7. We consider that the following raise questions of legal and political
importance. We make no recommendation for their further consideration, but suggest that they will
be relevant to the debate we have recommended on the introduction of the euro (17539)COM(96)499,
reinforced convergence criteria and a new exchange rate mechanism (17540)10892/96 and a stability
pact (17541)10892/96[12]:--
H M Treasury
(17585)
-- |
Report of the European Monetary Institute: Progress towards Convergence
1996. |
(17586)
-- |
Report by the Commission on Convergence in the European Union in 1996. |
| Legal base: |
Article 109j(1). |
Background
7.1 Article 109 j(1) of the Treaty requires the Commission and the European Monetary
Institute (EMI) to report to the Committee on the progress made in the fulfilment by the Member
States of their obligations regarding the achievement of economic and monetary union (EMU). The
reports are required to cover the compatibility of the legislation of each Member State and the
provisions in the Treaty on the European System of Central Banks (ESCB) and the European Central
Bank (ECB), as well as the extent to which the Member States are achieving a high degree of
sustainable convergence[13].
7.2 Article 109 j(3) of the Treaty requires the European Council, after taking due
account of these reports, and of the opinion of the European Parliament, to decide before 31
December 1996:
--whether a majority of the Member States fulfil the conditions for the adoption of the
single currency;
--whether it is appropriate for the Community to enter the third stage of EMU (the single
currency); and if so
--to set the date for the beginning of the third stage.
7.3 These two reports deal with convergence in 1996 and would, in theory, permit the
Council to decide whether the third stage of EMU should begin in 1997. But the Florence European
Council has already confirmed that stage three will not begin until 1 January 1999. So although
the two Reports were expected to be confirmed by the ECOFIN Council on 11 November and by the
European Council in Dublin on 13-14 December, the decision of those meetings will be a formality,
since it is already known that stage three will not begin in 1997 or 1998.
7.4 The two reports nevertheless provide a useful analysis of the extent to which
the Member States are moving towards sustainable convergence. The reports are the subjects of two
Explanatory Memoranda, both dated 7 November, from the Chancellor of the Exchequer (Mr Clarke).
The EMI report
7.5 The EMI points out that this is its first report to fulfil the requirements of
Article 109j(1) and that a further report will be necessary in early 1998 to permit the European
Council to decide which Member States will qualify to join stage three in January 1999. It
emphasises that the present report cannot pre-empt the assessment to be made in 1998.
7.6 The EMI stresses the importance of strict compliance with the convergence
criteria and of the need for all of them to be satisfied. It explains the EMI's approach to
interpretation of the criteria and points to divergence of view within the EMI Council on the
application of the criteria on requiring membership of the ERM. It says:
"Regarding the Treaty provision of membership of the ERM, there is a strong majority
within the EMI Council that the requirement of ERM membership applies. A minority takes the view
that exchange rate stability based on sustainable underlying economic fundamentals is more important
that the institutional setting within which stability is achieved."
We have reported before[14] on these differences of
interpretation in which the United Kingdom Government shares the minority view.
7.7 Against what it describes as the current favourable environment of low cost and
price pressures, the EMI says that most Member States are enjoying relatively low inflation and
price stability, leading to exchange rate stability. But it also says:
"By contrast, progress in fiscal consolidation has generally been too slow. Most
countries have not yet achieved a situation which, in a broader view, might be judged as sustainable
in the medium term. With regard to the issue of sustainability it is emphasised that the improvement
of the deficit by measures with a one-off effect does not ensure sustainable consolidation and great
attention will have to be paid to the substance and not only to the accounting methods used in
measuring both deficits and debts; that consolidated efforts need to be all the more resolute, the
higher the initial stock of debt; and that sustainable fiscal consolidation will have to cope with
two challenges: first, high and persistent unemployment and, second, those arising from demographic
trends."
7.8 The Chancellor summarises the main points of the EMI's report in his Explanatory
Memorandum:
"Ten Member States (excluding the UK) had a twelve-month average inflation rate
up to September 1996, which stood below the reference value (calculated by the EMI and Commission
as 2.6%). The EMI, like the Commission, use the new interim indices of consumer prices which are
more comparable than national indices but not yet fully harmonised. The EMI conclude that for these
ten 'there is no immediate risk that current trends in inflation will prove to be unsustainable.'
In the other five Member States (including the UK) 'prospects for sustained progress towards price
stability would seem to be favourable, provided that appropriate policies are pursued.'
"On the basis of Commission forecasts for 1996 four Member States (excluding the UK)
look likely to have a fiscal deficit below the 3% reference value in 1996 and three Member
States (including the UK) look likely to have a debt level below the 60% reference value at end
1996. The EMI note that only three Member States -- Ireland, Luxembourg and Denmark -- are
currently not the subject of a Council decision on the existence of an excessive
deficit. They conclude on fiscal consolidation that 'progress has generally been too slow'
although 'further progress has been made.'
"Eleven Member States (including the UK) had long-term interest rates in the
year to September 1996 below the reference value (calculated by the EMI and the Commission at
8.7%)."
7.9 For the reasons given in paragraph 1.6 above, the Chancellor tells us that the
EMI "does not at this stage consider it appropriate to give a precise ex-ante operational
content to the measurement of exchange rate stability according to Article 109j of the Treaty".
The report nevertheless provides a detailed record of exchange rate development. It also covers
other factors mentioned in Article 109 j(1) of which the EMI and the Commission are required to take
account,[15] and comments on the extent to which national
central bank (NCB) statutes have been adjusted to eliminate inconsistencies with the Treaty.
The Government's view
7.10 The Chancellor says in his EM:
"Under the terms of protocol 11 to the EC Treaty, and the European Communities
(Amendment) Act 1993, the United Kingdom would not be able to participate in the third stage of EMU
without a separate decision to do so by Government and Parliament.
"The Government notes that, not least because twelve Member States are currently judged
by the Council to have an excessive deficit, there is absolutely no prospect of stage three of EMU
starting in 1997.
"With these facts in mind, the Government has the following comments on the EMI's
report:
--Policies aimed towards convergence -- low inflation and sound public finances -- are sound
in their own right, with or without EMU. The Government will continue to pursue these, regardless
of the eventual decision on whether or not to join the single currency.
--The Government notes and agrees with the EMI's emphasis on the need for progress towards
convergence to be sustainable. It shares the EMI's view on the 'need to complement such policies
by measures which enhance the functioning of market mechanisms, particularly in the labour market'.
--The Government agrees that it is not at this stage appropriate to give a precise ex-ante
operational content to be the measurement of exchange rate stability according to Article 109j of
the Treaty. Since the Treaty was drafted in 1991, the operation of the mechanism has changed, with
the narrow fluctuation bands of 2¼% being abandoned. Interpretation of this criterion and
all the others will be for Heads of Government to decide, when the Council decision is made on which
countries have met the necessary conditions to adopt the single currency.
--The report has no implications for the conduct of monetary policy or other activities of
the Bank of England at the present time.
--The report has no implications for the status of the Bank of England before the
establishment of the ESCB. There will be no requirement for the Bank of England to become
independent if the UK chooses not to participate in the third stage. If the UK exercises its option
to take part, decisions will need to be made about the future status of the Bank of England, taking
into consideration the requirements of the Treaty and the Statute of the ESCB. The Government does
not currently have any proposals to bring forward legislation for the independence of the Bank of
England."
The Commission's report
7.11 The Commission's report covers, naturally enough, much the same ground as that
of the EMI. The Commission says that the role of the report, apart from meeting the formal
requirements of Article 109 j(1), is to examine the current state of convergence and of the
compatibility of national legislation with Treaty obligations, and also to review the progress made
since the beginning of stage two of EMU in January 1996. The report's structure follows that of
Article 109 j(1).
7.12 The report notes that, until the United Kingdom notifies its intention to
participate in the single currency, it is exempt from the requirement to start the process leading
to the independence of the Bank of England. But in virtually all Member States, there continue to
exist provisions which will need to be amended, if they are to participate in stage three.
7.13 On the nominal convergence criteria, the Commission uses the same criteria as
the EMI and comes to similar conclusions.
7.14 On the supplementary issues which the report is required to consider, the
Commission notes that market sentiment towards the ECU has firmed as recent uncertainties about the
implications of EMU have begun to reduce with this publication of draft legislation relating to the
introduction of the euro. The Commission also comments on the positive contribution of the single
market, improvements in balances of payments on current account, moderate upward trends in unit
labour costs, the effects of changes in import prices, and the effects of changes in indirect
taxation on inflation.
7.15 The Commission's report's general assessment is that there has been substantial
progress towards the achievement of a high degree of sustainable convergence in all Member States
since the beginning of stage two of EMU and that the process gathered momentum in 1996. It
concludes with an examination of progress in each Member State in relation to each of the
convergence criteria.
The Government's view
7.16 The Chancellor's comments on the Commission's report mirror those in his
Memorandum on the report on the EMI. He says that the Government:
"...notes and agrees with the Commission's conclusion [that] 'it is clear that
currently a majority of Member States have not yet made sufficient progress in the achievement of
a high degree of sustainable convergence'".
Conclusion
7.17 These two reports would have greater significance if the European Council
had not already decided that the third stage of economic and monetary union will not commence until
1999. As it is, any conclusion by the Council, on the basis of these reports, that a majority of
Member States have not yet met the criteria for participation in the single currency is of no
practical application.
7.18 Nevertheless, the two reports raise matters of political importance for three
main reasons:
--first, they give a clear idea of how the European Monetary Institute and the Commission
are interpreting the convergence criteria set out in Article 109 j(1);
--second, they provide important analysis of the progress which is being made towards
sustainable convergence, as defined in the Treaty, and interpreted in these reports;
--third, they have particular implications for the United Kingdom budget if the
Government sees it as part of its aim, in achieving low inflation and sound public finances, that
the convergence criteria are met.
7.19 We do not recommend these reports for debate, but they are of significance.
We suggest they will be particularly relevant to the debate which we recommended in our last Report
on three documents concerned with introduction of the euro and on means to achieve sustainable
convergence after the introduction of the single currency. This is because the present reports deal
in detail with how the convergence criteria should be interpreted and how convergence should be
measured.
12. The introduction of the euro: (17539)--; see HC 36-ii (1996-97), paragraph 1
(6 November 1996); reinforced convergence criteria and a new exchange rate mechanism: (17540)
10893/96; see HC 36-ii (1996-97), paragraph 2 (6 November 1996); and Stability Pact: (17541)
10892/96; see HC 36-ii (1996-97), paragraph 3 (6 November 1996).
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13. By reference to the convergence criteria on price stability, excessive deficits,
exchange rates and durability of convergence based on membership of the exchange rate mechanism
(ERM).
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14. See in particular (16623) 11987/95; see HC 51-x (1995-96), paragraph 1 (21
February 1996).
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15. The development of the ECU, the results of the integration of the markets, the
situation and development of the balances of payments on current account and an examination of the
development of unit labour costs and other price indices.
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