Tracing the development of the European Mission from 1945 to present day

Ria Das and Pranay Panday European Economic History

Olivier GiovannoniDecember 8, 2014

Tracing the development of the European Mission from

1945 to present day. What features have remained central tothis project, and what features have been abandoned?

PART I: INTRODUCTION

In the second half of the 20th Century, the lives of Europeans

have transformed since the first half. The standards of living

converted from residents heating their homes with coal to being

one of the economies with the highest growth rates. It has been

almost 12 years since the introduction of the euro to the 12

member states of the European Union on January 1st 2002. This date

has left its mark on European and world history because of its

successful finalization of the work initiated in Maastricht a

decade before. Today, apart from the dollar the euro is used and

recognized worldwide. More than 500 million Europeans use euro as

their currency. European History is incredibly important but the

main events, which changed world history, were between the years

of 1945 to present day. Events such as the World Wars, Treaty of

Rome, European Coal and Steel Community are all events that lead

to the European Union. It is important to know in detail the

different stages of economic development Europe had to undergo in

the 20th and 21st century. As one of the main economies in the

world, its history is crucial. One of the many main reasons for

the creation of the European Union is for political stability and

to prevent the rise any powerful nation.

The European Union had originated from the ECSC, which made

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all the members join together, join all their resources and

factors of production in order to form the European Economic and

Monetary Union, which helped in unifying all the wartime enemies

and create the powerful European Union. Europe faced a boom post

war, as there was an increase in production, supply and demand.

It then faced inflation, unemployment, trade deficits as well as

political and development issues. It is important to explore the

past to comprehend the future given Europe’s current economic

climate. In present day, there is a lot of evidence of history

repeating itself. The peripheral countries are currently facing

recession leading to high levels of inflation, unemployment, BOP

crisis and inequality, worsening their economies. Germany is

currently the strongest nation being the industrial powerhouse

with conservative fiscal policies, a united workforce and last

but not least its richness in natural resources. France is also

one of the main producers of consumer goods thus it’s also a

powerhouse of Europe. Germany and France were the powerhouses in

1945 and still are thus knowledge of Europe’s past is useful in

understanding it’s present and future. The European Union had

started off with the Treaty of Paris, which included the Benelux

countries, Italy, France and Germany. It now has 28 member

states. This brings up many questions, is expansion the answer to

Europe’s survival? Will Europe ever survive this economic crisis?

The treaties of Paris, Rome, Brussels, Luxembourg, Maastricht,

Amsterdam, Lisbon and Nice have all been crucial to the formation

of the modern European Union. It is important to explore which

features have remained central and which have been abandoned or

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are of less importance.

PART II: DETAILED ANALYSIS OF EUROPE FROM 1945-present day

POSTWAR SITUATION

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-Europe’s productive capital stock was roughly the same in 1947

as ten years earlier (In Germany, where there had been wartime

investment, it was actually higher)1

-European countries started deepening government involvement

-Increase in product allocation, mass production, specialization,

and comparative/absolute advantages

-Government depleted their reserves of dollars and gold, they had

no means of financing imports from the United States.

What was the situation in Europe after the World Wars?

Reconstruction

Destruction of transportation and infrastructure

Destruction of housing

Destruction of all power-generation capacity

Destruction of all industrial equipment

Destruction of roads and bridges (could be repaired

quickly)

Start of black market

Beginning of food rationing and price controls

Start of a barter system

Social and economic damage

Example: In France 1.8 million buildings damaged, one-

quarter beyond repair; 115 railroad stations

destroyed; more than 70% of locomotives damaged; all

1 Wallich 1995

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major canals, river ways and ports un-navigable; nine

of every ten motor vehicles out of commissions; and

vast amounts of productive farm land transformed into

dangerous minefields.2

Conditions most difficult in Germany, no rail,

telephone or mail service, no electricity, gas or

clean water access.

Sustained Growth

Priority became industrial growth

Higher living standards prioritized

Germany economic center of Europe, supplied capital

goods needed for the discovery and growth of its

neighbors.

There was a large current-account deficit (the

difference between savings and investments)

Price controls due to shortages at the end of wartime

Shortages and price distortions worsened

The Political Economy of the Marshall Plan

Removal of price controls required

Important to avoid inflation

Budget needed balancing

13 billion USD government grants over four years to

bring Europe back on its feet

Europe’s strategy was investment-led growth

Marshall plan also aided the government in controlling

2 Adams, William James. 1989. Restructuring the French Economy. Washington, D.C.: Brookings Institution.

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prices as well as restoring the operation by reducing

inflationary pressure

Marshall plan was beneficial to both parties (European

and American)

Countries accepting American aid signed a bilateral

pact agreeing to a vast array of austerity measures

(decontrol prices, exchange rate stability and balance

budgets)

Obstacles to Integration

European currencies inconvertible

This lead to first agreement on Multilateral Monetary

Compensation negotiated by Belgium, Luxembourg,

Netherlands, France and Italy in November 1947

Creation of the European Payments Union

EPU facilitated the convertibility of European

currencies by setting exchange rates that were

supposed to reflect each country’s economic situation

INTEGRATION OF WESTERN EUROPE

What were the first steps in the formation of the European Union?

Initial Steps

Formation of EEC (European Economic Community) in 1958

Customs Union formed shortly after (including France,

Germany, Italy and the Benelux countries)

Europe’s political and security based issues were

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strengthening

The ECSC (European Coal and Steel Community) ensured a

reliable supply of high-grade coal leading to the

enhancement of industrial efficiency

EDC (European Defense Community) avoided

reconstruction of independent military forces (no

powerful army trying to take over the world again)

Rebranding of Germany as a country of committed and

motivated Europeans

Germany produced capital goods, France produced

consumer goods and Benelux countries produced food,

finance and shipment services

Postwar integration had three main players- France,

Germany and the United States

Europe’s economies are natural trading partners, due

to corresponding structures. “Europe trades therefore

it is”3

Low tariffs helped liberalize trade in Europe

German goods were becoming increasingly competitive

European Community was considered a glorified free

trade area

Trade also helped in increasing political

relationships between people

Britain had an advantage in trade, Britain has free

access to other countries, but other countries have

3 Olivier Giovannoni

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restricted access to them4

Economic Effects

Customs union most dramatic in France consumption

accounted for by imports doubled from 8% in 1959 to

16% in 1969. French Trade with other EC members

doubled from 30 to 57%. For Italy, the increase was

from 30% to 50%. For Germany it was 37% to 52%.5.

Lowering of tariffs (as show below, advantageous for

some countries, a burden on some others, yet

beneficial in general)

1958 External Tariff In

1968

External Tariff After The Kennedy

Round

Benelux 9.7 10.4 6.6

France 17.0 10.4 6.6

Germany 6.4 10.4 6.6

Italy 18.7 10.4 6.6

Simple

Average

13.0 10.4 6.6

Change

from

Previous

- -20% -40%6

4 Kaldor (1996)5 Adams (1989) pp. 156-1576 Sapir (1992)

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Level

Stimulus to trade within Europe (40% less tariff)

Increased stimulus to trade, boosting European growth

Monetary integration

A single currency, which required a single central

bank for regulation. (ECB)

Heightens efficiency and robustness to the EU economy

as a whole

Leads to easier control on economic stability, easier

transactions throughout Europe, no need for remittance

etc.

EMU (Economic and Monetary Union) lead to a single

market with a common currency and monetary policy

“A monetary union meant the total and irreversibly

convertibility of currencies, the elimination of

margins of fluctuations in exchange rates, the

irrevocable fixing of parity rates and the complete

liberalization of movements of capital”7

Establishment of Common Market

Stimulated Trade between the countries

The first requirement was the elimination of all

imports and export duties existing between Member

States before the EEC.8

7 Werner (1970) p 108 Moussis, Access to the European Union: Law, Economics, Policies

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Free movement of production factors: labor, capital

and services

Helped open up previously more private economies such

as France and Italy to open up to their EC partners

Political as well as Economic unification

A POTENTIALLY PROBLEMATTIC EUROPEAN UNION

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Increasing Payment Problems for the European Union leading to the

first sign of problems with the European Project.

In the first half of 1960s:

Foreign finance no longer needed

Europe’s Current Account moved into further surplus

Deutschmark remained highly competitive (even after

adjustments)

Pressure on wages

Higher consumption demands led to BOP constraint

Italy’s Crisis

Italy avoided devaluing the Lira

This precipitated a recession

Lack of skills and training that were demanded leading

to rises in unit labor costs

Lack of centralized mechanisms for dealing with the

implications of wage increases in primary, secondary,

tertiary and quaternary levels.

Low investments

BOP Problems

Inflation

Government borrowed from U.S Treasury and IMF (to buy

time, even though this only meant an increase in

capital outflows)

Increase in taxes (as means of austerity, much like in

present times)

Britain’s Problem

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Long BOP (Balance of Payments) crisis

Slow GDP growth rate

Security problems within

Lack of demand (According to Kaldor, a Strong demand

is necessary for the economy. High levels of capacity

utilization led to increasing returns and faster

productivity growth) 9

Devaluation would relieve only temporary pressure

Say’s Law (supply creates it’s own demand) was being

put to use, leading to a supply side problem

Lacked technological growth and enhancement

Inequality

French Crisis and the German Response

Political constraints on the use of fiscal and

monetary austerity to defend France

Devaluation could not be avoided

Increase in wages (possible wage-price spiral)

Government focused on ‘export-led growth’

Collapse of Bretton Woods (Due to difference political events

which needed an institution for coordinating in order to

prevent any problems, thus a single currency was created)

European Response

Slow Productivity

Barely any innovation

Change in Exchange Rate Regime

Unemployment

9 Kaldor (1966)

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Instability

Inequality

DECLINE IN GROWTH

What happened to growth, productivity and unemployment during

the 70s? Did Europe have the capacity to sustain growth that

it had achieved postwar?

Unemployment

Full utilization of underemployed rural labor for

growth in secondary or manufacturing sector

A shock to consumer and investor confidence after

the OPEC oil-price crises in 1973, which lead to a

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recession, caused a weak demand affecting the labor

market.

Cost push inflation causes wage inflation thus labor

becomes more expensive leading to an increase in

unemployment

In 1980s, higher interest rate during Volcker and

Thatcher Era led to further unemployment

Welfare-state policies, employment, and unemployment

compensation were too generous (Present day Greece

case)

Productivity Slowdown

Extensive growth that followed 1945 had reached

maturity with no opportunities to grow leading to

the exhaustion of high return investments.

1971 collapse of Bretton Woods system caused

exchange rate fluctuation and uncompetetiveness

leading to productivity slowdown

1973 and 1979 inflation (increase in oil prices)

“Between 1962–1973 and 1973–1982, the average rate

of growth of output per worker fell by 50 percent

in France and Germany, 60 percent in Britain, and

75 percent in Italy.”10

10 Eichengreen, 252

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THE EMS INITIATIVE

Need for Stability

Stability of the exchange rate is vital to prevent

inflation and unemployment especially for Europe

due to its high degree of openness and

interdependence. Germany was doing significantly

better at managing its inflation and exchange rates

than other nations

In 1972, “currency snake”, first attempt to

stabilize exchange rates through a monetary union.

However, amidst the increasing inflation and

unemployment, EMS initiative created in 1979.

EMS introduced an exchange rate mechanism that tied

the European countries together with an agreed

band.

Extension of European credit facilities “trigger

mechanism”, forced strong-currency countries to

relax monetary condition and weak countries to

tighten during instability.11

The EMS in Operation

Reduced exchange rate’s variability

Achieved monetary stability in Europe

Currencies were anchored to the Deutschmark

Countries retained capital controls even during high

11 Lundberg (1968)

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inflation

Inflation decreased, even though unemployment didn’t

fall, the EMS was not a fix.

The Legacy Of The EMS

It came in the way of domestic policy

All other countries were forced to follow Germany’s

lead if they wanted to stay in the system

INTEGRATION AND ADJUSTMENT

Extensive interdependence, Customs union, the Snake, and the EMS,

resulted to a growth in exports

A Single Market

Free of tariffs and regulatory barriers to the

movement of goods and services

“Economic and integrationist momentum lost as member

states endeavored to protect what was in its short

term interest”12

Single European Act, 1986

Single market free of barriers so goods and factors

of production can move freely

Different from the Treaty of Rome, SEA reorganized 12 Eichengreen 2000

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EC institutions and procedures to achieve these

measures

Expansion of Structural Funds on infrastructure

Improve competitiveness of poorer member states

Cooperation in conduct of economic and monetary

policy (which is currently under the Central Bank)

Germany used SEA to create more liberalized markets,

common legislation

In UK, Thatcher’s free-market belief fostered

support for a market free of regulatory barriers

UK had comparative advantage in financial services

“None of the shocks of the 1980s was a severe as the

first oil shock an the productivity slowdown of the

1970s”13

Integration in Practice14

Mutual recognition

Removing a range of restrictive national regulation

Community-wide minima for national standards and

legislation

For example, in the food industry: in additives,

labeling, nutritional supplements

Enable producers to better exploit economies of

scale

In the same manner of their American competitors

Relaxed financial regulation13 Eichengreen, 2000

14 Sapir (1992)

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Domestic intermediaries competed with foreign

institutions

Price differentials on identical goods and services

narrowed

EMS Crisis

Commitment to political integration and monetary

cooperation under the SEA

Removal of controls on cross- border capital flows

BY 1990, complete freedom for capital transactions

EMS narrow-band was restrictive

Britain still had an inflation problem, but currency

was overvalued

Switched to inflation targeting instead

1992, the lira and sterling driven out of the ERM of

the European Monetary System

1993, Spain, Portugal and Ireland forced to devalue

currency

Widening of fluctuation bands

EMU

Policies aimed to converge Europe

Stage one: Starting in 1990, freedom from capital

transactions followed by the Treaty of Maastricht

in 1992

Criteria concerning stable price level, interest

rate, deficit and exchange rate stability

The ratio of the annual government deficit to gross

domestic product (GDP) must not exceed 3%, Debt/GDP

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ratio must not exceed 60%

Germany, France and Italy in conflict with EU’s

fiscal rules

Germany experiencing slow growth

Arranged fro flexibility to exercise deficit without

finesse or sanctions

Stage two: ECB created to monitor the Eurozone’s

monetary policy and it liquidated the economy,

primarily through OMOs. It provided reserves to the

European banking system through refinancing

operation and provided reserves in exchange for

assets. They cannot make a bank solvent, they can

only lend against assets.

Stage three: From the start of 1999, countries are

locked under Euro, and a single monetary policy is

introduced under the authority of the ECB.

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EUROPE AT THE TURN OF THE TWENTY-FIRST CENTURY

How is the European Union doing now? Are they following the same

models placed in the second half of the 20th century?

Employment and Growth

Intense product-market competition

Integration was a catalyst to financial deregulation

Increased labor mobility

“ The single market having created an incentive for

firms to extend their reach, the intra-European

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share of mergers and acquisitions tripled between

1985–1987 and 1991–1993, reaching 30 percent.”

At the end of the 20th Century

Last 30 years, GDP per capital of Europe has been

roughly two-thirds of US

Higher than US in terms of living standards (work

hours, poverty rates, mortality rates, number of

people with health insurance)

As a whole, maintained international competitiveness

in exports

“Output per hour worked has risen from barely 50

percent of U.S. levels after World War II and two-

thirds of those levels in 1970 to nearly 95 percent

today and that labor productivity so measured is

actually running above U.S. levels in a substantial

number of Western European countries”_15

15 Eighengreen, 412

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PART III: CONCLUSION

Through hindsight, it is hard to view the modern European

Union as a monetary union that came to exist in the turn of the

21st Century to unify the economies of European nations. If we

follow events from 1945, the circumstances that were presented to

nations, such as opportunities for growth, inflation and

fluctuations in exchange rate prompted them to constantly

integrate and stabilize markets. They were continually looking

back to their own histories, in order to not repeat economic

conditions that once tore apart Europe. EU had evolved from the

ECSC, which made wartime enemies share key resources, to the EMU,

which locked countries under one currency and monetary policy.

However, was the European Union the optimal outcome of all the

preceding events?

If we stopped our analysis of the European mission at the

end of the 20th Century, rising productivity rates, high living

standards and international competitiveness would have presented

a strong case for it. Large European corporations such as Airbus

Industries, which bases its production across several Europe, is

a sound example for a group of nations that work as a single

powerhouse or a production line. This was the result of efforts

as early as post-war reparations and Marshall Plan, which helped

rebuild back Europe’s infrastructure and more importantly the

European markets to induce economic growth. But if monetary

integration has been at the heart of the European mission, the

euro being a product of that, it has surely led to problems in

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Europe today. For example, in the recent Eurozone crisis, we can

find traces of Greece’s debt crisis in EMS initiative and the

formation of the European Monetary Union. It is true that Greece

understated its debt to join the EMU, and spent more money than

it had on state welfare, infrastructure, and public wages and

services. Since Germany itself was going through a period of slow

growth, it had been successful in convincing the union to be more

flexible towards nations exercising their deficit, which went

beyond the Maaschrist Treaty regulations.16 However, if we look at

the debt relative to GDP of the West in general, there has been a

long-term upward growth trend in this ratio17Thus, there were

other reasons, inherent in the structure of the euro itself, that

fueled the debt crisis. After the EMS initiative, there was a

point to be noted that by anchoring currencies to the

Deutschmark, which was stronger and reflected a more stable price

level, countries at the periphery had to adjust their own

domestic policy, and follow the lead of Germany and more power

nations at the center.18 Then, several important acts such as the

SEA, removed any barriers of trade. There were also capital flows

from Germany to Greece and other southern nations. A stable

exchange rate and perfect trade mobility should have benefitted

Greece.

However, given the structure of the Eurozone, Greece and

other poorer nations has had to follow the lead of more stronger

16 Eichengreen, 37117 Papadimitriou and Wray (2011)18 Eichengreen, 286

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nations again, expect this time, it has helped plunge the country

into crisis. For Germany, who had for a long time assumed a

strong trade position and benefitted from the steps taken to

integrate Europe since the European Coal and Steel Community and

EPU in the early 1950s, the euro was undervalued. They are net

exporters, whose current account surpluses have supported

government and domestic sector to run deficits. If Greece and

Germany were on separate currencies, exchange rates could adjust

and Greece, as the net importer, would have a depreciating

currency, while the latter would have an appreciating currency.

Under the EMS system, this would have been possible within the

limits of its narrow-band. But as a single currency, the only

solution remaining was through price adjustment. Since the

Bundesbank and the ECB do not favor inflationary situations at

the center, in Germany, there needs to be deflationary pressure

in Greece and the periphery. But if government debts are

denominated in nominal terms, it poses massive costs for the

debtor, the Greek government.19 Therein lies a key structural

problem with the European mission and the integration of EC

members around the euro.

19Papadimitriou and Wray (2011)

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WORKS CITED

Adams, William James. 1989. Restructuring the French Economy.

Washington, D.C.: Brookings Institution.

Eichengreen, Barry (2006-11-13). The European Economy since 1945

(Princeton Economic History of the Western World) (Page 433).

Princeton University Press. Kindle Edition.

Eichengreen, Barry, and Fabio Ghironi. 2002. “EMU and

Enlargement.” In EMU and Economic Policy in Europe: The Challenge

of the Early Years, ed.

Eichengreen, Barry. "EMS Crisis In Retrospect." (2000): 1-63.

Web. <http://www.nber.org/papers/w8035.pdf>.

Kaldor, Nicholas. 1966. Causes of the Slow Rate of Economic

Growth of the United Kingdom. Cambridge: Cambridge University

Press.

Lundberg, Erik. 1968. Instability and Economic Growth. New Haven,

Conn.: Yale University Press.

Moussis, Nicholas. Access to the European Union: Law, Economics, Policies.

N.p.: n.p., n.d. Print.

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Papadimitriou, Dimitri B., and L. Randall Wray. Euroland in

Crisis as the Global Meltdown Picks Up Speed. Working paper no.

693. Annandale-On-Hudson: Levy Economics Institutee, 2011. Web.

Papadimitriou, Dimitri, and L. Randall Wray. Confusion in

Euroland. Working paper no. 20. Annandale-On-Hudson: Levy

Economics Institute, 2011. Web

Sapir, Andre´. 1992. “Regional Integration in Europe.”Economic

Journal 102: 1491–1506.

Werner, Pierre. 1970. “Report to the Council and the Commission

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Tracing the development of the European Mission from 1945 to present day

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