The Origins of the Euro Zone

So now that we have understood the basics of trade blocs,

we can start discussing monetary unions.

So monetary unions take place when more than one country adopts the same currency.

We're going to take a look the effects of these monetary unions.

And, of course we going to be spending quite a bit of time analyzing

the Euro Zone.

This is by far the most ambitious and the largest monetary union in the world.

But let's first take a look at this map where we see differents kind of monetary

unions in existence in the world at the present time.

We come across three different kinds of monetary unions.

First, we have informal monetary unions.

These are situations in which one country

has decided to adopt somebody else's currency.

In most cases, even without the agreement between all of those different countries.

We find this, for example, in the case of several pacific

island nations that are relatively close to Australia,

decided to adopt Australia's currency, the Australian dollar as their own.

We also find this in Bhutan, Nepal and

India, where they have also adopted the same currency, the Indian currency.

A second kind of monetary union is a formal one.

In which essentially two or more countries actually agree to introduce or

to adopt a common currency.

And sometimes, they do so

in a way in which they peg that currency to somebody else's currency as well.

Examples of this arrangement include Singapore and Brunei in Asia,

or San Marino and the Vatican along with the Euro Zone in Europe.

And then lastly,

we have formal monetary unions that also include a common monetary policy.

Examples of this include economic and monetary union in Europe, the Euro Zone.

As well as several associations of countries in West and

in Central Africa that have adopted their own currency called the franc.

We also see this with the East Caribbean dollar.

And with the currency union in existence in

Southern Africa among Lesotho Swaziland, Namibia and South Africa.

Now let's focus on the European monetary union,

commonly known as the Euro Zone.

You see Europe emerged from WWII as a destroyed economy with many divisions and

many frictions, and still maybe lingering economic conflicts.

And over the next 70 years the Europeans tried to create

a common ground in terms of its economy.

In terms of trade, and also in terms of monetary affairs.

Progressively the European Union became a trade bloc including more and

more countries starting with original of 6.

They also expanded the scope of the Union as well as the depth of

the agreements that all of those different countries signed.

In the 1950s and in the 1960s,

what today we know as the European Union had only 6 member countries.

In a moment, I will show you a map.

By the 1970s, the European Union had 9 member countries.

And remember, this was a time of monetary instability.

In the 1980s, the southern European countries, the so

called Club Med were admitted into the Union.

And at the time then, it had 12 member countries and so

on, let's take a look at the maps.

At the present time, as of the year 2017,

the European Union has 28 member countries of which you can see here on the map.

And the Euro Zone has 19 member countries which are the countries in dark blue.

Now, once again the European Union starts in 1957

with the European Economic Community as it was called at that time with 6 member

countries.

France, Germany, Italy, Luxemburg, the Netherlands and Belgium.

By 1973, there are 3 new members.

1981, now we have a total of 10 member countries.

1986, that's when Portugal and Spain become members.

1995 is when Austria, Sweden and Finland become members of the European Union.

In 2004, that is after the fall of the Berlin wall, that's when several

countries in eastern Europe become members for a total of 25 countries.

In the year 2007 we go to 27 member countries.

And the last country to join the European Union was Croatia in the year 2013.

>> Today I'm in Pula Croatia, Croatia will become the 20th

member of the European Union in July of 2013.

The European Union started out in the 1950s with just 6 members.

Italy, Germany, France, Belgium, Luxemburg, and the Netherlands.

In the 1970s, 80s, and 90s,

the size of bloc expanded to include most countries in Western Europe.

And after the fall of the Berlin War,

several Eastern European countries also joined this trade bloc.

Croatia is, of course, one of the countries that became

independent out of the former Yugoslavia in the 1990s.

And it is a country that has high hopes in terms of joining the European Union and

accelerating its economic growth.

Now it has to remembered that Croatia is not joining the Union at the best

possible time.

The Union is in trouble, of course, mainly because of the common currency, but

also because of meager economic growth.

Today I am in Ljubljana, the capital of Slovenia.

Slovenia is a country of 2 million people.

It became independent in 1991 after breaking

away from the former Yugoslavia and today is a proud country.

It is a member of the European Union, and

it's also a member of the Euro currency union.

For the first few years under this arrangement, the country did rather well.

But starting two or three years ago, in the midst of the global financial crisis.

Slovenia became one of the leading preoccupations among European

countries in terms of who might be next after Greece, Portugal and Ireland.

In 2013, unemployment is growing, the economy is not growing.

And everybody's looking at Slovenia,

this tiny country when it comes to assessing the future of the Euro.

>> So this is, again, the situation today.

The European Union has 28 member countries, and

as we shall see in a moment, out of those countries,

19 of them have adopted to Euro as their currency.

Now what happened was the following.

After United States decided to take the dollar off the gold standard in 1971.

The global economy experience the period of extreme monetary instability.

And this instability manifested itself in the form of various monetary crisis.

There were three of them that affected Europe.

The first one took place precisely in 1971, the second one in 1973,

and the third in 1992.

On the left hand side of this table, you can find the countries whose currencies

were affected by these episodes of extreme monetary instability.

Meaning that speculators in the market attacked those currencies.

And those currencies lost a lot of value in the market.

This wave of monitoring instability also affected eventually the emerging markets.

And that's what we see on this table on the right hand side.

In 1994, we witnessed the famous Tequila crisis, which first occurred in Mexico,

but then expanded like wild fire throughout all of Latin America.

And in 1997, the world witnessed this so called Asian flu crisis that

it started in Thailand and then spread throughout the emerging world.

So in Europe,

the response to this monetary instability was to try to look for alternative

arrangements to avoid rapidly changing exchange rates between currencies.

You see the issue with rapidly exchanging exchange rates is that it makes it very

difficult for companies, for consumers, and for investors to make decisions.

Because one day you think that the dollar is worth this much, or

that the British pound is worth that much.

But then the following day or

the following week the value could be off by 5% or 10%.

It was essentially what was going on in the 1970s and the early 80s.

So most of the action in terms of European monitory integration started in

the mid 1980s.

In 1985, a French man by the name of Jacques Delors became the head

of the European Commission, which is the policy making body of the European Union.

And he was the longest serving official in that position.

He stayed in that post until the year 1996.

Now, what's very important to keep in mind about Jacques Delors is that he believed

that all of the problems afflicting Europe at the time could be solved with just one

medicine.

And that prescription was integration, more integration.

His dogma was that more integration in Europe would

essentially help the continent overcome all of its problems.

He essentially had a technocratic approach.

He believed that rules and standards for everything,

for products and for markets, would essentially help all of

the different European economies come together as one.

And of course, he understood that different parts of Europe

were unevenly developed.

So, he was a firm believer in that the richer countries in Europe

should subsidize the periphery, the poorer countries in the European Union.

And he proposed the so called structural funds that will help, for example,

build up the infrastructure in Southern Europe.

And he was also in favor of introducing a common currency.

Which as we shall next would represent by far

the largest subsidy to the weaker economies in Europe.

Now I would like to show you a photograph that was taken in the late 1980s.

This photograph comes from one of the G7 meetings.

The G7 at the time, were the largest market based economies in the world.

At the left of the picture we find Jacques Delors,

who's representing the European Union.

Next to him is Bettino Craxi, the Prime Minister of Italy.

And then we have Francois Mitterrand, the President of France.

Margaret Thatcher, Prime Minister of the UK.

Helmut Kohl, the Chancellor of Germany.

Ronald Reagan, President of the United States.

Nakasone, the Prime Minister of Japan, and finally Brian Mulroney,

the Prime Minister of Canada.

Now these people, of course, were meeting to discuss global economic,

monetary and geopolitical affairs.

And just a few months after this meeting took place, the following happened.

This is a snap shot from Berlin right after the Berlin Wall fell.

Unexpectedly, nobody really was anticipating that this would happen.

And as you can imagine, the fall of the Berlin Wall represented a before and

an after, a very important event in European history.

So you can imagine that these different leaders actually have

very different attitudes.

And very different interests when it came to handling the situation after

the Berlin Wall fell.

Let's just focus on the most important leaders here.

You can perfectly imagine that Helmut Kohl, the Chancellor of Germany,

would like to take the opportunity to unify the two Germanys.

So that there would be only one German state, and, of course,

he will come down in history as a national hero.

At the same time, you can imagine that Ronald Reagan

would be very much interested in the same outcome.

If you remember, the most important

goal of his administration was to defeat the Soviet Union during the cold war.

So having a unified Germany,

that would be firmly embedded in NATO in the North American treaty for defense.

That would be a very, very important and positive outcome for

the Reagan Administration.

At the other stream of the spectrum, we will find President Mitterrand

of France being a little bit uneasy about a unified Germany.

And the reason is the following.

For the preceding four decades, the French and

the German economies were about the same size.

Although, it is true that the German economy was performing better

than the French economy during most of those years.

It was still a fact that both economies where about the same size.

Meaning that the influence that these two countries have in European affairs

was approximately the same.

A unified Germany, however, tilted the balance in favor of that country,

and put the French influence in Europe at risk.

So Francois Mitterrand was not flatly opposed to the idea of a unified Germany.

But she certainly wanted to have some safeguard.

So some guarantees that Europe was not going to become

a part of the world in which Germany could impose its will.

The key deciding leader here would have been Margaret Thatcher.

She had some reservations about unified Germany.

But she was also a cold warrior and

she certainly wanted to declare victory in the Cold War.

And that also helped tilt the balance in favor of a rapid process

towards German unification.

Now, here's the issue,

the French obviously had some leverage in these negotiations.

They had troops where stationed in Germany, and, of course,

they had a big say, big influence in global affairs.

Beginning with the fact that they had a permanent seat at the UN Security Council.

But, more importantly,

the Germans knew that they couldn't just unify without the agreement of French.

It was important to have consensus in Europe,

especially among the biggest countries regarding German unification.

So this is what happens,

the French insisted on one very important condition for German Unification.

And this is very well documented, the condition was the following.

France would agree to the unification of Germany

as long as the Germans gave up their currency.

Why were the French insisting this?

Well the French insisted on this,

because the situation in the 1980s in Europe was the following.

Although each country had it's own national currency,

the Deutsche Mark the German currency was the strongest one.

And everybody in Europe, every Central Bank in Europe was essentially waiting for

the German Central Bank the Bundesbank.

To see what it would do regarding the monetary policy, and

then they would follow suit.

So, in effect, in practice, the Germans were actually exercising

quite a bit of influence over monetary affairs in Europe.

The French thought that the way to anchor a unified Germany in Europe would be for

the Germans to give up their currency.

And instead adopt a single currency,

which is what the Euro became at some point in the future.

An anonymous wit captured the spirit of this bargain in the following way.

And I quote, the whole of Deutschland for Kohl,

half the Deutsche Mark for Mitterrand, end quote.

I think that quote captures extremely well what happened in Europe

at the end of the 1980s, and into the 1990s.

So the Euro Zone came to effect as of January 1st 1999.

Because, of course, it takes a number of years to put in place the mechanisms so

that the monetary union can work.

In 1999, the Euro Zone included 11 member countries that you can see on this map.

In 2001, another country became a member of the Euro Zone, that was Greece.

And, of course, that had major repercussions further down the road.

By 2007, there were 13 member countries in the Euro Zone.

2008, 15 member countries, 2009,

16, 2011, 17, 2014, 18.

And the last country to become a member of the Euro Zone, that is to adopt the single

currency, has been Lithuania in the year 2015 for a total of 19 member countries.

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