Three groups, three very different views on EMU

Although it would not be fair to say that where you stand on EMU depends on where you sit, it is striking how much different perspectives on the issue have tended to be associated with three contrasting groups.

These are: first, the political and administrative establishment; second, the commercial and financial elite; and third, the academic economic community.

The political and administrative establishment has increasingly identified with the European Union project over the past quarter century.

It is impatient with small-minded nickel-and-dime calculations of the costs and benefits of the single currency, it sees it as all part of a grand project from which Ireland must not be excluded.

Relative to the rest of the economy, much of the financial and commercial elite is overweight in dealings with Britain and therefore tends to see our important trading links with Britain as the be-all and end-all of economic prosperity.

This can induce undue caution with regard to the problem of sterling fluctuations.

Finally, economists, ourselves included, are strongly influenced by attitudes in North America - the home of modern economics - and in particular by American scepticism about the European weakness for grandiose statist projects, of which EMU is undoubtedly an example.

This perspective helps us to understand first why there is no real doubt as to whether Ireland will enter: the political and administrative establishment is unshakeable on this.

It explains the rumblings from the business community in favour of special reliefs or assistance to help firms that might be hit by a future decline in sterling. And it also serves to clarify why several economists have been at pains to emphasise the negative aspects of EMU.

Against this background, we take some comfort from how well our own ESRI assessment of the pros and cons of Ireland joining EMU has stood up in the debate over the past 18 months.

No doubt we are not immune from subconscious prejudices in the matter, but at least we tried to take a rounded view of the issue.

As is well known, our conclusion fell far short of what the EMU-enthusiasts would have preferred, but it did indicate that the quantifiable economic effects of Irish membership would be slightly positive on balance (even with Britain out).

In all of the subsequent discussion, we have seen nothing to alter that conclusion, indeed nothing of substance of which we had not taken account.

Three interesting points have been made recently, two of which are quite misleading; the other a valuable caveat. The two misleading arguments both relate to interest rates.

The first claims that the lower interest rates, which can be expected from EMU, are no net benefit at all, on the grounds that what borrowers gain represents a loss to lenders.

This reasoning is false. It is chiefly because of exchange rate risk that Irish interest rates have been far too high. Lenders needed the high returns to compensate for this risk.

Its removal would be a win-win situation, with lenders gaining a reduction in exchange risk offset by the reduction in interest rates, while the lower interest rate for borrowers would help competitiveness and growth.

The other mistaken argument has pointed to the high rates of interest paid at present by, for example, highly-indebted Canadian provincial governments on their borrowing, as an indication that default premia on Irish Government foreign debt might be high.

But the market has already revealed the long-term premium it will demand on Irish Government debt and it is very small indeed - less than a half of 1 per cent per annum over what the German government pays.

The third interesting point (the valuable one) was made in Mr Frank Barry's contribution - in The Irish Times on November 21st - when he pointed out that needed downward wage adjustments might prove harder to achieve when inflation is low, as it will be in EMU, than it was in past years of high inflation.

While it is hard to find statistical evidence for this (Mr Barry provides none and we couldn't find any when we explored the matter in preparing our 1996 report), it is certainly plausible.

We do not agree that the point is sufficient to materially alter our "best estimate" of the net benefit, especially since this estimate (which drew on a range of different parameter values) is explicitly based on the assumption that supportive policies would be in place, and also took account of the range of possible sterling movements, large and small, up and down.

But we do agree that there is a need to reconsider the way in which wage bargains are set, to allow for an orderly and rapid adjustment when needed in EMU.

This was not built into Partnership 2000, but will certainly have to be part of the next agreement.

Monetary policy in EMU will be set essentially without reference to Ireland and we already get a flavour of this from the prospect of lower interest rates here in 1998, despite the booming property market.

An appropriate counter-cyclical policy for Ireland would call for higher rather than lower interest rates in such circumstances (though it needs to be said we have rarely seen effective counter-cyclical use of monetary or fiscal policy in Ireland in the past 20 years).

Without the possibility of higher interest rates to moderate the housing boom, we need to rely on redoubled emphasis on prudence by lenders in such matters as the loan-to-value ratios which they apply to borrowers, in order to ensure that there is no overshoot in property prices, threatening a subsequent crash.

John FitzGerald and Patrick Honohan are research professors with the Economic and Social Research Institute.