Euro

The euro is the multinational currency used by member-states of the European Union that in some instances rivals the U.S. dollar as a global currency. The euro is the product of a period of monetary integration dating back to the late 1960s and the Bretton Woods system. The original proposal, called the Werner Plan, was to link the national currencies of participating European countries through a bilateral grid of irrevocably fixed exchange rates. Economic and monetary union (EMU) would operate through a common monetary policy, but national currencies would remain in place. The Werner plan failed in the mid-1970s and was replaced with a network of fixed-but-adjustable exchange rates called the European Monetary System. This network centered on an exchange rate mechanism that included both a bilateral parity grid, as anticipated in the Werner Plan, and a common standard of [Page 527]account or European currency unit made up of a weighted basket of European currencies. Initially, this arrangement was prone to frequent realignment, and any ambition to form a monetary union was put on hold.

Over time, the countries using the European Monetary System learned to stabilize their exchange rates and so live within the discipline of the exchange rate mechanism. Nevertheless, the liberalization of European capital markets threatened to destabilize the system and so distort underlying patterns of trade and commerce. Hence, the countries of Europe launched another proposal to form an EMU. This time, however, they chose to move beyond the irrevocable fixing of exchange rates and to replace national currencies with a common one based on the European currency unit. After much deliberation, they chose to name this common currency the euro.

Participation in the euro was both selective and automatic. Countries had to earn entry by meeting a series of convergence criteria related to relative inflation performance, long-term interest rates, and exchange rate stability. They also had to give political independence to their national central banks, and they had to avoid running excessive deficits—defined with regard to reference values for acceptable deficit- and debt-to-gross domestic product ratios. With two exceptions—Denmark and the United Kingdom—all present and future EU member-states must commit to qualify for monetary integration. Moreover, the economic and monetary union would begin in 1999 at the latest with as many members as could qualify. When the EU Council of Economic and Finance Ministers made their assessment in March 1998, they found 11 countries ready to participate—Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, Netherlands, Portugal, and Spain. Only Greece failed to qualify initially; Sweden chose to ignore its obligation to try.

The EU Council of Economic and Finance Ministers announced the irrevocably fixed exchange rates in May 1998 and planned the official launch of the economic and monetary union for January 1999. In the meantime, the European Monetary Institute converted into a European Central Bank and began to develop a common monetary policy to be implemented by the central banks of the participating countries, called the European System of Central Banks. From the start, the intention was to begin by cementing the relationship between national currencies and to replace them with the euro only in January 2002. During the intervening period, banks and businesses could begin using the euro as a notional unit of account to facilitate the transition away from their dependence on national currencies for financial reporting. Greece qualified for participation in 2000 and joined the network of irrevocably fixed exchange rates in 2001.

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