Select Committee on Treasury Minutes of Evidence

Examination of Witnesses(Questions 97 - 119)




  97. Commissioner, thank you very much for coming. We are most grateful. I understand you only have an hour. That microphone does not work, it is for the television, I am afraid.
  (Commissioner Solbes) Okay. Thank you.

  98. What is your assessment of the first fifteen months of the Economic and Monetary Union and the euro? Could you give us a progress report?
  (Commissioner Solbes) Of course. The problem is how much time do we have. In general terms we could say that the euro was introduced smoothly. We have been able to introduce the Monetary Policy in all the Member States without special problems. We have thought it would have some difficulty, but it has not been like that. In terms of international utilisation of the euro, if we analyse the figures, the issues of bonds, both government and corporate bonds, the euro has increased in a remarkable way. I have to say something more. I could say that what has been really remarkable is the evolution of the European Monetary Union during this period of time.

  99. Sorry, Commissioner, the acoustics are terrible, if you could speak up slightly.
  (Commissioner Solbes) I was saying, the economic context is also closely connected with the euro. In terms of the rate of inflation the role of the European Central Bank has been crucial in this context. The reduction of public deficits in 1999, the average public deficit is about 1.2 per cent, and in 2000 the figures are still difficult to calculate, but it will be clearly below 1 per cent. In accordance with the present forecast, in 2001 we will have a situation of a close to balance position as an average. In general terms, the position of growth, as you know, is very positive in the European area, 3.4 per cent in the year 2000 and more than 3 per cent in the year 2001. The unemployment is diminishing rapidly. I think most of these elements would not be like that without the euro. Of course, I know that there is a point of controversy, which is the evolution of the rate of exchange of euro. I know that in the press it is part of a permanent debate. I have to make a comment on this element, which is relevant in economic terms because the depreciation of the euro would create or could increase the evolution of inflation. This is a subject of preoccupation for all of us. Secondly, nevertheless, we think that the important point, from the point of view of the stability of the currency, is the evolution of inflation. We are highly satisfied with the evolution of inflation in this period. We think that the policy implemented by the European Central Bank will guarantee that inflation will continue under control in the future. Under these conditions we consider that the future of the euro has to be positive, and that is the reason why the Euro-11 has always insisted that the current level of the euro does not reflect the strong economic fundamentals of the euro area. The situation of the rate of exchange of the euro has to be kept under review but we are convinced that the euro will improve in the next month. This would be my first comment, Chairman.

  Chairman: We would like to ask you some questions, if we may.

Mr Beard

  100. Commissioner Solbes Mira, in January this year in a speech you made to the International Banks Forum in Berlin you said, "With hindsight it is not surprising that the euro experienced an orderly depreciation". Why do you think that the euro did not live up to the initial expectation that it would quickly become a strong global currency?
  (Commissioner Solbes) You know, there are some explanations to what has happened. The first explanation is probably the point of departure of the former ecu was too high. If you analyse the evolution of the rate of exchange during the period before the international devaluation, the position of the different currencies which formed part of the ecu was very positive. The second important element was probably certain miscalculations. They were not miscalculations, they were expectations. The expectations which existed at the end of the year 1999 were not fulfilled. If you remember, during this period it was not only the position of the Union it was also the position of other financial organisations and institutions that the evolution in the European Union would be more favourable and in the United States not so favourable than finally happened. It could be explained in a different way. The incidents of the crisis of 1998-99 could have affected the United States much more. The reality was different and the situation in the States was better. Third, the important element, if you want, is the different evolution of the rate of interest which attracted capital to the States. All these elements are giving a, sort of, explanation. Probably they do not provide the complete explanation but they could help us to understand what has happened, that is the idea and why we are speaking about this as a kind of orderly position. Nevertheless, we would consider that the volatility of a currency is something that happens very often. If you analyse any currency over a long period of time you will see a certain volatility of this currency. The important point is the long-term position of this currency. The Deutschmark, to give an example, was rather volatile as compared with the United States dollar during a period, nevertheless we are not speaking about a weak currency, we are speaking about a currency with a different position in the economic cycle. Something of this type is happening ultimately.

Sir Teddy Taylor

  101. Two brief questions, why do you think investors have taken so much capital out of Euroland? We have seen some alarming figures about the amount of cash coming out of Euroland and we wonder why. Secondly, as previous single currencies have got into deep trouble, including two in Europe, the Scandinavian and the Latin one, because of differences within in the area, one area going well and the other area going badly, does it worry you that the inflation figures we saw, I think, yesterday that says that the Republic of Ireland is over 5 per cent, I think it was 5.2 per cent, compared with an average of round about 1.5 per cent or two per cent. Does this worry you, that the divergence seems to become greater between parts of Euroland?
  (Commissioner Solbes) As concerns the first question, we could give two explanations, one of them, is the more simple, the normally used explanation, the rate of interest is higher in the States.

  102. I see, yes.
  (Commissioner Solbes) That can be a good explanation. Another explanation, probably it is very important, private savings are diminishing in the States. There is big demand for foreign capital in the States. We could add other kinds of explanations, why some enterprises think that the investment in the States at the present moment of the economy would be more interesting than investing in other areas. There are other points of interest. The second point I think is the most relevant one.

  103. Yes.
  (Commissioner Solbes) American enterprises need more money and they ask for money. The second question concerns the difference of inflation and the divergences in the context of the European Monetary Union. The introduction of a single currency and a single monetary policy implies that decisions are taken on the basis of figures for the whole area. Of course, average figures will be calculated taking into account the importance of the different areas. It implies that the countries that will be in a divergent position from the point of view of the cycle will not be so well adapted to the decisions which are taken at any one moment. In this sense, already, in the Monetary Union some countries are more advanced than other countries. If, instead of having a Unified Monetary Policy, you have a National Monetary Policy, the exact rate of interest would have been different. That is the consequence of putting together the Monetary Policy. It is true that you have a different cycle, among other reasons, because you are not part of the same monetary area. If you are a member of the same monetary area then part of the differences are reduced. Another important point is that when you analyse the situation of the countries with the higher level of inflation it is rather clear that these countries are countries with a lower standard of living, in some cases, and with a higher rate of growth and there is a kind of process of catching-up. That is rather clear in Spain. It is clear, up to a certain point, in Ireland and, more or less, it is also clear in Finland. It is so that there is a kind of acceleration of the process in some countries from the point of view of growth and this is more accelerated than in others. I consider that these questions have to be analysed. I think that the current differences within the euro area are not so significant.

Mr Beard

  104. The depreciation of the euro has created potential strengths and potential weaknesses for the European economy: what would you say those strengths and weaknesses are?
  (Commissioner Solbes) If you want only the strengths, you are very happy because you can export more. I am not so happy with this solution. I think that this is not a good solution. I am more worried about the weaknesses than the strengths. We have two difficult points. One of them is the evolution of inflation. I think it is a risk in the long-term. The second important point is that we want strong money. We consider that the euro has to be a strong currency and that the psychological effect of weakening is not positive. If our analysis is correct the evolution of the situation in Euroland in economic terms ought to leave more room for appreciation. I hope that we consider this situation of the weakening of the euro as a kind of period of volatility of the euro which is, of course, not permanent.

  105. You do not believe that the deprecation of the euro has created substantial export opportunities for the European industry?
  (Commissioner Solbes) No. If you remember, who are the countries which have the balance of strength of the euro area? The most important trade is carried out between ourselves. What we are depending from abroad is mainly energy and raw materials. Most of them are paid in dollars, so we have to pay more for these raw materials and for energy with a weak euro. If you remember, in the past when the position in Germany was discussed, it was said that the Deutschemark can be up and at the same time they are able to be competitive because they were able to reduce the cost of products as a consequence of a reduced price of the imports and as a consequence of the appreciation of the Deutschemark.

Sir Teddy Taylor

  106. We saw recently you made a speech at the European Bank for Reconstruction, where you said, you were thinking that the euro could expand to east Europe in 2003. What I am wondering is, what would be the implications for the value of euro of extending the euro in this way to east Europe? Secondly, would it not involve a great deal of expenditure for these countries? We have tried to find out, by approaching the European Central Bank and lots of individual banks to say, "What is the cost of change over?" We do not really have any direct information about this. Do you not really think that it will be a major problem to bring in countries from east Europe when they have such differences in the structure of their economies?
  (Commissioner Solbes) Firstly, I will clarify some of your information, because I think it is not completely correct. Our position as the Commission is first that the applicant countries could become members of the European Union, not of the European Monetary Union, on 1st January, 2003. To be more specific, we will be able to receive them from 1st January, 2003. What it means is that we could sign an agreement from this moment on. The agreement must be, of course, ratified. The normal entry day would be 1st January 2004 if they are ready to accept the commitments of being members of the Union. It could even be before, but it is not normally easy to start implementing agreements before the start of the year. Second, I have always said that we have to distinguish between being members of the European Union and members of the Monetary Union. Being members of the Monetary Union means that the new applicant countries have to fulfil the criteria established in Maastricht. One of the criteria is that we have to make an evaluation of the situation of the different countries no earlier than two years after they have joined the European Union. Why? Because it is absolutely necessary to evaluate the evolution of the rates of exchange of the different countries. We have to assess and evaluate the rates of exchange of the different countries once they are members of the European Union. We think that this position is rather wise in the sense that even if some applicant countries have a very stable monetary position we have no guarantee that this stable position will continue after they join because they will have to introduce structural reforms and we do not know exactly what will be the final results of those changes. This is the reason why we have always said that you will only be able to be members of EMU not earlier than two years after you are members of the Union. So we could speak about 2006, for example. Of course, it implies that they are able to fulfil the economic conditions because if they are not able to fulfil the economic conditions, convergence criteria, then you could be right in saying "if your economic positions are not similar to ours then you can weaken the euro". This is the same argument that we have been using with Greece: "you cannot become members of the Monetary Union unless you are able to fulfil the convergence criteria". If they are able to fulfil the convergence criteria, and probably some of them will be able to do this, not more than two or three I am thinking, they could become members. Could this affect the Monetary Union? I do not think so. I do not think so because if the economic conditions are similar to those of the other State Members this will not have a negative effect on the euro. If your question is the question that you have added, what would happen from the point of view of public expenditure, concerning expenditure probably we could distinguish between two different questions. One of them is the cost of changing for the new countries. I think this is not so relevant in global terms. A different point is the transfers from the Union to the new applicant countries as a consequence of the different levels of development existing between the new applicant countries and the the Union as a whole. This is a different chapter of negotiations with the applicant countries and this will be solved in the context of the regional policy and regional funds, aid systems existing in the context of the Union. This is my view and I think it is the correct explanation.

Mrs Blackman

  107. When we interviewed our experts earlier on in the week they unanimously thought that the ECB had done a good job discharging its monetary policy function, although Professor Buiter was a bit more critical about the monetary policy framework for the Bank. He particularly criticised the inflation target. He said it was an inflation target that dared not speak its name and he would like to see a point reference. He was also critical of the second pillar, M3, which he wanted to see dethroned, demoted, because it was unclear how this was being interpreted. Would you go along with those two criticisms?
  (Commissioner Solbes) I think this is more a point for the Governor of the European Central Bank to decide to give you an explanation. I will give you a secondhand explanation. I would like to clarify this point. As you know, the traditions in the different central banks were not exactly the same, some central banks were more committed to a model based on targeting the amounts of money in circulation, others were more in favour of a model based on an inflation objective. After long discussions in the context of the preparatory meetings to create the European Central Bank, not to create it but to define the strategy of the monetary policy, the common position was that there was no contradiction as such using both objectives. The evolution of M3 which is more or less reflecting private credit evolution is another element to be considered. M3 is an important subject. You know that M3 has been criticised in some countries because it is not so representative of the real situation of the monetary past and, in addition, it has been even more criticised at the level of the euro 11 because it was a new figure with no history behind it. We had to compare this figure with the aggregates of the former situations at national level. We had to take into consideration that these national figures were the result of different monetary policies. This is why using inflation as another pillar was very useful. The European Central Bank has used both of them. It is true that when you are using two targets not everybody is making exactly the same conclusions but the European Central Bank is concerned with what is the relevant weight in every one of its decisions. I think that the European Central Bank up to now has balanced well both elements. There is one important point that concerns inflation which is that the decisions of central banks are not taking into consideration the existing inflation today, but the expectations of future inflation. So they are not considering only what is happening today but what are the new elements to be considered in the future. In addition, as you know, the evolution of the monetary policy instruments and the system by which the ECB provides liquidity have excited some discussion. During the last governing council the Bank decided to begin to use the variable rate instead of the fixed rate and the final result will probably be a more market orientated model. Also this change has been criticised by some people who say that if you are introducing a model of this type you are introducing a factor that is dependent on the decisions of the Bank. It is a point that can be debated, why not. I think these kinds of debates are correct. I can say to you that you have experience of inflation targeting in this country and it is now functioning very well. In some countries in the Monetary Union before they were members of the Monetary Union they had a system of inflation targeting with a variable rate which functioned rather well. We are at the beginning of a very complex process that we are trying to adapt to.

  108. Thank you. A common criticism earlier this week was in terms of the Bank's presentation of its decisions, particularly at the onset where in part they were misleading. Now one of the reasons which was put forward for that was the size of the Council. Clearly with enlargement the size of the Council is going to increase quite substantially, whether the United Kingdom is in or not. They felt that was going to be an additional problem. Is there a need for the Executive Council to take a strong role or does an entirely new mechanism need to be created which actually limits the size of the Council when making these decisions?
  (Commissioner Solbes) As you know the system is established in the Treaty. The system will continue to be exactly the same unless we modify the model. You are considering a hypothetical evolution of the model on the basis of a certain interpretation of how the Treaty might change after enlargement. I think it is a little bit premature to say something about this question. As I have said before, the new applicant countries will not be members of the Monetary Union in any case I think before 2006. To begin to discuss in 2000 what will be the final solution I think is a little bit hypothetical.

Mr Davey

  109. Commissioner, when you are sitting in the independent Central Bank you have always got two intentions, to make it credible and independent from day to day political interference but also to reassure people, and voters and politicians, that it is accountable. Do you think that so far in the experience of the ECB that it has proven to be sufficiently accountable?
  (Commissioner Solbes) First, of its independence, absolute independence, there is no doubt. I tell you that we, as the Commission, are invited to be present in the governing council of the European Central Bank. You will never hear the Commissioner speak about what happens in the European Central Bank because the Commissioner never speaks in the European Central Bank when they discuss monetary policy. Of course there are exchanges of technical subjects, technical positions and technical documents, figures between the European Central Bank and the Commission but that is just technical. Secondly, accountability. Accountability is a very, very long debate. The principle of accountability is accepted by everyone I think, there is no doubt on this point. The question is how the accountability can function. The system that we have established is that accountability has to be applied in the context of the European Parliament with the regular presence of the President of the European Central Bank in the Parliament. There is a special committee, the Committee of Monetary Questions, where the President of the European Central Bank comes every three to four months to explain what they are doing. Is this enough? We can discuss whether this is enough or not. Could we improve the accountability? Probably yes, you can always do things better. I am sure we can do things better, we have to do things better. Your colleague has presented the question of communication, probably we have to improve the communication. The European Central Bank has to improve communication.

  110. Can I press you further though on improving accountability. In the United Kingdom with the new independent Bank of England this Committee has taken quite an active role in trying to hold the Monetary Policy Committee of the independent Bank to account. The structure with the Chancellor of the Exchequer setting the inflation target is an important part of political accountability. Do you not think when you say there is room for making it better that it is not just about presentation but there may be aspects of the system of accountability which might even require Treaty amendments which could be improved so the wider people of Europe, the citizens of Europe, could actually feel this accountability is strengthened?
  (Commissioner Solbes) As concerns the principle I could agree with you, if you could be a little bit more explicit it would be very useful. What are we doing up to now? Of course there are appearances in the European Parliament. There is a clear objective from the point of view of inflation. There is a clear objective from the point of view of evolution of M3.


  111. Commissioner, sorry, we cannot hear you. Your voice suddenly disappears.
  (Commissioner Solbes) As I have said, I repeat, within the accountability today there is a clear definition of the objectives of the European Central Bank. There is a presence in the European Parliament. The monthly documents published by the European Central Bank define the position of the European Central Bank on many subjects. The annual report of the European Central Bank explains what they have done. The participation of the European Central Bank in the euro 11 and the macro economic dialogue with social partners: all these are elements of accountability. If you say your system is better than the European Central Bank system, probably I would say yes because you have already a very long experience. We are at the beginning of the process of the European Central Bank. As I have said before, we have to advance with our system of accountability. Even if your system is, say, more elaborate than ours. I have doubts whether your system could be applied at the European level but that is a different question.

  112. Can I come back on that because our system is actually relatively new, Commissioner. Unfortunately it is only in the recent past that we have made the Bank of England independent from political control. The reason why many of us think our system has been more transparent and more accountable is partly through more regular publications from the Monetary Policy Committee—they publish their minutes every month—and it is not just the fact they publish but the content of what they publish.
  (Commissioner Solbes) Yes.

  Mr Davey: So, for example, in those monthly minutes each member of the Monetary Policy Committee, and I accept that there are only nine members so it is a smaller committee, each of them votes and there is a vote taken every single month, and those votes are recorded so it is therefore more transparent. Many people in the financial markets in the UK—

  Chairman: Edward, we have not got much time.

Mr Davey

  113.—they think this is a better structure. Have you any comments? How could the European Central Bank develop in that way?
  (Commissioner Solbes) I think that your structure is very well elaborated but it was not the structure of the German Bundesbank, of the Banque de France, of the Spanish Banco De Espan¯a, of the Italian Central Bank, it is a different model. I understand your model. I have nothing to say. The instruments that you have used are instruments to be analysed, to see whether they could be used by the European Central Bank. I think you cannot compare your history, with a Bank that has already been long established.

  Mr Fallon: Commissioner, you spoke in Dublin of the adoption by the Member States of the euro and the single interest rate at very different points of their economic cycles and you have spoken today of catch-up in the peripheral areas. Who is responsible then for the five per cent inflation in Ireland?

Sir Teddy Taylor

  114. 5.2 per cent.
  (Commissioner Solbes) That is a good question to put to a former Minister of Finance. When we explain or when we have to discuss about who is responsible for inflation we always try to explain in national terms saying that inflation is the consequence of different aspects: evolution of wages, problems of structural reforms, excess of demand, many different things. The problem is that in the context of the European Union we have decided to have Monetary Union so it means instead of having a rate of interest that is variable between countries, the rate of interest is the same rate, the one decided by the ECB for the whole euro area. You have to adapt all the other elements of these countries. Of course, if you are more advanced in the cycle you have to be more cautious as concerns fiscal policy, as concerns structural reforms. If the final result is that it will function efficiently in this way, and I am convinced it will, the different cycles will be more and more similar because of using similar policies which in the past were different. I do not say that all of them will be equal but they will be more similar. I think that this is a kind of exercise of adapting ourselves to the new situation.

  115. So it is the failure of the Irish Government to bring forward structural reforms rather than a single interest rate?
  (Commissioner Solbes) Probably of the Irish Government and of Irish history in the sense that the structural situation of Ireland is not exactly the same situation in terms of competitiveness, openness of the market, and so on that it is in other countries. That is the normal consequence of having to adapt to a new context.

Mr Ruffley

  116. Commissioner, is the UK economy sufficiently convergent with Euroland for UK entry into the euro to be a practical possibility?
  (Commissioner Solbes) The question requires first the definition of convergence. Convergence meaning convergence on the basis of the basic criteria or convergence on the basis of other criteria? If you put the question on the basis on which we are normally working, which is the Maastricht criteria, you are able to fulfil most of the criteria. Many times we have discussed the evolution of the rate of exchange, the period of stability required for the rate of exchange.


  117. Sorry, you disappeared then.
  (Commissioner Solbes) You are able to fulfil all the Maastricht criteria with the exception of the exchange rate. If you are speaking of other criteria, for example the position of the British Government and the five conditions of the British Government, I cannot give you any answer because we have never analysed this question. If you tell me that the position of the cycle of the British economy and the average cycle in Europe are very similar I have to believe you but I see some clear differences. An interesting question is whether this evolutionary cycle will be reduced or increased if you are in or out of the Monetary Union. That is a point of technical debate, it is difficult to give an answer, at least at the present moment. As you know, the problem of the United Kingdom is not from the legal point of view with regard to the Treaty, it is not a problem of convergence, it is a problem of the position of the British Government and British institutions.

  118. Can you repeat that, it seemed to me an important point that you were making. If you can say it louder.
  (Commissioner Solbes) From the legal point of view of the convergence criteria there is not a problem. The decision will depend on the final position of the British Government and of the British institutions, it is up to you. You have the right to decide whether to go in or not to go in, it is up to you to decide.

Mr Ruffley

  119. Just on that point, Commissioner, and I found that very helpful, the UK Chancellor of the Exchequer has announced that in addition to the Maastricht and other criteria that you have referred to there would be five economic tests which he outlined in October 1997 whether or not UK entry into the euro would affect UK investment, UK jobs and the other three. I just wondered why you thought or why the Commission thinks that Gordon Brown introduced these new five tests in addition to the very full list of convergent criteria that are already in place?
  (Commissioner Solbes) I think that it is not our task to analyse why national politicians adopt decisions. It is the role of national politicians to adopt their decisions.

previous page contents next page

House of Commons home page Parliament home page House of Lords home page search page enquiries index

© Parliamentary copyright 2000
Prepared 7 August 2000