LIST OF RECOMMENDATIONS AND CONCLUSIONS
(a) We fully recognise that the political
issues will clearly form a major partperhaps even a dominant
partof any referendum debate. But the political issues
in themselves are not the subject of this report (paragraph 11).
(b) Our intention has been to offer a
significant, and balanced, contribution to the debateso
far as possible in relatively simple termsabout the economic
implications of a decision to join, or not to join, the euro...
We hope it will assist the debate for so long as joining the euro
remains an issue (paragraph 12).
The changeover process
(c) It is clear that the introduction
of euro notes and coins across the eurozone was a logistical success
(d) While rounding up of prices was found
to have no significant statistical effect on overall inflation,
in a small minority of sectors there was some evidence of retailers
taking advantage of the changeover to push up prices. (paragraph
European Central Bank
(e) The money growth pillar has an unwarranted
prominence in the ECB's monetary framework, though in practice
it appears to be disregarded in setting interest rates. This tends
to undermine the overall credibility of its monetary framework
(f) We welcome the ECB's review of its
monetary policy framework. The framework should be strengthened
by the introduction of a symmetrical inflation target. This would
not require a great policy change on the part of the ECB, but
would provide a better match between its announced strategy and
its actions. The ECB would benefit from a less prominent role
for the monetary growth pillar, although it should still monitor
developments in order to inform its decision making (paragraph
(g) We welcome the publication of economic
projections by the ECB, but believe they should increase the frequency
of publication to 4 times per year, as there can be significant
change in the outlook over six months. More frequent publication
would help the Bank to provide a clearer and more transparent
explanation for their decisions. (paragraph 23).
(h) While it appears that to date formal
votes have not been necessary, this may not be possible as the
eurozone expands. The ECB should start publishing the voting figures
(keeping the votes of individuals confidential), since the figures
would indicate changes in policy stance, thereby improving transparency
(i) There is a clear opportunity for
introducing a mechanism for greater democratic political accountability
to the process by which the inflation target is set. We consider
that this decision properly rests with ECOFIN (paragraph 25).
(j) We agree with the Commission that
the ECB was prevented from considering alternative proposals for
reform of its voting procedures (for example, the introduction
of a separate committee based on the Executive Board for setting
rates) due to the limitations of the enabling clause in the Nice
Treaty. We do not think that the proposals put forward by the
ECB are the optimal solution to the problems posed by enlargement.
It is regrettable that such an important decision on reform was
taken so quickly and with limited debate. We recommend that reform
of the Governing Council prior to enlargement needs to be reconsidered
urgently, under a broader remit allowing changes to the structure
of the ECB. We consider such reform important for the credibility
and operational effectiveness of any enlarged ECB. We think the
prospect of UK exclusion from 20% of ECB interest rate votes could
prove to be an obstacle to entry. (paragraph 28).
Stability and Growth Pact
(k) We recognise the fact that the countries
now exceeding the 3% deficit limit of the Stability and Growth
Pact would not now be doing so if they had addressed structural
fiscal weaknesses before the present downturn. However, tightening
fiscal policy at this stage in the cycle could further exacerbate
the downturn in the eurozone. We conclude that a Treaty interpretation
allowing countries with relatively low overall debt levels to
exceed the 3% limit during a cyclical downturn is essential. Governments
should, however, take advantage of any increase in economic growth
to reduce structural deficits. As growth in the eurozone recovers
it is important for those countries with significant structural
deficits to achieve an enduring strengthening in the fiscal position.
Medium term fiscal sustainability should remain the goal, but
if it does not allow flexibility the SGP will lose credibility
and jeopardise the ultimate objective. It is important that the
discipline of overall fiscal policy expressed in the Stability
and Growth Pact remains firm so that breaches of it do not become
a way of avoiding the structural reform needed for long term sustainable
growth (paragraph 34).
(l) It remains to be seen how far the
reforms in the interpretation of the Pact agreed at the March
European Council will work in practice, and we believe the promised
reforms must be closely monitored to see if they do indeed deliver
greater flexibility. We note the principle that there should be
more flexibility to take into account the specific situation of
individual countries. This could allow higher levels of spending
where debt sustainability was not a problem. We note that the
Treaty requires classifications to meet the definitions of European
integrated economic accounts and that these are monitored by an
independent committee convened by Eurostat. It is equally important,
however, that individual countries are not allowed to escape the
rules of the Pact by artificial reclassification of their accounts
or other adjusted accounting (paragraph 36).
(m) We support the Government's view of the
need for a prudent interpretation of the Stability and Growth
Pact taking account of the economic cycle, sustainability of debt
and the important role of public investment. We recommend that
the Government should set out at the time of its euro decision
its views on exactly how this interpretation could be achieved
within the existing framework and how far the Council's recent
reforms are from meeting these requirements (paragraph 38).
Performance of the eurozone economy
(n) We agree that insufficient progress
has been made in the eurozone in making labour markets more flexible
(o) Structural reform is vital if the
eurozone is to gain the full benefits of the single currency.
With the loss of monetary policy independence, reform in individual
countries must play an increasing role in stimulating growth and
reducing unemployment. We acknowledge that there has been progress
in some areas, but are concerned that progress appears to be slow.
The current weak economic conditions should not be an excuse for
the pace of reform remaining slow. We welcome the contribution
of the UK Government towards encouraging structural reform. The
ECB, the Commission and the Governments of the Member States should
work together to ensure that the promised reforms are actually
delivered as quickly as possible. (paragraph 45).
(p) Witnesses put forward a number of
explanations for the recent underperformance of the German
economy and the extent to which they were caused or made worse
by the euro. Many stated that the problems of the German economy
were longterm in nature and related to the after effects
of reunification. There was a broad consensus that Germany entered
the euro at an overvalued exchange ratethough the current
account is now returning to substantial surplus. All witnesses
questioned on the subject referred to the fact that structural
reforms are necessary if Germany is to correct its underperformance
(q) The Irish economy has benefited from
being part of the eurozone in terms of gaining a credible monetary
policy and the elimination of exchange rate fluctuations against
other eurozone members. However, excessive inflation could lead
to a loss of competitiveness in the longer run if not matched
by productivity improvements. There may be a particular danger
of this following the appreciation in the value of the euro against
sterling and the dollar, especially if the UK remains outside
the eurozone (paragraph 49).
Experiences of UK companies so far
(r) It is clear that, both at the level
of international businesses and at local level, UK businesses
and citizens are adjusting comfortably to use of the euro. While
UK firms are finding it relatively easy to adopt operational strategies
for living with the euro while the UK remains outside the zone,
longer term issues affecting location and investment may well
be contingent on knowing where government policy is headed. UK
companies need to see the analysis of the five tests to provide
such clarification (paragraph 52).
The assessment process
(s) We accept the 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. At the same time, we recognise
that an economic analysis is not a mechanistic exercise and that
there will inevitably be an element of judgement involved in assessing
the economic case for entry. It will be difficult for the results
of the assessment to be totally unambiguous (paragraph 55).
(t) It seems to us that nonpublication
of the supporting studies ahead of the announcement will have
reduced the opportunity for informed public debate before the
Government becomes committed to a particular judgement. It is
now too late for the studies to be published before the assessment
is made and announced, and we regret this (paragraph 58).
The five tests and the supporting studies
(u) We note the importance of assessing
the consequences of not joining the euro. One set of issues arises
if the decision is taken to join. A different set of issues arises
if the decision is taken not to join in the foreseeable future.
Both scenarios bring new challenges to the UK economy. We therefore
welcome the confirmation that this point is being taken into account
in the Treasury's assessment (paragraph 65).
(v) When the tests were constructed in
1997 evidence concerning the present UK monetary arrangements
and the eurozone (as a monetary union) was not available. We welcome
the Treasury's examination of the experience of the eurozone so
far as part of a number of the supporting studies. The eurozone
countries now provide 12 case studies as to the effects of entering
monetary union and we believe these provide important lessons
for the UK. Equally, given six successful years of the new UK
monetary framework, supporters of entry will have to demonstrate
that entering the monetary union will be at least as beneficial
as the UK framework that is to be abandoned (paragraph 68).
(w) There has been substantial convergence
between the UK and the eurozone economies since 1997. In some
respects the level of convergence is greater than that between
some of the eurozone members themselves before 1999. However,
the Treasury assessment must include examination of whether convergence
to date is cyclical or structural. It must also examine the implications
of the recent imbalances in the economy for achieving sustainable
and durable convergence and whether these imbalances would have
arisen had the UK been in the eurozone from the outset (paragraph
(x) How the UK reacts to changes in eurozone
interest rates is an important area for the Treasury to have examined
during the assessment; this should include an assessment of the
effect of interest rate changes on investment and consumption
in the UK as well as in aggregate (paragraph 73).
(y) The essential question is whether
the recent fall in the value of sterling against the euro provides
an exchange rate that would avoid these difficulties if it were
the basis of the UK joining the euro. The Treasury assessment
must spell out how a sustainable real exchange rate for entry
is to be determined (paragraph 74).
(z) We welcome the research announced
in the Budget into factors influencing the take up of fixed rate
mortgages, but regret that it will be too late to inform the assessment
of the tests due to take place by June 2003 (paragraph 77).
(aa) Labour market flexibility is important
for the UK economy, if it is to respond efficiently to shocks.
We ask the Treasury to clarify and define the ways in which there
has to be flexibility amongst the eurozone countries and the UK
for this test to be passed. We note the Chancellor's statement
in Budget 2003 in respect of achieving greater labour cost flexibility
in the regions of the UK. We hope the Treasury assessment will
say more about the context for this reform (paragraph 81).
(bb) The Treasury assessment needs to set
out clearly the Government's thinking on the relationship between
monetary union and member state fiscal policy regimes and how
it will deal with the extra pressure in a single currency for
tax harmonisation and for an enlarged EU budget (paragraph 82).
(cc) Membership of the single currency is
likely to provide the conditions for more and better investment
if there has been sufficient convergence between the UK and the
eurozone and sufficient flexibility exists. In this way the third
test is to some extent a consequence of whether the first two
tests have been satisfied. We received evidence from a number
of firms that over time investment decisions would increasingly
favour the eurozone at the expense of the UK. The assessment must
cover the extent to which volatility against the dollar could
be increased if the UK joined the eurozone and what effect this
could have on inward investment to the eurozone from the US. The
accuracy and significance of the large volume of inward investment
statistics needs to be assessed, if possible with the effects
of mergers and acquisitions identified and separated out (paragraph
(dd) We welcome the examination within the
assessment of whether the Stability and Growth Pact would place
any constraints on the level of public investment in excess of
those of the Government's fiscal rules. While the recent proposals
allow a temporary deviation in the short term from the close to
balance requirement to fund public investment, it is important
to estimate whether investment projections in Budget 2003 could
be constrained because overall deficits would breach the 3% limit
of the Stability and Growth Pact (paragraph 88).
City and financial services test
(ee) Many witnesses stated that the financial
services sector had not yet been adversely affected by being outside
the eurozone, but that it would wrong to be complacent about the
position of the City as Europe's dominant financial centre. We
believe that as well as assessing the recent performance of the
financial services industry the test also needs to reflect a forward
looking approach examining both potential opportunities and threats.
It is also important to examine any possible effect on the UK's
influence on European financial regulation from being outside
the eurozone (paragraph 90).
(ff) Witnesses from the financial services
sector told us that they needed at least three years to prepare
their UK operations for any changeover to the euro. We note that
under the current National Changeover Plan this would mean they
would have to begin preparations immediately following a Government
decision to recommend entry and not wait until the result of any
referendum. (paragraph 91).
Growth, stability and jobs test
(gg) As the Treasury itself admits, this crucial
fifth test rests on judgements about long term effects. They cannot
be known with certainty in advance. The assessment is therefore
a judgement and the balance of evidence which informs it needs
to be clearly set out (paragraph 93).
(hh) We recognise that, while much of the
current round of reforms is largely agreed, there is a need for
continuing evolution in the reform process and any assessment
of the European Central Bank and the Stability and Growth Pact
will be in essence 'aiming at a moving target'. If the assessment
of the five economic tests is announced prior to the completion
of the review of its monetary policy framework by the ECB, then
the Treasury should publish a supplementary study examining any
significant changes made (paragraph 95).
Maastricht criteria for entry
(ii) We recommend that the Government
should clarify whether they regard it as their policy to keep
the deficit within the 3% limit required by the Maastricht treaty.
We note that any deficit exceeding 3% on the treaty definition
may preclude the UK from applying for membership of the euro (paragraph
Exchange rate on entry
(jj) It is of fundamental importance
that entry to the euro, should this take place, is at a viable
and appropriate exchange rate. Although there is no unanimity
on what the precise appropriate rate would be, we note that a
number of expert witnesses are now of the view that the exchange
rate is close to such a rate (paragraph 100).
(kk) We recognise the potential drawbacks
of a process of entry involving a two year membership of ERM2.
There is potential for the UK to provide leadership on this issue
and to set out its preferred method of joining. Whatever the exact
process were to be, it is important that the electorate knows,
at least in approximate terms, the Government's view of an appropriate
exchange rate range before they are asked to vote in a referendum
Influence of UK on reform
(ll) In this period, when the eurozone's
monetary policy and institutions are bedding in, there is clearly
a greater 'window of opportunity' for British influence in negotiating
reforms within the system, than would be the case later if there
is a decision not to join the euro in the foreseeable future.
The Government should continue to play an active role in the debate
over reform of monetary and fiscal policy and structural reform.
The analysis of the five tests and the accompanying studies will
be of value to the eurozone states in this respect. Encouraging
reform which improves the performance of the eurozone economy
will also help to improve the performance of the UK's main export
markets, whether or not the UK joins the euro (paragraph 104).
The present options
(mm) Government (and then Parliament) now
face a range of options [indicated in paragraphs 107-109]...We
do not judge between these options, but we have sought in this
Report to provide additional analysis and information on the implications
of each option. The point we would emphasise is that while there
are indeed political implications to each option (to which we
have referred throughout this Report) it is of fundamental importance
that the economic case for entry is met first of all if the UK
is to enter the euro (paragraph 106 and 110).
Engaging the public: the challenge
(nn) It should be the objective of the Governmentand
of other organisations and institutions involved, including the
political parties and Parliament itselfto promote as full
and as well informed a debate as possible ahead of any referendum.
We should be seeking to maximise the level of participation in
a referendum and to maximise the extent to which voters feel they
have been given the information necessary to cast their vote,
based on their knowledge of the issues involved (paragraph 112).
Public interest and increasing public understanding
(oo) We recommend that, were there to be a
referendum on the euro, provision for the Electoral Commission
to encourage voter participation, andas we discuss belowto
provide objective information, should be included in the enabling
legislation (paragraph 117).
(pp) We conclude overall that there is a need
and a desire among the public for a balanced source of information
on the economic issues involved in a decision on whether to join
the euro, ahead of any referendum. We recommend that the Government
and the Electoral Commission give specific attention to examining
ways of providing such information (paragraph 120).
(qq) We consider that the role of the broadcast
media in promoting informed and educative debate on the issues
relating to the euro will be of particular importance during a
referendum campaign. We have every confidence that broadcasters
will recognise the significance of their treatment of the issue
and will live up to their responsibilities. The BBC and other
websites could play an invaluable role (paragraph 125).
(rr) We accordingly recommend that, as part
of their response to the recommendation in paragraph 120 above,
the Government and the Electoral Commission, in consultation with
the British political parties represented at Westminster and in
the European Parliament, should examine ways in which a public
information leaflet could be prepared and distributed to each
household ahead of a referendum. The leaflet should include summary
information on the key issues. It should also include website
addresses for a range of other documentation and organisations
Issues of concern to the public
(ss) The public information leaflet we have
proposed will need to include information addressing the issues
listed in paragraphs 132-134 above, if it is to be effective in
responding to voters' concerns for information (paragraph 137).