Select Committee on Treasury Sixth Report



The Committee's inquiry and this Report

The Committee agrees with the Chancellor that the question whether to join the euro is "perhaps the biggest peace time economic decision we as a nation have to make ". This inquiry has examined the operation of the euro, since its beginning in 1999, and the basis for the assessment of the Government's 'five economic tests' for deciding whether Britain should join.

Political issues will form a major part of any referendum debate, but the role of this Report is to examine the economic implications of any decision to join. If the Government's imminent announcement leads to a referendum, then the Report will inform the referendum discussion. If the assessment is against joining, then it should nevertheless assist the debate for as long as the euro remains an issue.

The workings of the euro so far

The European Central Bank: In the eurozone, interest rates are set by the European Central Bank, with a good record of success in controlling inflation. The ECB's control of monetary policy would be better with less apparent emphasis on monetary growth and with a 'symmetrical' inflation target. There should be changes to increase accountability. In preparation for enlargement, further consideration could be given to setting up a smaller committee—more separate from the national bank governors than the committee currently envisaged—for setting interest rates.

The Stability and Growth Pact: To support eurozone economic stability, limits are placed under the European Treaties on national governments' freedoms to incur budgetary deficits. The Committee supports the need for medium term fiscal sustainability but emphasises the need for a flexible interpretation that allows an appropriate government response in downturns. It welcomes the reforms in interpretation adopted by the EU so far as a step in the right direction, for example in recognising greater leeway for individual countries to spend on investment and in making more reference to the economic cycle. But the Committee also notes that it is important that the discipline of overall fiscal policy expressed in the Pact remains firm so that breaches of it do not become a way of avoiding the structural reform needed for long term sustainable growth. The Government should make clear how far the reforms meet its own requirements for the Pact.

Performance of the eurozone economies: The eurozone economy has performed sluggishly in the difficult economic environment in 2001 and 2002, after two better initial years 1999 and 2000. There is need for increased structural reform (in particular the reforms set out by EU leaders in the Lisbon objectives in 2000). Germany's problems are considered partly to be related to the euro and partly to other issues.

The five economic tests

The assessment process: There is a need for a serious and in­depth analysis which will allow the Government to take a properly considered and researched decision on the economic consequences of joining the euro. But an economic analysis is not a mechanistic exercise and there will inevitably be an element of judgement involved. It will be difficult for the results of the assessment to be totally unambiguous. Non­publication of the supporting studies will have reduced the opportunity for informed public debate before the Government becomes committed to a particular judgement.

The 5 tests and supporting studies: The assessment must examine not just the economic effects of joining but also what the effects would be of not joining. The assessment, unlike the previous examination in 1997, will have evidence of the track records both of the euro itself, and of the post­1997 arrangements for control of monetary and fiscal policy in the UK.

The individual tests: The Committee does not form a view as to whether individual tests have been passed (though it notes a greater degree of convergence than in 1997), but identifies a number of issues the tests should be seen to have examined. These include: the implications of the recent imbalances in the economy for achieving convergence; how the UK would react to changes in eurozone interest rates; the effects of any increased volatility versus the dollar; the response to pressures for tax harmonisation; the real significance of current inward investment statistics; the impact of the SGP on public investment; UK influence on EU financial regulation; and the impact of the current ECB reforms. The Committee welcomes the forthcoming examination of the take up in the UK of fixed rate mortgages (which are more common in the eurozone).

Timing and negotiation of entry

The Committee notes a number of issues relating to the process of entry including: the Government's current policy towards keeping within the 3% Treaty limit for the budget deficit; the setting of the entry level for the exchange rate (the Committee notes that a number of witnesses regard the present level as close to what is appropriate); and whether the UK needs to rejoin a form of the Exchange Rate Mechanism. There may currently be a 'window of opportunity' for influencing debate on reforms within the euro system, which may close if the UK decides not to join.

The Committee summarises a range of policy options now facing the Government. There are political implications to each option, but the economic case should be made before any decision to enter is taken.

Engaging the public in the debate

The Committee has examined how the public is to be informed about the issues and encouraged to participate in any referendum. All concerned should be seeking to promote as full a debate as possible. There is a shortage of objective information on the economic issues: the Committee suggests that the Government and the Electoral Commission should address this. The Commission could be given power to provide objective information to each household in the form of a leaflet addressing the main issues of public concern.



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Prepared 28 April 2003