the end of 1969. As an integral part of this financial arrangement, the Communiqué said that”

.. a plan in stages should be worked out during 1970 with a view to the creation of an economic and monetary union. The development of monetary co-operation should depend on the harmonisation of economic policies.

They agreed to arrange for the investigation of the possibility of setting up a European reserve fund in which a joint economic and monetary policy would have to result.

Interestingly, the summit came at the end of a decade when the European Project had floundered. The tensions were clear and were exemplified by the French proposal for the Fouchet Plan, which would have replaced the emerging supranational European institutions with a system of intergovernmental bodies to run Europe and be dominated by France. The proposed ‘Union of States’ was also motivated by President de Gaulle’s increasing hostility towards US involvement in European affairs under the Atlantic alliance (NATO). The tensions increased as France twice rejected Britain’s applications to join the Community (because they feared Britain would undermine the CAP). The situation worsened in 1965 with the stand-off concerning funding for the CAP among other matters, which became known as the Empty Chair Crisis, where France effectively boycotted the Commission. This Crisis, in turn, led to the Luxembourg Compromise, which entrenched the torturous political processes that still beset speedy progress being made within the EC decision-making machinery. France clearly was positioning itself within the Community to become the most powerful nation and keep Germany and the US in check.

There is the famous private conversation between De Gaulle and the French government minister Alain Peyrefitte on August 22, 1962 about the proposed Fouchet Plan which Georges Soutou (1996: 131) reports De Gaulle saying:

What is the point of a Europe? he confided Alain Peyrefitte on August 22nd 1962. It should serve to prevent us from being dominated by America or Russia … France could be the strongest of the six members. We could control this lever of Archimedes. We could carry away the others. Europe represents the first opportunity France has to regain what she lost at Waterloo: world dominance.

[Note: When I get back to my Newcastle desk tomorrow where I have the original memoir of Alain Peyrefitte, C’était de Gaulle, I need to check this translation. My notes from when I translated it before were a little different and I am relying in the above quote from on a secondary translation of Soutou’s work rather than my own translation of Peyrefitte’s original recounting of the conversation.]

The 1969 summit in Den Haag was held at the end of this less than optimistic decade for European integration at the initiation of the Georges Pompidou, who replaced De Gaulle as French President in April 1969. While the Final Final Communiqué is silent, the supporting documents for this summit reveal that the push for the creation of an economic and monetary union, surprising to many, came from the newly-elected German Chancellor Willy Brandt, who in Pompidou had found a much more pragmatic French leader to deal with. The summit empowered the then Prime Minister of Luxembourg, Pierre Werner to head a working party, which would flesh out the details of how this union would be achieved.

The so-called Werner Plan was submitted to the Commission in October 1970 and outlined a timetable to create a full economic and monetary union by the end of the decade. Willy Brandt told the Bundestag on November 6, 1970 that the Werner proposal to develop a European Economic and Monetary Union was the “great common task of the 1970s” (“Die große gemeinsame Aufgabe der 70er Jahre ist die Fortentwicklung der Gemeinschaft zur Wirtschafts- und Währungsunion) and that it represented a “new Magna Carta for the Community” (“Der von den Sechs zusammen mit der Kommission ausgearbeitete Stufenplan stellt in Wirklichkeit eine neue Magna Charta für die Gemineinschaft dar”) (Deutscher Bundestag, 1970: 4269)

[TO BE CONTINUED]

THIS DISCUSSION IS LEADING US TO THE WAY IN WHICH EUROPE REACTED TO THE COLLAPSE OF THE BRETTON WOODS SYSTEM AND PARTICULARLY THE WAY IN WHICH GERMANY AND FRANCE REACTED IN THE EARLY 1970s WHERE GERMANY WANTED A JOINT FLOAT BUT FRANCE (AND THE EC) WANTED TO MAINTAIN FIXED PARITIES WITH CAPITAL CONTROLS.

[MORE HERE ON THE 1970s DEBATES, DELORS REPORT etc NEXT TIME]

Additional references

This list will be progressively compiled.

[UNFOLDING LIST]

Deutscher Bundestag (1970) Drucksachen und Plenarprotokolle des Bundestages, Plenarprotokoll Nr.: 06/77, 06.11.1970, http://dipbt.bundestag.de/doc/btp/06/06077.pdf

Alain Peyrefitte, C’était de Gaulle, Vol. 1 (Paris: Fayard, 1994),

Georges Soutou (1996) L’alliance incertaine, Les rapports politico-stratégiques franco-allemands, 1954-1996, Paris, Fayard.