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Eurozone

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The Eurozone, known officially as the Euro-area and sometimes as Euroland, is a collection of countries that have adopted the Euro as their national currency. As of 2010, 16 countries replaced their national currency with the Euro. As members of the European Union and the European Monetary Union, they have ceded control of their monetary systems to Central European Bank. The Eurozone comprises of a population of 330 million and has a 15.2% share of global gross domestic product as of 2009. This makes it the second largest economy worldwide after the United States.

There are still several members of the European Union who have not adopted the euro as their national currency. This is due to these countries not having met the strict requirements for economic integration. In the case of Denmark and the United Kingdom, opt-out agreements allow the continued use of a national currency despite EU membership. There are also non-EU states that have adopted the euro as both official and unofficial national currencies, though they are not considered a part of the Eurozone.

While the concept of a unified Europe has been a constant goal throughout history, the formation of the EU began after World War II. This impact of this conflict not only on Europe but on the whole world encouraged the political movement towards European integration. There was a desire to avoid future hostility by creating a political system that transcended the nation-state.

The second half of the 20th century saw the creation of a number of organisations and treaties that contributed to political and economic integration in Europe. In 1957, the European Economic Community treaty was signed, which was a major part of the European Unions development. While largely economic in its focus, the EEC was openly recognised as a means for political union.

Following the EEC treaty, there were a number of setbacks to economic integration. During the 1980s, however, the EEC began moves towards a single currency. In 1979, the European Money System, or EMS, created the European Currency Unit, a weighted average of the participating currencies. An exchange rate mechanism fixed participating currencies, but not rigidly, around this currency unit. This system promoted stable exchange rates and lower inflation rates in the participating nations. The system was largely successful, though not without some participants suffering high unemployment or needing to devalue their currency.

The next major step toward the euro was the Single Europe Act of 1987. It established the goal of four freedoms required for a single market. These are the freedom of movement for persons, services, goods and capital. This then led to the Treaty on European Union. Signed in 1991 and more commonly known as The Maastricht Treaty, was an outline for the economic and monetary union of Europe. Among the political goals of the treaty, members of the European Union agreed to relinquish national economic and monetary policy to a central institution. The single market would also be served by a single currency by the end of the millennium.

In order to minimise economic disruption that shifting to the euro, the Maastricht Treaty set a number of convergence criteria to be met by member nations. These are as follows. A Member State has to have inflation rates within 1.5% of the 3 best participating nations. Long-term interest rates must also be within 2% of the 3 best performing nations. The state must have a national debt below 60% of their GDP and a government deficit below 3%. Finally, it must participate in the European Exchange rate mechanism for two years without having to devalue its currency to maintain the exchange rate. These convergence criteria are still applied to nations wishing to join the Eurozone today.

On January 1st, 1999, the euro became the currency of 11 nations. Since this time, five more have joined the Eurozone. The remaining EU nations that do not have opt-out agreements are required to adopt the euro once they meet the convergence criteria. It must be noted that entry into the European Union and entry into the Eurozone have different requirements. Entry into the EU is dependent on a range of legislation, regulations, rules and social policy that must be enacted by the applying nation.

The monetary policy of Eurozone countries is centralised in the European Central Bank. The ECBs main goal is maintaining price stability. There are a range of secondary goals, such as encouraging high employment levels and sustainable inflation, though price stability always takes priority The ECB was created as an institution that is free from being influenced by and restricted from influencing governments. To balance this independence, the ECB must maintain transparency and is accountable to European Parliament.

While there are concerns associated with integrated economies, they provide a number of benefits. By using a single currency, market participants in the Euro Zone save considerable amounts on foreign currency exchange charges. A single currency also leads to price transparency in the Euro Zone. As the Euro Zone becomes a single market, high cost countries must compete with lower cost countries. This means that competition in the region will increase, increasing production efficiency and consumer welfare. The integration of financial market in the also allows for risk to be shared throughout the Euro Zone. If there is a shock that negatively impacts one country, it should have a positive impact on another country within the area. Thereby, the shock is lessened within the market. However, this last benefit has proven to be inaccurate.

Despite the strict criteria laid out in the Maastricht Treaty, there were some instances of creative accounting being used by some countries to meet the EMU entry standards. Also, with the apparent stability of Eurozone market, nations were able to issue debt at more advantageous interest rates than previously as individual countries. However, as the ECB controlled monetary policy, nations that had accrued unsustainable debt were unable to increase inflation to meet repayments. This led to debt default, with the negative impact of reduced investor confidence in the Eurozone market and, subsequently, possible default in other highly indebted Eurozone nations. This highlights the risks of a centralised fiscal policy. If a recession were to occur in one state, it is unable to modify its fiscal policy to compensate. The ECBs policy can be seen as one size fits all. Despite the formation of a single market, the situations between Eurozone nations still differ to the extent that one size fits all can cause a deal of economic strain.

While increased competition in the Eurozone is seen as beneficial, there are still some negative impacts on the region. Compared with America, despite the freedom of movement for people, Europe has low labour mobility. As competitive markets encourage efficiency, production may shift to a cheaper location within the region. The labour market must be equally mobile to follow employment to these regions. The logistics of transportation also adds to product costs, leading to the products of some regions that are unable to compete with others due to such extra expenses.

Despite the possible negative impacts of monetary integration, the Eurozone is still a new entity in the financial markets. Within its first ten years it has weathered the Global Financial Crisis and the European Sovereign Debt Crisis. Despite expectations of the euro failing, it has remained resilient and become a major world currency. And while built on economic unity, the Eurozone has become a more significant political entity than many of its members could have realised individually.