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Lord Dubs: Oh!

Lord Peston: My Lords, perhaps I may finish. I do not see what the problem is in making the European Central Bank accountable to national parliaments. It would do it the world of good and would improve policy-making if it regularly had to explain itself to the Treasury Select Committee of the other place or, even more valuably, to the new economic affairs sub-committee of your Lordships' House, as well of course to similar bodies in other countries.

The target of the ECB is stable inflation. It refers to stable prices but it always means stable inflation. That is similar to our target. It follows that the external value of the currency is determined by markets given the inflation target and policy to hit it. I am not one of those therefore who believes that it is appropriate, having done that and let markets determine the behaviour of the external value of the currency, to start talking about whether the currency is too high or too low.

I can only say that we will live to see the same kind of people saying how worried they are about fundamentals compared with the value of the euro being too low. It will not be long before they say that the value of the euro is too high. The answer is that these days, in the free world, markets determine the value of currencies and one should stop all these pronouncements on too high or too low; or, to put it differently, in the usual cynical way: if you know what the price should be, you can make a lot of money by working against markets. I would not advocate that to your Lordships.

My right honourable friend the Chancellor of the Exchequer got the inflation target formulation correct and the people who set up the ECB got it wrong. As noble Lords will know, the target in this country is a precise number with a symmetric band, and outside the 1 per cent band of the 2.5 per cent target the governor has to write a letter to the Chancellor explaining what he is up to. Setting an inflation target at less than or equal to a particular inflation rate and then saying it is for the medium term is much inferior as a target method of making policy to our method. Certainly, the lack of the equivalent of an explanation is a weakness. I am not happy with the formulation of the ECB's approach to policy and I hope that it may at some time move in our direction.

I make a similar remark about the stability and growth pact. I entirely accept that one has to have some kind of restraint on fiscal policy. I do not take the arguments of why quite as seriously as my noble friends of all kinds on the committee, but one has to have some restraint as fiscal profligacy could undermine monetary policy. The way in which the stability and growth pact is formulated is

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extraordinarily unsophisticated. The ECB refers to a deficit of less than 3 per cent and then adds the usual weasel words,

    "in all but exceptional circumstances",

which get you off the hook if that is what you need. But that fails to distinguish current from capital expenditure, as our fiscal regime does distinguish. It is entirely correct to make that distinction.

It also assumes that we can easily define the cycle. Our approach assumes it as well and every economist knows how difficult that is. The main point is that capital expenditure should be approached in government budgetary terms differently from current expenditure and should not necessarily be tax financed even over the cycle. If we have stable, democratic and financially sound governments, which at the present time we do have in Europe, I think that then to base fiscal rules on the assumption that they are all stupid is hardly supportive of democracy per se. I hope that EMU will develop so that we achieve a much more sensible stability and growth pact than the one we have at the present time.

In addition, if the European Union is to evolve, it is by no means obvious to me why the emphasis on the fiscal regime should be on national governments. Different circumstances exist. Why should one national government not run a surplus in order to finance another national government's deficit? There is no problem with the economics of that. In order to get my point across to noble Lords and help them to understand it, I ask them to reflect on the position of a large multi-national company with businesses in several EU countries. Let us suppose that someone were to come to that company and say, "What you have to do is balance your accounts in every country and, in addition, you must not be a net borrower". If one really wanted to bankrupt that multi-national, that is how one would do it. If one applies that rule to a multi-national private enterprise, one should at least reflect on whether it might not also be applied to a multi-country European Union.

My comment on the insulting document sent to us by the Treasury is that there must be someone in the Treasury who is still feeling bitter about the behaviour of your Lordships in 1911. I hope that the Treasury takes note of the fact that no one in the Chamber and no member of the committee was responsible for defeating Lloyd George's Budget at that time. I really do believe that the Treasury should forgive us. It should put in a little work and take more seriously the enormous amount work that the committee put into its report.

I conclude by asking and answering four questions. Is the euro working? Answer, yes. Could it work better? Answer, yes. Should Britain join? Answer, yes. Would it work even better still if we joined? Answer, very definitely yes.

5.4 p.m.

Lord Northbrook: My Lords, we are all grateful to the noble Lord, Lord Tomlinson, for initiating this

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debate and also to the members of the committee, with their vast wealth of experience, many of whom we have had the privilege of hearing during the debate today.

As usual, the committee has made a thorough and detailed report. I have to venture the opinion that its broadly favourable conclusion has not entirely surprised me, as I have been getting to know over the past year or so on which side of the debate on the euro its personal sympathies lie. It is therefore interesting to see in paragraphs 14 and 15 of the report the committee's few concerns about the euro, which in my belief require a much more detailed inspection. I shall spend a little time on those two paragraphs.

Paragraph 14 states:

    "But we have noted the potential downside of the 'one size fits all' monetary policy. It has deprived the national governments and central banks in participating Member States of the possibility of adjusting their economies either by alterations in their exchange rates or by differential interest rates".

Too right, my Lords.

The report then moves on to paragraph 15 and looks at the position in Ireland. It observes that the rate of inflation has recently been increasing rapidly and that the Central Bank of Ireland cannot respond by increasing interest rates. Let us look at the Irish situation in more detail. Inflation in Ireland is at its highest level for 16 years. It stood at 7 per cent in mid-December. Interest rates should be at a much higher rate than the current euro-land 4.75 per cent to reduce demand in the economy. Maurice Fitzpatrick, chief economist of Chantrey Vellacott DFK, has suggested that interest rates should be around 14 per cent. As a consequence of the high inflation rate, the unions have recently negotiated a 7.5 per cent pay increase from next April.

Wage price inflation looks to be flourishing in Ireland. In addition, there has been a rapid expansion of credit. By last July it was increasing at the rate of 25 per cent per year. Maurice O'Connell, governor of the central bank, has said that nothing can be done to stem the expansion of credit. He stated:

    "There is no authority to impose restrictions as we might wish".

A report by PricewaterhouseCoopers in October 2000 stated:

    "If confidence erodes and foreign investors pull out Irish property prices could crash undermining the banking system".

The IMF has also suggested that monetary conditions are too loose in Ireland. In a report on the Irish economy in August 2000 it noted:

    "Monetary conditions are clearly expansionary from Ireland's point of view contributing to robust demand growth as well as rapid increases in house prices and private sector credit".

The IMF also noted that monetary conditions, now determined on a European area-wide basis, were excessively accommodating for Ireland's cyclical position. Thus the consequences of joining the single currency are all too clear in the case of Ireland where the inability of the national government to put the brakes on an explosive boom could well lead to economic disaster in the long term.

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Portugal looks to be going down the same route. It is already experiencing the highest industrial inflation in euro-land at 16 per cent. It has experienced a credit boom and a collapse in savings leading to a massive current account deficit. The Portuguese Government have imposed price controls on energy to hold down increasing inflation, but that subsidy arrangement comes to an end this month. Last August, Vitor Constancio, Governor of the Bank of Portugal, warned of the danger of,

    "a spiral of higher prices and wages".

Traditionally, Portugal has one of the highest saving rates in Europe. This fell dramatically when Portugal became a member of Euro-land and real interest rates dropped. In October 2000, the Financial Times reported an estimate from the head of a large commercial Portuguese investment bank, Mr Tavares Moriera of Central, that household debt had tripled in five years to reach 90 per cent of disposable income. He feared that:

    "Interest rate adjustments next year may push many households over the brink".

As a result of the credit boom, the current account deficit has ballooned from 4.7 per cent of GNP to 12 per cent in 2000. In October, the economic situation caused a political crisis.

Thus we see how in two European Community countries the euro is causing severe economic problems. What is more, its weakness over the past year or so has enabled larger countries like Germany and France to avoid wholesale economic reform, in particular of labour markets, as my noble friend Lord Renton of Mount Harry pointed out. This would also help euro-land to escape from high structural unemployment. Last October in Germany, Hans Henkel, the then head of the German CBI, stated:

    "In the past, we have been good at exporting the strong mark. We should not have to rely on a weak euro to help us".

He also stated that the government's lack of urgency and commitment to modernising the German economy were now very worrying.

The German Government have recently increased the burden of labour regulation. Three new regulations extend employee representation in the workplace, reinforce employees' right to work part time and restrict the fixed-term contracts used by many companies to improve their labour flexibility. Economics Minister, Walter Muller, accepted that the new rules might scare off small and medium-sized enterprises. The new president of the German CBI has stated that unemployment could be halved if labour regulation were reformed.

In France, much the same situation exists. Starting in 2002, the government have decided to impose a 35-hour week on even the smallest firms. Lucien Rebuffel, the head of the CGPME, which represents over 1.5 million small firms in France, said that the 35-hour week was,

    "complex, rigid and what's more of little use when creating jobs".

He added that no other country had decided to go along that road and this clearly means that French companies will face a serious handicap when it comes to increased costs.

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The French Government have also proposed that workers on fixed-term contracts be paid over 10 per cent more than workers on open contracts to encourage companies to take on workers with full employment rights. The French CBI has said that it is hostile to this proposal, believing that it shows a major lack of understanding of the way modern business works.

The European Parliament has strongly resisted economic reform. The parliament has voted to pass amendments to the takeover directive which would make hostile takeover almost impossible in Europe. The amendments were proposed by a group of German MEPs concerned by the hostile takeover of the German firm Mannesman by the British company Vodafone. It also voted for the early imposition of a tax on art sales, which could weaken the European art market. Furthermore, it voted down postal liberalisations.

The most serious long-term problem facing euro-land is unfunded pensions. Whereas citizens in the UK have nearly fully funded their future pensions liabilities, this is not the case in continental Europe, where a "pay as you go" basis is the norm. A study by Niall Ferguson and Laurent Kotlikoff in the publication Foreign Affairs in March 2000 found that in order to fund pension commitments, Italy will have to raise taxes by 10.5 per cent, Germany by 9.5 per cent and France by 6.9 per cent. These figures are with effect from today's levels the immediate and permanent adjustment needed.

What is the attitude of these countries to pension reform? In France, pension reform was dropped in March 2000. The Prime Minister, Lionel Jospin, has stated that he does not believe that "pay as you go" should be replaced by the UK system. In Germany, pensions reform is under threat with large-scale union demonstrations against the planned reforms of the labour Minister, Walter Reister. Why is this pension problem so interconnected with the euro? A common currency would inevitably lead to a common taxation system, despite recent denials. Comments from a senior aide to the German Chancellor (made after a recent meeting with Tony Blair) confirm this. He said:

    "Those who are in euro-land quickly feel the direct obligation that you cannot have the one without the other. You cannot have a common currency that is not embedded in a common and appropriate fiscal and economic policy".

Hence the very real probability that the UK will end up, through its net contributions, funding European pensions.

In concentrating on the major problems of the euro, I should like to emphasise that the UK can be part of the EU without joining the single currency. The predictions of politicians and many commentators were that the euro would be strong from day one, I should, however, declare an interest as a manager of an investment trust where we decided to go short on the euro right from the start. I should like to end with the three reasons for doing so, where we forecast the likely unfavourable progress of the euro against the dollar. First, time. Some 135 years have elapsed since the end of the American Civil War. The dollar was fused at the

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end of it. On the other hand, the euro was cobbled together in only a few years. Secondly, common language. In the USA, this makes mobility of labour much easier than in the EC. For example, a Greek citizen emigrating to Wales or an Italian to Denmark will find it much more difficult than an American moving from one state to another. Thirdly, economic convergence. The examples of Ireland and Portugal show the problems, whereas in the US, economic variations between the different states can be ironed out by market forces.

Perhaps I may ask the Minister how he believes that these problems can be overcome.

5.18 p.m.

Lord Lea of Crondall: My Lords, perhaps I may say right at the start that those of us who served on the sub-committee are extremely gratified by the range and depth of consideration which other noble Lords have given to this matter. I hope that we can do justice to those contributions in the remarks that some members are now able to make.

In debating at this time the question whether the single currency has so far been successful, there will be those who will wish to quote Chou en-Lai, who, when asked what he thought of the French Revolution, replied that it was too early to judge. But to leave it there would of course be untenable for several reasons, not the least of which is that, since 12 countries have taken the plunge, our jobs and investment are starting to be affected. Certainly, investment is in many cases predicated on Britain joining.

Our witnesses assisted us in defining the criteria by which we would measure success. To that end, I should like to put a question to my noble friend on the Front Bench: does he agree that we have set out a reasonable list of criteria on page 7 of the report, even though we cannot mark out of 10 the Treasury's response this afternoon? Our analysis of the evidence in relation to these criteria is the heart of our report. For the record, there is the conclusion--also on page 7--that,

    "Clearly there has been considerable progress in relation to some of the criteria, but less in relation to others".

That will not exactly set the Thames on fire, but if someone from Mars were to mark the answers out of 10, he would probably conclude that the euro was doing fairly well on seven or eight out of 10. As has been mentioned, that is, of course, broadly speaking, the overall assessment of the Governor of the Bank of England.

Another broad impression, which we do not spell out in so many words, is that the whole process since Maastricht--which was, of course, 10 years ago--has been one of very careful preparation and of very careful work on conditions and procedures, stability and growth factors and so on, for this project to be a success. That careful preparation has undoubtedly paid dividends.

Nearly all the witnesses gave the rationale, the logic, that the fruition of the single market is a single unit of account, a single currency. They implicitly reject the

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position, if I can sum up in a slogan, "single market yes, single money no". They think that is an illogical position.

My noble friend Lord Peston touched on the question of accountability and unelected central bankers, and I shall refer to one of the many interesting remarks that he made. I used to share the view expressed by the noble Lord on the publication of voting. However, the very clear view arising strongly from the evidence was that a particular difficulty arose from the fact that the board consists of one member per member state. If votes were recorded, members would be lobbied and they would be different kinds of animals from the animals they are now. They would find it much more difficult to do what my noble friend Lord Peston says they should do--that is, vote according to their own judgment--if they were to be more openly lobbied by their own governments.

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