50 Years of EU Integration Dynamics: An Economic Perspective

Posted in Europe | 01-Apr-07 | Author: Prof. Dr. Paul J.J. Welfens

1. Introduction

The EU will celebrate its 50th anniversary in 2007. Europe can be proud of half a century of peaceful deepening economic and political cooperation. The integration club created by six countries in Europe in 1957 has turned out to be not without problems, but the inherent dynamics of liberalization and cooperation have brought about a prosperous and growing community with continuing liberalization in many fields and with several rounds of enlargements. Moreover, cooperation has deepened in several policy fields, including competition policy and monetary policy. Thus the specific approach of combining multilateral regional policy cooperation and the activity of a supranational policy layer – with the European Commission, the European Parliament, the European Court of Justice and the European Council as the four pillars – has worked. In addition to the traditional nation state, there is a new political organization in Europe: a hybrid institutional setup. The EU has broadened its membership over the years and become a role model for integration for other regions, too.

The European Coal and Steel Community (ECSC) was the predecessor of the EU. The basic idea of Jean Monnet and other architects of this project was the creation of a regionally integrated sectoral market with competition on the one hand and political cooperation on the other hand; coal and steel were considered as strategically important sectors in the 1950s, namely both in an economic and a military perspective. Already the ECSC has the key elements found in the EU: There was a kind of supranational commission, a parliamentary assembly, a special court, and – due to pressure from the Netherlands and Belgium – a council of ministers from member countries (KNIPPING, 2003). Indeed, the ECSC was a fertile project upon which the EU could draw in 1957.

From the outset Germany has been a major player in the EU. The Adenauer government was grateful that the Federal Republic of Germany was allowed to play a new international role by joining the Community. France and other neighbors of Germany were satisfied that anchoring Germany within the EU framework brought additional security for Western Europe, and that the expansion of the German economy stimulated economic growth in all EU countries. Common fear of the Soviet Union worked as a kind of political glue in the early integration process of the EU; after the death of Stalin the project of a common European defense collapsed as reduced fear of the Soviet Union undermined the required majority voting in the French Parliament. However, even the post-Stalin Soviet Union was powerful and impressive enough to stimulate governments in Western Europe to cooperate in the economic arena successfully. It is noteworthy that the Soviet Union and its satellite countries in Eastern Europe had created a kind of communist trading network, the Council of Mutual Economic Assistance whose break-up coincided with the collapse of the Soviet Union in 1991.

The EU was one of the winners of the end of the Cold War since the EU15 faced new trading and investment opportunities in Eastern Europe after 1990/91: With considerable energy the European Commission and the European Council seized the historical opportunity and offered the eastern European countries asymmetric trade liberalization – the EU liberalized imports earlier than partners in eastern Europe - and pre-accession financial support. German unification of 1991 already was a first effective step in terms of Eastern enlargement of the EU. Reunited Germany benefited finally from fully establishing political sovereignty after the Soviet troops had left the former GDR. In eastern Germany – the New Länder – economic catching up took much more time than anticipated and certainly contributed to the massive rise of the German debt-GDP ratio and the deficit-GDP ratio in the 1990s. Thus Germany became one of the first offenders against the newly established Stability and Growth Pact of the EU; this Pact was developed in order to defuse fear in Germany that creation of the Euroarea would lead to bailing-out problems, namely that Germany’s taxpayers/rich countries of the Euroarea were to foot the bill for excessive deficits and high public debt in poor countries of the monetary union. However, shortly after Portugal became the first offender, Germany found itself to be unable to meet the goal of keeping the deficit-GDP ratio within the critical 3 percent limit of the Pact. Between 2001 und 2005 the Federal Republic of Germany was clearly above the critical threshold which countries may exceed only in a period of recession or in other exceptional circumstances. As France was in a similar situation one may argue that the slow progress with fiscal consolidation in both countries undermines the Pact, but one also can argue that the debt dynamics would have been worse without it.

The grand coalition under Angela Merkel has finally solved the deficit problem in 2006 so that one may argue that the Pact indeed helps to bring about more fiscal discipline. As the EU is spending only about 1 percent of GDP while government expenditures – without social security funds – relative to GDP is close to 20 percent in most EU countries one clearly sees that fiscal policy problems occur mainly at the level of member countries. The disciplinary impulses from Brussels thus work top-down on the basis of the EU treaty on the one hand and on the other hand within the frame of multilateral negotiations in the Council of Ministers (minister of finance in the case of the Stability and Growth Pact).

In the Eurozone, established in 1999, the European Central Bank, which was modeled after Deutsche Bundesbank, has been successful in terms of achieving price stability, namely an inflation rate close to 2 percent. Moreover, the Euro has become a successful international rival to the U.S. dollar as the share of international transactions and international bond emissions denominated in Euro has increased over time. The Eurozone started with 11 countries, but only two years later Greece also joined and in 2007 the first country from Eastern Europe, Slovenia, joined the economic and monetary union. With 13 countries in the Euroarea in 2007, only roughly one-half of EU member countries are in the monetary union ruled by the ECB, but with slightly more than 300 million people using the Euro every day for most transactions (and millions of people outside the Euroarea also use the Euro), the new currency stands for an important symbol of monetary integration in Europe. However, the UK – with London as a dynamic global financial center – has not joined the Euroarea so far and it seems rather unlikely that the country will do so before the EU has turned 100.

The creation of the Eurozone obviously has caused problems for Italy where the inflation rate is relatively high so that the country’s intra-Euroarea competitive position is deteriorating. For the Italian government the main challenge is to enhance competition and to stimulate innovation dynamics as well as to bring about more labor market flexibility. Germany has suffered not really through the Euro although one cannot overlook that the Euro is rather unpopular; the main reason for this is that many people feel that the inflation rate has increased in the first years after the introduction of the Euro – but official statistics tell a different story as consumer price inflation hovered between 0.5 and 2 percent per annum so that the inflation performance is better than in the long term average of the D-Mark period. Paradoxically, it is indeed the relatively low inflation rate – compared to the Eurozone average which was close to 2 percent - which hurts Germany as the real interest rate (nominal interest rate minus inflation rate) relevant for investment dynamics is higher than in most other countries of the Eurozone. With a uniform nominal interest rate in the Eurozone a country like Spain – with a relatively high inflation rate – enjoyed a rather low real interest rate which in turn stimulates investment plus consumption and thus has contributed to the deterioration of the Spanish balance of payments. In Spain, Portugal, Greece and other countries people gratefully acknowledge the benefits of low inflation rates, e.g. longer maturities in the loan market and the bond market. One has to concede that the price dispersion across Eurozone countries has reduced over time but at the same time one still finds considerable inflation differences across countries where institutional factors and business cycle aspects overlap (EUROPEAN CENTRAL BANK, 2003).

The Netherlands and Austria stand for two countries which had as low inflation rates the Germany in the 1980s and 1990s so that the low inflation rate in the Euro zone also is not perceived as a special benefit. At the same time one may argue that both countries have achieved full employment so that the Eurozone and full employment are not a contradiction. Ireland and Finland also positively stand out in terms of output and employment growth. It seems that some of the small countries in the Eurozone simply have been more flexible in factor markets and adopted a more consistent reform policy than big countries such as Germany, France and Italy. As those three countries represent three-fourths of the economic weight of the Euroarea it is clear that the long term growth performance of that zone is largely determined by structural reforms in the big continental EU countries. Politicians in all three countries often have looked at the U.S. model, but surprisingly they rarely consider the successful reform policies in small neighboring countries.

2. How Successful is EU Integration?

Considering EU integration on may emphasize the nature of the process itself or one could take a closer look at the long term results of the integration process. Judging the results of integration dynamics is a normative issue, and five criteria are suggested here:

• Economic dynamics; e.g. measured roughly in terms of per capita income. EU countries have achieved solid growth of output and also been able to reduce cross-country per capital income differentials over time. Capital accumulation dynamics in relatively poor countries have contributed to catching up which is to be expected on the basis of standard neoclassical growth economic analysis; liberalization of capital flows and of trade has reinforced this process. JUNGMITTAG (2006) has shown that high intra-EU trade has also stimulated economic catching up in the EU15. The creation of the EU single market by the end of 1992 – bringing free trade of goods and services plus free capital flows and free labor mobility – indeed has been a remarkable institutional progress in Western Europe which has contributed to higher income per capita and to more trade.

• Regional trade networking: In a Vinerian customs union approach one may expect that trade creation effects – the relative increase of trade among club members, possibly at the expense of outsider countries - will bring about welfare gains. Moreover, trade dynamics can contribute to an intensification of competition and hence to more innovation and higher growth (WELFENS, 2007). Indeed, there has been rising intra-industrial trade and intra-EU trade has grown strongly: The share of EU internal trade increased from about 30 percent in the early 1960s to more than 60 percent in the year of the 50th anniversary. EU membership also has stimulated structural change, trade and growth in Eastern European accession countries (BORBELY, 2006).

• Geographical enlargement of the institutional order: here the EU approach is quite interesting since it is not just a club of member countries which have joined within the framework of customs union - no internal tariffs plus a common external tariff where the latter is a simple but powerful starting point for establishing a supranational policy layer to which competences in external trade policy are transferred from the national layer. The customs union has grown over the decades and is not only the core of the EU but also has become an institutional bridge between the EU and Turkey.

• Political support on the side of the population (results are based on Eurobarometer polls from late 2006): A large majority of the population in EU member countries supports the EU integration – weak support is only found in the UK, Austria, Hungary and France. Germany is slightly above the EU average which suggests that reunited Germany is a solid supporter of the Community; interestingly, the population of Poland – where one finds a government with a broad anti-EU attitude – shows a strong support for the EU. The strongest support for the EU is found in Ireland, the Benelux countries, Spain, Lithuania and, indeed, Poland. That people in France are only weak supporters of the EU is not really encouraging with respect to the ability of Germany plus France to play the role of an influential locomotive in the EU at the beginning of the 21st century; much will depend on the newly elected French president in 2007. The failed referenda on the EU constitution in France and the Netherlands in 2005 also show a serious problem with internal legitimacy. The Prodi Commission was largely to blame for the negative outcome since the difficult enlargement talks with Turkey were started before the historical project of an EU constitution had successfully been adopted in all EU member countries. The fear of uncontrolled enlargement dynamics – fear of mass immigration from Turkey and social unrest in the future – indeed was a major source behind the negative results in France and the Netherlands. The Commissioner responsible for enlargement, Mr. Verheugen, argued that through Turkish EU enlargement the EU could become a global powerhouse, but this view was not only reflecting lack of realism and inability to set political priorities right – first the constitution, then everything else -, this view expressed on TV channels in most member countries showed how much wishful thinking shaped the Prodi Commission (Verheugen tried to calm down the political unrest prior to the referenda when he claimed that full labor mobility could be restricted for Turkey after EU membership – but given the rulings of the European Court of Justice it was clear that this was wishful thinking, too; only a change of the EU Treaty which would impose restrictions on labor mobility for all member countries would bring about a restriction against massive influx from Turkey, a rule erga omnes). One might find it tragic that President Bush Jr. had pushed so much for fast EU Turkish enlargement, namely at the NATO summit in Istanbul.

• Global politico-economic influence: Here the EU is rather weak and it is quite clear that the Community has its problems in orchestrating the position of member countries in global institutions such as the IMF and the Bank for International Settlements; the situation is much better in the World Trade Organization where the EU is effectively representing EU member countries to a large extent. The strange emphasis of the EU budget on agriculture – indeed a protectionist subsidization policy – is, however, undermining the EU influence in the WTO. There also is a modest role of the EU in the G-8 meetings; during the World Summit on the Information Society in 2005 it became obvious that the EU countries are unable to broker a quick internal consensus which made it obvious for everybody that the Community suffers from a lack of consensus in the strategic field of information and communication technology policy – and more generally has not sufficient leadership in one of the most important future policy fields.

The US has supported over decades the economic and political integration process in Europe as it hoped to anchor Germany firmly within the EU and to benefit from a dynamic integration club aiming at internal economic liberalization. The U.S. policy impulses in the GATT/WTO have helped combining regional liberalization with global economic liberalization. Moreover, a prosperous EU has been a major marketplace for U.S. exports and U.S. firms; U.S. subsidiaries’ sales in the EU are about three times the exports of the U.S. to the EU. The EU’s firms have a similar position in the U.S. where their sales also exceed EU exports by about a factor of three.

The European counter-approach of the free trade area without much cooperation, the EFTA, has witnessed a long term decline as the modest free trade agenda obviously was not attractive enough to keep most of its founding members on board for more than four decades. Rather the EU has absorbed most former EFTA member countries. As the UK – along with Denmark and Ireland - joined the EU in 1973 the demise of the EFTA already was clear. In 1973 the EU was shaped largely by leadership of Germany and France and occasional policy initiatives of smaller member countries. In 2007 there is no longer a clear French-German leadership as the Community has become rather large and heterogeneous in economic and political terms and since Germany and France face considerable internal economic and political problems (not to speak of political instability as Germany is moving towards complex political coalitions and also is facing renewed political radicalism which looms behind the rather smoothly working grand coalition).

The EU has been rather ambitious in terms of enlargements, and the eastern enlargement of 2004 – with ten new member countries – has stretched the Community almost to the limit. With close to 500 million people from 27 countries cooperating on the basis of shared values and common institutions, the EU signifies a unique historical achievement. It certainly has its problems, but it cannot only draw on rich resources and a large variety of institutions and actors but on a short history of success stories and failures which both lend themselves as a basis for institutional learning and adjusting in a dynamic future.

The EU has not only achieved a single market with four basic freedoms – free trade of goods, free trade of services, free capital flows and free movement of labor – it also has contributed to liberalizing global trade. Firms and consumers have benefited from increasing regional specialization and growing innovation. Compared to the costs of integration, namely contributions of member countries to the EU budget which is slightly above 1 percent of GDP, the benefits are large; however, those benefits are not much visible for the people in the EU since they accrue in the form of specialization and income gains; and in the form of millions of goods which are cheaper by a few percent compared to the case of non-integration. The European Commission has claimed in a rather conservative assessment that benefits from the single market within the first decade amounted to 1.8 percentage points of EU GDP, namely € 165 billion or € 5,700 per household; exports to third countries have increased from 6.9 percent of GDP to almost 12 percent in 2002, and foreign direct investment inflows relative to GDP have more than doubled. It is also noteworthy that the European Commission has been the driver of liberalization of network industries, including fixed-network telecommunications, gas and electricity.

While the EU has achieved sustained growth in past decades, one cannot overlook that several EU member countries have suffered from high unemployment, with France, Germany, Italy and Spain at the top (Spain, however, has made considerable progress since joining the EU, mainly through combining EU impulses with domestic liberalization and market opening up with higher investment in education and infrastructure). At the beginning of the 21st century, France and Germany as well as other EU countries have made new efforts to adopt reforms which promise to bolster economic growth and employment on the one hand and help overcoming the problems in financing social security in ageing societies on the other. Small open economies, however, have often been more successful in facing the economic challenges through comprehensive reforms.

The number of EU countries has increased from six in 1957 to 27 in 2007, which is a success in terms of widening the membership. At the same time, however, it also creates problems in the sense of a more heterogeneous community. This could be a temporary problem if economic catching-up dynamics in the relatively poor countries are similar in Eastern Europe as they were in Spain, Portugal and Greece in the context of Southern EU enlargement. As regards the position of the EU relative to the US one may emphasize that per capita income of the EU12 represented a successful economic catching-up process in the 1970s and early 1980s (with the EU reaching about 85% of US per capita GDP), but since the late 1980s the transatlantic income gap has increased. The gap is not as dramatic as it seems at the first glance since people in the EU enjoy – according to official statistics - more leisure time than in the U.S. (note, however, that the shadow economy in Europe is about twice as large in the U.S. where it is estimated to be close to 10% of official value-added). The skeptical view of ALESINA/GIAVAZZI (2007) on the EU is hypocritical of some achievements of the Community and in any case makes biased transatlantic comparisons in terms of per capita income and welfare, respectively.

The creation of the Eurozone represented an ambitious project of EU deepening whose success is still uncertain, although one certainly will welcome the expansion of Euro bond markets, the rising share of the Euro in global currency reserves and the successful ECB policy which has achieved a low inflation rate and considerable credibility as well. Moreover, reduced real interest rates in Euroarea countries – except for Germany, the Netherlands and Austria which already had low interest rates prior to the start of the Euro and ECB – have translated into considerable capital gains.

The Lisbon Agenda of the EU which aims at making the EU the most competitive economy by 2010 has emphasized the goals of higher employment and higher growth in the Community; particularly by placing emphasis on the role of information and communication technology in a knowledge society. The initially envisaged top-down approach has not worked well so that the European Commission decided to adjust the strategy after a critical mid-term review (KOK, 2004; SAPIR ET AL., 2003): National governments of member countries are expected to implement programs and projects for higher growth and employment; the peer group pressure within the EU club has worked indeed, and all countries have adopted new measures along the lines of the Lisbon Agenda. While peer group pressure within the club is likely to be weaker than in the small group of the founding member countries – free riding and cheating is more difficult to monitor in a larger group than in a small group - it is remarkable that the EU indeed can still exploit this mechanism in a useful way. Here the EU indeed has developed a political mechanism which also could be important in other integration clubs in the world economy. The supranational policy layer of the EU – the European Commission and the European Council – is, however, a rather unique institution which has not been adopted in any other integration club. The biggest success in economic terms certainly has been the creation of the EU single market which has been a historical liberalization approach in Europe. EU Eastern enlargement has brought 12 additional countries into this dynamic market for goods, services and free capital flows.

Per capita income differ across EU countries; in 2007, among the large countries the UK is leading, narrowly followed by France, Germany and Italy (figures are based on a comparable set of data, namely purchasing power parity figures which adjust nominal figures for cross country differences in non-tradables prices). The traditional leading role of Germany is no longer valid after German unification and it might take well beyond 2010 until this position is re-established. The poorest country in the EU27 in 2007 is Bulgaria which achieved about 1/3 of Germany’s per capita GDP. As one may anticipate a sustained catching-up process in Eastern European accession countries the intra-EU income differentials should come down considerably over the next two decades. This also should bring about a convergence of political preferences in some fields as such preferences typically are closely linked to per capita income. The heterogeneous integration club of 2007 should become more homogeneous by 2020 which will facilitate to agree upon a common position in the Community. Hungary and the Czech Republic already have achieved a considerable catching-up process, and Poland also seems to have successfully combined internal modernization impulses with external integration dynamics.

Fig. 1: Relative Per Capita Income in Selected Eastern European Accession Countries (left scale: EU15=100%) and growth rate of real GDP (right scale), 1991-2007

Combining Eastern enlargement and the single EU market dynamics amounts to an exercise in regional economic liberalization. Thus the EU is well prepared for coping with the broader dynamics of globalization. Compared to the U.S. the EU has, however, the disadvantage that a smaller share of trade is with Asia whose dynamics are rather impressive. It is remarkable that – based on purchasing power parity figures – the emerging countries (non-OECD) stood for slightly more than half of world GDP; and Asian economic dynamics are strongly contributing to global economic growth. The U.S. stands to benefit more than the EU from Asian economic growth, at the same time the U.S. will be more strongly exposed to financial market instability in Asia once such problems should occur as a serious problem.

3. EU Problems and Policy Options

Besides elements of success in EU integration, there is considerable criticism vis-à-vis Brussels: Excessive bureaucracy, the high expenditures on agriculture and unrealistic setting of goals (e.g., the Lisbon Agenda). Here and in other fields the Commission has shown a strong commitment to bringing long term economic challenges on the political agenda of the EU and its member countries.

A major integration project concerns the Euro area and the European Central Bank. After the first seven years the Euro is still not popular among the people, however, the trust in the new currency is slightly higher among the younger generation so that one may hope for growing support for the Euro and the ECB in the long term. From a theoretical and practical perspective the ECB is not only an institutional innovation in Europe but also a natural consequence of the full liberalization of capital flows in the EU on the one hand and on the other hand full integration of goods markets; the latter generates considerable benefits in combination with fixed exchange rates but in such a setting autonomous monetary policy is not possible: The consequence was the hard fix in the Euro zone, the creation of the Euro and the European Central Bank (ISSING, 2007). The European Central Bank has adopted a stability-oriented monetary policy and facilitated the process of financial market integration. However, there are unsolved problems with prudential supervision in the Euro zone since member countries typically have different assignments of prudential supervision and since there is no mechanism for effective cooperation among prudential supervision authorities. The cooperation between the ECB/the European System of Central Banks and the European Commission also is rather incomplete; e.g. while the ESCB (ECB plus national central banks of Euroarea member countries) has the data on foreign direct investment stocks the national central banks obviously are unwilling to convey this information to Eurostat, the statistical office of the Community.

At the beginning at the 21st century there are new challenges in the field of energy policy and climate policy. The European Council indeed has made clear in early 2007 that the EU will try to be an international leader in this field. The EU27 has shown a surprising ability to come up with a common perspective on energy policy and climate policy – Angela Merkel brokered this consensus in the Brussels EU summit in March 2007. The consensus was based on creating a political package dealing with energy issues and global warming issues. This shows that even a large Community can develop a common perspective in certain fields. At the same time one should not overemphasize the success of the start of the German presidency since the goal of cutting C02 emissions by 20 percent by 2020 and achieving a share of renewables of 10 percent in power generation cannot be realized without member countries coming up with commitments in the field of saving energy, raising energy efficiency and stimulating emission-reducing innovations.

A key problem of the EU is the strange structure of the budget. Spending about 45 percent of EU funds – roughly € 100 billion per annum – on agriculture is totally inadequate since agriculture is not generating large external benefits; often EU spending is in favor of activities which cause negative international welfare effects, e.g. by impairing export opportunities of farmers in developing countries. As regards support for research and development (R&D) the Community suffers from under spending: in a highly integrated single market there are considerable international R&D spillover effects so that national government of member countries is facing pressure to reduce expenditures for supporting R&D. While it is true that the updated Lisbon Agenda suggests that member countries should spend 3 percent of GDP on R&D financing by 2010 it is unclear to which extent the member countries have a mechanism for improved coordination in the field of innovation support and R&D project funding. Allocating more money through the supranational policy layers also has its problems since the political control in Brussels is rather weak. The long term decline in the voter turnout at the elections of the European Parliament implies that political control is weakening.

The biggest problem the Community faces is the failure of the EU with respect to the constitution, which was defeated in two referenda in France and – massively – in the Netherlands. Those two countries obviously deserve special attention for economic and political reasons, and the whole topic of an EU constitution is a key challenge for the survival of the EU in the 21st century. In France – and possibly in Germany (and in eastern European accession countries) - there is a revival of economic nationalism; the conflict over the restructuring of the Airbus production suggests the relevance of such a development in Western Europe. One also may anticipate that conflicts over EU structural funds will deepen as the bulk of such funds will be allocated to Eastern European accession countries. It also is strange that Ireland, one of the EU’s leading countries in terms of per capita income still gets money from structural funds in 2007.

TILLY (2007) has emphasized in his analysis of the historical dynamics of the EU that economic nationalism partly has been overcome by the Community. He argues that post-1945 European economic integration has been built on the principle of supra-national policy coordination ("Monnetism") as well as the integration of Germany as a pivot of trade and economic nationalism. This latter factor to some extent shaped the patterns of integration achieved and largely reflected the pressure of national interest groups on the respective governments. Tilly draws a line from the European Payments Union to the creation of the European Community for Steel and Coal. He emphasizes that the Federal Republic of Germany – supported by the U.S. – used the economic integration process in the ECSC and the EU to become an important political player in Europe again. The high growth of the large German economy gave sustained impetus to a growing trading network in Western Europe.

The 1960s were the golden age of growth in OECD countries, after this followed the oil price shocks of the 1970s; the 1980s brought a modest economic recovery in the EU, and only the 1990s brought an economic revival in OECD countries, above all in the US with its leading role in information and communication technology (ICT). While the UK and the Scandinavian countries plus the Netherlands were also leaders in ICT dynamics, Germany and France were a bit slower, Italy’s performance even much behind that of the Republic of Korea. ICT expansion contributes to international outsourcing dynamics in Europe and in the context of economic globalization; and one may emphasize the role of ICT capital accumulation and enhanced digital networks which contribute to sustained output expansion in Europe. Recent studies have shown (WELFENS, 2003; WELFENS, 2007) that EU countries are rather different in terms of ICT investment and ICT innovation patterns. It is shown that structural adjustment in EU countries is partly shaped by an increased role of technology-intensive and knowledge-intensive industries, and the ICT sector itself plays, of course, a major role in this context. Also one may emphasize the changing adjustment in the context of a modified Dornbusch model whose dynamics are influenced by ICT-induced shifts of the speed of learning – read: expectation formation – and the interest elasticity of the demand of money. The policy implications of the changing adjustment dynamics are crucial and could indeed be exploited by the European Central Bank for a more pro-active monetary policy.

While economic recovery in Germany will help the EU’s largest country to reduce unemployment and also contribute to growing trade in Europe, the three main issues of the EU are unsolved:

• How can the EU become a leading player in the global internet society and the field of ICT dynamics – the most important driver of innovations in OECD countries? There are problems at both the national level and the international level. The plan for a joint German-French search engine (Quaero) was dumped just days before the German national IT summit in Potsdam on October 18, 2006. Four-fifths of the leading ICT firms are from the U.S. or Japan; only in software, embedded chip technology and mobile telecommunications has the EU achieved a strong global position. The European Commission, however, is unwilling to support the necessary consolidation of fixed network operators in the EU and indeed the convergence of fixed telecommunications, mobile telecommunications, TV and the internet. Thus despite the credit which the Commission deserves for liberalization of fixed line telecommunications the EU is rather slow in exploiting the opportunities of digital innovation and network dynamics (WELFENS/WESKE, 2006).

• How can the EU solve the constitutional problem? It is highly unlikely that the EU27 will come up with a success-promising plan for a new constitution unless politicians try to by-pass the referenda necessary in some EU countries by resorting to a very weak formulation of a new basic EU consensus – this, however, would undermine the long term legitimacy of the EU. The probably best way to sort out the problems is to launch a constitutional project among the Euroarea countries which would make particular sense since there are many arguments why a political union should be combined with a monetary union.

• How can the EU establish particular relations with other integration areas such as ASEAN, MERCOSUR or NAFTA? It would be an important element of a new EU foreign policy if the Community would develop special relations with other integration clubs. Such relationships should be easier to develop once the EU has a foreign minister (as envisaged in the EU constitution). Foreign policy in the 21st century could partly be realized in the form of inter-club relationships: This would reduce international transaction costs as problems and projects would not be discussed on an individual country basis, rather there would be an additional policy layer – namely inter-club relationships – which could facilitate solving problems and conflicts as well as defining projects of common interregional interest. The cooperation between the EU and ASEAN could be particularly interesting since the ASEAN countries might be interested to learn more about the institutional evolution in Europe and since the EU naturally is interested in intensifying economic relations with the most dynamic Asian integration club with close to 600 million people by 2010 (WELFENS/KNIPPING/CHIRATHIVAT/RYAN, 2006).

An interesting starting point in a transatlantic perspective could be a Transatlantic Integration Area which should focus on EU-NAFTA economic and political relations. The new transatlantic open skies agreement concluded in 2007 could be an interesting starting point provided that the U.S. Senate and the European Parliament give green light for this new treaty. This treaty could become a platform not only for more competition but also for institutional innovations in the field of climate policy, namely by introduction of C02 emission certificate trade which is market-based mechanism.

The EU and the US should also jointly start a broader dialogue among the main regional cultures in order to create an intellectual platform for political progress in the world system. This should include conferences of scientists, internet-based public forums for political discussions and projects for translating books – including book of major thinkers, e.g. Popper’s Logic of Scientific Discovery (published in 1934 and translated in many languages, but not yet translated in the Arab Language; and certainly interesting Arab publications have not been translated into German) or A Theory of Justice by John Rawls or Milton Friedman’s book Free to Choose.

A special aspect of joint interest for the U.S. and the EU are the developments in Russia. It is highly unlikely that the new Russia will become similar to Western European countries. The psychological logic is not supporting such a development as Russia considers NATO’s eastern expansion as an aggressive move. At the same time the visible economic and political success of China – the eastern neighbor of Russia – impresses not only countries in south-east Asia but Russia as well. As long as an autocratic China generates sustained high growth rates the switch towards a market economy without (much) democracy will look attractive to many governments and presidents in Asia. Also neither the EU nor the USA has invested much in building broader relations within the civil society; treaties on twinning of cities are common in Western Europe, but there are only very few such twinning between cities in the EU and cities in Russia. As regards EU plans for a European Energy Charta which should define a broad long term cooperation with Russia it is obvious that Russia wants to maintain political control over the energy sector in Russia and does not want to make long-term binding commitments on the delivery of oil and gas to the EU27. Rather Russia wants to use energy deliveries for political games. Such power games would end only if Western Europe would switch to a much more diversified and decentralized energy supply structure. However, the logic of the EU single market suggests that a few large suppliers in the energy sector will survive and those in turn are preferred partners for Russia’s big firms and for politico-economic games in Europe.

For the EU there is a long term challenge which can be overcome only through creation of pan-EU mass media. There can be no EU identity without common concerns and common debates conveyed through European print and digital media. The European Commission has allocated some funds for Euro News, but this channel offers only a narrow range of languages and is quite restricted in matters of scope and relevance of EU citizens. Here the European Parliament would be wise to allocate much more money to supporting the creation of an EU public.

The EU will be able to combine prosperity and stability only if member countries with high unemployment ratios and major deficit problems or current account problems adopt consistent reform policies. Additionally, the European policy layer must deliver a convincing policy package, namely leadership, consistent action in the field of trade policy, and competition policy and innovation policy – with due respect for the principle of subsidiarity which requires that the supranational policy layer should not assume task which could be better fulfilled at the national policy level. The EU will find it difficult to influence the international policy arena if it cannot improve political legitimacy, and here the topic of a new EU constitution is of paramount importance. With respect to a potential integration of countries in the Balkans and Turkey it seems that only the European Economic Area is a viable medium term policy option. These countries thus could join Iceland, Norway, and Liechtenstein which have created with the Community a kind of enlarged EU single market. Political cooperation in the EEA could be reinforced and a mechanism could be developed which opens the gate for full membership in the EU in the long run for those member countries which qualify for specific requirements.

The EU and the U.S. are linked through a broad network of trade and capital flows plus cooperation in major international organizations. Among the rather young international institutions one finds the European Bank for Reconstruction and Development which has been successful in stimulating economic and institutional modernization in post-socialist countries. With 29 countries concerned and 10 countries absorbed by the EU there still is a large number of countries in whose tability and prosperity Europe and the EU will continue to have a joint interest. The focus of the EBRD has switched over the years increasingly towards transition countries in Asia/the former Soviet Union so that there is a stabilization impulse for the countries bridging the EU and China. With respect to China the EU and the U.S. will face a major challenge, namely the role of the both the government and the central bank of China in the international arena. China has opened up its markets, but its political and economic strategies have not much internationalized. There can be a prosperous and stable world economy in the long run only if leaders from OECD countries can convince the emerging Chinese giant to share international responsibilities – ranging from such topics as financial markets to oil price dynamics and intellectual property rights. The EU and the U.S. thus have a new common interest.

References

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WELFENS, P.J.J. (2003), Interneteconomics.net, Heidelberg/New York: Springer.

WELFENS, P.J.J.; WESKE, M. (eds.) (2006), Digital Economic Dynamics, Innovations, Networks and Regulations, Heidelberg/New York: Springer

WELFENS, P.J.J.; KNIPPING, F.; CHIRATHIVAT, S.; RYAN,C., eds. (2006), Integration in Asia and Europe, Heidelberg/New York: Springer.

WELFENS, P.J.J. (2007), Innovations in Macroeconomics, Heidelberg/New York: Springer.

Prof. Dr. Paul J.J. Welfens, President of the European Institute for International Economic Relations at the University of Wuppertal (EIIW), chair in Macroeconomics and Jean Monnet Chair in European Economic Integration, Gauss-Str. 20, D-42119 Wuppertal, +49 202 439 3171; Fellow at IZA, Bonn

Welfens is an award-winning economist who has published numerous articles and books; he is a co-editor of the Journal International Economics and Economic Policy. [email protected]

www.euroeiiw.de; www.econ-international.net

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