The London and Frankfurt Stock Exchanges

Part of the debate – in the House of Lords at 3:45 pm on 24th May 2000.

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Photo of Lord Layard Lord Layard Labour 3:45 pm, 24th May 2000

My Lords, I am extremely grateful to the noble Lord for proposing this debate because our economic relations with the rest of Europe are so important to us. As an academic economist, I should declare an interest. I have always tried to do something else as well as economics, so for many years I spent time on the politics of unemployment, after which I spent some time on the politics of reforming Russia, which was not quite so successful; and recently I have spent time on the reform of education and employment in Britain. However, my main job is running a research unit studying the causes of national prosperity, which include two key factors underlying this debate: the issue of industrial structure and the issue of currencies.

On industrial structure and mergers in general, I would simply say this. When the information revolution was getting under way, many people thought that it would reduce the need for large companies and large banks, because it would so greatly reduce the cost of transactions between different separate companies. In fact, the reverse has happened because the cost of transactions has fallen, even more inside companies than it has between companies. So we now see mergers taking place in every industry and we are not necessarily reducing competition because the pace of globalisation is so rapid. The same general logic is behind the merger that we are debating today.

A related logic is producing mergers between currencies. As capital flows have become ever easier between currencies, the cost of exchange rate uncertainty and exchange rate fluctuations have risen and the benefits from using a single currency have, therefore, increased. This is the second big issue behind the debate and the aspect on which I want to concentrate. It is a very controversial issue and this is a maiden speech. However, it is often said that if you laid all the economists in the world end to end, they would never reach a conclusion! That is not fair, but on this occasion I shall not come to a conclusion.

However, I shall set out some facts about a single currency, its impact and how it works, which may not be as well known as they should be, although I believe that most of the facts I shall quote are those with which the majority of economists would agree. The basic fact is that a single currency increases trade and capital flows within the area that it covers. Thus, it increases productivity and living standards. An obvious example is Canada. Canada has its own currency, but it shares a very long land border with the United States, so most parts of Canada are nearer to the United States than they are to the rest of Canada. Canada also speaks the same language as the United States and has a free trade area with the United States, but it has a different currency.

The result is that a typical Canadian province does 20 times more business with another Canadian province than it does with a US state which is equally distant and equally wealthy. Since trade in a large market increases competition and increases productivity and living standards, Canada's separate currency is an important reason why Canada is only four-fifths as rich as the United States. Therefore, free trade is not enough--not enough for a truly free flow of goods and not enough for a truly free flow of capital, and that doubtless lies behind some of the earlier remarks which were made by the London Stock Exchange.

If one looks at the movement of exchange rates between different currencies, it is not difficult to see why a common currency is so helpful. Ideally, of course, we would like, for example, the sterling exchange rate to move smoothly to offset differences in inflation rates between us and our competitors, so that we would have a stable level of competitiveness in world markets. But the story of the past 30 years has not been at all like that. The exchange rate has in fact been a major source of shocks and uncertainty, rather than a smooth mechanism of adjustment, and the main source of fluctuations in our national competitiveness, of which today's exchange rate is just one example.

Conversely, of course, there are other kinds of shocks, apart from exchange rate shocks, which can affect a country. The main argument against EMU, of course, is that we would lose our ability to vary our interest rates so as to offset those shocks which particularly affect Britain because of our particular economic structure. However, on inspection, it turns out that our industrial structure is, fortunately for us, very similar to the average of Europe as a whole. There is much less difference between Britain and the rest of Europe than there is between a typical US region--for example, the Texas region--and the rest of the United States, yet all those regions of the United States happily share a common currency.

My final point concerns the question whether a single currency needs a large federal budget. It is true that if Texas has a bust, the US federal government in Washington helps it out with higher unemployment insurance and lower tax claims. People often argue that a single currency in Europe can work only if there is a large federal budget in Brussels. However, this overlooks the simple fact that US states are mostly forced by law to balance their budgets year by year, so they need that external support from Washington. The fact is that in Britain we already have more automatic stabilisation from within our own national budget than any US state receives from Washington. It is not true, therefore, that a single European currency would need a large federal budget in Brussels to enable it to work.

The basic situation is that the new technology is driving us towards a new world in which there are more large companies and more large currencies. In this context, the Stock Exchange and the nation as a whole have to make key decisions, and I hope that the facts which I have quoted are of some relevance.

In conclusion, I should like to say that in the past two weeks I have received a most wonderful welcome in this House, for which I thank your Lordships and the staff most warmly. I have also received a number of lessons on etiquette. In that connection, I have heard that in the debates in Parliament on the Irish potato famine the potato was always referred to as "that vegetable". The word "potato" was never used; nor have I used the word "euro"!