Toward Monetary Union of the European Community: History and Experiences of the European Monetary System

I Introduction ACCORDING TO THE SINGLE EUROPEAN ACT, the legal document formalizing the Single Market Program, the European Community (EC) shall adopt measures with the aim of progressively establishing an integrated internal market in which the free movement of goods, persons, services and capital will be ensured. Furthermore, the establishment of this single, integrated market, targeted to be a reality by December 31, 1992, has for all practical purposes been accomplished. What is the Single European Act? First, in a technical sense, it is an amendment of the 1957 Treaty of Rome that created the EC. In a broader sense, it firmly reaffirms a commitment of the EC to accelerate its economic integration. However, although the Single European Act deals with economics, it remains primarily a political act and, as such, it expresses the desires, aspirations and hopes of at least three broad groups of European political players. The "Euro-idealists" view the Single European Act as an important step towards an European political union patterned after the United States. The "Euro-pragmatists" realize that technological progress, world economic competitiveness, the integration of world financial markets, among other factors, demand an economically integrated Europe. Finally, the "Euro-skeptics" view this accelerated process towards integration as an effort to suppress nationhood and concentrate enormous political powers in the bureaucracy of EC. Thus, it is logical to argue that Europe 1992 is both a political compromise and an economic process. It is a compromise because the governments who wished rapid economic and political union but did not get it in the Single European Act, and those governments that wished to preserve major home government rights and responsibilities but ended up losing some of these rights to the EC bureaucracy. On the other hand, Europe 1992 is a process because economic reality constitutes a dynamic flow and it will take several years to establish the institutional framework necessary for a complete economic and monetary union. This paper attempts to go beyond Europe 1992 by analyzing aspects of European monetary integration. Actually, the student of the economics of the EC, and of Europe 1992, is not surprised to find that monetary integration appears to be just an afterthought in the Single European Act. In section II, the paper reviews the historical background of the effort to establish the European Monetary Union (EMU). It examines the major events which influenced the evolution of monetary integration including the Werner report, the collapse of the Bretton Woods System, the Smithsonian Accord, the Joint Float, the European Monetary System (EMS), the 1989 Madrid summit and the December 1991 European Council meeting at Maastricht. In section III, an analysis is presented of the mechanisms used to attain exchange rate stabilization. Section IV examines the performance of the precursor of the EMU, the EMS. Given that the essential components of the EMS are the European Currency Unit (ECU) and the Exchange Rate Mechanism (ERM), the record of the ECU as a reserve unit and a benchmark for the ERM, as well as the contributions of the ERM to monetary stability are examined and assessed. Section V, presents concluding comments. II History of Monetary Integration MONETARY INTEGRATION, remarkably was not listed as one of the primary goals of the Treaty of Rome that established the EC. Actually, European monetary integration, rather than being a persistent priority, has been a vague objective of the EC and only received attention periodically, often as a result of financial crises of certain magnitudes. The first move towards monetary cooperation occurred during the early period of 1958-61 and was caused by the reality of persistent balance of payments surpluses in the original six members of the EC. During this period the EC established the Committee of Governors of the Central Banks to coordinate issues of exchange rate management and international monetary policy. …