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O e s t e r r e i c h i s c h e Nat i ona l b a n k

30. Volkswirtschaftliche Tagung 2002

3 0 t h E c ono m i c s C on f e r e n c e 2 0 0 2

Wettbewerb der Reg ionenund Integ rat ion in der WWU

Competi t ion of Reg ionsand Integ rat ion in EMU

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vowi-tagung_2002 umschlag 14.10.2002 13:46 Uhr Seite 1

Klaus Liebscher

Wettbewerb der Regionen und Integration in der WWU — Ero‹ffnungsrede 5

Wolfgang Schu‹ ssel

Ero‹ffnungsrede 9

Klaus Liebscher

Conference Opening (continued) 17

Heinrich Neisser

Institutional Arrangements of the European Union — Scenarios for the Future 23

Willem F. Duisenberg

The Euro as a Catalyst for Integration and Competition in EMU 35

Anthony M. Santomero

The U.S. Experience with a Federal Central Bank System 47

Tagungsblock 1: Institutionelle Strukturen auf regionaler EbeneSession 1: Regional Institutional StructuresTito Boeri

Does Europe Need a Harmonised Social Policy? 55

Fritz Breuss

Comments on Tito Boeri, �Does Europe Need a Harmonised Social Policy?� 67

Hans-Werner Sinn

The New Systems Competition 77

Gareth D. Myles

Comments on Hans-Werner Sinn, �The New Systems Competition� 93

Tagungsblock 2: Podiumsdiskussion Finanzpolitik: Spielraum fu‹r regionale Finanzinstitutionen?Session 2: Financial Policy Panel: The Scope for Regional Financial InstitutionsGertrude Tumpel-Gugerell

Introductory Remarks 104

Dirk Bruneel

The International Strategy of Dexia 106

Reinhard Ortner

Erste Bank Group in Central Europe — The Background of an Austrian Success Story 115

Albrecht Schmidt

Comments for the Panel Discussion on the Scope for Regional Financial Institutions 125

Axel A. Weber

Comments for the Panel Discussion on the Scope for Regional Financial Institutions 129

Tagungsblock 3: Die Rolle der nationalen Zentralbanken im Europa‹ischen System der ZentralbankenSession 3: The Role of National Central Banks Within the European System of Central BanksKlaus Liebscher

The Role of National Central Banks Within the European System of Central Banks —Introductory Statement 135

Jean-Claude Trichet

The Eurosystem: The European Monetary Team 139

David G. Mayes

Comments on the Theme �The Eurosystem: The European Monetary Team� 151

Richard Portes

Comments on Jean-Claude Trichet: �The Eurosystem: The European Monetary Team� 159

Inhalt

Contents

2 �

Gertrude Tumpel-Gugerell

The Role of National Central Banks Within the European System of Central Banks —Introductory Statement 165

Arnout H. E. M. Wellink

The Role of National Central Banks Within the European System of Central Banks:The Example of De Nederlandsche Bank 169

Peter Bofinger

Comments on Arnout H. E. M. Wellink, �The Role of National Central BanksWithin the European System of Central Banks: The Example of De Nederlandsche Bank� 189

Paul De Grauwe

Comments on Arnout H. E. M. Wellink, �The Role of National Central BanksWithin the European System of Central Banks: The Example of De Nederlandsche Bank� 197

Tagungsblock 4: Regionale FinanzstrukturenSession 4: Regional Financial StructuresChristian de Boissieu

The European Industry and the Organization of Banking Supervision in Europe 205

Urs W. Birchler

Comments on Christian de Boissieu,�The European Industry and the Organization of Banking Supervision in Europe� 219

Olivier Lefebvre

Regional Stock Exchanges — Is There a Future? 225

Stefan K. Zapotocky

The Challenges and Chances of Regional Exchanges 235

Tagungsblock 5: Podiumsdiskussion: Regionale Wirtschaftsstrukturen — Wie viel Divergenz ist tragbar?Session 5: Panel: Regional Economic Structures — How Much Divergence Is Sustainable?Gertrude Tumpel-Gugerell

Introduction 250

Alexander Italianer, Oliver Dieckmann

Are Divergent Macroeconomic Performances in a Monetary Union a Reason to Worry? 252

Richard Portes

Comments on Alexander Italianer and Oliver Dieckmann,�Are Divergent Macroeconomic Performances in a Monetary Union a Reason to Worry?� 269

Sinikka Salo

Regional Policies and Differences in Economic Structures 272

Gerhard Schwo‹ diauer

Ought We to Worry About Regional Divergence in the European Monetary Union? 276


Concluding Remarks 287

Franz-Weninger-StipendienFranz Weninger Award 293

Die VortragendenSpeakers 295

Inhalt

Contents

3�

Klaus Liebscher

Wettbewerb der Regionen

und Integration in der WWU

Ero‹ffnungsrede

Die Volkswirtschaftliche Tagung findetheuer bereits zum 30. Mal statt; mitdiesem bemerkenswerten Jubila‹umnimmt die Oesterreichische National-bank (OeNB) mit Sicherheit eineau§erordentliche Stellung unter jenennationalen Zentralbanken ein, die der-artige Veranstaltungen organisieren,und es ist auch ein geeigneter Anlassfu‹r einen kurzen Blick in die Ver-gangenheit.

ImMai 1973 kamen 17OeNB-Mit-arbeiter und acht geladene Ga‹ste in derKrainerhu‹tte in derNa‹hevonBadenbeiWien zur ersten VolkswirtschaftlichenTagung der OeNB zusammen. AufInitiative und unter dem Vorsitz desdamaligen OeNB-GeneraldirektorsHeinz Kienzl setzte man sich mitdem damals wie heute sehr aktuellenThema der ªMo‹glichkeiten und Gren-zen der Stabilisierungspolitik� aus-einander. Redner aus Deutschland,Schweden und Ungarn gaben schonder ersten Volkswirtschaftlichen Ta-gung eine internationale Dimension.Ab 1975 wurden die Beitra‹ge in Formvon Konferenzba‹nden der O‹ ffentlich-keit zuga‹nglich gemacht.

Klaus Liebscher

Gouverneur,

Oesterreichische Nationalbank

Lassen Sie mich nun einen gro§enSprungvondiesererstenKonferenz zur10. Volkswirtschaftlichen Tagung derOeNB tun, die im Zeichen von ªFor-schung und Wirtschaftswachstum�stand. Auch hierwurde, so scheint mir,das Thema treffsicher gewa‹hlt, stellt esdoch nach wie vor eine zentrale Frageder Wirtschaftspolitik sowohl inEuropa als auch in O‹ sterreich dar.

Dasselbe gilt auch fu‹r die 20.Volks-wirtschaftliche Tagung der OeNBim Jahr 1992. Sie war der ªZukunft

regionaler Finanzma‹rkte in einem inte-grierten Europa� gewidmet.

Wenn Sie einen Blick auf das dies-ja‹hrigeProgrammwerfen, sosehenSie,dass auch diese Frage nichts an Aktua-lita‹t verloren hat. Die Tatsache, dassviele der bei unseren Volkswirtschaft-lichen Tagungen aufgegriffenen The-men uns auch heute — Jahre oder sogarJahrzehnte spa‹ter — noch bewegen,ko‹nnte einerseits auf den bemerkens-werten Weitblick der Organisatorenzuru‹ckgefu‹hrt werden. Andererseitskann man wohl auch argumentieren,dass wir immer wieder gefordert sind,neue Antworten, neue Lo‹sungen, aufnoch nicht bewa‹ltigte Aufgaben undThemenstellungen zu finden.

Welche Antwort nun auch immerzutreffen mag, unsere Tagung hat sichim Lauf der Jahrzehnte ausgezeichnetentwickelt und profiliert. Dies zeigtsich auch, so meine ich, in der Listeder hervorragenden Redner, die wirheuer willkommen hei§en du‹rfen so-wie in der hohen Qualita‹t und wirt-

schaftspolitischen Relevanz der Bei-tra‹ge und in der sta‹ndig steigendenTeilnehmerzahl — in diesem Jahr darfich mehr als 350 Ga‹ste hier begru‹§en— unter ihnen Repra‹sentanten der Poli-tik, der Wirtschaft, in- und ausla‹ndi-scher Banken, der Wissenschaft eben-falls des In- und Auslandes, diplomati-scher Vertretungen und, was mich be-sonders freut, auch eine gro§e Anzahlvon Gouverneuren und Mitarbeiternbefreundeter Zentralbanken — sie alleseien herzlich willkommen gehei§en.

Das 30-ja‹hrigeBestehen der Volks-wir tschaft l ichenTagung spiegeltauch drei Jahr-zehnte erfolgreicheo‹ s t e r re i c h i s c heWa‹hrungspolitik inder Post-Bretton-

Woods-A‹ ra wider. Wie Sie wissen,verfolgte die OeNB wie die Zentral-banken anderer kleiner, offener Volks-wirtschaften niemals ein System freischwankender Wechselkurse. DieHartwa‹hrungspolitik, wie die o‹ster-reichische Wa‹hrungspolitik ab denspa‹ten Siebzigerjahren bezeichnetwurde, war der o‹sterreichischenWirtschaft, im Nachhinein betrach-tet, von gro§em Nutzen. Wa‹hrenddie Anbindung an eine andere Wa‹h-rung chon per definitionem impli-ziert, dass sich die Zentralbank mitihren Gescha‹ften und Analysensehr stark international orientiert,erhielt diese Internationalisierung abden fru‹hen Neunzigerjahren insbeson-deremit O‹ sterreichs Beitritt zur Euro-pa‹ischen Union, dem Start der Wirt-schafts- und Wa‹hrungsunion undder Osto‹ffnung neue Impulse. Ichbin u‹berzeugt, dass die weitere Ent-wicklung der EU, des Euroraumsund Europas als Ganzen auch weiter-hin die Zukunft O‹ sterreichs und

Klaus Liebscher

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der OeNB wesentlich mitbestimmenwird.

Natu‹rlich ko‹nnte diese Konferenznicht ohne die Beitra‹ge einer Reiheau§erordentlicher Redner stattfinden.Sehr geehrte Damen und Herren, ichfreue mich — und es ist mir eine gro§eEhre—denBundeskanzlerderRepublikO‹ sterreich, Herrn Dr. Wolfgang

Schu‹ssel, bei unserer Konferenz be-gru‹§en zu du‹rfen.

Da Bundeskanzler Schu‹ssel im An-schluss anderen terminlichen Ver-pflichtungen nachkommen muss,mo‹chte ich an dieser Stelle meineBegru‹§ung unterbrechen und denHerrn Bundeskanzler ans Rednerpultbitten. §

Klaus Liebscher

7�


Ero‹ffnungsrede

Sehr geehrte Damen und Herren! Ichdarf Sie sehr herzlich in Wien will-kommen hei§en. Es freut mich be-sonders, den Pra‹sidenten der Europa‹i-schenZentralbankWimDuisenberg zubegru‹§enund ichmo‹chte diesenAnlassnutzen, um meinen tiefen Respekt vorder Arbeit dieser wichtigen Institutionauszudru‹cken. Im Namen aller O‹ ster-reicher und O‹ sterreicherinnen dankeich Wim Duisenberg fu‹r sein Engage-ment fu‹r die europa‹ische Wa‹hrungs-politik, das von Feinfu‹hligkeit undgro§em Verantwortungsbewusstseingepra‹gt ist.

Unddas fu‹hrtmich zuder zentralenThematik der diesja‹hrigen Veranstal-tung — den Zukunftsperspektiven fu‹rEuropa. Erlauben Sie, dass ich zur Ein-fu‹hrung einen o‹sterreichischen Beitraggebe.

Das wahre und einschneidendeEreignis der letzten Monate war nichteine der diversen aufgeregten, virtuel-len Debatten innerhalb und au§erhalbEuropas, sondern vielmehr die Ein-fu‹hrung des Euro am 1. Ja‹nner 2002.Diese Wa‹hrungsumstellung ist einevon der O‹ ffentlichkeit selbstversta‹nd-lich angenommene und aufgenom-mene Erfolgsgeschichte. Der Grunddafu‹r liegt in der professionellen Vor-bereitung. Dazu kommt, dass sichinnerhalb von wenigen Wochen undwenigen Tagen die psychologischeAkzeptanz der Bevo‹lkerung gegenu‹ber


Bundeskanzler der Republik O‹ sterreich

der neuen Wa‹hrung so verbessert hat,dass der Euro eine perfekte Annahmegefunden hat. Ein besonders scho‹nesSignal fu‹r O‹ sterreich war, dassKommissionspra‹sident Romano ProdiSylvester undNeujahr inWien gefeierthat. Mit diesem Besuch und dem Neu-jahrskonzert, das auch im Zeichen desEuro stand, wurde von Wien aus einepositive Botschaft dieser europa‹ischenWa‹hrung in die ganze Welt gesandt.Ich halte das fu‹r wichtig, denn mittler-weile ist der Euro in rund 50 La‹nderneine Leitwa‹hrung. Das zeigt, dass hiereine beachtliche zweite Weltleitwa‹h-rung zur Verfu‹gung steht, die sichmit Sicherheit bewa‹hren wird. Positivwar auch, dass in O‹ sterreich innerhalbku‹rzester Zeit der Gro§teil der Bar-geldtransaktionen in Euro abgewickeltwurde.

Wichtig zu erwa‹hnen ist, dass mitder Einfu‹hrung des Euro eine nochunterscha‹tzte Langfristigkeit verbun-den ist. Eine gemeinsame Wa‹hrungverlangt nach einem voll entwickeltenBinnenmarkt. Dieser ist gegenwa‹rtigzwar in weiten Teilen verwirklicht,weist aber nach wie vor gro§e Lu‹ckenauf. Eine gemeinsame Wa‹hrung erfor-dert aucheineharmonisiertekoha‹renteWirtschaftspolitik, die u‹ber den Stabi-lita‹tspakt, so bedeutsam dieser natu‹r-lich ist, hinausreichen muss. Es bedarfvielmehr eines gemeinsamen abge-stimmten Vorgehens in den Offensiv-bereichen derWirtschaftspolitik sowiein wesentlichen wirtschaftlichen undsozialen Themenschwerpunkten.

Die Europa‹ische Kommission unddie 15 Mitgliedsstaaten messen bei-spielsweise der Ausgestaltung der Pen-sionssysteme eine immer gro‹§er wer-dendeBedeutung bei, da dieser Bereichmassive Auswirkungen auf die Stabili-ta‹t, auf die Verteilungswirkung unddamit letztlich auch auf die Wa‹hrungund auf den gesamtenWirtschaftsraum

hat. Die langfristigen Wirkungen sindnicht zu unterscha‹tzen.

Diese Neuorientierung kann nichtradikal geschehen, sondern wirdschrittweise passieren, wobei dieseEntwicklung ganz klar in Richtunggemeinsamer Regelungen, engererBandbreiten auch in den steuerlichenRichtsa‹tzen gehen wird. Wichtig istin diesem Prozess eine gemeinsameeuropa‹ische Au§envertretung. Einho‹chst erfolgreiches Modell der ge-meinsamen Bu‹ndelung europa‹ischerInteressen und einer europa‹ischenStimme gibt es bereits in der interna-tionalen Handelspolitik. KommissarPascal Lamy vertritt in diesem Bereichin guter Koordination mit den 15 Mit-gliedsstaaten perfekt europa‹ische Inte-ressen. Diese effiziente Bu‹ndelung voneuropa‹ischen Interessen wird auch inden Finanzinstitutionen mittelfristigein Thema werden.

Bei dieser Neugestaltung arbeitenwir auf mehreren Ebenen. Das machtdas Thema und den Traum oder dieVision von Europa auchmanchmal sehrkompliziert.Die eineEbene ist jenederKommunikation zwischen den natio-nalen Mitgliedsstaaten, den europa‹i-schen Institutionen und den europa‹i-schen Bu‹rgern. Die zweite Ebene stelltder europa‹ische Konvent dar, dem fu‹rdie Zukunft Europas eine besonderswichtige Bedeutung zukommt. DennderKonvent ist einePlattform,wo frei,ohne Fraktionszwa‹nge, ohne Bindun-gen durch die jeweils entsendendenGruppierungen u‹ber Optionen, u‹berBausteine, wie ein ku‹nftiger Verfas-sungsvertrag oder ein verfassungsa‹hn-licher Grundvertrag aussehen ko‹nnte,nachgedachtunddiskutiertwird.Diesewichtigen Zukunftsfragen, mit denensich die Konventsmitglieder bescha‹fti-gen, sind aber zugleich auch sehr sub-stanzielle Souvera‹nita‹tsfragen, die sichfu‹r uns alle stellen. Und diese Fragen


10 �

lauten: Wo braucht es mehr Europa?Wo braucht es mehr Bu‹rgerna‹he?

NachmeinerU‹ berzeugung brauchtes mehr Europa in der gemeinsamenVertretung der Au§enpolitik. Es wa‹reunsinnig,wu‹rdemanweiterhin15oderspa‹ter 25 nationale Au§enpolitikenformulieren. Es bedarf vielmehr einerstarken, koordinierten Stimme, einerStimme Europas, die von allen Mit-gliedsstaaten mitgetragen und unter-stu‹tzt wird. Ein fataler Fehler wa‹reaber, die nationalen Au§enministerihrer horizontalen Koordinationsfunk-tion zu entkleiden. Eine logische Kon-sequenz mu‹sste eher sein, daru‹bernachzudenken, die europa‹ischenKoor-dinatoren — das sind fu‹r mich dieAu§enminister — zu sta‹rken, ihnen aberzugleich auch auf europa‹ischer Ebeneein klares Visavis gegenu‹berzustellen.Das wa‹re meines Erachtens einvernu‹nftiges Konzept. Ebenso sollteman die Au§envertretung und dieKoordination innerhalb der europa‹i-schen Institutionen besser ordnen.Ich halte nichts davon, eine Konkur-renzinstitution zur Kommission zuschaffen, indemmandieFunktion einesdirekt gewa‹hlten Pra‹sidenten desRates, der diese Funktion fu‹nf Jahrelang innehat, kreiert. Das wa‹re viel-mehr ein Modell, das sehr stark indie Na‹he eines Directoire der Gro§enu‹ber Europa fu‹hren wu‹rde und nichtmehr mit dem Prinzip der Gleich-berechtigung und Gleichbehandlungder Mitgliedsla‹nder vereinbar wa‹re.Vielmehr ist ein klares Abstimmenbei den verschiedenen Funktionender Ra‹te notwendig.Wir haben gegen-wa‹rtig in diesem Bereich eine merk-wu‹rdige Mischung. Der Europa‹ischeRat, der eine sehr wichtige Motoren-funktion und eine strategische Pla-nungsfunktion innehat, zum Teil aberauch Controlling- und Aufsichtsrechtefu‹r sich inAnspruchnimmt,umEuropa

weiter zu entwickeln,wird immer sta‹r-ker zum Detailentscheidungsorgan.Grund dieser Entwicklung ist, dassdieFachministerra‹tebeinahe jedesPro-blem, auch wenn es mit Mehrheit ent-scheidbarwa‹re, aufdieEbenedesEuro-pa‹ischen Rates hinaufheben. Das halteich fu‹r unklug, denn der Europa‹ischeRat sollte das Steuerungsinstrumentbleiben.

Einweitererwichtiger Punktwa‹re,eine klareAbfolge, eineChoreographieder wichtigen Themen zu erstellen.

So sollte der Europa‹ische Rat sich etwaim Fru‹hjahr sehr stark dem gemein-samen Wirtschaftsmodell widmenund die wirtschaftliche strategischePlanung ero‹rtern. Bei den anderenThemenbereichen sollten Schwer-punkte gesetzt werden, um die euro-pa‹ische Agenda weiter voran zu trei-ben. Ich glaube auch, dassman letztlichmit weniger Ratsformationen auskom-men sollte. Vor allem eine sta‹rkereFokussierung, die sich mehr an derKompetenzlage in den Mitglieds-staaten orientiert, wa‹re mit Sicherheitsinnvoll.

Die andere zentrale Frage ist: Wiekann man all das, was fu‹r Europa wich-tig ist, bu‹rgerna‹her, dezentraler, sub-sidia‹rer organisieren? Das muss nichtzwingenderweise eine Umkehr derKompetenzlagebedeuten.Eswa‹reabersinnvoll, daru‹ber nachzudenken, einModell a‹hnlich der o‹sterreichischenVerfassung, die in den Kompetenz-artikeln in gewissen Bereichen dieGrundsatzgesetzgebung als Bundes-


11�

kompetenzunddieAusfu‹hrungsgesetz-gebung als Landeskompetenz vorsieht,zu entwickeln. Das wu‹rde bedeuten,die Prinzipien, die Standards auf euro-pa‹ischer Ebene festzulegen, die Um-setzung, die Durchfu‹hrung und dasControlling aber sta‹rker denMitglieds-staaten oder vielleicht sogar den La‹n-dern, Regionen und Gemeinden zuu‹berlassen. Gerade in den Bereichender Regionalpolitik, der Natur- derUmweltrichtlinien findet sich dafu‹rsehr viel Spielraum. Ich bin der Auf-

fassung, dassmanches,wenn es bu‹rger-nahe, also dezentral organisiert wa‹re,mit Sicherheit eine bessere Akzeptanzund eine praxisna‹here Umsetzungfa‹nde.

Ein weiteres gro§es Thema, das ichheute ansprechen mo‹chte, ist die Er-weiterung. Ich habe als Ratsvorsitzen-der der Europa‹ischen Union imHerbst1998 die Verhandlungen begonnen.Ende des Jahres 2002 werden wirdie Beitrittsverhandlungen mit derersten Gruppe der Beitrittskandidatenabschlie§en.Wir sind im Plan und bes-ser unterwegs, als noch vor drei odervier Jahren Optimisten gedacht haben.Dazu mo‹chte ich klar sagen, dass fu‹rmich die Substanz wichtiger ist alsder Zeitplan. Die Erweiterung istein so bedeutsames Projekt, dass wirall unsere Kraft und Energie fu‹r dieLo‹sungen der noch offenen Problemeaufwenden mu‹ssen.

Wir haben jetzt noch drei heikleThemenblo‹cke vor uns: Die Landwirt-schaft, die Finanzen und die Regional-

fo‹rderung. Meiner Meinung nachwerden wir mit unseren Zahlungenunter den in Berlin festgesetztenFinanzobergrenzen bleiben. 1.27%des Bruttosozialprodukts war vor-gesehen. Der o‹sterreichische Beitragbela‹uft sich zurzeit auf 1.1% desBruttosozialprodukts. Diesen Prozent-satz werden wir bis 2006 nichtu‹berschreiten. Mit der Differenz von0.17% sparen wir somit eine beacht-liche Summe.

Daru‹ber hinaus gibt es Reform-bedarf in vielen Be-reichen. Besondersdie Regionalpolitikmu‹ssen wir an dieneuen Gegeben-heiten nach demBeitritt der neuenMitgliedsstaaten an-passen. In der Land-

wirtschaft sollten wir versuchen, nach2006 die Sa‹ulen zu vera‹ndern. Jetztwerden 90% fu‹r die Direktzahlungenausgegeben und nur 10% fu‹r die Ent-wicklung des la‹ndlichen Raums, wiezum Beispiel fu‹r Umweltprogramme.In diesem Bereich wu‹rde eine Um-schichtung o‹kologisch und marktwirt-schaftlich eine positive Entwicklungbedeuten. Das gilt auch fu‹r die Ver-waltungsbereiche der Europa‹ischenUnion.

MeinesErachtens ist eswichtig,denZeitplan fu‹r die Erweiterung ernst zunehmen. Es ist aber auch notwendig,dass wir gerade in den na‹chstenMonaten weniger u‹ber den Zeitplanals u‹ber die Substanz derVerhandlungs-kapitel diskutieren. Das ist ein guterund richtiger Weg. Das ist auch die ge-meinsame o‹sterreichische Position.

Dabei sollte man jedoch nicht ver-gessen, dass es auch bedeutsam fu‹r dieeuropa‹ische Zukunft ist, dasswir jenenLa‹ndern, die gegenwa‹rtig weder einenKandidatenstatus noch eine Beitritts-


12 �

perspektive haben, eine Zwischenlo‹-sung, einen Warteraum zur Mitglied-schaft anbieten. Wir brauchen einNetzwerk, das La‹nder wie die Ukraineoder Wei§russland oder Moldawieneinbindet. Es muss ein europa‹ischesNetzwerk, vielleicht eine Art europa‹i-scher Wirtschaftsraum, ma§geschnei-dert fu‹r diese Partnerla‹nder gefundenwerden.

So viel zum Thema Europa. Nunmo‹chte ich noch kurz auf die o‹ster-reichische Entwicklung eingehen.Von der internationalen Konjunktur-abschwa‹chung konnte sich auchO‹ ster-reich nicht abkoppeln. Die o‹ster-reichische Wirtschaft ist stark mitder vonDeutschlandverflochten.Den-noch haben wir trotz Konjunktur-abschwa‹chung ein ho‹heres Wachstumund bessere Arbeitsmarktdaten als inDeutschland. Einer der Gru‹nde dafu‹rliegt in den bereits einsetzenden posi-tiven Effekten der Erweiterung.O‹ ster-reich hat die Chancen der Osto‹ffnungund der Erweiterung perfekt genutzt.Wir haben die Exporte, Importe sowiedie Investitionen vervielfacht und unsdamit den Platz im Herzen Europasgeschaffen, der uns zusteht. Deshalbist es umso wichtiger, dass wir zudieser Erweiterung ªJa� sagen, weilsie sowohl politisch, als auch wirt-schaftlich, sozial und kulturell inunserem Interesse ist.

Ebenso verbessert sich O‹ sterreichschrittweise und sehr kontinuierlich inden Weltranglisten, in den Rankings.Au§er Finnland ist O‹ sterreich das ein-zige Land, das diese stetige Verbes-serung aufweisen kann. O‹ sterreichbefindet sich vor allem in wichtigenBewertungsdaten wie bei innererSicherheit, Lebensqualita‹t und auchbei der Qualita‹t der medizinischen In-frastruktur im Spitzenfeld der inter-nationalen Rankings. Eben deshalbsei den Kritikern unseres Gesundheits-

wesensgesagt, dass dieses inO‹ sterreichzu gu‹nstigen Beitragskonditionen sehrgut organisiert ist.

Schwachstellen gibt es jedoch inmanchen innovatorischen Bereichen,wie etwa im Bereich Forschung undEntwicklung. Dort holen wir jetzt auf.Dafu‹r mo‹chte ich mich auch ausdru‹ck-lich bei der Oesterreichischen Natio-nalbank bedanken.

Positive Effekte konnten wir auchauf Grund der Privatisierungserlo‹seerzielen. Ebenso hat die Bundesregie-rung ein Kon-j unk tu r p ake tzum richtigenZeitpunkt be-schlossen. Die-ses Paket zieltnicht auf kurz-fristige Ma§nah-men, die o‹kono-misch nicht sinnvoll sind, sondern aufmittel- und la‹ngerfristige Weichen-stellungen in Richtung Forschung,Entwicklung und Bildung ab. Unteranderem wurden beachtliche For-schungspra‹mien und Forschungsfrei-betra‹ge fu‹r die Unternehmen geschaf-fen; Ausbildungsanstrengungen fu‹rMitarbeiter ko‹nnen steuerlich gel-tend gemacht werden. Diesen Wegsollten wir weitergehen.

Hinsichtlich der konjunkturellenEntwicklung wird man vorsichtigersein mu‹ssen, als Optimisten angenom-menhaben.DieErholungderKonjunk-tur wird sich voraussichtlich um ein,zwei Quartale verzo‹gern. Ich bin aberu‹berzeugt, dass wir Ende des Jahres2002 und vor allem im Jahr 2003mit einer befriedigenden Konjunktur-entwicklung aufwarten ko‹nnen.

Es ist unbedingt notwendig, denklaren Weg in Richtung Privatisie-rung und Liberalisierung der Rahmen-bedingungen fortzusetzen. Die O‹ ff-nung des Gasmarktes und des Strom-


13�

marktes ist in O‹ sterreich fru‹her er-folgt als in anderen La‹ndern. Die damitverbundenen Positiveffekte sind be-reits fu‹r die Haushalte, vor allemaber auch fu‹r Wirtschaft undIndustrie spu‹rbar. Die Bundesregie-rung konnte auch im Bereich der Pri-vatisierungspolitik der O‹ IAG bereitsvieles umsetzen. Zwei Drittel derSchulden von einst sind nun ab-gezahlt; die Entpolitisierung bei derPostenbesetzung hat sich gerade indiesen Bereichen bewa‹hrt. Auf

diesem Weg sollten wir in O‹ sterreichweitergehen.

In diesen Tagen wurde im Par-lament ein sozialpolitischer Meilen-stein — die betriebliche Mitarbeiter-vorsorge, die langfristig zur 2. Sa‹uleder Altersvorsorge werden kann — ein-stimmig beschlossen. Dieses Konzeptist auch fu‹r den o‹sterreichischen Kapi-talmarkt eine sehr interessante Sache.

Ein Bereich, der noch unerledigt istund in dem wir nachlegen mu‹ssen, istdie gro§e Entlastungsstrategie. Wirwollen die Steuer- und Abgabenquoteauf unter 40% bis zum Jahr 2010 sen-ken. Das ist fu‹r ein Land, das nie einebesonders niedrige Steuer- und Abga-benquote hatte, eine gewaltige An-strengung. Die Bundesregierung ver-sucht hier, auf allen Ebenen schritt-weiseSpielra‹umezuerka‹mpfen. ImBe-reich der Lohnnebenkosten ist einDrittel bereits abgearbeitet, zwei Drit-tel stehen noch aus. Die vollsta‹ndigeUmsetzungwird in einemEtappenplanerfolgen.

ImSteuerbereich sehe ich indiesemJahr noch keinen Spielraum. Fu‹r eineetappenweise Entlastung mu‹ssen wireinen Spielraum durch zweierleiMa§nahmen schaffen. Einerseits durcheine forcierteWachstumsstrategie: Ichhabe bereits die Pra‹sidenten der beidenWirtschaftsforschungsinstitute gebe-ten, uns dabei behilflich zu sein. Ichmo‹chte auch die Notenbank und dieinteressierten wirtschaftspolitischenKreise zur Mitarbeit einladen. Ichbin der Meinung, dass eine kreative

Wachstumsstrate-gie ein halbes bis eindreiviertel Prozentzusa‹tzlichen Spiel-raum durch mehrEinnahmen bringenko‹nnte, die wirdann in Form einerEntlastung weiter-

geben. Handlungsbedarf ist auch inden Bereichen Bildung, Qualifikationund Forschung gegeben. Ich habe inden letzten Tagen eine sehr aus-gedehnte O‹ sterreich-Tour unternom-men und vor allem Bildungsinstitutio-nen besucht. Da gibt es sensationelleBeispiele. So ist zum Beispiel in Vor-arlberg die Kooperation der Eisen-,Metall- und Elektroindustrie zur Aus-bildung von Lehrlingen ein nicht vomStaat, sondern von der Wirtschaftfinanziertes Modell. Das Engagementund die Begeisterung dieser jungenMenschen, die an diesem Programmteilnehmen, sind beeindruckend. Die-ses Vorarlberger Modell auf andereBundesla‹nder zu u‹bertragen,wa‹re einefaszinierende Aufgabe.

Das gilt auch fu‹r den Bildungs-bereich. Vergleicht man die Fach-hochschulen mit den Universita‹ten,dann wird deutlich, dass die Universi-ta‹ten gegenu‹ber den Fachhochschulenan Bedeutung verlieren werden, daFachhochschulen kundenorientierte


14 �

und ma§geschneiderte Programmeanbieten, die auch auf die Bedu‹rfnisseder Berufsta‹tigen eingehen. Ein Bei-spiel dafu‹r ist die FachhochschuleTechno-Z in Salzburg. Ein Drittelder Studierenden ist berufsta‹tig, weilgeblockte Kurse fu‹r diese Zielgruppeam Wochenende angeboten werden.DerartigeMo‹glichkeiten ko‹nnten auchUniversita‹ten anbieten. Doch nurwenige tun dies tatsa‹chlich. Hierherrscht eindeutig Reformbedarf. Da-her du‹rfen wir im Interesse der Jugendnicht in den Reformambitionen nach-lassen. O‹ sterreich soll auch in diesemBereich zur Weltklasse geho‹ren.

Als zweite Ma§nahme mu‹ssen wiruns einen Ausgabenspielraum erka‹mp-fen. Hier haben wir mit den erstenSchritten zu einer Pensionsreform,der Anhebung des Fru‹hpensionsaltersund mit der Verwaltungsreform schoneiniges getan. Doch die Ausgaben-spielra‹ume mu‹ssen mit Hilfe von wei-teren Ma§nahmen nachdru‹cklich undnachhaltig geschaffen werden. Denneines muss klar sein: Das Ziel, dieAbgabenquote in Etappen bis zum Jahr2010 auf unter 40% zu senken, ist nurmit Hilfe einer Wachstumsstrategie

und eines Ausgabenspielraumes ver-wirklichbar.Wichtig ist aber auch, dassdie Steuersenkung sowohl der Wirt-schaft als auch den Arbeitnehmern zu-gute kommen soll.

Zum Abschluss mo‹chte ich denFinanzinstitutionen ein gro§es Danke-scho‹n fu‹r ihre Arbeit, fu‹r die professio-nelle Vorbereitung der Einfu‹hrung desEuro, fu‹r die Betreuung des Wirt-schaftsstandortes und fu‹r ihre wichti-gen und entscheidenden Expansionennach Mittel-, Ost- und Su‹dosteuropaaussprechen. Gerade im Hinblick aufdie Verurteilung einiger Banken durchdie Europa‹ische Kommission sollteman deutlich sagen, dass die Zeitenvon Absprachen schon lange vorbeisind. Heute ist eine neue Generationvon Bankern ta‹tig, die sich aus-schlie§lich auf dem Markt bewegt,marktorientiert handelt und keineAbsprachen hinter den Kulissen oderhinter dicken Polstertu‹ren braucht.In O‹ sterreich haben wir professionelleund produktive Finanzinstitutionen,die fu‹r den Standort O‹ sterreich beson-ders bedeutsam sind. Deshalb darfdie Substanz der Finanzinstitutionennie in Frage gestellt werden. §


15�

Klaus Liebscher

Conference Opening

(continued)

Tome, amongmany other things, theseremarks of the Chancellor convey adeep-rooted conviction that there isnowayaroundactively furtherpursuingthe process of European integration,while taking seriously the need forhigh-quality policy at the nationaland regional level. And this idea maybe seen as the overriding theme ofour conference.

In our program, we address threemajor issues, which — in my view — areessential to the European Union�sfurther development, in both politicaland economic terms:— The first group of issues is institu-

tional. With enlargement ap-proaching, the European Unionhas to further develop its institu-tional foundations and the efficacyof its decision-making. We will ad-dress this topic at fundamentallevel, for the EU as a whole, laterthis morning. Specific institutionaland practical issues arising withinthe realm of the European Systemof Central Banks (ESCB), and inparticular the experience gainedso far in the Eurosystem, will beaddressed tomorrow morning.

— The second area of topics dealswiththe economic structures in the face

Klaus Liebscher

Governor,


of ever-closer integration amongEU Member States. In a firsttranche, right after lunch today,we will ask howmuch further hith-ertonationalpolicies,notably socialpolicy, should be harmonized, orwhether competition among sys-tems might continue to be usefulalso in the future. In a secondtranche, tomorrow afternoon,we will discuss how much macro-economic divergence among euroarea countries is sustainable.

— The third group of issues relates tofinancialmarkets. Forone thing,wewill investigate the scope of re-gional financial institutions andstock exchanges in the single mar-ket and with a single currency. Foranother, we will take up the muchdebated issue of centralized versusdecentralized models of super-vision. We have bundled these is-sues together to be treated later thisafternoon and tomorrow beforelunchtime.In my introductory remarks I will

certainly not attempt to elaborate oneach of these issues in detail. But letme pick out a few ideas which in myview deserve our particular attention.

Ourconference takesplace at a timeat which Europe is at a crucial cross-roads in several respects. A key issueis how fast further economic integra-tion should proceed in order to bestexploit Europe�s potential. Clearly, thisis a very far-reaching subject. The an-swer depends on the aim of integra-

tion. From the point of view of eco-nomics, the further integration goes,the better.

If we focus more narrowly on theneeds arising from the single monetarypolicy, the issueofwhether theeuroareaforms an �optimal currency area,� asdefined by Nobel Prize winner RobertMundell, has been an ongoing debateever since thevery idea of a single Euro-pean currency was born. It is interest-ing to note, however, that after threeand a half years of practical experiencewith Economic and Monetary Union(EMU), this no longer seems to bemuch of an issue for the countrieswithin the euro area. Still, as an im-mediate and ongoing prerequisite forsuccess, the euro area�s monetary pol-icy needs to be accompanied by respon-sible fiscal and incomes policies that areable to absorb so-called asymmetricshocks beyond thepurviewof the singlemonetary policy.

In the medium and long run, struc-tural reforms including the further in-tegration of product and labor marketsneed to ensure that European econo-mies themselves become more similar,and that they are able to absorb remain-ing asymmetric shocks more smoothly.While a certain degree of homogeneityamong countries forming part of amonetary union is necessary, it is aboveall the willingness of policymakers,economic agents and the public at largeto accept the consequences ofEMUandto address the reform requirements itimposes that determine the success ofthe single currency.

EMU is certainly a harbinger of apolitical union within Europe — as his-tory shows, national territories andcurrency areas are, as a rule, identical.For this reason it is fundamentally im-portant that national interests be over-come in favor of a single European pol-icy and that the cooperation between

Klaus Liebscher

18 �

Member States on a common foreignand security policy and internal secur-ity policy be reinforced.

I therefore welcome the EU�s spe-cial constitutional convention. The as-sembled politicians and officials havethe task of proposing a concept ofthe EUwhich will match our continen-tal dimension and the requirements ofthe21st century. I acknowledge that thisconvention is a bold experiment in con-sultative democracy.

However, we need to define whatkind of institutionalarrangements willbe the prerequisiteto meeting our aspi-rations, what kindof society and whatkind of economywe want to build.I do not think thatthe real question is of federalism versusnational sovereignty. The EU is federalalready. It divides power between dif-ferent levels of authority. Rather, thequestions now are what the most effec-tive and legitimate way to divide thatpower is, so that national sovereigntyis preserved within an integrated sys-tem. If those questions can be resolved,Europe will earn the voice it seeks onthe world stage.

The need for other European pol-icies, and especially economic policies,to accept the consequences of a singlecurrency and to step in line with its re-quirements naturally leads to the issueof political governance in the EuropeanUnion. There, a number of open, un-resolved issues are obvious. I will namejust the Stability and Growth Pact,which also includes the question ofthe �quality of public finances,� andtheneed for further structural reforms.— I regard the Stability and Growth Pact

as crucial for the smooth function-ing of EMU. European govern-

ments need to put more emphasisin their fiscal consolidation meas-ures on the welfare and growth im-pact of our tax and social benefitsystems.Therefore, I fully support theAustrian government�s aimof slash-ing the tax burden to 40% of GDPby the year 2010 —while sticking toa balanced budget. Probably, this iseasier and more successful if donejointly, following agreed standardsand benchmarks. In this context,

I would like to repeat what I al-ready mentioned on previous occa-sions. I regard a �zero-deficit� asvery attractive, of course, but itis primarily the expression of a po-litical intention and not an eco-nomic requirement — since theStability and Growth Pact as suchrequires a budget �close to balance�or surpluses over the cycle.

— With regard to structural reforms,potential growth in most EU coun-tries has considerably laggedbehindthat in the United States in the1990s. What is even more worri-some, there is a consensus amongthe economics profession and — itseems—policymakers alike that thisgrowth gap will persist over theyears to come. Therefore we needmore incentives for entrepreneu-rial initiative and for flexibility inour legal, tax and social welfaresystems.These particular areas of economic

policy also demonstrate that the EU�s

Klaus Liebscher

19�

institutional setup for economic andpolitical governance will by necessityhave to develop further as Europeanintegration deepens. But it remainsan open issue how far the coordina-tion or even centralization of policiesshould go.

A related issue is towhat extent re-gional divergence among EU membercountries — and, in particular, amongeuro area countries — might be a causeof concern. Studies suggest an asym-metric, convergence-stimulating im-

pact of EUmem-bership on long-term growth.Thus, we believethat EU integra-tion in its presentform supportscatching up anda narrowing of

initially different income levels. Butit does not — and should not — preventthe specialization of certain regions andthe working of agglomeration effects.

Competition among regions — alsowithin the EU and the euro area — is inprinciple useful, as long as it does notprompt governments to enter into�competitive subsidization� and similarpolicies. The EU�s competition policy,however, should prevent such a course.In the end, regional competition alsosupports our joint efforts towardsEU competitiveness at the global level.

The EU�s enlargement puts the is-sue of regional convergence into thelimelight again. This wave of enlarge-ment is unprecedented in at least threerespects. First, it is the biggest wave ofenlargement in terms of the number ofentrant countries and the populationsize of the candidate countries —maybealso in terms of future, potential GDP.Second, the gap of economic develop-ment between the current EUMemberStates and the accession countries — at

least most of them — is higher thanwithprevious enlargement waves. Third,the level of EU integration to whichthe accession countries need to adjustis unprecedented, both in terms ofmarket integration and in terms ofjoint economicpolicydecision-making.

This integration project is just asimpressive and far-sighted as EMU,and it holds both enormous opportu-nities and challenges — challenges thatmust not be underestimated, as I men-tioned before.

Let me finally touch upon a furtherfocus of our conference, namely the is-sue of financial integration and thefuture of regional financial centers.

The link between financial systemsand economic growth has become avery topical issue over the past fewyears. Various studies have suggestedthat more developed financial systemssupport economic growth. Furtherdeveloping efficient financial marketsthus ranks high on the European policyagenda.

The questions that we want to ad-dress at our conference are more spe-cific, namelywhether the eurowill leadto more concentration among Euro-pean financial centers, institutionsand stock exchanges, to what extentregional financial development mattersfor growth at the regional level, andhow financial market supervisionshould best be structured in the faceof these developments.

Given the increased importance ofefficient and stable financial markets inthe operation of monetary policy andthe overall European nature of thesingle monetary policy, the close in-volvement of central banks in financialmarket supervision is a must. Hence, Ithink Austria�s new Financial MarketAuthority Act, which establishes an in-dependent, separate, single super-visory agency and closely involves

Klaus Liebscher

20 �

the central bank, is a right step in thatdirection.

The purpose of my short introduc-tory remarks was to sketch avenuesalong which our discussions mightevolve over the next two days. If wesucceed in inspiring discussion, thenwe have achieved our aim of contribu-ting a little to European and inter-national integration by bringing to-gether people and views.

In this context, I regard it as a greatprivilege and as a sign of the excellentcooperationwithin theEurosystemthat

I may welcome at our 30th EconomicsConference the President of the ECB,Willem F. Duisenberg, who will give akeynote speech today, and two of myfellow members of the GoverningCouncil of the ECB, Jean-ClaudeTrichet and Arnout Wellink, who willspeak tomorrow.

It is now my great pleasure towelcome Heinrich Neisser, who willshare with us some possible scenariosfor future institutional arrangementsin the European Union. §

Klaus Liebscher

21�

Heinrich Neisser

Institutional Arrangements

of the European Union —

Scenarios for the Future

It seems tome that the EuropeanUniondiscoversor—onemaysay—rediscoversfrom time to time its own future. TheUnion�s future is becoming more andmore an issue of particular interest dis-cussed inmany institutions andpoliticalgroups, in parliaments aswell as in gov-ernments, universities and particularlyin nongovernmental organizations.

In connection with the Treaty ofNice, the third amendment of theMaastricht Treaty, the EuropeanUnionadopted a �Declaration of the Futureof Europe� covering a program for abroad debate between political repre-sentatives, representatives of the uni-versities, of business and of the so-called civil society. The topics of thisdebate are:— the division of competences be-

tween the Union and the MemberStates in accordance with the prin-ciple of subsidiarity,

— the status of the EU Charter ofHuman Rights proclaimed in De-cember 2000 in Nice,

— the simplification of the Treaties,and

— the role of national parliaments inthe architecture of Europe.

Heinrich Neisser

Professor, Jean Monnet Chair,

Leopold-Franzens University of Innsbruck

A further step in the future debatewas made at the European Council inLaeken in December 2001. The Pres-idency�s conclusions contain another�Declaration on the Future of the Euro-pean Union.�1) This Declaration char-acterizes the current Union�s situationwith the words �Europe at a Cross-roads.� In this document three dimen-sions are stressed:— first, the democratic challenge of

the political community: WithintheUnion theEuropean institutionsmust be brought closer to its citi-zens;

— second, Europe�s role in a global-ized world: Europe is a continentof human values. The EuropeanUnion is fully committed to de-mocracy and human rights. Europemust be apower seeking to set glob-alization within a moral frame-work, to anchor it in solidarityand sustainable development;

— third, the expectations of the citi-zenshave tobeconsidered:Citizensare calling for a clear, open, effec-tive, democratically controlledCommunity approach, developinga Europe which points the wayahead for the world.Continuing and intensifying the de-

bate about the future of the Union, theEuropeanCouncil decided to convene aConvention. This Convention is ex-pected to consider �the key issuesarising for the Union�s future develop-ment and try to identify the variouspossible responses.� It will draw up afinal document which may either com-prise different options (including thedegree of supportwhich they received)or recommendations (if consensus isachieved). Together with the outcome

of national debates on the future of theUnion, the final document will providea starting point for discussions in theIntergovernmental Conference, whichwill take the ultimate decisions (in2004).

Although the institutional reform isnot explicitly mentioned in the decla-rations described above, there is nodoubt that the reform of the institu-tional framework is a �key issue.�The future of the European integrationprocess is determined by the tensionsbetween supranationality and inter-governmentalism. Since the Treaty ofNice, intergovernmentalism seems tobe in advance.

1 The InstitutionalFramework of theEuropean Union

The European Union has a special in-stitutional framework which cannot becompared with states or other interna-tional organizations.TheGermanCon-stitutional Court stated in its remark-able decision of October 12, 1993,2)that the European Union is neither afederal state nor a confederation. Itis rather anassociationof states �sui gen-eris.� This statement can be verified bylooking atEUinstitutions.TheTreatyonEuropeanUnion (TEU), also known as theTreaty of Maastricht, set up a particularstructure of the Union, namely a com-bination of supranational and inter-governmental elements. Pillar 1, Eco-nomic and Monetary Union, is organ-ized at a supranational level, pillar 2and 33) are based on intergovernmentalcooperation. All three pillars have thesame institutional framework, but theposition of the single institutions is dif-ferent: in pillar 2 and 3 the Council is

1 http://europe.eu.int/futurum/documents/offtext/doc151201_en.htm.2 BVerfGE 89, 155.3 Pillar 3 covers Police and Judicial Cooperation in Criminal Matters.

Heinrich Neisser

24 �

prevailing and the Commission, andparticularly the European Parliament,have a weak position.

Thecenterof institutionswithin thefirst pillar is an institutional triangleconsisting of the Commission, theCouncil and the European Parliament.Between these institutions there is abalance of power: the Commissionhas the right to take initiatives, it isdescribed as the engine of the inte-gration process. The Commission isalso the guardian of the Treaties andmay bring casesbefore theEuropeanCourt of Justice.The Council hasthe main responsi-bility in taking deci-sions.TheEuropeanParliament has be-come more andmore of a factor in the decision-makingprocess, participating in various proce-dures of the legislative process; thestrongest is the codecision procedure,where it can block any final decisionby veto.

The dualism of supranational andintergovernmental elements conse-quently leads to two types of institu-tions: the Commission and the Euro-pean Parliament represent supra-national interests; the Council, theCommittee of Permanent Representa-tives (COREPER) and the EuropeanCouncil are intergovernmental bodies.The balance between these two institu-tional types is the key issue of institu-tional agreements. Especially the rela-tions between the Commission and theCouncil can be seen as a parameter ofpower between the supranational andthe intergovernmental sides withinthe political system of the EuropeanUnion.

2 Institutional Arrange-ments and InstitutionalReform

Institutional reform is increasinglybeing discussed. Not only because ofthe enlargement process and the grow-ingnumberofMemberStatesbutalsotomake the institutions more effective.Effectiveness alone, however, is notthe problem. Within the EuropeanUnion there is an ever more intensedebate about the importance of itsinstitutions and their functions. The

following questions are discussedmost frequently:— What is the future of the Commis-

sion? Should its position vis-a‘-visthe Council (European Council)be strengthened? Should the Com-mission become the Council�s sec-retariat or a EuropeanGovernmentin the real sense of the word?

— How should the President of theCommission be appointed: bythe EuropeanCouncil, by theEuro-pean Parliament, or should he bedirectly elected by the Europeancitizens?

— The European Council, consistingof the heads of state or government,lacks effectiveness. It is not able togive �the necessary impetus� to theUnion. What is the relation be-tween the European Council andtheCouncil (particularly theCoun-cil of General Affairs)?

— The Council has a horizontal andmultidisciplinary function, whichis not satisfactorily fulfilled.

Heinrich Neisser

25�

— The European Parliament has tomaintain the focus of democraticlegitimacy. Its legislative power isof a participatory nature, there-fore its position is weaker thanthat of national parliaments. Im-proving the legislative function ofthe European Parliament meansthat every time the Council de-cides with qualified majority thecodecision procedures should beapplied.

— Should the way in which we electthe members of the European Par-liament be reviewed?

— Should the role of the Council bestrengthened?

— With a view to greater transpar-ency, should the meetings of theCouncil, at least in its legislativecapacity, be public?Another question relating to

democratic legitimacy involves therole of the national parliaments. Shouldthey be represented in a new institu-tion, alongside the Council and theEuropean Parliament? Should theyhave a role in areas of European actionin which the European Parliamenthas no competence?

A third set of questions concernsthe improvement of the efficiency ofdecision-making and of the work-ings of the institutions in a Union ofsome thirty Member States. In con-crete terms, the issues in question are:— How could the Union set its objec-

tives and priorities more effec-tively and ensure better implemen-tation?

— Is there a need for more qualified-majority decisions?

— How can the codecision proce-dure between the Council andthe European Parliament be simpli-fied and speeded up?

— What is the advantage of the six-month rotation of the Presidencyof the Union?

— How should the coherence of Euro-pean foreign policy be enhanced?Many questions, different answers.

If you have to decide on institutionalarrangements, it is necessary to havea clear picture of the main institutionalstructure. A German economist re-cently published a book inwhich he ela-boratedtwoalternatives.1)Oneof themis the way to a European �superstate.�That means a very strong Europeanlevel: the Commission as a Govern-ment of the Union, the European Par-liament as a legislator, combined withthe Council of Ministers as a secondchamber. This way would lead theEuropean Union toward becoming aEuropean central state like France orthe United Kingdom.

The alternativewill fight against theprogressive process of centralization.Therefore a systemmust be establishedwhich is based on the principles of theseparation of power, democracy andsubsidiarity. The proposals for a neworganization made by Roland Vaubelare somewhat astonishing:— the Commission should be reduced

to purely executive matters, with-out having the right of initiative;

— the Council ofMinisters should nothave legislative authority, theCouncil members should be theheads of the Directorates General;

— the parliamentary institutions con-sist of the European Parliament anda second chamber with delegatesfrom the national parliaments.What Vaubel is suggesting seems to

be merely a theoretical concept but itmirrors the controversial positionsabove described between supranation-alism and intergovernmentalism.

1 Vaubel, R. (2001). Europa-Chauvinismus. Der Hochmut der Institutionen. Munich.

Heinrich Neisser

26 �

Obviously an institutional reformwill result in a power struggle betweenthe institutions and between differentinterests: in terms of the European in-tegration process, thiswill be a strugglebetween the Community�s interestsand the interests of theMember States.Thus the key question of the institu-tional reform is the following: Towhatextent will the Member States relin-quish power and influence? Towhat ex-tent are thenational governments readyand willing to give up further parts oftheir sovereignity?

3 ReformingPolitical Leadership

The institutional reform debate con-cerns many institutions with differentgoals. The necessity of the parliamen-tarization and democratization of theEuropean Union affects particularlythe European Parliament and the roleof national Parliaments. Improving thepolitical leadership focuses on the insti-tutions representing the governmentalside: Council, European Council andEU Presidency.

In the following section, I will dealwith reform suggestions that are beingdiscussed more and more within theEuropean Union.

3.1 The General Affairs CouncilThe Council of the European Union,composed of the Ministers of MemberStates and usually called the Council ofMinisters or simply the Council, is theUnion�s main decision-making body. Inreality there are several distinctly spe-cialized Councils (Council for Agricul-ture, for Transport, for Environmentetc.). The General Affairs Council,which brings together the Ministersfor Foreign Affairs, plays an importantrole. It not only deals with foreign af-

fairs or external relations, but it also isin charge of dealing with institutionalquestions and other general perspec-tives. The General Affairs Councilhas a horizontal and multidisciplinaryfunction (institutional questions, the fi-nancial framework of the EuropeanUnion, enlargement, the preparationof the European Council, etc.). Thatfunction is not being satisfactorilyfulfilled.

The �Solana paper,�1) elaborated bythe present Secretary General of the

Council, seeks to remedy this situationbymaking suggestionswhichwouldnotrequire an amendment of the Treaty:— creation of a new formation of the

Council, composed of DeputyPrime Ministers; this proposalhas met with strong objections;

— creation of a special new formationof the Council, composed of Min-isters/State Secretaries for Euro-pean Affairs;

— splitting thepresentGeneralAffairsCouncil into two formations: oneto deal with external relations,the other responsible for horizontalquestions. These two formationswould have separate and differenttimetables, rules of procedureand methods of preparation.

3.2 The European CouncilThe European Council is the core ofthe EU executive bodies. Its positionis described outside of the regular

1 Preparing the Council for Enlargement. Report by Javier Solana, 11 March 2002 (OR. fr) S0044/02.

Heinrich Neisser

27�

framework of the EU institutions.Article 4 TEU lays down the tasksand composition of this leading insti-tution:

�The European Council shall pro-vide the Union with the necessaryimpetus for its development and shalldefine the general political guidelinesthereof. The European Council shallbring together the Heads of Stateor Government of the Member Statesand the President of the Com-mission. They shall be assisted by

the Ministersfor Foreign Af-fairs of theMem-ber States andby a Member ofthe Commis-sion. The Euro-pean Councilshall meet at

least twice a year, under the chairman-shipof theHeadofStateorGovernmentof the Member State which holds thePresidency of the Council.�

In practice the European Councilhas got a comprehensive responsibilityon a strategic as well on an operationallevel. It has initiated major develop-ments on its own account. It was actingas a trouble-shooter inmanyways. Andnothing of any importance has hap-pened in which the European Councilwas not involved. It was the steeringplatform dominated by predominantleaders like Franc�ois Mitterrand andHelmut Kohl.

The European Council was consid-ered as a forum for free and informalexchanges of viewsbetween the leadersof Member States. The heads of stateor government do not adopt legal actsthat are formally binding for theMember States, except for the Com-mon Foreign and Security Policy,

where the European Council can de-cide upon joint actions or commonpositions binding the Member Statespolitically (Article 13 para 1,2 TEU).

The European Council is theUnion�s supreme political authority.

This record is now in danger. Dur-ing the last years the European Coun-cil�s meetings showed that this institu-tion is caught in a field of increasingtension and different opinions. Fur-thermore, over the past few years, ittended to disperse its energies on anever more extensive agenda dealingwith many things without relevancefor the integration process.

Therefore, there is a close link —in reform matters — to other bodies:the General Affairs Council, theCOREPER and the General Secre-tariat.

The Council�s General Secretariatelaborated a special report �Preparingthe Council for Enlargement.�1) Thispaper includes �possibilities for discus-sion,�whichdonot require a revisionofthe Treaty. It mentions three possibil-ities:

�Refocussing the European Councilon its original purpose:— concentrating on its role of coor-

dinator and driving force, avoidingas far as possiblemaking it an appealbody for theCouncil; the EuropeanCouncil must devote its meetingsand its debates to framing Unionpolicy and major strategic deci-sions; i.e. thekeypolitical decisionsthat will be crucial to the future ofthe Union;

— abolishing all reports, conclusionsor parasitic procedures that clogup meetings.

1 Report by Javier Solana, 11 March 2002 (OR. fr) S0044/02.

Heinrich Neisser

28 �

Better organisationof European Council meetings:— regularEuropeanCouncilmeetings

(4 per year) conceived as workingmeetings forming part of the nor-mal pattern of the Union�s activ-ities;

— application of certain proceduralprovisions relating to Councilmeetings (e.g. agendas);

— replacement of the present �Con-clusions� by a brief summary ofdecisions adopted and the agreedstrategic guidelines;

— radical reduction of the size of del-egations and, as a general rule, nomore ancillary activities (meetingswith third parties etc.).

More structured preparation:Preparations for the European Councilmust not be seen as a prenegotiation ofthe outcome. The European Councilmust instead be provided with all therelevant background informationneeded to discuss the dossiers submit-ted to it and to take decisions in fullknowledge of the facts. This will beachieved first of all by greater efficiencyin theCouncil�s various formations, thenumber of which should be reduced.That presupposes, secondly, a method-ical approach to preparation which islacking at present and which couldbe the task of a new formation ofthe General Affairs Council.�

3.3 The PresidencyThe role of the Presidency is laid downin Article 203 para 2 TEC: �The officeofPresident shall beheld in turnbyeachMember State in the Council for atermof sixmonths in the order decidedby the Council acting unanimously.�Presidency means chairmanship inthe Council, the European Council

and in all the Committees that areinvolved in the preparatoryworks, firstof all the COREPER.

The Presidency as an institution isimportant for the political leadershipwithin the European Union. But thereare serious problems. They stem fromthe increasing mismatch betweenthe scale of the Presidency�s taskand the brevity of each Presidency�stenure. On the one hand, MemberStates are investing time andresources to achieve a good Presi-dency, on theother hand,every six monthsthe Union has todeal with newp r e s i d e n c i e swhich are differ-ent in manyways: they havedifferent programs and a differentmainfocus. Thus Ludlow concludes, �ThePresidency as currently organised istherefore inherently costly and ineffi-cient.� But simultaneously he under-lines: �If it did not exist, the Unionwould nevertheless have to invent it.A system that is founded on the statescan only function if the states acquire asense of ownership of, and responsibil-ity towards, the system as a whole �The Presidency is in other words oneof the most powerful signs and tokensthat the EU is a method of governmentof the member states, by the memberstates for the member states.�1)

To hold the current Presidency hasbecome a matter of national prestige.Each Presidency established its ownpriorities. The Presidency was con-ceivedas anelementofbalance andcon-tinuity, but now it became a source ofpermanent imbalance and controversywithin the Union.

1 Ludlow,P. (2001).ACommentaryon theEU. In:AView fromBrussels.Centre forEuropeanPolicy StudiesNo.12, June:17.

Heinrich Neisser

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Therefore it is understandable thatthe above-mentioned Solana paperdealswith ideas andproposals to reformthe current system of the Presidency.This paper offers different proposals;one part is concerned with suggestionsthat can be realizedwithout any amend-ment of the Treaties:— improved cooperation between

successive Presidencies by longerforward-scheduling of meetings,laying down specific functions forthe subsequent Presidency or Pres-idencies;

— appointing the chairman of certainworkingpartiesor committees for aperiod longer than 6 months;

— specific committees or workingparties could be chaired by the Sec-retariat General of the Council.The proposals requiring an amend-

ment of the Treaties are ofmore signifi-cance:— Discussions revolve around the idea

that the President of the EuropeanCouncil is elected by EuropeanCouncil members for a term ofmore than 6 months, possibly 2or 2.5 years.

— An alternative could be an appoint-mentof thePresidentof theCouncilformations for a term of over 6months. This appointment mightbe through elections or — this isthe better idea — on the basis ofa rotation between five or sixgroups of states which would holdthe Presidency concurrently; thosegroups should be composed in sucha way as to ensure representativityand maintained strict equality be-tweenstates. I absolutelyagreewithPeter Ludlow, who wrote in hisCommentaryon the EU, �Themostelegant solution would undoubt-edly be the adoption of the idea

of team presidencies, which NielsErsb¿ll and I advocated beforethe 1996 IGC. Under this scheme,themember stateswouldbedividedinto a number of groups, each con-sisting of governments from northand south, east and west, rich andpoor. Every teamwould be in officefor twooreven threeyears, therebyreducing the problems inherent insix-month rotation. Responsibil-itieswould be allocated in the teamsbymutual agreement, thougheveryhead of government or state con-cerned might be given a chancetochair theEuropeanCouncil, dur-ing which period his or her countrywould play host to non-Brussels/Luxembourg events, as Presiden-cies currently do. Most if not allother Councils, committees andworking groups would howeverhave the same president for the du-ration.�

3.4 National Parliaments —a New Competitor

The role that the national parliamentsshould play in the system of the Euro-pean Union is a matter that concernsthe Union or rather the MemberStates themselves. National parlia-ments have their own distinct constitu-tional history and political structure.But they play roles with differentfunctions. Three of them have to bementioned:— First, each amendment of the

Treaties must be accepted by theMember States �in accordance withthe national constitution.� There-fore the national parliamentsusually have to ratify the agree-ments elaborated and agreed bythe Intergovernmental Confer-ence.1)

1 See Article 48 TEU.

Heinrich Neisser

30 �

— Second, national parliaments are afundamental element for theUnion�s democratic legitimacy.Themediate democratic legitimacyof the Council, which comprisesthe government representativesof the Member States, is derivedfrom the national parliaments. Ifthe European Union wants to copewith the �lack of democracy,� theparliaments of the Member Statesmust be included in such a processof gaining more democratic legiti-mation.

— Third, the national parliamentsimmediately influence, to a certainextent, the decision-making proc-ess in the Council of Ministersand in the European Council.TheMember States established spe-cial committees in the national par-liaments, European Affairs Com-mittees, etc., having the possibilityto make binding statements fortheir government representativein Brussels.1) That means the gov-ernment representatives have torespect the Parliament�s will intheir voting behavior.For years the national parliaments

have tried to gain more influence in thedecision-making process of the Com-munity. There was an initiative byGaetano Martino to establish perma-nent and direct talks between the pres-idents of the national parliaments andthe president of the European Parlia-menton topics of common interest par-ticularly concerning— the coordination of the European

Parliament�s activities and thoseof national parliaments;

— research activities aiming to givemore resonance to the initiatives

of the European Parliament withinthe national parliaments;

— to ensure a better harmonizationamong the legislative bodies.This Presidents� Conference be-

came a platform of political discussionsin general, not on special topics.

At the end of the 1980s, a new stepwas taken toward a closer cooperationbetween the national parliaments. The�Confe«rence des organes spe«cialise«sdans les affaires communautaires�(COSAC)was established inNovember

1989. Since then, the national parlia-ments have aimed at a more intenseparticipation in EU activities. TheTreaty of Amsterdam includes a proto-col on the role of the national parlia-ments within the European Union.2)They now have the ability to expresstheir opinions about issues of particularinterests. The protocol contains a list ofdocuments of reference and legislativeproposals which shall be timely trans-mitted to the national parliaments.Moreover,COSACis entitled to submitits contributions to the institutions ofthe EU and may make initiatives andproposals in connection with the cre-ation of an area of liberty, securityand justice as well as the applicationof the principle of subsidiarity andfundamental rights issues.

1 See Weber-Panariello, P. (1995). Nationale Parlamente in der Europa‹ischen Union. Baden-Baden.2 Protocol No. 9 on the role of national parliaments in the European Union.

Heinrich Neisser

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3.5 Role and Significanceof the Regions

Article 158 TEC stipulates: �In orderto promote its overall harmonious de-velopment, the Community shoulddevelop and pursue its actions leadingto the strengthening of its economicand social cohesion. In particular, theCommunity shall aim at reducing dis-parities between the levels of develop-ment of the various regions and thebackwardness of the least favoured re-gions or islands, including rural areas.�

This article describes the funda-mental guideline of �Economic andSocial Cohesion.� It is the basis ofthe �Regional Development Policy.�European regional policy coordinatesnational regional policies by formulat-ing guidelines and establishing certainprinciples in order to avoid competi-tion for regional aid between MemberStates. It also coordinates the variouspolicies and financial instruments ofthe EU to give them a �regional dimen-sion� and thus more impact on regionsmost inneedof care.European regionalpolicy is an essential instrument of eco-nomic and social cohesion, necessaryfor the progress of Economic andMon-etaryUnion, implying the convergenceof the Member States� economies.

The achievement of Economic andMonetary Union promises enhancedprospects for the developed and the lessfavored regions alike. The reduction oftransfrontier transaction costs and the

elimination of exchange rate risks maypromote regional specialization and in-tra-Community trade in goods andservices. The weaker regions can ben-efit from this specialization by exploit-ingmore fully their comparative advan-tages.1)

Since the Treaty of Maastrichtregions have not only been relevantfor the regional policy, but have startedto play amore andmore important rolein the political system of the EuropeanUnion. There are two levels wherethe regions try to improve their influ-ence. On the one hand, the integrationprocess had impacts on domestic re-gional issues (like in Spain, Italy,Austria, Germany, and United King-dom), while on the other hand, theregions of the Member States makemany efforts to strengthen the repre-sentation of their interests in Brussels.The Committee of the Regions is onlyan advisory board and therefore notreally effective. More important aremany offices, missions and representa-tions established by the regions inBrussels.

The future debate must deal withthe role of regions, cities and munici-palities. The main question will be:How should the Treaties be reformedto guarantee that the local and regionalauthorities be better represented in EUinstitutions?

One of the most relevant perspec-tiveswithin theEuropeanUnionwill bethe transnational cooperation betweenregions (for instance the �EuropeanRe-gion Tyrol�). To promote this opportu-nity, the regions must be providedwithmore autonomy in shaping their owntransregional relations.

I startedmypresentationbyquotingthe future declaration of Laeken:�Europe at a Crossroads.� Being at a

1 Moussis, N. (2000). Guide to EU policies. 6th ed., Rixensart: 150.

Heinrich Neisser

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crossroads means to make a decisionamong alternatives and options. As Ipointed out, the main decision iswhether the European Union shouldgo into the direction of either supra-nationality or intergovernmentalism.

In the Treaty of Nice, the EuropeanUnion adopted provisions preparingEuropean institutions to function inthe context of a Union composed of27 Member States. The Treaty of Nicehas not yet been ratified — the Irishreferendum prevents ratification.Moreover, this Treaty is just a relativelysimple adjustment that merely consid-ers the enlargement process. It is not orcannot be the final point of institutionalreform.

The process of European construc-tion has never halted. The Union is inperpetual movement. The MemberStates have united their currenciesand closely coordinated their economicpolicies.Theyarewilling toplaceundercommon command certain units oftheir armies. They have to create fed-eral institutions that are able to com-pensate for the losses of national sov-ereignty these changes entail.

In the declaration of Laeken manygoals arementioned that are also signif-icant for institutional arrangements:— a better division and definition of

competences;— a simplification of the Union�s in-

struments;— more democracy, transparency and

efficiency;

— elaborating the text of a EuropeanConstitution.What is the priority among these

topics? The urgent matter is the im-provement of the Union�s democraticstructures. All those measures ableto reduce the democratic deficit withinthe European Union have priority.

The main goals are transparencyand openness in the decision-makingprocess. Therefore, the followingmeasures are inevitable:— meetings at which the Council acts

as a co-legislator should be open tothe public;

— EU citizens�right of access to docu-ments of the European Parliament,Council and Commission must besafeguarded;

— strengthening the regional repre-sentationwithin the EU. For imple-menting a strategy �closer to thecitizens,� regions are necessary asanelementof transmissionbetweentheUnionand its citizens.Europeanidentity must be based on nationaland regional identities.We cannot create a European iden-

tity without respecting national identi-ties.Article6para3TEUmakes it clear,�The Union shall respect the nationalidentities of its Member States.�

In a multilevel governance system,the identity of the Community is also amultilevel one. Institutional arrange-ments have tomakevisible thenecessityand the complexity of Europeanidentity. §

Heinrich Neisser

33�


The Euro as a Catalyst

for Integration and Competition

in EMU

Here in Vienna, exactly one hundredyears ago, Joseph Schumpeter em-barked upon his university studies atthe School of Law and Political Science.Hewas a promising young studentwithambitions in academics, politics andbusiness. Already, at the age of 22,he had published his first works andwouldsoonbecomeoneof theyoungestholders of a doctorate, the youngestprivate teacher and the youngest pro-fessor in Austria.

Joseph Schumpeter has becomeknown as one of the foremost represen-tatives of the famous Austrian Schoolof Economics. He has influencedeconomic thought, in particular, byintroducing innovation as a source ofeconomic dynamics. According toSchumpeter, economic developmentwas a dynamic process, a disturbanceof the economic status quo. The realchallenge for capitalism, therefore,was to create and destroy economicstructures in a process he called �crea-tive destruction�. This, he maintained,


President, European Central Bank

was the essence of economic develop-ment, a process defined by the imple-mentation by the entrepreneur of newproduction combinations.

I believe that Schumpeter would bevery interested in the topic I want todiscuss today. My speech is about theeuro as a catalyst for integration andcompetition in Economic and Mone-tary Union (EMU), or, in other words,about economic growth and adjust-ment in the euro area. Both high, sus-tainable economic growth and the abil-

ity to adjust smoothly to changes in theeconomic environment require furthereconomic integration andcompetition.This, in turn, is closely linked to theprocess of structural reform, which,to use Schumpeter�swords, can be seenas a necessary precondition for a dy-namic economic process, a disturbanceof the economic status quo. The intro-duction of the euro acts as a catalystfor this dynamic process of structuralchange.

In my speech today I will addressthe following topics. I will first talkabout the link between European inte-gration and the euro, and then arguewhy an increasingly competitive anddynamic society raises the need forfurther structural reforms. However,reforms are also important for thesmooth functioning of a monetaryunion, a point I will discuss next.Finally, I will assess the progress thathas been made with the structural re-forms in the euro area so far and discusshow the single currency has already

benefited the euro area�s economy, act-ing — as formulated in the title of myspeech—as a catalyst for integration andcompetition.

A Single Currencyfor a Single Market

A natural starting point for my topictoday is the adoption of the SingleMar-ketProgramme in1985,paving thewayfor the famous four �liberties� estab-lished in theEuropeanTreaties: the freemovement of goods, services, labourand capital.

After the adoption of the SingleMarket Programme, it became increas-ingly clear that the potential of theinternal market could not be fully ex-ploited while the relatively high trans-action costs linked to currency conver-sion and the uncertainties associatedwith exchange-rate fluctuations per-sisted. Indeed, the single currencyshould be seen as a necessary comple-ment or, in fact, the crowning achieve-ment of the Single Market.

That said, we have not reached theend of the development of the SingleMarket. Instead, I see the euro as facil-itating further economic integration.For example, countries with the samecurrency tend to trade more with eachother than they would with countrieswith different currencies. In addition, asingle currency fosters the formationofa single financial system. By increasingprice transparency, reducing trans-action costs and fostering competition,theeuroacts as apowerful catalyst to theeconomic integration process in theeuro area. Last, but not least, our com-mon currency is also a powerful symbolfor all citizens of the euro area thatintegration has reached a new level.As we approach the first summer holi-day season since the introduction ofeuro notes and coins, increasing num-bers of people in Europe will, them-


36 �

selves, experience the practical advan-tages of a single currency.

The impetus the euro gives to eco-nomic integration and growth shouldnot only be regarded as an opportunityfor Europe, but also as a necessity in aworld of innovation and globalisation.Over the last few decades, the worldeconomy has become ever more inte-grated. We have witnessed a strongexpansion of international trade andcapital flows and an increase in compe-tition. Behind these changes there areseveral underlyingfactors. Among themost important israpid technologicalprogress, leadingto dramatic reduc-tions in transporta-tion costs and anunprecedented in-crease in information processing capa-bilities. Policy measures have alsosupported the globalisation trend,withthe loosening of restrictions to tradeand the liberalisation of capital move-ments.

This panorama shows thatwe live ina dynamic and competitive world,where the ability to innovate and adjustto changing economic circumstanceshas become even more important thanbefore. In this respect, Schumpeter�sthoughts haven�t lost anything oftheir relevance. On the contrary; ina dynamic, ever-changing economicenvironment, entrepreneurs have tobe all the more innovative and sensitiveto new opportunities. The regulatoryframework formed by the laws, rulesand regulations that influence eco-nomic behaviour, should thus providethe right incentives for innovation, dy-namism and economic growth.

The EUHeads of State andGovern-ment have recognised that, in order toimprove the functioning of the Single

Market and to enhance the economicgrowth potential of the EU, its regula-tory framework has to be modernisedand reforms are needed. Somewhatmore than two years ago, the LisbonEuropean Council formulated a strate-gic goal for this decade, namely �tobecome the most competitive anddynamic knowledge-based economyin the world�. The Lisbon strategy es-tablished a comprehensive reformagenda which aims to overcome exist-ing fragmentation and inefficiencies in

many different areas. This has provideda major political impetus for furtherprogress in the field of structural re-form that I very much welcome. TheEuropean Council aims to increasethe potential GDP growth rate toaround 3%per year, an objectivewhichcan only be achieved if steady progresson a broad range of reforms is made.Whether or not this objective is methinges partlyon the capacity to improvemobilisation of available labour resour-ces. In this regard, one of the explicitobjectives set at the Lisbon summit isto raise the EU-wide employment rateto 70% of the working age populationby 2010.

In order to achieve the Lisbonobjective, it is crucial that progressis systematically controlled and eval-uated. In this context, the BroadEconomic Policy Guidelines for theMember States and the Communityplay a particularly important role. Thisis the overall framework for the co-ordination of economic policies, in


37�

particular, those related to fiscal andstructural policies. In order to fulfil thisrole, the Broad Economic PolicyGuidelines have, in recent years, beenenhanced in several ways. They havebecome more operational throughthe use of more concrete recommen-dations in both the general and coun-try-specific parts.Moreover,within theoverall process of policy co-ordination,increased emphasis is being placed onimplementation. To this end, the Euro-pean Commission has introduced a

comprehensive implementation reportthat assesses the extent to which EUMemberStates have followed thepolicyrecommendations. I fully support thesechanges.

As you know, the most recentSpringMeeting of the European Coun-cil, the second �follow-up� meeting toLisbon, took place in Barcelona earlierthis year. The conclusions of the Barce-lona Summit demonstrate that a strongpolitical will and thorough preparationof the technical details are needed if theEuropean Union is to meet the ambi-tious economic, social and environ-mental objectives that it set for itselfat the Lisbon Summit. The successfulintroduction of the single currency isthe best proof that these ingredientsare indispensable. The main pointnow is that the relevant Council forma-tions, the European Parliament and theMember States take the necessary stepsto rigorously implement the structuralreform agenda agreed in Lisbon andconfirmed in Barcelona.

WhyAreStructuralReformsImportant?Structural policies cover a wide rangeof areas and instruments. Among themost commonly discussed are micro-economic regulations implementedin product, labour and financial mar-kets. Among other things, such regu-lations encompass competition poli-cies, entry barriers, tax and benefitsystems, state aid, employment protec-tion rules, education and training, aswell as incentives given to researchand development. They are importantfor twomainreasons since theyenhancethe economic growth potential andfacilitate the adjustment to economicchange. Let me say a few more wordson these two reasons.

First, structural policies are justoneof many factors determining the rate atwhich the economy can grow, althoughthere are many other factors whichinfluence the rate of economic growth.Some factors, such as changes in de-mand conditions, have temporary ef-fects on economic growth, whereasothers, such as the rate of growth ofthe working age population and capitalstock, aswell as the increase in produc-tivity, have long-lasting effects. It is thislatter type of factor, however, thatdetermines the potential growth rateof an economy. These components,inparticular thegrowthofemploymentand productivity, can be influenced bystructural policies. Changes to tax andbenefit systems, for example, can helptomobilise the unused labour potentialin the economy by making it financiallymore attractive to accept a job. Thiscould lead to a better use of the supplysidepotential of the economy.The thirdfactor, productivity growth, can be in-fluenced in several ways: by increasingcompetition, facilitating investment,encouraging enterprise and innovationand improving the workforce�s skills.


38 �

Structural policies have particular im-portance for monetary policy. Theyallow the economy to grow at a higherrate, on a sustained basis, without cre-ating inflationary pressures.

However, structural reforms arenot only important for economicgrowth, they also increase adaptabilityto economic shocks. Adaptability con-cerns the economy�s ability to adapt andrespond to changing economic condi-tions. It is the ability to shift resourcesfrom areas in recession to boomingareas, something which is essentialto the successful functioning of a mon-etary union. Under EMU, membercountries are unable to use country-specific monetary and exchange ratepolicies to address country-specificshocks. The adjustment to such eco-nomic fluctuations will therefore haveto take place through other adjustmentmechanisms. Without price and wageflexibility and mobility of productionfactors, economic shocks would leadto lower economic growth and higherunemployment. Let me say a fewmorewords on the important role of theseadjustment mechanisms in a monetaryunion.

The Theoryof Optimal Currency Areas

Ever since the idea of EMU waslaunched, a discussion has ensued astowhether thewhole or part of Europewouldbe anoptimal currencyarea.Theoptimal currency area theory defines aset of mechanisms that might be set inmotionwhen a participating countryorregion, in amonetary union, is hit by anasymmetric shock. First, adjustment tothe shock might come from domesticprice orwage changes, thereby alteringtherealexchangeratewithoutchangingthe nominal exchange rate. Secondly,migration of production factors mightact as an adjustment channel. These

flowsof labourandcapital are facilitatedby a high degree of economic and finan-cial integration of the countries partic-ipating in the union.

In addition to this, the theory ofoptimal currency areas has also some-thing to say on the similarity of shocksaffecting countries or regions in amonetary union. In this respect, thedegree of trade and financial integra-tion are often considered. Trade andfinancial integration may tend to leadto more similar economic develop-ments in the respective countries orregions in a monetary union, reducingthe likelihood of asymmetric shocksand increasing the economies� abilitiesto adjust to these shocks.

So far the theory, let me nowmoveon to the practice. I will now focus ontwo adjustment mechanisms: price-wage flexibility and factor mobility.A host of empirical studies on thesemechanisms has been undertaken forthe euro area. How well does the euroarea measure up against these twocriteria?

Price and Wage FlexibilityThere is broad agreement that priceflexibility is low across euro area coun-tries in comparison with the UnitedStates. In the euro area, price flexibilityfor goods and services is hampered bytrade barriers, continuing state aid toseveral sectors and, more generally, alack of competition in sectors that havebeen dominated bymonopolies or stateowned enterprises.

Low wage flexibility is also an im-portant factor behind the lack of priceflexibility in theeuroarea.Manystudiesindicate that in comparison with theUnited States, real wages are relativelyinflexible in Europe. More specifically,I mean that the downward responsive-ness of real wages to the level of un-employment is more limited in Europe


39�

than in the U.S. There are, however,notable differences across countriesin the euro area.

Let me also mention the potentiallinks between the flexibility of productand labour markets. Reforms in onearea are likely to have effects acrossmarkets. For example, reforms leadingtomore flexible productmarketsmightimprove the performance of the labourmarket. If regulations on setting up abusiness are loosened, employmentcreation is also likely to increase.

Similarly, labourmarket reformsmight also havean impact onproduct mar-kets. For exam-ple, labour mar-ket reforms mayimprove the ex-

tent to which differences in skills orproductivity are reflected in wage dif-ferentials, which could affect prices.More generally, more flexible labourmarkets allow companies to adjust toeconomic changes with greater ease.

Factor MobilityLet me now turn to the second adjust-ment mechanism, the mobility of fac-tors of production. Changes in pricelevels, in product and labour markets,can also be triggered by a migration offactors of production. If a country orregion is affected by a negative outputshock and markets do not clear instan-taneously, unemployment will rise.Workers will, therefore, tend to mi-grate to other regions. The samemightbe true for capital: if a negative outputshock made capital obsolete and re-duced profitability, investors wouldtend to move their funds to other re-gions. This adjustment mechanism hastwo limitations. First, the migration oflabour and capital involves transaction

costs. Moreover, it is doubtful whetherthis mechanism is very efficient when acountry or region is hit by a temporaryshock. Therefore, factor mobilityseems a suitable adjustmentmechanismonly in case of a permanent shock and ifprices or wages are rigid.

Several studies have found that la-bour mobility within the United Statesis two to three times higher than inEurope. This result is confirmed bythe persistence of regional unemploy-ment differences in Europe.

Overall, it can be concluded fromempirical studies that the degree ofwage-price flexibility and factor mobi-lity is relatively limited in the euro area.The lack of adjustment mechanisms inthe euro area should, however, not beexaggerated. Euro area countries arehighly integrated both in terms of tradeand financially. As I have just explained,a high degree of trade and financialintegration may lead to more similareconomic developments across euroarea countries.

In addition, the optimal currencyarea properties are likely to evolve overtime. The irrevocable fixing of ex-change rates and the introduction ofthe single currency may lead to a con-vergence in the production and exportstructures of economies in the euroarea, thereby reducing the riskof futureasymmetric shocks. This argument isoften referred to as the �endogeneity�of the optimal currency area hypo-thesis. Hence, according to the endo-geneity literature, the euro area couldgradually become more of an optimalcurrency area, after the introduction ofthe euro. More generally, it has to beborne in mind that all empirical studieson whether the countries that haveentered the euro area constitute an op-timal currency area are based on histor-ical data. These data refer to regimeswith flexible or fixed-but-adjustable


40 �

exchange rates. In short, the regimeshift to a monetary union may havean impact on economic structuresand may alter some of the conclusionsdrawn on the basis of these historicaldata.

Progress Madewith Structural Reformsin the Euro Area

Some people say that central bankersare professional sceptics whose job itis to point to economic risks andweak-nesses. Having listened to me so far, Ican imagine that youmay find some de-gree of truth in this. Let me tell you,however, that the euro area has recentlyseenmany changes and innovations thatgo in the right direction. And I ampleased to be able to tell you that manyof these changes are directly, or indi-rectly, related to the euro. Let us havea closer look at three areas of change:financial markets, product markets andlabour markets.

Financial MarketsThe first area I want to discuss arefinancial markets. There is ample evi-dence that financial markets have someway to go before national demarcationlines will effectively disappear. Hence-forth, there is still a significant potentialfor further financial market integrationin the euro area. Financial marketintegration has been driven by globaldevelopments, such as advances in in-formation technology, falling commu-nication costs and standardisation ofproducts. It has also been supportedby European Commission initiatives.

Amainpolicy initiative thathas con-tributed to financial market integrationis the Financial Services Action Plan.EU Heads of State and Governmenthave agreed to implement the FinancialServices Action Plan by 2005, at thelatest, and to achieve fully integrated

risk-capital and securities markets by2003. The groundwork for the latterwas prepared by a Committee ofWiseMencalled theLamfalussyGroup.On wholesale markets, measures to fa-cilitate raising capital on an EU-widebasis, through common rules concern-ing prospectuses, is targeted foradoption in 2002. In addition, legisla-tive proposals on financial statementsfor listed companies and a commonlegal framework for a single marketfor securities and derivatives areclose to beingadopted. We, atthe EuropeanCentral Bank(ECB), fully sup-port these initia-tives. I wouldlike to stress,however, thatthe successful and timely implementa-tion of the Financial Services ActionPlan will be very difficult withoutthe continuing commitment of theMember States.

The integrationof financialmarketswould not only facilitate cross-bordercapital flows towards their most pro-ductive uses, but it could also serveas a catalyst for structural reform inothermarkets.Forexample, the impactof product market reforms, aimed ateasing the restrictions on creating abusiness, are likely to be reinforcedif a well-functioning risk capital mar-ket, which efficiently channels thenecessary funds from investors to be-ginning entrepreneurs, is in place.

The euro has made a spectacularimpact on financial markets in the euroarea. Concrete examples of its impactare the integration of the moneymarket, the explosive growth of theeuro-denominated corporate debtmarket and a wave of consolidationamong intermediaries and exchanges.


41�

These are very fundamental changes.The surge of euro-denominated corpo-rate debt, for example, has helped tofinance thewave ofmergers and acquis-itions in the European corporate sectorand shows how a larger and deeper sin-gle financial market can help tostrengthen Europe�s competitiveness.

Product MarketsLet me now turn to product markets.The pace of liberalisation has differedconsiderably across countries and sec-tors in the euro area, leaving ampleroom for further reforms. Whereasthe integration of goods markets isrelatively advanced, shortcomings stillexist with regard to the integration ofservice industries. Most of the barriersto integration in the service sector ap-pear to be due to national regulations,for example administrative proceduresfor setting up subsidiaries in other euroarea countries. Regulatory barriersalong these lines reduce competitionin services, thus keeping prices abovethe level that would be expected in afully integrated market.

More progress has been made withregard to the integration of goods mar-kets and regulatory reforms in networkindustries. Here too, positive macro-economic effects can be discerned.Owing to an increased number of com-petitors, prices in somenetwork indus-tries, such as telecommunications, havestarted to decline, in particular in thoseindustries and countries which liberal-ised earlier. The initiatives in the tele-communication sector show how re-forms that succeed in increasing com-petition in previously sheltered sectorsconsiderably enhance productivity andlower prices. As network industriesprovide inputs to the rest of the econ-omy, this may also increase the rate atwhich the economy can grow withoutcreating inflationary pressure. Never-

theless, an importantunfinishedagendaremains to be tackled in almost all net-work industries. Inorder toreapthe fulleconomic benefits, it is important thatreforms in network industries are ac-companied by an appropriate regula-tory framework which ensures non-discriminatory access to the bottleneckinfrastructure and more generally, a�level playing field� for all market par-ticipants. The quality of the regulatoryframework has a considerable impacton the extent to which potential pricefalls due to structural reforms in net-work industries will be achieved.

Another instrument available to re-duce distortions to competition is stateaid policy. State aid subsidies weakenthe incentives for companies to im-prove their efficiency, enabling the lessefficient to survive at the expense of themore efficient. Although there are stillsubstantial differences between euroarea countries, the overall trend is to-wards a reduction in state aid levels.Another positive development is thatthe transparency of state aid policieshas improved as a result of the publica-tionofanewstate aidregister anda stateaid scoreboard by the European Com-mission.

The impact of the euro on theseprocesses, which has led to more com-petition, cannot be overestimated andgoes far beyond the mere abolition ofintra-European exchange rates and theintroduction of common notes andcoins. The single currency opens upthe euro area product markets furtherand will be a major impetus to compe-tition and integration by increasing thetransparency of prices across borders.Investmentwill also benefit as euro areacompanies no longer have to insureagainst exchange rate movementswithin the euro area and there are in-deed indications that direct investmentinto theeuro areahas strongly increased


42 �

since the start of EMU. Overall, theeuro will give new impetus to the ini-tiatives taken in the 1980s to establish atruly integrated internal market.

Labour MarketsProgress with labour market reformshas become evident from the increasein employment-intensive growth in theeuro area. It is very interesting to notethat job creation has held up reasonablywell over recent years. During the firstthreeyearsofEMU,some6million jobshave been created inthe euro area versus3.5 million in theU.S.Theunemploy-ment rate in theeuro area has de-clined from almost11% in 1997 toslightly more than8% in 2001 (which is still too high).On the supply side, the employmentrate, particularly in the case of women,has increased considerably, along withthe proportion of part-time jobs andtemporary contracts in total employ-ment. Euro area average participationrates are,nevertheless, still belowthoseof theU.S.or theScandinaviancountries.

The explanations for this job-richgrowth lie in structural changes inthe labour market and wage modera-tion. Government policies have gener-ally improved labour market perform-ance in euro area countries. A numberof countries have lowered marginal taxrates in order tomake their tax systemsmore employment-friendly. Manycountries have targeted tax cuts atthe lower end of the labour marketin particular. Thesemeasures have con-tributed to a higher demand for low-skilled workers. Nevertheless, mar-ginal tax rates still remain high in somecountries. Some progress has also beenmade with the introduction of part-

time or more flexible working con-tracts and practices.

In addition to government policies,there are signs of a gradual change inlabour market behaviour related tothewage formation process. Disciplineseems to have improved in that fieldover the past decade. Such a change,resulting from lower inflation expect-ations, is important. Furthermore,there seems to be a growing awarenessthat, in a single currency environment,the price increases and loss of compet-

itiveness generated by excessive wagesettlements cannot be compensatedby an exchange rate depreciation andmay directly result in a loss of jobs.

Looking ahead, it is crucial that so-cial partners continue to adhere tomoderate wage developments, sincethis is one of the prerequisites in foster-ing employment and maintaining afavourable outlook for price stabilityin the medium term. In this respect,there is some cause for concern withregard to ongoing wage negotiations.

The wage formation process alsoseems to have undergone changes. Inamajority of euro area countries, thereare signs of a gradual trend towardsmore decentralised bargaining andmore flexibility at lowerbargaining lev-els. This seems to happen, mostly in-formally, through clauses that allowfirms to deviate from the sectoral orcentral wage agreements accordingto the financial situation of the firmor sector. This is encouraging. The out-comes of wage bargaining should allow


43�

not only for appropriate wage develop-ments in the overall economy, but alsofor adequate wage differentiationacross sectors, regions and firms. Thiswill make it easier to account for localconditions, such as unemployment,productivity or profitability differen-tials across sectors, regions and firms.

In short, labour market reformshave, in general, been going in the rightdirection in recent years and the bene-fits of these positive developments areclear. However, progress has been

rather unevenacross countriesand areas. Inmany areas im-portant reformshave not yet gotoff the ground.For instance,few changes have

beenmade regarding employment pro-tection policies in euro area countries,which remain amongst the strictest inthe industrial countries. Furthermore,in almost all euro area countries, re-forms targeting unemployment benefitsystems have only made slow progress.At the same time, significant mis-matches between labour demand andsupply are still present along a numberof dimensions. All this shows that largestructural problems remain and needto be solved.

What needs to be done to speed uplabour market reforms? This is a diffi-cultquestion,not leastbecause theeuroarea labour markets are still very het-erogeneous. Each country should iden-tify the root causes of its labour marketdeficiencies and implement appropri-ate corrective measures. However,there are some areas of reform thatapply tomany, if not all, euro area coun-tries. Improved job mediation, educa-tion and training, to mention just a fewexamples, all help towards making the

matching process more efficient. Inaddition, euro area countries need toensure that tax and benefit systemsmake work pay. Reforms to tax andbenefit systems should increase workincentives, profitability and competi-tiveness and consequently labour sup-ply and demand. At the same time, it isimportant to ensure that tax-benefitreforms are undertaken without jeop-ardising the long-term sustainability ofpublic finances.

Conclusion

Joseph Schumpeter taught us that eco-nomic development consists of thecontinuous introduction of new com-binations of products andmeans of pro-duction. He taught us that this processinvolves the incessant mutation ofthe economic structure from within,destroying the old and creating anew. In today�s dynamic, ever-changingeconomic environment, entrepreneurshave to be all the more innovative andsensitive to new opportunities. Theregulatory framework has to be de-signed in such a way that it allows thisto happen by providing the right incen-tives for innovation, dynamism andeconomic growth.

Today�s dynamic society also re-quires an increased ability of marketsto adjust smoothly to changing eco-nomic circumstances. This is all themore true of a monetary union, wheremember countries are no longer able touse country-specific monetary and ex-change rate policies to address country-specific shocks. In such an environ-ment, other adjustment mechanismsare needed such as price andwage flex-ibility and factor mobility. Structuralreforms can contribute to a better func-tioning of these adjustment mecha-nismsby fostering integrationandcom-petition. The relationship between in-tegration, competition and the single


44 �

currency works in both directions. Theeuro itself has already contributed tomore integration and competitionandwill continue to do so in the future.Its impact is most clearly visible infinancialmarkets,whereasinglemoneymarket has been created and a deep,liquid bond market has encouraged asurge in debt issuance by the corporatesector. In productmarkets, the eurohasan important impact on the cross-border transparency of prices, acting

as a catalyst for trade. Finally, withregard to labour markets, the wageformation process shows signs of in-creased flexibility and labour marketreforms are starting to go in the rightdirection. Overall, the single currencycontributes forcefully to more integra-tionandcompetition,actingasapower-ful driver for the further enhancementof the Single Market and creating anenvironment which — I am sure —Schumpeter would have enjoyed. §


45�


The U.S. Experience

with a Federal

Central Bank System

IntroductionThe role of national central banks inEurope has been a subject of muchdeliberation, especially since the intro-duction of the euro. The euro area con-stitutes a vast geography andmuch eco-nomic diversity — characteristics notunlike the United States. It is an honorto participate in this event, whichbrings together so many prominentindividuals from various nations, todiscuss this important and timely topic.

As a former academic with consid-erable European experience and a cur-rent central banker in the U.S. system,I would like to share with you myperspectives on the U.S. experiencewith our central banking system. I willleave it tomy audience tomake the par-allels and contrastswith the current andstill emerging structure in Europe.However, I will try, by topic selec-tion, to spotlight relevant points ofcomparison.

As you all know, the Federal Re-serve System (Fed) serves as the centralbank of the United States — the epicen-ter of our financial system. It controls


President,

Federal Reserve Bank of Philadelphia

the monetary base of the economy toaffect interest rates and inflation; it pro-vides liquidity in times of crisis; and, itensures the general integrity of our fi-nancial system.

The Federal Reserve�s decentral-ized structure has been a positive forcein the U.S. economy. I believe it hasproved a vital, and indeed very practi-cal, structure for our central bank.Throughout its history, decentraliza-tion has provided the local contextand contact necessary for effectivepolicymaking.

A key to the success of our decen-tralized structure is its flexibility. To besure, there isno singlemodel thatworkseverywhere, or all of the time. In fact, itis just the opposite. The structure of acentral bank must fit the economic andpolitical realities of the time, or it willnot survive. It must evolve in responseto the unique features of the economy itserves. This adaptation is a constantchallenge with new twists and turnsalong the way.

The Establishmentof DecentralizedCentral Banking in the U.S.

Let me begin with some history. In1913, the U.S. Congress establishedthe Federal Reserve System to serveas our central bank. The System com-prised twelve independently incorpo-rated Reserve Banks spread acrossthe United States, operating underthe supervisionof aBoardofGovernorsin Washington, D.C.

Why did the central bank comealong so late in the economic historyof the United States? Moreover, whywas it given such a decentralizedstructure?

The answers to these questions areinterconnected. In fact, the UnitedStates had made two previous attemptsto establish a central bank. The First

Bank of the United States was estab-lished in 1791, and the Second Bankof the United States was establishedin 1816. Congress gave each an initial20-year charter. Yet, neither was ableto muster the political support to haveits charter renewed. Therefore, theUnited States spent most of the nine-teenth century without a central bank.

By the early twentieth century, aseries of financial panics and economicrecessions further demonstrated theneed for a central bank. It becamewidely recognized that the nation re-quired a more elastic supply of moneyand credit to meet the fluctuatingdemands of the marketplace. It alsoneeded a more efficient infrastructurefor transferring funds and makingpayments in the everyday course ofbusiness, particularly by check.

While the need for a central bankwasclear, sowerethereasons tobewaryof one.Many people, particularly smallbusinesspeople and farmers across theSouth and West, were concerned thata central bank headquartered �backEast,� in either the financial centerofNewYorkCity or the political centerof Washington, D.C., would not beresponsive to their economic needs.

In some sense, this was a replay ofthe broader governance issue theUnited States wrestled with from thebeginning of its short national history.The thirteen colonies saw the need tobind together and form a nation, butthey were wary of ceding power to anational government. It was out ofthat tension that the federal govern-ment of the United States was forgedin my hometown of Philadelphia,Pennsylvania, with the establishmentof the U.S. Constitution.

The Constitution provided for theestablishment of a federal governmentthat acknowledged and preserved therights of the states, and a system of


48 �

checks and balances within the Federalgovernment. In thisway, powerwas notunduly concentrated in anyone individ-ual or group.

To galvanize the necessary politicalsupport to establish a central bank,President Woodrow Wilson andCongress drew on the now familiarmodel of a federal structure. Thatstructure, embodied in the FederalReserve Act of 1913, essentially re-mains intact today.

Overseeing the System is a seven-memberBoardofGovernors appointedby the President of the United Statesand confirmed by the United StatesSenate. The twelve Reserve Banks,spread across the country — from Bos-ton to San Francisco — each serve a de-fined geographic area, orDistrict. EachReserve Bank is overseen by its ownlocal board of directors, with someelected by the local District banksand some appointed by the Board ofGovernors in Washington, D.C. TheReserve Bank board of directors selectsa president, in consultation with theBoard of Governors, who serves asCEO and chief operating officer.

Our founders� original vision wasthat the �central� in the central bankwould be minimized. That is, the Re-serve Banks would be relatively auton-omous bankers� banks providing a fullarray of services to the banks operatingin their Districts. The Reserve Bankwould extend credit directly toDistrictbanks with short-term liquidity needson a collateralized basis through redis-counting. Banks would also maintainreserve accounts at their Federal Re-serve Bank and use those accounts toclear checks, move funds and obtaincurrency for their customers.

Of course, the original vision ofself-contained regional banks beganto erode almost as quickly as the Systemwas established. Technological change

and the dynamics of the marketplacewere driving the U.S. economy, par-ticularly its financial and paymentssystems, into a more fully integratedentity. The Federal Reserve Systemwould have to integrate the activitiesof its various components as well. In-deed, this is exactly what has happenedin the Fed over the course of its history,and what continues to happen today.

This integration has occurred on alllevels, from making policy decisionsto managing backroom operations. Itoccurs throughall our centralbank lines ofbusiness—mone-tary policy, banksupervision andregulation, andpayment systemsupport.

Yet, the integration continues toevolve within the context of the�federal� structure established almost90 years ago. I consider this a testamentto the Federal Reserve�s flexibility,and also to the value of its structurein achieving the Fed�s mission.

Let me be specific about how theFed has evolved its decentralized struc-ture in each area of its operations.

Monetary Policy

When the Fedwas founded, the notionwas local economic conditions gener-ated local credit conditions, and re-gional Reserve Banks would help theregional banks address them. Mean-while, with the nation on the goldstandard, the overall supply of money— and hence the long-run price level —was out of the central bank�s hands.

Today, we think of monetary policyas an independent tool at the centralbank�s disposal to help stabilize overalleconomic performance. The establish-ment of the Federal Open Market


49�

Committee (FOMC) was the pivotalevent in the evolution of the Fed toan independent, activist,monetarypol-icymaking body with national macro-economic objectives.

Although not formally establisheduntil 1935, the history of the FOMCbegins in the 1920s, when regionalBanks began looking for a source ofrevenue to cover their operating costs.As you may know, the Fed does not re-ceive an appropriation from Congress.Instead, it funds itself from the return

on its portfolio.In fact, it waswith the inten-tion of fundingtheir operationsthat each of theFed Banks beganto purchase gov-ernment secur-

ities. Eventually, these assets weremanaged collectively by the FederalReserve Bank of New York. This port-folio became the System Open MarketAccount, through which the Fed nowconducts open market operations.

Gradually, it was recognized thatthe Fed�s open market securities trans-actions had a powerful and immediateimpact on short-term interest rates,and the supply of money and credit.Over time, openmarket operations be-came the central tool for carrying outmonetary policy.

Congress created the structure ofthe FOMC in the midst of the GreatDepression. As you all know, theFOMC consists of the seven membersof the Board of Governors and thetwelve Reserve Bank presidents. Be-cause the FOMCis amixofPresidentialappointees, the members of the Boardof Governors, and Reserve Bank pres-idents, who are selected by their re-spective Boards of Directors, theFOMC is a blend of national and

regional input of both public and pri-vate interests.

The fundamental insight is, whiletherecanbeonlyonenationalmonetarypolicy,making the right policy decisionis the product of sharing perspectivesfrom different regions of the country.

The Reserve Bank presidents pro-vide both valuable up-to-date intelli-gence about economic conditions,and the perspective of businesspeopleabout prospects going forward. Theyglean these from their meetings withtheir Bank�s board of directors, advi-sory councils, informal �town meet-ings� around their Districts, as wellas the contacts they make in the every-day courseof operating aReserveBank.

Some of this finds its way into ourregional reviews, the so-called BeigeBook, but even this suffers from timelags and a formulaic approach to gath-ering intelligence. Our real time grass-roots perspective is valuable for helpingtoovercome the fundamental challengetomonetary policy — the effects of longand variable lags on its impact.

Beyond this, theReserveBankpres-idents can also bring broader perspec-tives onmonetary policy.On a theoret-ical level, differences can coexist on thestructureof theeconomyand the roleofmonetary policy, with well-known ex-amples of the monetarist perspectivechampioned by the St. Louis Fed,and the real business cycle perspectivesupported by research at the Minneap-olis Fed. On a more practical level,differences still exist in the geographicdistribution of industries across ournation. The perspective of some re-gions give particularly useful insightinto certain parts of our economy,for example, San Francisco�s technol-ogy focus and Chicago�s heavy industryconcentration.

Decisions are usually made by con-sensus, so unanimous decisions are usu-


50 �

ally the rule rather than the exception.Nonetheless, we do have a voting pro-cedure. The twelve voting membersmake the formaldecisionof theFOMC.All seven governors vote at all times,while only five of the twelve presidentsvote, on a rotating basis. Philadelphiahappens to be a voting member in2002. In any case, we all participateon equal terms in the discussion andconsensus building that leads to theformal policy vote.

Once the FOMC has made its de-cision on the appro-priate target levelfor the federal fundsrate, it is up to theFed�s trading desklocated at the Fed-eral Reserve Bankof New York toachieve the objec-tive. To facilitate that process, a policydirective is drafted requesting the ap-propriate action by the New York Deskto achieve theovernight borrowing ratetarget.

Time has shown that the structureof the FOMC uses the decentralizedFederal Reserve to its best advantage.This structure allows for the generationof well-informed monetary policy de-cisions at the national level, plus an abil-ity to communicate our decisions andrationale to various parts of our nation.This two-way exchange of informationenhances our capability to monitor theeconomy, and build consensus for theneeded policy action.

Payments Infrastructure

Monetary policy is the role for whichcentral banks are best known. But, theFedalsoplays an integral role in theU.S.payments system. In fact, paymentsprocessing is the largest componentof Fed operations. System-wide, theFederal Reserve Banks employ over

23,000 people. Of these, about12,000 — roughly half — are involvedin payments.

Over the years, the Fed�s decentral-ized structure has given us an advantagein supporting the payments system.TheU.S. has long been a nation ofmanysmall banks serving relatively limitedgeographic areas. Establishing a net-work for the efficient movement ofmoney among them is one reasonthe Fed was founded. One of the Fed�sfirst projects was setting up a check

clearing system. In that system, eachReserve Bank provided the banks inits District with a local clearinghouse,and access to a national clearingnetwork through its sister ReserveBanks.

As early as 1918, theReserve Banksalso gave the banks in theirDistrict con-venient access to a national electronicfunds transfer network — Fedwire. Atthat time, the transfers were via tele-graph connection among the ReserveBanks.

The traditional paper-based meansof payment — cash and check — still re-quire adecentralized deliverynetwork.However, over time themovements to-ward electronic payments and mergersin the U.S. banking industry have beendriving the Fed toward greater coordi-nation and consolidation of paymentsservices. Accordingly, the Fed has re-organized to provide nationally man-aged services through thedecentralizedstructure of the regional ReserveBanks.


51�

First, at the strategic level, theFederal Reserve has established thePayments System Policy AdvisoryCommittee (PSPAC). Its mission isto set the direction for Fed paymentsactivities System-wide. Like theFOMC, the PSPAC is a committeeof Fed governors and Reserve Bankpresidents.

Second, at theoperational level, theReserve Banks coordinate their pay-ments operations through nationalproduct offices, reporting to the so-

called Financial Services Policy Com-mittee. By this means each paymentsproduct is centrally managed by oneReserve Bank and delivered as appro-priate through the Reserve Bank distri-bution network.

Supervision and Regulation

I have discussed the benefits of theFederal Reserve�s decentralized struc-ture on the monetary policy decisionprocess, as well as on its evolving rolein the nation�s payment system. Thisstructure has also served us wellin our third area of responsibility, banksupervision and regulation.

As noted a few moments ago, theU.S. has long been a nation of manysmall banks, serving local communitiesin narrowgeographic areas andofferingrelatively limited product lines. Thiswas primarily the result of governmentregulation. Long-standing state lawsprohibited banks frombranching acrossstate lines, and frequently other polit-ical boundaries as well. Then, in reac-

tion to the Great Depression, the U.S.Congress passed legislation prohibitingcommercial banks from engaging ininvestment banking or insuranceactivities.

During this period in our history,under delegated authority, local Re-serve Banks kept a close watch onthe safety and soundness of the localbanks under their jurisdiction.

But, recently, in the U.S. andaround the globe, a deregulation wavehascutawaythethicketof limitationson

banks� activities.Now technologyand themarketplaceare driving bankingorganizations to ex-pand their geo-graphic reach anddiversify their arrayof product offer-

ings. The result has been the growthof larger and more complex bankingorganizations with national or inter-national scale and scope.

Through this process of change, theFederal Reserve�s role in the regulatorystructure has been expanding. Con-gress first entrusted the Fed with theresponsibility of regulating all bankholding companies, and more recentlywe have been assigned the additionalrole of �umbrella supervisor� for newlyformed financial holdingcompanies.Assuch, the Fed aggregates the assess-ments of other financial service indus-try regulators to form an enterprise-wide view of risk and protect deposi-tory institutions.

To fulfill our responsibilities in thisnew environment, the Federal Reservehas been transforming its supervisionand regulation function. Our focushas shifted from point-in-time financialstatement reviews to continuous risk-based assessments; fromon-site exami-nations to early warning systems; from


52 �

strictly financial evaluations toones thatinclude increased emphasis on com-munity lending and technology. Fur-thermore, in light of the shift towardbroad financial holding companies,we are working in closer cooperationwith other banking and financial indus-try regulators.

In addition, to properly overseelarger, more complex organizations,we have employed new and more so-phisticated analytical tools, and haveconsolidated examination reports fromgeographically dispersed subsidiariesinto overall financial profiles.

Our approach has been the System-wide coordination of bank supervisionto achieve efficiency in staff deploy-ment, yet still gain the benefits ofspecialized knowledge. Still, we havemaintained face-to-face contact withthe regulated institutions, as well asthe use of on-site examinations. Inthe end, even with all the changes inthe financial services industry, thereis no substitute for first-hand knowl-edge of the organization and its leader-ship.OurReserveBanknetwork allowsthe Fed to have geographic proximity,whichsubstantially improvesourabilityto know the institutions we regulate.

Lessons from 9/11

Before closing let me say a few wordsabout September 11. The events of thatday, and the days and weeks that fol-lowed, put many aspects of the U.S.financial system to the test, and dem-onstrated its resiliency.

At the Fed, our response to thoseevents was a coordinated effort acrossall its areas of responsibility and acrossour entire Fed System. We kept thepayments system operating, providedaccess to credit for affected banking in-stitutions, and implemented aggressivemonetaryexpansion.Our ability to feel

the pulse of financial activity across thecountry, operate in multiple locations,and coordinate our efforts to assure fi-nancial stability is a testimony to ourpresent organizational design.

Looking ahead, the terrorist attackson New York and Washington, D.C.,have causedmany organizations, publicand private, to see new value in adecentralized operational structure.A recent Fed assessment of the lessonsfrom 9/11 reached a conclusion thatapplies not only to financial institutionsin general, but to the Federal ReserveSystem as well: �geographic diversityfor critical operations andbackup facili-ties should be a key consideration ofbusiness-resumption plans.�

Conclusion

Since its creation almost 90 years ago,the Federal Reserve has survived, andsucceeded, by evolving. Through Con-gressional mandates and its own inter-nal restructuring, the Fed has proved anever-changing entity, decentralized yetcoordinated. The trends in the financialsector imply a continuation of themovetoward a single national market, witha growing number of national and in-ternational players. As a result, furthercoordination and consolidation of ac-tivity is inevitable.

Yet, even aswe develop into amorefully integrated organization to betteraddress our central bank responsibil-ities, we continue to extract value fromour decentralized structure.

Today, the regional structure of theFederal Reserve System is one of itsgreatest strengths. This has proven trueboth innormal times and timesof crisis.While the process of change will con-tinue to challenge the Fed, it is worth-while toreflectonour strengthsandoursuccesses. The System�s structure fitsboth categories. §


53�

Tito Boeri

Does Europe Need

a Harmonised

Social Policy?1)

IntroductionThe EU Convention is experiencing aslow start. It is quite unlikely that theConvention will actually take off be-fore the German elections. So far,the reference document is the �Projectfor the European Union� issued in May2002 by theCommission,which arguesin favour of a co-ordination of socialpolicies. Co-ordination is a rather looseconcept which can be located along awide spectrum, ranging fromthe �openco-ordination� method of the Luxem-bourg process to something in a closeneighbourhood of a �harmonisation� ofsocial policies, that is, substantially alevelling out of cross-country differen-ces in the scope and composition ofsocial spending.

In this paper I try to (normatively)reduce the indeterminacy of the notionof �co-ordination�. Inparticular, I takeaclear stance in favourof social policy co-ordination as a way to promote a moreeffective competition across systems.

1 I would like to thank Fritz Breuss for comments on aninitial draft and Mauro Maggioni for tireless researchassistance.

Tito Boeri

Professor, Bocconi University

While itmay sound as a contradiction interms, it is not. Insofar as my notion ofco-ordination allows for moremobilityof the European workforce, it impliesthat EU citizens can �vote with theirfeet� enhancing competition amongsystems. However, a better term thanco-ordination would be perhaps �co-competition� in social policy provision.

These issues are typically dealtwith by economists as a problem of al-location of tasks among different levelsof government. Fiscal federalism

theory, in partic-ular, offers apowerful frame-work to assesswhat should beassigned to cen-tral, supra-na-tional, bodiesand what should

instead be left as a prerogative of de-centralised policy-making, such asnational governments.

When dealing with social policies,however, this framework appears toonarrow. The relevant issues in this do-main concern more the governancestructure, the rules of co-ordination,than the degree of centralisation orde-centralisation by themselves. Dueto the absence of significant spilloversandeconomiesof scale in social securityprovision, the case for reallocatingtasks to EU supra-national authoritiesis weak. The most relevant issuesconcern, instead, the scope of compe-tition that should be promoted andallowed across the various �SocialEurope(s)� nowadays characterisingthe institutional landscape of the OldContinent.

The plan of the paper is as follows.Section 1 characterises the different

�Social Europe(s)� and discusseswhether or not they are convergingto a unique model. Once establishedthat this is not the case, section 2 ad-dresses the issue assigned to this paper,that is, whether or not EU-leveldecision-making should pursue a har-monisation of these different �SocialEurope(s)�. Since the answer is �no�,section 3 concludes arguing aboutthe scope of competition among thedifferent restrictions that should beimposed on competition among thedifferent social security systems andthe role that EU supra-national author-ities may play in this context.

1 Are �Social Europe(s)�Converging in Any Event?

Before discussing whether harmonisa-tionof social policies is desirableor not,it is important to evaluate the scope ofthe adjustment that would be requiredto level out differences in the size andcomposition of social spending inEurope. Equally important is to assesswhether or not a convergence is occur-ring across the various systems whichcan nowadays be identified in Europe.

It is customary (e.g., see Ferrera,1998,andBertolaet al.,2001) todivideEurope into four social policy models.The first group is represented bythe Nordics (Denmark, Finland andSweden, plus the Netherlands) whichis a hybrid between the Scandinavianand the Continental models and hasrecently moved northwards1) featuringthe highest levels of social protectionexpenditures, and universal welfareprovision based on the citizenship prin-ciple. Extensive fiscal intervention inlabour markets, based on a variety of�active� policy instruments, substantialtax wedges, and relatively extensive

1 I refer, in particular, to the decision, made in the year 2000 in the Netherlands, to adopt a universal pension scheme andextend the sickness insurance scheme to the self-employed.

Tito Boeri

56 �

employment in the public sector alsobelong to this model while unions�presence in the workplace and involve-ment in the setting and administrationof unemployment benefits generatecompressed wage structures.

The second cluster includes theAnglo-Saxon countries (Ireland andthe U.K.), which are closer to theBeveridgian tradition and feature rela-tively large social assistance of the lastresort schemes. Cash transfers here areprimarily oriented to people in work-ing-age. Activation measures are im-portant aswell as schemes conditioningaccess to benefits to regular employ-ment. On the labour market side, thismodel is characterised by a mixture ofweak unions, comparatively wide andincreasing wage dispersion and rela-tively high incidence of low-pay em-ployment, half a way between Europeand the U.S.

Continental European countries(Austria, Belgium, France, Germany,and Luxembourg) are the third group,relying extensivelyon insurance-based,non-employment benefits and old-agepensions. Large invalidity benefitschemes are also present, which drawon contributions on employment in-come, along the Bismarckian tradition.While unions� membership rates havebeen falling quite dramatically in thelast 20 to 25 years (Boeri et al.,2001), a strong unions� influence hasbeen toa largeextentpreserved in thesecountries by regulations artificially ex-tending the coverage of collective bar-gainingmuchbeyondunions� presence.

Finally, we have the Mediterraneancountries (Greece, Italy, Spain andPortugal), concentrating their spend-ing on old-age pensions and allowingfor a high segmentation of entitlements

and status.1) Their social welfare sys-tems typically draw on employmentprotection and early retirement provi-sions to exempt segments of the work-ing agepopulation fromparticipation inthe labour market. Also in this case,strong unions� influence has been pre-served by practices (e.g., jurispru-dence) artificially extending the cover-age of collective bargaining. As a result,wage structures are, at least in theformal sector, covered by collectivebargaining and strongly compressedin these coun-tries.

Table 1 pro-vides a simplecharacterisationof the four mod-els, grouping thevarious socialpolicy items intofour main policy domains: pensions(encompassing old-age and survivors�provisions), non-employment benefits(unemployment benefits, sickness ben-efits, invalidity pensions and early re-tirement, whenever listed separatelyfrom old-age pensions), family allow-ances (child-care benefits and familybenefits) and social assistance (includ-ing means-tested housing benefits).Social expenditure is normalised byGDP in the first column, while infor-mation on the percentage distributionof social spending is provided in thesecond column. Data are drawn fromthe European Commission ESSPROSdatabase which offers, to date, thebest framework to assess the size andcomposition of social spending in theEU area.

As is apparent from table 1, differ-ences in levels and composition are notof a second order of magnitude and

1 Note that these countries have implemented universal national health-care systems in between the 1970s and the 1980s.However, I do not deal with health spending in this paper.

Tito Boeri

57�

broadly in line with the taxonomyoffered above (although not all institu-tional features can be measured). Uni-versal non-employment benefits arewhat distinguishes the Nordic modelfrom the Continental model, whichis focused more on pensions than ontransfers to individuals in workingage. The Anglo-Saxon world (mostlythe U.K. as we are dealing with aGDP-weighted average) displays asmaller welfare state and one whichdevotes comparatively more resourcesto social assistance of the last resort.Finally, Southern Europe displays thesmallest welfare state, almost sixtypercent of which goes to public pen-sions, whilst social assistance isnegligible.

These country groupings shouldnot conceal important differences inthe policymixwhich are presentwithin

each model. Yet, in three policy areasout of four, differences across modelscapture from 45% to 60% of the totalvariation in the composition of socialspending.This canbegaugedbydecom-posing thetotalweighted(byGDP)sumof squared deviations of social expen-diture shares (to social expenditure,rather than GDP in order to eliminatevariation due to income levels) intoa within-models and a cross-modelsmean variation (chart 1). The only areawhere within-models variation domi-nates is non-employment benefits,which is the most heterogeneous setofmeasuresof the fourandtheonemostaffected by the underlying labour mar-ket conditions.

Are these four �Social Europe(s)�converging in terms of size and com-position of social spending? In orderto shed some light on this issue in a

Table 1

Four ªSocial Europe(s)�

Continental Northern Anglo-Saxon Southern

% GDP % tot. exp. % GDP % tot. exp. % GDP % tot. exp. % GDP % tot. exp.

Social assistance 0.95 3.32 1.67 5.97 1.73 6.93 0.18 0.79Family 2.88 10.14 2.36 8.41 2.26 9.07 0.82 3.65Pensions 12.33 43.32 11.14 39.72 11.31 45.28 12.92 57.36Non-Empl. benefits 12.29 43.23 12.87 45.91 9.67 38.73 8.60 38.19Totals 28.45 100.00 28.05 100.00 24.98 100.00 22.52 100.00

Source: Eurostat, ESSPROS Database (2001).Notes: Figures weighted by GDPs. The country groups are defined as follows: Continental: Austria, Belgium, France and Germany; Northern: Denmark,Finland, the Netherlands and Sweden; Anglo-Saxon: Ireland and United Kingdom; Southern: Greece, Italy, Portugal and Spain.

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companion paper (Boeri, 2002a), I re-gressed the growth in social expendi-ture as a percentage of GDP overtwo sub-periods: the period from1980 to 1990 (where we can drawon the OECD Social Expenditure data-base) and the period from1990 to 1999(where ESSPROS data are available). Inparticular, I regressed the averageyearly growth rate in social spendingover GDP against its initial level forthe cross-section of countries providedby the twodatasets.Convergence in theunconditional sense is implied, accord-ing to this methodology, if the coeffi-cient for spending in the base year isnegative and statistically significant.

I could not reject this beta un-conditional convergence for the OECDcountries as awhole.However, the betacoefficient implies a very low conver-gence rate (less than0.2%per year) andis barely statistically significant. Thesametypeof conclusioncanbeobtainedwith reference to the second sub-pe-riod and for the ESSPROS countrypanel (which includes the EU-15, plusIceland, Norway and Switzerland).Furthermore, in both cases interactionvariables capturing the effects of EUor EMU membership on convergencewere not significant, which suggeststhat there has not been an additionaleffect of European integration or theEconomic and Monetary Union(EMU) on the convergence in the sizeof the welfare state.

As far as convergence in composi-tion is concerned, beta convergencewould seem to be occurring only intwo policy areas, namely social assis-tance and non-employment benefits.1)At a closer look, it appears that inthe first case convergence is towardsthe top levels of provision while for

non-employment benefits conver-gence involves a retrenchment of thisprogramme category (Bertola et al.,2001) which is also consistent withthe reduction in unemployment.

In order to evaluate convergence incomposition, it is preferable to adoptanother definition of convergence, thatis, sigma convergence. The latter occurswhen the standard deviation in thelogarithm of social spending decreasesover time. Significantly, I found thatsigma convergenceoccurredmainlywithinthe various �So-cial Europe(s)�,namely the fourgroups of coun-tries typicallyused by taxono-mies of theEuro-pean welfarestates rather thanbetween them: the cross-country var-iation between social expenditure as apercentage of GDP decreased over theperiod from 1980 to 1996 in all thesegroups of countries.

Finally, I looked at an inventory ofreforms assembled at FondazioneRodolfo Debenedetti. The latter isbased on a variety of sources (includingcountry economic reviews carried outbyOECD, IncomeData Source studies,EC-MISSOC reports, etc.), and takesstock of reforms carried out in Europeover the period from 1987 to 1999 inthree domains: non-employmentbenefits, employment protection andpensions. Reforms are classified onthe basis of their broad orientation, thatis, whether they tend to reduce or in-crease the generosity of non-employ-ment benefits and make employmentprotection more or less stringent,and their radical or marginal nature.2)

1 Also these results are available, upon request from the author.2 Details on the inventory of social policy reforms produced at the Fondazione Rodolfo Debenedetti are available at

www.frdb.org.

Tito Boeri

59�

Contrary to popularwisdom and tothe belief that labour market and socialwelfare institutions cannot be modi-fied, many institutional changes haveoccurred over the observation period.I counted almost 200 reforms, that is,more than one per year and country.However the changes have often beenmarginal (172 out 198 reforms, that isroughly 85% of the regulatory changesdid not pass our two-stage procedureidentifying radical reforms). Moreoverthe reforms are almost evenly splitbetween those reducing generosityand protection (107 out of 198, thatis, about 55%) and those increasinggenerosity and employment protec-tion. It is also not infrequent to findreforms going one against the other justa fewyears apart.These inconsistenciesand the marginal nature of most re-forms have significantly increased theinstitutional complexity of the Euro-pean landscape.

To summarise the results in this Section,there are at least four different �Social Eu-rope(s)� and a very mild convergence in thesize of social programmes is occurring amongthem. To the extent that the cross-countryvariability in the composition of the welfarestates is decreasing, this is occurring mainlywithin the various �Social Europe(s)� ratherthan across them. Institutional changes areoccurring at (unexpectedly) high frequen-cies, but reforms are rarely comprehensive.Overall, there are no indications that differ-ences in the size and composition of socialspending across EUMember States are beinglevelled-out automatically.

2 Should Then ThesePersistently Diverse�Social Europe(s)�Be �Harmonised�?

There are no a-priori arguments forhaving EU supra-national authoritieslevelling out differences in the sizeand composition of social spendingacross EU Member States. The various�Social Europe(s)� described abovemaysimply reflect heterogeneous preferen-ces of EU citizens and the two standardarguments for centralised provision ofpublic goods (Oates, 1999) — the pres-ence of significant spillover across juris-dictions and economies of scale — havelimited application to the case of socialpolicies.1)

A powerful argument in favour ofthe de-centralisation of social spendingcan actually be made on the groundsthat local provision of social securitycan better exploit local informationand deal with the large informationalasymmetries jeopardising theeffective-ness of redistributive policies. Therelevance of this argument can begrasped by considering the relativeeffectiveness of the redistribution op-erated in the smallest EU countries.Chart 2 plots differences betweenpre and post tax/transfers Gini coeffi-cients (vertical axis) against the socialpolicy expenditure to GDP ratio.2) Asone would expect, redistribution islarger in the countries devoting moreresources to redistributive policies.More importantly, the most effectiveredistribution (the larger differencebetween pre and post tax/transfer in-equality per any given level of social

1 See also Fata«s (1998) for an assessment of the economies of scale attainable by adopting a common European social securitymodel.

2 Pre tax and transfer incomes are constructed making use of the European Community Household Panel, a longitudinaldataset providing income and labour market information on about 60,000 individuals across the entire EU. Pre tax andtransfer income is calculatedas total disposable incomeminus social transfersdivided bya �net/gross ratio� factor providedbyEurostat in the European Community Household Panel (ECHP).

Tito Boeri

60 �

spending) is observed in the relativelysmall European countries, while thelargest nations — with the exceptionof the U.K. — perform rather poorlyin this respect, as they all lie belowthe regression line.

This typeofconclusion is supportedalso by analyses with micro data, nota-bly (probit) regressions of the probabil-ity of receiving different types of cashtransfers against family characteristicsand income. Targeting on the basis ofincome and house ownership typicallyworksbetter intheNordics, Irelandandthe U.K.

There are also important politicalandpolitical-economic counter-indica-tions to imposing convergence �fromthe top�. Firstly, such a harmonisationwould run against democratic rules onhighly sensitive issues, given that mostEU supranational authorities lack, asyet, political accountability. This mayresult in stronger pressures for thebreak-up of the Union. Secondly, thereis evidence of path dependency and sta-tus quo bias in social welfare reforms.They also work better when they arecomprehensive (Coe and Snower,1997), which means that they needto operate on country-specific institu-tional clusters.1) As �Social Europe(s)�

are so different (and still so) one ofanother, reforms ought to be respect-ful of the initial conditions and by im-posing the same pattern of adjustmentto the different European social policymodels, there is a high risk of jeopard-isingaltogether reformefforts.Thirdly,interactions among different tiers ofGovernment may drive decisions andthe actual implementation of policiesfar away from the theoretical fictionof a benevolent planner.

Finally, the case for harmonisationon pure equity grounds is rather weak.In presence of large differences in pro-ductivity levels, harmonisation of pol-icies does not imply harmonisation ofoutcomes.Theexperienceof the ItalianMezzogiorno and the German unifica-tion episodes vividly testify this.

Overall, there is a strong case for main-taining prerogatives over social policies tonational Governments, and preserving theunanimity rule in EU-level decision-makingin this area. Majority voting on these issuesmay just end up providing the worse of eachwelfare system with the countries with thebest social policies in place being alwaysin minority.

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Tito Boeri

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3 Rules for CompetitionDoes the above mean that there shouldbe only �negative integration� or veto-bargaining (Cameron,1999) in the fieldof socialpolicy?Anumberofargumentscanbemadetoreducethescopeofcom-petition across European welfare sys-tems, which are very much in the spiritof �positive integration�.

A quite popular argument in favourof policy co-ordination at the EU-levelin this field is that closer integration andmore intense competition may induce�social dumping� and set in motion a�race to the bottom� in social welfareprovision (Sinn, 2002). Evidence in sup-port of the view that the European wel-fare state is threatened by such type ofpressures isweak to say the least (Bertolaand Boeri, 2002) and the discussion insection 1 after all suggests that cross-country differences in social welfaresystems are far from being �arbitraged�away by competitive pressures.

Yet, there may be other argumentsfor limitingcompetition amongwelfaresystems and imposing some co-ordina-tionof social policies at theEUlevel.Anissue which is often overlooked is thatdifferences in welfare state provisionmay distort the allocation of migrants.TheEUenlargement process provides aone-time and unique opportunity toreduce the wide differences in produc-tivity levels across the old continent.This means growing faster after the en-largement and having less undesirableredistributive effects of accession, pro-vided that migrants do indeed go to thecountries and regions with the tightestlabour markets and highest labour pro-ductivity levels. Migrants tend to playthis spatial arbitrage function (Borjas,2002). Those from Eastern Europeancountries to Germany jumped overthe eastern La‹nder to find a residencein the western part of the country,which offers better chances to find a

job and higher wages. Similarly, mi-grants from North Africa moved sofar to the north-east regions of Italy,where there is virtually full employ-ment, �jumping over� the depressedlabour markets of the Mezzogiorno.It is just because of this spatial arbitragethat migration prevents overheating inlocal labour markets, contributing tocontain inflationary pressures.

Migrants play an even more impor-tant role in allowing for non-inflation-ary and productivity enhancing em-ployment growth in presence of wagecompressing institutions as those char-acterising the European landscape(Boeri,2002b).Migration flows, inthiscontext, play two useful functions. Onthe one hand, they increase employ-ment and reducewages in the high pro-ductivity markets by increasing laboursupply. On the other hand, migration,by acting on centralisedwages, reduceslabour costs also in the poor regionsallowing to partially absorb unemploy-ment in these areas.

Yet, to the extent that differences inthe generosity of welfare states do notreplicate the differences in the strengthof local labour markets, this importantfunction of migration in promotingnon-inflationary growth in Europemay be jeopardised. There is some evi-dence that �welfare shopping� may beoccurring within the migrant popula-tion, if not among the European pop-ulation at large. Immigrants to the EUfrom non-EU countries tend to receiveproportionally more social transfersthan the native population (Sapir,2000).Moreover not all the differencesin access towelfare can be explained byobservable characteristics of migrants(i.e., the number of dependent chil-dren, their marital status and skilllevel). In some of the European coun-tries with the most generous welfaresystems (Denmark,Belgium, theNeth-

Tito Boeri

62 �

erlands, Austria and France) there areindeed indications that a rather mildform �residual dependency� is presentthereby non-EU citizens receive socialtransfers more than what can be pre-dicted on the basis of their character-istics (McCormick et al., 2002).

Against this background, the adop-tion of a common EU-wide safety net,adjusted to reflect cross-country andcross-regional differences in the cost-of-living, can be envisaged as a wayto avoid distorting the distribution ofenlargement-related migration overEurope.1) It is a one time opportunityto receive migrants who, because ofcultural and historical ties, can be read-ily assimilated within Europe. This op-portunity shouldnotbe lostby inducingmigrants to choose the country or re-gion of destination based on criteria —such as access to relatively generoussafety nets — which are unrelated tolabour market fundamentals.

An additional reason for having amild form of positive integration is thatsocial policy is a domain of ongoingpolicy experimentation. Supra-nationalbodies can be in a better position thannational Governments to assess prosand cons of the various models, arenot subject to pressures of local lobbiesin benchmarking schemeswhich betterserve specific interests and have typi-cally longer horizons than nationalgovernments (and horizons are crucialin areas like pension reforms). Openco-ordination2) mechanisms, as thosedevised at the EU level in fields likelabour policies and social protection(mainly social inclusion) can play an

important role in drawing lessons fromthese experiments and identifying bestpractices.

This type of co-ordination could bestrengthened by assigning more rele-vance to quantitative targets like thoseestablished in terms of employmentrates at the 2000 EU Summit in Lisbon.The idea of NewMaastricht for Labouris very much in this vein. It wouldalso require a different timing andorganisation of the review process.Under the so-called �Luxembourgprocess�, supra-national institutionsset employment guidelines whichoffer the basis for the development ofNational Action Plans by the Govern-ments of the Member States. The plansand the achievements are subsequentlyverified by the means of an institution-alised procedure, selecting the �bestpractices� (so-called �benchmarking�)anddrawingupcountry specific recom-mendations. Stronger co-ordinationalong these lines should be explicitlydirected to the Structural Spring Sum-mits of the Council.

Another direction in which co-or-dination could be extended is in assign-ing powers to the European supra-national authorities in imposing im-provements in the administration ofwelfare policies in the various coun-tries, e.g. in conditioning cash transfersto able-bodied individuals in workingage to stringent work-tests.

Finally, co-ordination needs to besupported by imposing more trans-parency in social policy expenditureaccounts. Common standards maybe adopted to estimate the debt of pub-

1 There are also arguments for imposing minimum standards to the accession candidates (see Boeri et al., 2002, fora discussion).

2 Although not explicitly stated, open co-ordination is sometimes considered as a kind of preparatory stage for the �enhancedco-operation�, already mentioned in the Treaty of Amsterdam and now explicitly called for by the Nice Treaty: after abreaking-in period, a certainnumber of countriesmore interested and open to the idea ofa federal Europe couldmove on fromopen co-ordination to enhanced co-operation — that is greater integration as concerns substance and decision-makinginstruments.

Tito Boeri

63�

lic pension systems, develop socialpolicy expenditure projections andprovide generational accounts whichcan best isolate the various (oftenimproper) functions played by publicpension in the EU countries. Someprogress has already been made in thisdirection, for instance imposing to allcountries the provision of long-term(lasting at least 50 years) projectionsof pension expenditure and makingsure that these projections are basedon explicit and internally consistenthypotheses, jointly agreed upon by aworking group of the EU EconomicPolicy Committee (Boeri et al.,2001). But more ground has to be cov-ered in this context. §

References

Bertola, G., and T. Boeri (2002). EMULabour Markets Two Years On: Microeco-nomic Tensions and Institutional Evolution.In: Buti, M., and A. Sapir (eds). EMU andEconomic Policy in Europe: The Challengeof the Early Years. Edward Elgar.

Bertola, G., T. Boeri, and G. Nicoletti(eds.) (2001). Welfare and Employmentin a United Europe. Cambridge Mass.,MIT Press.

Boeri,T.(2002a).Making�SocialEurope(s)�Compete. Paper prepared for the Confer-ence at Harvard University on TransatlanticPerspectives on U.S.-EU Economic Rela-tions: Convergence, Conflict and Co-op-eration, April 11—12, 2002.

Boeri, T. (2002b). Increasing the Size of theEuropean Labour Force: the RelevantTradeoffs. Paper prepared for the 2002ECE Spring Seminar.

Boeri, T. (2001). Introduction: Putting theDebate on a New Footing. In: Bertola,G., T. Boeri, and G. Nicoletti (eds.). Welfareand Employment in a United Europe.Cambridge Mass., MIT Press.

Boeri, T., A. Bo‹rsch-Supan, and G.Tabellini (2002). Pension Reforms and

the Opinions of European Citizens. Forth-coming in: American Economic Review.

Boeri,T.,A.Brugiavini, andL.Calmfors(eds.) (2001). The Role of the Unions inthe Twenty-first century. Oxford UniversityPress.

Borjas, G. (2002). Comment on Immigra-tion and the U.S. Economy: Labor-MarketImpacts, Illegal Entry, and Policy Choices.In: Boeri, T., G. Hanson, and B. McCormick(eds.) (2002). Immigration Policy and theWelfare State. Oxford University Press.

Cameron, C. (1999). Veto Bargaining:Presidents and the Politics of NegativePower. Cambridge University Press.

Coe,D.T., andD. J.Snower (1997).PolicyComplementarities: The Case for Funda-mental Labor Market Reforms. IMF StaffPapers, Vol. 44, No. 1.

Fata«s, A. (1998). Does EMU Need a FiscalFederation? In: Economic Policy, April:165—203.

Ferrera, M. (1998). The Four �SocialEuropes�: betweenUniversalism and Selec-tivity. In: Rhodes, M., and Y. Me«ny (eds.). TheFuture of European Welfare. A New SocialContract? London/New York. MacMillanPress/St. Martin�s Press.

McCormick, B., H. Bru‹cker, G. S.Epstein,G.Saint-Paul,andA.Ventur-ini. (2002). Managing Migration in theEuropean Welfare State. In: Boeri, T., G.Hanson, and B.McCormick (eds.). Immigra-tion Policy and the Welfare State. OxfordUniversity Press, forthcoming.

Oates, W. (1999). Fiscal Federalism. In:Journal of Economic Literature.

OECD (1999). Employment Outlook.Sapir,A. (2000).Who IsAfraid of Globaliza-

tion? The Challenge of Domestic Adjust-ment in Europe and America. Paper pre-pared for the Conference on Efficiency,Equity and Legitimacy: The MultilateralTrading System at the Millennium.

Sinn, H.-W. (2002). The New SystemsCompetition. Yrjo‹ Jahnsson Lectures, Ox-ford, Basil Blackwell, forthcoming.

Tito Boeri

64 �

Fritz Breuss

Comments

on Tito Boeri,

�Does Europe Need

a Harmonised

Social Policy?�

Professor Boeri has presented an excel-lent paper. I am nearly convinced by allhis arguments. Nevertheless a discus-sant�s job is to develop some comple-mentary or alternative ideas. In respectthereof I will discuss the paper in fourparts:— first, I will question Boeri�s story of

four European social policy mod-els;

— second, I will briefly sketch the his-tory of the development towards a�European Social Policy�;

— third, Iwill discuss thepossible con-straints for social policy in view ofthe Stability and Growth Pact;

— fourth, Iwill point to some possibleimplications EU enlargementmight have on social policy.

Fritz Breuss

Professor,

University of Economics

and Business Administration Vienna

1 Four or Only OneEuropean Social Model?

AlthoughBoeri rightlypoints to the factthat it is customary to divide Europeinto four social policy models (group-ing the Nordic, the Anglo-Saxon, theContinentalEuropeanandtheMediter-ranean countries), the presidency con-clusions of the Lisbon European Coun-cil of March 2000 speak only of �theEuropean social model.� Looking atthe data on public social expendituresand GDP per capita it is easy to cate-gorize the 29 OECD countries intothree groups (see chart 1).

There is one group of rich Euro-pean countries (11 EU countries plusSwitzerland) which can afford and alsoprefer to spendmore on social securitymeasures (may be also because theybelieve in market failures in the fieldof social policy) than other countries.This group — following the wording ofthe Lisbon EuropeanCouncil — one cancall the �European Social Model.�

Then we see a group of rich coun-tries in Europe and in non-EuropeanOECD countries — like the EU coun-tries Luxembourg and Ireland andthe U.S.A., Japan and Canada — where

the governments prefer not to spendtoo much on social security. Thisgroup of countries forms the so-called�American Social Model.� Either becausethey feel that market failures are notpresent in the field of social policyor simply because they believe thatin a capitalist society each personcan and should care by herself or him-self (neo-liberal attitude).

Then there are countries which arenot rich enough to afford too muchpublic spending on social security. Thisgroup forms a model, called the �PoorCountries Social Model.� Within the EUGreece, Portugal and Spain are mem-bers of this group.Additionally the can-didate countries in Central and EasternEurope also belong to this category.

2 A Brief History ofEuropean Social Policy

In the fieldof social policy theEuropeanUnion has gone a long way from a sit-uation of pure Member States compe-tence to amixed or shared competencenowadays with primarily ruling mini-mum requirements and maintainingthe country-specific specialties. Fromthe Rome Treaty of 1957 to the Nice

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Treaty of 2000 social policy in Europechanged gradually fromamere nationalto a more and more European agenda.We still do not have a real �EuropeanSocial Policy� but a mixture of nationaland EU legislature in this field.— 1957: In the Rome Treaty social

policywasanexclusivecompetenceof the — at that time — six MemberStates. At the beginning there wasa debate similar to that of todaywhether the Social Policy shouldbe centralized (harmonized) or re-main in the competence of theMemberStates.At theMessinacon-ference 1956 preparing the ECTreaty France demanded a wideharmonization of the social securitysystems (centralist position), argu-ing that its high social costs wouldhamper their competitiveness inthe common market. Germanyon the other hand argued that socialcosts were �natural costs� whichwould result of the different condi-tions of locations, which in its di-versity would not be able to beharmonized (de-centralist posi-tion). Cost equality would be aliento a modern economy based on thedivision of labor. In the end theclaim for a social harmonizationhad been canceled. Only in Article119 (equal pay formenandwomen)and Article 120 (equality of paidwork) entered into the EC Treaty(Schulz, 1996, p. 16).

— 1960: Already set up by the Treatyof Rome (1957), the EuropeanSocial Fund (ESF) came into forcein 1960 andwas and still is themainfinancial tool of EU social policy.Today it translates the EuropeanEmployment Strategy into action.The ESF is the longest establishedStructural Fund financing actionsin the areas of objective 1 through3 as well as in the special action

EQUAL. It finances around onethird of total EU�s structural policyactions. The ESF contributes toreach the target laid down inArticle 2 EC Treaty (�the raisingof the standard of living and qualityof life, and economic and socialcohesion and solidarity amongMember States�).

— 1974: The EC started its first socialpolicy action programs in 1974.Due to the bad timing — the firstoil price shock resulted in a

world-wide recession — this pro-gram was condemned to fail.

— 1993: With the Maastricht Treatyfor the first time it was tried to in-tegrate social policy intoCommun-ity policy. Due to the hostile atti-tude of the conservative U.K. gov-ernment of that time only a proto-col on Social Policy entered intothe Treaty.

— 1999: With the Amsterdam Treaty— in the meantime the governmentin the U.K. switched from Conser-vative to Labor — for the firsttime social policy entered intothe EC Treaty (Article 136; exArticle 117). Together with theintroduction of a new title on em-ployment (Title VIII) as a reactionto the start of Stage Three of Eco-nomic and Monetary Union(EMU), encouraged by both theFrench and Swedish Presidencies,combined with a common employ-ment strategy with specific targetsbeing transposed annually into

Fritz Breuss

69�

National Action Plans for Employ-ment (NAPs) by the EU MemberStates, the nexus social policyand employment got a high profilewithin the EU.This plans coincidedwith plans to modernize the Euro-pean social model. Now — in thewordsof the secretariat of theEuro-peanConvention — Social Policy is a�concurrent/shared competence�between the EU and its MemberStates (Convention, 2002). Themajor principles of a �EuropeanSocial Policy� are:(i) according to Article 137 EC

Treaty (ex Article 118) theEU Council legislates withqualified majority (by meansof directives) on minimum re-quirements/standards in theEU in the fields of improvementof the working environment toprotect workers� health andsafety, working conditions,the information and consulta-tion of workers, the integrationof persons excluded from thelabor market, equality betweenmen andwomen with regard tolabor market opportunities andtreatment at work; howeverunanimity is still required inthe areas of social securityand social protection, protec-tionofworkerswhere their em-ployment contract is termi-nated, representation and col-lective defense of the interestsof workers and employers etc.;

(ii) modernizing the European so-cial model is a strong casefor subsidiary (Adnett, 2001,p. 360) — a notion normally dif-ficult to fill with life. But socialpolicy is theproper areatoapplythis notion in practice.

— 2000: After several social actionprograms (1995 to 1997; 1998

to 2000) the Nice Treaty starteda new attempt with the �Social Pol-icy Agenda.� The EU�s social policyagenda is the EU�s roadmap formodernizing and improving theEuropean social model by investinginpeopleandbuildinganactivewel-fare state. It should contribute toachieving the strategicobjectivede-fined at the Lisbon EuropeanCoun-cil in March 2000 (�to become themost competitive and dynamicknowledge-base economy in theworld, capable of sustainable eco-nomicgrowthwithmore andbetterjobs and greater social cohesion�).The so-called Lisbon process with

its �newopenmethodof co-ordination�— based on benchmarks and best prac-tice annual controllingmechanism— is agood instrumentofmutual learningandimproving social policy in EUMemberStates, sometimes also called the �SoftEconomicPolicyCo-ordination� (Hod-son and Maher, 2001) without denyingnational differences in preferences andfinancial potential for public social ex-penditures. The new provisions of theEC Treaty (Article 138) favor a strongdialoguebetweenEuropeansocial part-ners.

3 Is the Stabilityand Growth Pacta New Constraint oran Assistance for aEuropean Social Policy?

Onemight argue that the emergence ofnew production technologies, thegrowth of the knowledge-driven econ-omy (�new economy�) and globaliza-tion, together with the adoption ofEMU, have fundamentally changedthe trade-off between the EU�s eco-nomic and social objectives. The lostof one policy instrument (exchangerate) imposes more weight to nationalwage policy as a buffer to absorb asym-

Fritz Breuss

70 �

metric shocks. A greater labor cost var-iability between and, within, EU labormarkets are needed in EMU. Furthermore, the specific co-ordination set-up for economic policy in case ofthe EMU in the form of the Stabilityand Growth Pact has constraint notonly national public finance but alsothe quality thereof. As a consequence,the Lisbon European Council de-manded a modernization of SocialEurope (Adnett, 2001).

Since the start of EMU the rules-based framework forbudgetarysurveil-lance (annual presentation of stabilityand convergence programs by theEU Member States within the frame-work of the Stability and Growth Pactprocedure) has undergone a consider-able change. Startingwith only budget-ary balance targets (�close to balance orin surplus�) in July 2001, the ECOFINCouncil revised the Code of Conducton the content and presentation ofstability and convergence programs.Besides a more coherent statistical def-inition of the targets, it extended thecoverage of programs to include sec-tions on the quality and sustainabilityof public finance in line with the so-called Lisbon process. Under this

new rules the European Commissionundertook for the first time (EU,2002a, pp. 80 ff) an analysis on the qual-ity (composition) of public expendi-tures, including social expenditureswhich amount to around half of totalpublic expenditures in most EU coun-tries.

The components of public expen-ditures (see chart 2) can be classifiedaccording to their contribute to growthand employment (efficiency) in fourcategories (seeEU, 2002a, pp. 85—86):— category 1: Spending on interest pay-

ments always negatively affectsgrowth and employment as theseresources crowd out spending formore productive purposes;

— category 2:This consist of old age andsurvivor expenditures, collective con-sumption and compensation of publicemployees. Some public spendingmay be efficiency-enhancing, thedecreasing effects, however, arisebeyond a certain level of spending.High levels of spending may crowdout other efficiency-enhancing ex-penditures. Very high levels ofspending on pensions have a nega-tive impact on savings and capitalaccumulation;

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— category 3:This includes social expen-ditures on disability, social exclusion,housing, family/children allowancesand unemployment transfers. Publicspending on these items has a pos-itive impact on efficiency providedit is kept within certain limits. Veryhigh expenditures are likely to havea negative impact on efficiency dueto moral hazard problems and ben-efit dependency;

— category 4:Here are included expen-ditures in education, active labor marketpolicies (ALMP), health, R&D and grossfixed capital formation. These expen-ditures are considered tohave apos-itive effect on economic efficiency(see the insights of the literature onendogenous growth theory) up to acertain limit, beyond which addi-tional spending may have negativeeffects. These limits seem not yetbeen reached in EU countries.With the help of a synthetic indica-

tor of expenditure composition (seeEU, 2002a, pp. 89 ff) the EuropeanCommission quantified the �quality�of EU Member States public financeat the end of the 1990s. In chart 3the ranking of the efficiency indicatoris correlated with the public social ex-

penditures. France, Germany, Finland,Sweden, Austria and the Netherlandsrank at the top according to efficiencyof their expenditures. This group alsospends most on social expenditures. Asecond group — spending also a consid-erable amount on social expenditures —ranks at the bottom: Belgium, Den-mark, United Kingdom, Greece andItaly. The third group consists of Spain,Ireland and Portugal which spend verylittle for social affairs and ranks in themiddle as far as efficiencyof total publicexpenditures are concerned.

Not only the new attitude towardsfiscal policy in EMU in the short- andmedium-runmay constraint social pol-icyor lead to amoreEuropeancoherentexpenditure pattern on the lines de-scribed above (efficiency considera-tions) but the long-term challengesposed by ageing populations requireconsiderations of sustainability of pub-lic finances in general and social policyin particular. Many studies point to theproblems of ageing populations. A re-cent study by the Economic PolicyCommittee (EU, 2001) studied the im-pact of ageing populations on the long-term (over the next 50 years) sustain-ability of public finances. As a results of

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an assumed decline of population be-tween 2000 and 2050 by 3% on EUaverage (with extreme cases of —17%in Italy; +29% in Luxembourg and+26% in Ireland) the public pensionexpenditures will increase by aroundthree percentage points in EU average,with the highest increases in Greece(over+12percentage points) and Spain(+8 percentage points). In an averageEU debt country — starting with a bal-anced budget — the budget balancewould turn into a deficit of around6%ofGDPin thebaseline case andpub-lic debt would increase from 60% to80%. Again category pension expendi-tures have to be slowed down. Other-wise other social expenditures wouldbe in danger in the future.

Overall, theEuropeanSocialModel— so called by the European Councils —could bemore andmore realized on theone hand because of amore sound legalbasis in the ECTreaty aswell as the spe-cific attention which is given to it in the�Social Policy Agenda� in conjunctionwith a deliberate concentration on im-proving employment conditions(NAPs) and on the other hand becauseof the constraints exerted by the sur-veillance and co-operation procedurewithin the Stability and Growth Pact.

4 EU Enlargement —Possible Impacton Social Policy?

With the Enlargement of the EU by 10(in 2004) or later more new countries,most of which are �poor� — GDP percapita in PPPof theCentral andEasternEuropean Countries (CEECs) on aver-age amounts to around40%ofEUaver-age — the Union seems to start anewwith a European social policy. Enlarge-ment is an economic unification of�rich� and �poor� countries. Aswe haveseen from chart 1, public expendituresfor social policy are positively corre-

latedwithGDPper capita.Comparabledata for OECD member countriesCzech Republic, Slovakia and Polandshow that these CEECs belong to the�Poor Countries Social Model.�

The difference to the start with theEC in 1957 is that the new membercountries have to take over the acquiscommunautaire in general and ofcourse those for social andemploymentpolicies in particular. In the negotia-tions for enlargement Social Policyand Employment is dealt with underchapter 13. Thischapter coversareas wherethere exists sub-stantial secon-dary legal acquisat EU level, suchas health andsafety issues, la-bor law and equality of treatment be-tweenwomen andmen, aswell as areassuch as social dialogue, employmentand social protectionwhere convergentpolicies are being developed, on the ba-sis of the ECTreaty. In these areas thereare no legal obligations to implementprecise policy measures but a very im-portant general obligation to co-ordi-nate the respective policies in order todevelop a homogenous social frame-work in linewith theprinciple and rulesof the EU Treaty. Chapter 13 has beenclosed with all 12 candidate countries;however, half of them have negotiatedfor transitional arrangements to imple-ment ECdirectives for minimum socialstandards (EU, 2002b).

Although at first sight low levels ofsocial expenditures mean low laborcosts and hence a competitive advant-age of these countries, a look at �TheWorld Competitiveness Scoreboard2002� of IMD Lausanne shows thatthere seems to be a positive correlationbetween GDP per capita and the rank-

Fritz Breuss

73�

ing of world competitiveness. Andbecause public social expendituresare positively correlated with GDPper capita (see chart 1) there is alsoa weak positive correlation betweencompetitiveness and social expendi-tures (see chart 4).

Most of the countries grouped intothe �European Social Model� (seechart 1) are ranked high in the IMDWorld Competitiveness Scoreboard2002, those countries belonging tothe �Poor Countries Social Model�rank low as far as international compet-itiveness is concerned.Hence, compet-itiveness is more than just a matter of(labor) costs. Entrepreneurs evaluatecompetitiveness in a broader senseand expect from richer countries alsomore non-cost competitiveness com-ponents (factors!).

Taking the relationships betweensocial expenditures and competitive-ness as given, the new Member StatesfromEasternEurope are nomenace forthe old EUMember States in the SingleMarket. Therefore one must not urgefor more harmonization in social policyaffairs when the EU is enlarged. A con-vergence of the level of social policyexpenditures is only possible insofaras GDP per capita converges. Withthe great exception of Ireland, theEU cohesion countries did not con-

verge despite the considerable effortsof EU structural and cohesion policyin the last decade. A harmonizationof social standards is only necessary in-sofar as the functioning of the SingleMarket is at risk.

However, the big question remainswhether the huge income differentialbetween the old EU Member Statesand the candidate countries in the Eastmay — if full freedom of labor move-ment is allowed in the enlarged EUSingle Market — lead to a migrationwave. Many studies on possible migra-tion flows indicate a high potential ofmigration of labor (e.g., see Boeriand Bru‹cker, 2000). However, onthe one hand the countries where mostof the potential migrants are expectedto enter (Germany and Austria) haveopted for a seven year transitional ar-rangement in the field of �Freedom ofmovement for persons� (chapter 2 inthe enlargement negotiations — whichcovers also co-ordination of social se-curity schemes; see EU, 2002b) on theother hand past experiences of enlarge-ments with Greece (1981) as well aswith Portugal and Spain (1986) haveseen no big migrant flows. §

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ReferencesAdnett, N. (2001). Modernizing the Euro-

pean Social Model. In: Journal of CommonMarket Studies, Vol. 39, No 2, June:353—364.

Boeri, T., and H. Bru‹cker (2000). TheImpact of Eastern Enlargement on Employ-ment and Labour Markets in the EUMember States. DIW, CEPR, FIEF, IGIER,IHS, Berlin and Milano.

Convention (2002). Delimitation of Com-petence Between the European Union andthe Member States — Existing System,Problems and Avenues to Be Explored.The EuropeanConvention, The Secretariat,CONV 47/02, Brussels, 15 May 2002(17.05) (OR. fr).

EU (2001). Budgetary Challenges Posedby Ageing Populations: The Impact onPublic Spending on Pensions, Health andLong-Term Care for the Elderly and Pos-sible Indicators of the Long-Term Sus-tainability of Public Finances. Economic

Policy Committee, Brussels, October 24(EPC/ECFIN/655/01-EN final).

EU (2002a). Public Finances in EMU 2002.European Economy, European Commis-sion, No. 3, Brussels.

EU (2002b). Enlargement of the EuropeanUnion: Guide to the Negotiations — Chap-ter by Chapter. European Commission,Brussels, June 4.

Hodson, D., and I. Maher (2001). TheOpen Method as a New Mode of Govern-ance: The Case of Soft Economic PolicyCo-ordination. In: Journal of CommonMarket Studies, Vol. 39, No. 4, November :719—746.

Schulz, O. (1996). Maastricht und dieGrundlagen einer Europa‹ischen Sozial-politik: Der Weg — Die Verhandlungen —Die Ergebnisse — Die Perspektiven. In:Schriften zur europa‹ischen Integration,Band 1, Carl Heymanns Verlag KG, Ko‹ ln— Berlin — Bonn — Mu‹nchen.

Fritz Breuss

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Hans-Werner Sinn

The New Systems

Competition1)

The New SystemsCompetitionThe unbridled economic strength ofcapitalist economies brought commu-nism to its knees. Centrally plannedeconomies took their leave from thestage of history in disgrace.Whowoulddeny that this systems competition pro-duced beneficial results?

Thiswasof course a formof systemscompetition that has lost most of itsimportance today and that has givenway to a new systems competition.Thegoal of theold systems competitionbetween communism and capitalismwas economic, cultural and militarydominance, and it took place amidstclosed borders in the form of mutualobservation, imitation and innovation.The new systems competition, how-ever, is a competition for locational ad-vantage that is primarily driven by theinternational migration of people andproduction factors. In the words ofAlbert Hirschman (1970), exit, or vot-ing with one�s feet, characterises the

1 This lecture synthesises material the author presented atthe occasion of his Yrjo‹ Jahnsson lectures, Helsinki1999, at the annual meeting of the Verein fu‹r Social-politik, Magdeburg 2001, and a Conference at theoccasion of the 50th anniversary of the Departmentof Economics of Norges Handelshoyskole organisedin co-operation with the Nobel Prize Centennial.

Hans-Werner Sinn

President,

Ifo Institute for Economic Research

new systems competition. Voice andloyalty were forces that used to playthe more important roles in the com-petitive processes of the past.

All national economies today areconfrontedwith the forces of globalisa-tion. Goods and capital have been ableto cross borders unrestricted for sometime, and international direct invest-ment is gaining importance. A growingnumber of firms are shifting their loca-tions to low-wage and low-tax coun-tries in order to prevail in increasingly

intense inter-national compe-tition. At thesame time, pov-erty refugeesfrom all overthe world arepressing intothe richer indus-

trial countries to participate in theblessings of the welfare state.

Globalisation is not a completelynewphenomenon.1)Under theold col-onial system, international trade andcapital flows as a percentage of the na-tional product reached significant lev-els.At theendof thenineteenthcenturyone can even speak of a world labourmarket. This is at least the impressionleft by the enormousmigration flows atthe time. Nevertheless, with multina-tional corporations, the problem hasnowtakenonnewdimensions thatwerehardly conceivable not too long ago.

The mobility of people, goods andproduction factors places great com-petitive pressures on the countries ofthis world. They create a systems com-petition that is entirely different fromthe already concluded competition be-tween communist and market-econ-omy systems or also from the competi-tion that the European nation states

faced during the past two centuries.It is no longer amatter of implementingwise, internal policies to guide a largelyautarkic economy to a position of eco-nomic strength, social peaceormilitarydominance.ThestrategiesofBismarck,Stalin or Roosevelt are no longer calledfor. Governments today must be awareof the effects that national institutionshave on the cross-border transfer ofeconomic activities.Taxes, social trans-fers, public goods, regulatory systems,laws and many other factors are just asinfluential in motivating themovementof people and production factors aswages and other economic fundamen-tals that are not directly influenced bygovernment. No state can afford tofrighten off mobile capital as a resultof grossly inefficient institutions, justas no state can afford to be a magnetfor the poor of this world. Similar toa private company, a state competesfor good customers and tries to wardoff the freeloaders.

The Euro, Capital Marketsand Systems Competition

Understanding the new systems com-petition is especially important forEurope, since what has been said abouttheworld applies in particular measurefor Europe. The mobility of economicfactors, the driving force of systemscompetition, will have a much greaterimpact on inner-European relationsthan brought about by the previous imi-tation and innovation competition ofsystems.

The introduction of the euro is aparticularly important step in this con-nectionbecause theeuro is a symbolof anew liberalism and enhanced economicintegration in Europe. People, goods,services and capital can pass borderswithout restrictions. The four basic

1 See Borchardt (2001).

Hans-Werner Sinn

78 �

freedoms, guaranteed in the Treaty ofRomealready in1957, have finally beenimplemented.

The euro has not only helped toopen doors in Europe politically. It isalso directly increasing the inner-Euro-peanmobilityof production factors andgoods. In the past, the uncertainty ofexchange-rate movements has bur-dened cross-border trade with not in-considerable risks and hedging costs.For Germany, the Netherlands andAustria, which were protected bythe German mark, this brought the ad-vantage of unmatched, low interestrates.All this no longer applies. Interestrateconvergence, as shown inchart1, isnearly complete.Theeurohas created anearly perfect inner-European capitaland goods market and thus the prereq-uisite fora freeunfoldingof the forcesofsystems competition.

TheGerman tax reformof 2000canbe seen as a reaction to thisdevelopmentsince it was explicitly justified — as

was the so-called locational-safeguard-ing law (Standortsicherungsgesetz) of1993 — by the locational competitionthat Germany is engaged in. Germanyhas come in last among EU countries inrecent years in terms of economicgrowth. The lowering of the corpora-tion tax rate to only 25% is meant tobring a trend reversal and to preventcapital from leaving the country.

Sweden and Austria have also hadextensive debates on their attractive-ness as investment locationswhich haveled to courageous tax reduction meas-ures. Sweden and Austria have eveneliminated the synthetic income taxby taxing interest income at a lumpsum rate of only 30% and 25% respec-tively.

Capital reacts particularly sensi-tively to the taxationof interest income.After the German government an-nounced the introduction of a 10%source tax on interest income inautumn 1987, considerable amounts

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of capital left the country during thefollowing six quarters. Long-term cap-ital imports of DEM 3 billion in theyear before the announcement turnedinto long-term capital exports ofDEM 95 billion in the year after theannouncement.1) The evasive reactionswere so great that Germany was forcedto rescind the law only four monthsafter its introduction. The second at-tempt made in 1992 to tax interest in-come at source was only apparentlysuccessful since evasive reactions failedto materialise only because the govern-ment this time did not tax interest in-comeearned inGermanyby foreigners.

The erosive effectswerenot limitedto the tax on interest income. Corpo-ration income tax is also having a diffi-cult time in systems competition. Sincethe dramatic income tax rate reductionfrom46%to34%that theUnitedStatesintroduced in 1986, many countriesresponded with similar tax reformsand also lowered their rates.As a result,the average effective taxburden that thepresent 15 EU countries impose on

U.S. companies that operate in theEU fell by more than 12 percentagepoints between 1986 and 1992 (seechart 2). Germany was merely a fol-lower in implementing these reforms.

Ireland has pursued a particularlyaggressive locational-safeguarding pol-icy by sufficing itself with a corporationincome tax rate of only 10% for an in-creasing number of sectors. In 1987Ireland extended this regulation,whichwasoriginally limited tomanufacturingand special service industries, also tofinancial services within the Inter-national Financial Service Centres inDublin and Shannon Airport. Thisled to considerable capital flows toIreland. Other governments reactedby changing legislation on externaltax relations of domestic firms whichallowed the revenue authorities totax income from borrowing trans-actions.

The Netherlands and Belgium havealso followed the Irish example bygranting special conditions to the finan-cial and service industries that locate in

1 See No‹hrba§ and Raab (1990).

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special areas. In nominal terms they taxincomeat thenormal corporate incometax rate, but they permit a very gener-ousway of calculating lump sum profitswhich effectively reduces the corporateincome tax rate to 7% (Netherlands).

There is no doubt that capital is themostmobileof all production factors. Itis more mobile than labour and ofcourse more mobile than land. For thisreason it is not surprising that taxeshaveshifted to other factors. The factor landis not lucrative enough because of in-sufficient income mass. Accordingly,more and more taxes have been placedon the factor labour.

Chart 3 shows a clear time trend ofthe percentage of wage tax on total taxrevenue in theOECD countries, whichdespite the exceptions of Turkey andthe U.K., is evident for most of theOECD countries. Over the past fiftyyears the share of wage taxes has risenfrom 45% to nearly 60%. The factorlabour is the victim of globalisation.

Migration in EuropeDespite this trend we must not ignorethe actualmobilityof the labour force inEurope. Today the percentage of Ger-man residents born abroad is 8.9% ofthe total population. This is not muchless than the 9.8% of the United States,a country of traditionally large immi-gration.1)

Migration will increase with theeastward enlargement of the EU. Nofewer than 106 million Eastern Euro-peans are seeking entry into the EU,and the first wave of accession willinclude eight countries and about75 million people. The wage of thesepeople is currently between one fifthand one tenth of that inWest Germany,compared to about half in Spain andPortugal when they joined the EU.According to estimates by the Ifo Insti-tute for Economic Research betweenthree and four million people willmigrate to Western Europe over aperiod of 15 years.2) What comes on

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top of this is the immigration fromother parts of the world.

The immigration from very poorcountries to Western Europe couldtouch off considerable competitivepressure in the labourmarket.Apersonwho decides to leave his home countryto seek his fortune in the West will beguided above all by economic criteria inhis choice of countries andwill react toeven the slightest differences. Eventhough considerable income differen-ces are necessary to set off migration,

the differentialmigration be-tween the Euro-pean countries isnevertheless ex-tremely high.The theoreticalideal of perfectmobility is very

close to being realised in this area.Under these circumstances, the

countries of Western Europe will beforced to engage in awarding-off com-petition so as not to attract too manypeople that the statewould have to sup-port. Immigrants in Germany are netrecipients of government benefits dur-ing their first ten years of residence,according to a study by the Ifo Institutefor Economic Research. Per capita andyear they receive about EUR 2,300more in terms of public goods andtransfers than they pay in taxes and fees.It is foreseeable that this condition willnot continue. The Western Europeancountries will scrutinise their socialwelfare systemsand try toavoidbecom-ing welfare magnets. A successive dis-

mantling of the European socialwelfarestate is the likely outcome.1)

This process will, of course, bemuch slower than the competitionfor capital. It took fourteen years forGermany to adopt the American tax-cut cum base-broadening. The ward-ing-off competition among the welfarestates will be much slower. It willcertainly stretch out over decadesand can only be gauged in an historicalperspective.

An impression of the importance oflabour-force migration on the behav-iour of countries can be seen in theU.S. example. InAmerica, labour forcemobility has always been very high andat the same time the system of govern-ment is decentrally organised. Underthese circumstances it was impossibleto establish a European-type welfarestate, and attempts that pointed in thisdirection failed miserably. When NewYork City expanded itswelfare benefitsunderMayor John Lindsay at the end ofthe 1960s as ameans of combating pov-erty, it attracted the poor from all overAmerica. The result was rapidlymounting debt that led to near bank-ruptcy in 1975, forcing a turnaroundin anti-poverty policies.2)

The Invisible Handand the Selection Principle

The major trends of systems competi-tion are obvious and can be observedempirically. Economists also know fullwell what individual countries mustdo in the competition to attractinvestment. The recommendations ofthe various councils of economic advi-

1 Network effects have little influence on this. To be sure, wherever a network already exists, the economic incentives formigration decisions are no longer so important. Then competition has already occurred. However, the expectation of futurenetworks thatmay result from currentmigrationwill induce states all themore to cut back their welfare benefits. Ex ante, thecompetition is then all the stronger. See Thum (2000).

2 During the Lindsay�s first term of office, social welfare expenses rose from 12.5% to 23% of the budget (Glaeser and Kahn,1999, p. 124; Shefter, 1985, p. 86).

Hans-Werner Sinn

82 �

sors and the economic research insti-tutes are quite unanimous in mattersof tax policies and regulations. Thisis no wonder: economists are the�managers� of their countries. Theyhelp their respective countries opti-mise their collective policy decisions.They help them survive in systemscompetition.

What is less clear is the result thatsystems competition produces on thewhole and especially how this resultshould be assessed. Can we trust thiscompetition as an organisational proc-ess? Is there an �invisible hand,� as thereis for private competition, that regu-lates everything for the better fromthe viewpoint of the community ofnations? Do the main theorems of wel-fare economics also hold for systemscompetition, or is pessimism calledfor? Are central government solutionsneeded to correct the market failuresin systems competition? Should poli-cies in a variety of areas be harmonisedto reduce competition? How muchBrussels does Europe need? These arethe fascinating questions that the theoryof systems competition deals with.

It is certainly possible to constructmodels of systems competition whoseassumptions in analogy tomarket com-petition are adjusted to producing afunctional competition among states.1)But it is not clear whether such modelscancapture theessenceof systemscom-petition.

The reason for doubt lies in what Ionce termed the Selection Principle(Sinn, 1997a, 1997b). This principlemaintains that states take over thoseeconomic activities that the privatemarket is unable to carry out. Sincethe state acts as a stopgap, replacinglackingmarkets and correcting the fail-

ings of existing markets, we cannothope that the reintroductionof themar-ket through the backdoor of systemscompetition will lead to sensible allo-cation results. It is more likely that thefailings that led the state to act will re-appear on the higher level of competi-tion between states.

According to the Selection Princi-ple,drawinganalogiesbetweencompe-tition in the private sphere and compe-tition between states is completelyinadmissible because the states admin-

ister the exceptions in the competitiveallocation processes. Precisely becausecompetition functions well in the pri-vate sphere it must be feared that it willfail in the public sphere.

Three Examplesof the Selection Principle

To show how the Selection Principleworks in reality, three examples willbe briefly presented, without lookingat the underlying, formal models.2)

TheErosionof theSocialWelfareStateAmong the reasons for government re-distribution, the insurance motive isprobably the most important. Behinda veil of ignorance, wise constitutionalfathers — or also median voters — haveagreed on the social welfare state tocover the life and career risks of theirchildren.Thosewhosuffermisfortunesin life are net recipients of state resour-

1 See, for example, Sinn (1992), Richter (1994), Wellisch (1995) or Oates and Schwab (1988) and Oates (2001).2 For the underlying models, see Sinn (2002), Chapters 3, 2 and 7, in this order.

Hans-Werner Sinn

83�

ces, the more fortunate are net payers.From an ex-ante perspective the ex-pected utility of risk-averse citizensincreases.

In establishing the redistributionmeasures, attention must be paid ofcourse to the behaviour changes thatthey induce. Ex ante, as in all insurancecontracts, the efforts to reduce theinsured danger decrease, but, and thisis a good thing, the willingness to takemore risks in the choice of occupationand other decisions in life is greaterthan would otherwise be the case.Moreover, ex post, the incentive is lac-ing of acquiring more income throughone�s own efforts, which is, of course,a disadvantage.

Assumed the case that a national re-distribution system is optimally de-signed by having found the best possiblemixtureof thesevarious advantages anddisadvantages. Would this redistribu-tion system survive in systems compe-tition or was it even brought into beingby this competition?

The answer is surely negative sincethe freemigration of net payers and netrecipients of state benefits would in-duce precisely the effect that was de-scribed in the previous two sections.Every state would have an incentiveto treat the net recipients a bit worseand the net payers a bit better that theirneighbours do in order to ward off thelatter and attract the former and in sodoing create a budget surplus.

From the position of the individualcountry, given the behaviour of othercountries, the utility effect for thosewho are induced to migrate becauseof this marginal decision is a negligible,second-order effect. However, thebudget effect, as a first-order effect,

is strictly positive. On balance withthe scaling back of the social welfarestate, national welfare in the sense ofexpectedutilityof the citizens increasessince the budget surplus can be usedto the advantage of all. From the posi-tion of all countries, however, nothingcan be gained by such actions since nomigration takesplacewhenall act in thisway. What happens is only that the re-distribution is reduced and the ex-pected utility of the citizens declines.

The result can also be understoodbyusing the theoryof externalities.Thesocial welfare state creates positive ex-ternal effects for other social welfarestates by means of the internationalmigraion that it induces. It drives awaythe rich, increases the supply of factorsoffered by them in other countries andin thisway lowers their factor paymentsabroad. And it attracts the poor,whereby their factor payments riseelsewhere. In this way the income dis-tribution in other countries becomesmore even and the degree of goal per-formance of social policy in these coun-tries rises. Since the positive externaleffects are not taken into considerationinnational social policies, systems com-petitionbringsaboutanunderprovisionof social policy.

Theunderlyingcause for this flaw insystems competition can be seen in theSelectionPrinciple since theprotectionagainst inequality in lifetime incomethat the social welfare state offers can-not be provided by private enterprise.Private insurance contracts presupposethat the signers are of age and canonly be concluded with adults. Foran adult, however, the dice of fate havealready been cast, the veil of ignorancehas been lifted.1) Redistribution con-

1 In theory it is conceivable that parents conclude such contracts for their children, but no civilised country gives parents theright to obligate their successful children to pay for the unsuccessful children of other people. Only contracts that involve aresource transfer from parents to children are allowed.

Hans-Werner Sinn

84 �

tracts do not come into being on a pri-vate enterprise basis since the mobilenet payers would not participate. Ad-verse selection prevents the private in-surance market from coming into ex-istence.

Themigration processes that createa failure in the competition among so-cial welfare states can also be inter-preted as adverse selection. The migra-tionof the successful and theunsuccess-ful is a choice that takes place ex post,that is after the veil of ignorance hasalready been lifted. Since the successfulnet payers do not participate, the socialwelfare state cannot survive.

A possible policy implication of thislies in the harmonisation of redistrib-ution rules, but this is not easily achiev-able between countries with differingaverage incomes. What is better is adelayed integration of migrants inthe national social system, as has beenrecommendedby theAdvisoryCouncilto the German Ministry of Finance orrecently by the Ifo Institute.1)

Infrastructure Goodsand the Race to the BottomIt is often maintained that there isno need to fear the erosive forces ofsystems competition. There is no raceto the bottom since the net payers donot orient themselves on the taxes thattheypaybut on thepublic goods that areplaced at their disposal. There is espe-cially no need to fear a race to thebottom in the competition to attractmobile capital since companies are pre-pared to pay an appropriate price forgood infrastructure. This argument istrue on the surface, but it is only halfthe truth.

First, itwouldbebadenough for thesocial welfare state if the taxes that arepaid on the factor capital would only

suffice to pay for the infrastructuremade available to this factor. Theywould lose their fiscal character andbecome pure benefit taxes, becausethis would mean foregoing redistribu-tion and insurance protection.

Second, it is not even certain thatthe taxes on mobile capital generateenough revenue to pay for the infra-structure. In systems competition,countries behave like competing firmsthat demand marginal cost prices, orto be more precise, tax rates that re-flect the mar-ginal congestioncosts for a giveninfrastructure. Itis not to be ex-pected that thesetax rates willprovide enoughincome to coverthe costs of providing the infra-structure.

The reason for this lies in the Selec-tion Principle. When states are de-signed in accordance with this princi-ple, they offer those goods which be-cause of sufficiently strongly increasingreturns to scale in production and usecannot be offered by the private sector,since private competition would beruinous and would not achieve equili-brium. For such goods, tax rates or pri-ces as high as the marginal congestioncosts are not enough to finance theinfrastructure. A chronic deficit arisesthat must be covered by other means.The private market failure that led tostate intervention has renewed prob-lematic implications at the higher levelof competition between countries.

When the immobile productionfactors are sufficiently important thisdoes not automatically mean that thereis no equilibrium in systems competi-

1 Sinn et al. (2001) and Wissenschaftlicher Beirat beim Bundesministerium der Finanzen (2000).

Hans-Werner Sinn

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tion. Also competition is not ineffi-cient. It is in the interest of the ownersof immobile factors, which are com-plementary to mobile factors, to co-finance the infrastructure used by themobile factors. Moreover, the individ-ual state has the incentive of providingthe right quantity and quality of infra-structure. Nevertheless, the resultfor the social welfare state is stillworse than if only benefit taxes canbe levied. The owners of immobile fac-tors, which include very many infirm,

weak, or thosewho offer simplelabour, receiveno money fromthe rich capitalowners but sub-sidise these capi-tal owners insystems compe-

tition. This is not a race to the bottombut in a certain sense a race below thebottom.

The policy implications of this ob-servation are similar to those that canbederived fromtheerosionof the socialwelfare state. In addition, locationalcompetition can be limited if cross-border profit flows are taxed accordingto the residence principle instead ofthe source country principle. TheU.S. Internal Revenue Service withits world-wide income concept andits regulations for taxing passive foreignincome has gone quite far in thisdirection.

A harmonisation of corporate in-come tax in the European context doesnot follow from this because such a stepwould likely lead countries to conductlocational competition with infrastruc-turegoodswhichwould lead to anover-supply of such goods. When there isharmonisation it must also be assured

that the infrastructure used by themobile factors is completely paid bythem. This could be achieved by anextension of the EU subsidy bans toinclude indirect assistance from infra-structure gifts. Given that the EU is justnow considering new proposals for aharmonisation of company taxes, thisis a timely issue.

Lemon Banks and Bank RegulationThe third and last example to be con-sidered deals with bank regulation.1)The Asia crises, the U.S. Savings andLoan crisis and various bank failureshave shown that regulation of the bank-ing sector is an important task for thestate and that there are possibly prob-lems with a free regulatory competi-tion.Not least as a result of these crises,the Bank for International Settlementsis currently improving its rules for bankregulation (Basel II) to promote, onthis basis, a further harmonisation ofnational rules.

The purchaser of a bank bond doesnot receive a guaranteed redemptionclaim. Instead, the likelihood ofthe agreed redemption depends onwhether the bank has not gone bank-rupt before the repayment date, andthe amount of repayment in case ofbankruptcy depends on how muchcapital reserves the bank has, to servicetheir creditors even in a worst-casescenario. Banks are not able to com-pletely avoid bankruptcy because thecompanies to whom the banks passon the funds they received from thepurchasers of bonds are also not im-mune to bankruptcy. The expectedredemption value is the key quality fea-tureof a bankbond. If the trueexpectedvalue cannot be determined by thebank�s creditors because the creditorscannot effectively monitor the bank�s

1 For the formal model underlying the analysis of this section see Sinn (2001).

Hans-Werner Sinn

86 �

actions, the bank bond is a lemon goodwhose quality is exposed to erosiveforces similar to those that effect phys-ical lemon goods.

In the case of asymmetric informa-tion between a bank and its creditorsthere is the danger of excessively neg-ligent bank behaviour. The bank mayhave an incentive to conduct its businesswith excessively low capital reservesand to finance particularly risky enter-prises. In the choice between an ex-tended loan that has a high probabilityof a modest return and one with a lowprobability of a high return, it can beworthwhile to choose the second alter-native even if a smaller expected rate ofreturn is associated with it. The reasonlies in what I once called the BLOOSrule which states that you cannot getblood out of a stone.1) Since a bank can-not lose more than its capital reserves,the acceptance of a smaller chance ofsuccess and thus a larger risk of bank-ruptcy has the advantage that the ex-pected redemption value that the bankmust give its own creditors is reduced.The expected profit of the bank canbe enlarged in a similarway as the profitof a lemon supplier can be enlargedby a quality deterioration of the soldproduct.

If all banks in a market behave thisway, then the buyers of bank bonds canconclude fromobserving theoccasionalbank failure that they are buying lemonbonds and they will demand appro-priate risk premia on top of the agreedinterest rate. To this extent they are notcheated in the final analysis and to thisextent banks as awhole do not succeedin putting themselves in a better posi-tion by increasing the risk of bank fail-ure. On the contrary, because theychoose excessively risky and unprofit-able financing projects the lessening of

expected loan repayments from theseprojectswillbeexpressed inareductionof expected bank profits. The welfareloss that results from the lemon bondswill be borne entirely by the banksthemselves.

It is in the interest of the banks toprevent the development of such alemon equilibrium by means of collec-tively agreed or government orderedrules on capital reserves. Strict banksupervision,as is carriedout inWesternindustrial countries, solves the alloca-tion problem.

U n f o r t u -nately, the Selec-tion Principleagain indicatesdangers if banksupervision itselfis exposed toin t e r na t i ona lcompetition. Assuming that bank cus-tomers are neither able to reliablyassess the risk situation of the individualbank nor the importance of nationalrules on bank reserves, the nationalregulatory agency has an incentive tobe generous in controlling the banksunder its supervision if foreignersare among the holders of bank bonds.The loosening of the regulatory restric-tions behind the backs of the creditorsleads to redistribution from these cred-itors to the national banks, and thelarger the percentage of foreignersamong the creditors, the larger thenational welfare gain that arises. Na-tional market failure translates into acompetition of laxity of the regulatoryagencies and thus to a failure of systemscompetition.

Noted economists have attributedthe Asian crisis of 1997 and 1998 toan excessively lax regulation of Asianbanks, and there are many indications

1 See Sinn (1980, 1982).

Hans-Werner Sinn

87�

that systems competition resulted inoverly lax regulation. In this regard,the efforts of the Bank for InternationalSettlements to achieve a better de factoharmonisation of bank regulation withthe Basel II accord is a step in the rightdirection.

Concluding Remarks

Similar examples could be added fromenvironmental policy, health care orother areas. They would confirm thatbecause of the Selection Principle

the more likely outcome is a failurerather than a smooth functioning ofsystems competition.

The implications for thenecessityofinternational agreements andharmoni-sation measures including the develop-ment of a new level of government inEurope are obvious and must be takenseriously. Of course, we know all toowell that market failure is not a suffi-cient reason for government interven-tion or, for that matter, that a failure ofthe competition among the Europeannation states is not a sufficient reasonfor Brussels to step in. The danger thatthe central authority will do an evenpoorer job than themarket participantsis too great.We should be careful, how-ever, not to throwout the babywith thebath water. The proof of failure in sys-tems competition is the necessary pre-requisite for considering internationalregulations in the first place. In this re-spect the Selection Principle is impor-tant for a new design of Europe and theworld. It destroys the wishful thinking

that some economists, enamoured bytheir firm belief in competitive proc-esses, engage in.

A counter-thesis to the pessimismthat follows from the Selection Princi-ple is that systems competition is desir-able because it forces inefficient coun-tries to become more efficient. Thisthesis follows the same logic as the viewthat private competition eliminates in-efficient companies or forces them toact efficiently. Indeed,much can be saidfor this thesis under ideal market con-

ditions. Inefficientlymanaged firms havehigh average costsand are forced tomimic efficientlymanaged firms withlower costs, if theydo not want toperish. The main

theorems of welfare economics prob-ably also apply, if themanagers selectedby the market process are too stupidto actively implement the conditionsfor a profit maximum, but cleverenough to mimic successful competi-tors who by chance picked the rightpolicies.

The problem, however, is the as-sumption of ideal market conditions.If such conditions are not present, itis not easy to talk about the efficiencypromoting effects of competition.Consider the example of environmen-tal pollution to clarify the point.With-out competition, a management with aromantic, nature-loving orientationcould survive but under competitionit has no chance. Businesses that max-imise their profits and minimise theiroperating costs will prevail, and theseare the environmental polluters.

The Selection Principle states thatideal market conditions tend to exist inprivate competition but not in compe-tition between states, and this raises

Hans-Werner Sinn

88 �

doubts as to the efficiency of systemscompetition even if national govern-ments are too ignorant to actively pur-sue a policy of national welfare maxi-misation. For a similar reason as in thecase of private firms, competition willforce even the badly functioning gov-ernments to mimic their successfulneighbourswhichmanaged to find bet-ter policy mixes with regard to themobile factors of production, but, asexplained, such policy mixes neednot be better from an internationalwelfare perspective. In the above-men-tioned examples a maximum of nationstate efficiency was assumed. The be-haviour of individual countries servedthegoalofmaximisingnationalwelfare.Despite, or better, because of the per-fect achievement of this goal, systemscompetition turnedout to bedefective.As correct as the thesis that systemscompetition forces the nation stateto seek national efficiency is, it doesnot follow from this that systems com-petition itself is efficient.

The Selection Principle is in accordwith the positive view of the state thatstems from traditional public sectoreconomics as represented by Scha‹ffle(1880), Sax (1887), Wagner (1876),Wicksell (1901), Lindahl (1939),Musgrave (1959), Timm (1961) andothers. For this tradition the modernstate is a necessary accompanying fea-ture of industrialisation and urbanisa-tion touched off by the Industrial Rev-olution. It arose above all to correct thedeplorable conditions that were char-acteristicof the latenineteenthcentury.Cities choked in filth, the pitiable livingconditions of the proletariat, povertyamong the elderly, catastrophic hy-gienic conditions, and many other evilsgave rise to a general need for govern-ment intervention in the market proc-ess. ThemodernEuropean state is not aruling instrument of feudal powers.

Despite all its weakness and problems,it must be seen as an instrument for thefulfilmentof collective tasks that cannotbe accomplished by the privatemarket.It is not the result of an error of historybut its logical consequence. In systemscompetition, however, its chances areno longer all too great.

The historical selection of govern-ment tasks came about in part by com-petitive processes. But this was not asystems competition forced by the in-ternational mobility of production fac-tors, but the innovation and imitationcompetition described at the outset,which among other things was guidedby the objective of economic, culturalandmilitary dominance andwhich tookplace within largely sealed borders.Such competition follows completelydifferent laws than competition in-duced by the mobility of productionfactors. Indeed, in the light of theSelection Principle it is conceivable,or even likely, that the new systemscompetition will destroy the resultsof the old if we do not succeed in dras-tically limiting its scope. §

References

Altshuler, R., H. Grubert, and T. S.Newlon (1998). Has U.S. InvestmentAbroad Become More Sensitive to TaxRates? NBER Working Paper 6383.

Borchardt, K. (2001). Die Globalisierungist nicht unumkehrbar. In: Handelsblatt,No. 112, June 13: 7.

Glaeser, E. L., and M. E. Kahn (1999).From JohnLindsay toRudyGiuliani: TheDe-cline of the Local Safety Net? In: EconomicPolicy Review 5: 117—32.

Hirschman, A. O. (1970). Exit, Voice, andLoyalty: Responses to Decline in Firms,Organizations, and States. Harvard Univer-sity Press, Cambridge.

Lindahl, E. (1939). Studies in the Theoryof Money and Capital. George Allen &Unwin Ltd., London.

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Musgrave, R. A. (1959). The Theory ofPublic Finance. McGraw-Hill, New York.

No‹hrba§, K. H., and M. Raab (1990).Quellensteuer und Kapitalmarkt. In: Finanz-archiv 48: 179—93.

Oates, W. E. (2001). Fiscal and RegulatoryCompetition: Theory and Evidence. Paperpresented at the annual conference ofthe Verein fu‹r Socialpolitik in Magdeburg,September.

Oates,W. E., and R. M. Schwab (1988).Economic Competition among Juris-dictions: Efficiency Enhancing or DistortionInducing? In: Journal of Public Economics 35:333—54.

OECD (2001). Society at a Glance —OECDSocial Indicators.

Richter, W. F. (1994). The Efficient Alloca-tion of Local Public Factors in Tiebout�sTradition. In: Regional Science and UrbanEconomics 24: 323—40.

Sax, E. (1887). Grundlegung der theore-tischen Staatswirtschaft. Ho‹ lder, Vienna.

Scha‹ ffle, A. E. (1880).Die Grundsa‹tze derSteuerpolitik und die schwebenden Finanz-fragen Deutschlands und Oesterreichs.Laupp, Tu‹bingen.

Shefter, M. (1985). Political Crisis, FiscalCrisis — The Collapse and Revival ofNew York City. Basic Books, New York.

Sinn, H.-W. (1980). O‹ konomische Ent-scheidungen bei Ungewi§heit. Mohr, Tu‹bin-gen. Here cited according to the Englishtranslation: Economic Decisions underUncertainty. North-Holland PublishingCompany, Amsterdam, New York andOxford 1983.

— (1982). Kinked Utility and the Demand forHuman Wealth and Liability Insurance. In:European Economic Review 17: 149—62.

— (1997a). The Selection Principle andMarket Failure in Systems Competition.In: Journal of Public Economics 66: 247—74.

— (1997b). Das Selektionsprinzip und derSystemwettbewerb. In: Oberhauser, A.(ed.). Fiskalfo‹deralismus in Europa. Duncker& Humblot, Berlin: 9—60.

— (2001). Risk Taking, Limited Liability andthe Competition of Bank Regulators. In:CESifo Working Paper No. 603, Novem-ber.

— (2002). The New Systems Competition.Yrjo‹ Jahnsson Lectures. Basil Blackwell, Ox-ford and Malden, Mass., forthcoming.

Sinn, H.-W., G. Flaig, S. Munz, and M.Werding (2001). EU-Erweiterung undArbeitskra‹ftemigration: Wege zu einerschrittweisen Anna‹herung der Arbeits-ma‹rkte. Ifo Beitra‹ge zur Wirtschafts-forschung 2, ifo Institut fu‹r Wirtschafts-forschung, Munich.

Sinn,S. (1992).TheTaming of the Leviathan:Competition among Governments. In:Constitutional Political Economy3:177—96.

Thum, M. (2000). EU Enlargement, FiscalCompetition and Network Migration.University of Munich, mimeo.

Timm, H. (1961). Das Gesetz der wach-senden Staatsausgaben. In: Finanzarchiv21: 201—47.

Wagner, A. (1876). Allgemeine oder theo-retische Volkswirtschaftslehre: Erster Theil.Grundlegung. Winter�sche Buchhandlung,Leipzig and Heidelberg.

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Wissenschaftlicher Beirat beimBundesministerium der Finanzen(2000). Freizu‹gigkeit und Soziale Siche-rung in Europa. BMF-Schriftenreihe 69,Bonn.

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Gareth D. Myles

Comments on

Hans-Werner Sinn,

�The New Systems

Competition�

1 IntroductionProfessor Sinn has provided a stimulat-ing and provocative talk. It describes ascenario inwhich thenewsystemscom-petition leads to a crisis for some of ourmost cherished public sector institu-tions. Perhaps to provide a rallying callto action, it promotes this outcome asinevitable. The purpose of this discus-sion is not to dispute the forces atwork,but instead to review mechanismsthrough which they may be moderatedor even beneficial.

It should be recalled that these is-sues of systems competition are notnew. The 1944 Bretton Woods Agree-ment can be seen as a milestone in pro-viding a transnational agreement that,although liberal in some respects, pre-vented a race to the bottom through theuse of capital controls. Keynes, thechief British negotiator commented�Notmerelyasa featureof thetransitionbut as a permanent arrangement, theplan accords every member govern-ment the explicit right to control all

Gareth D. Myles

Professor,

University of Exeter

capital movements. What used to beheresy isnowendorsedasorthodoxy.�1)Then, as now, transnational institutionswere seen as the natural solution to theproblem of externalities in inter-re-gional competition.

2 Observationsand Consequences

To provide a basis for my discussion,I draw from Sinn�s paper a simplifiedstatement of the main thesis and theconsequences that follow from it.

The central thesis is that competi-tion between economic systems (cap-italism versus democracy) has beenreplaced by competition between largetrading blocs and between countrieswithin those trading blocs. This com-petition involves attracting mobilefactors of production by inducementssuch as lower tax rates. The degreeof competition is enhanced by theincreased mobility of capital and labor,both of which can now more easilymove to exploit economic advantage.For the EuropeanUnion countries, thisis especially true since the completionof the Single Market.

Sinn notes that governments aredesigned to intervene to offset marketfailurewithin countries.Consequently,when the market failure arises in inter-actions between countries, there is nonatural authority tomake the necessarycorrections. The unregulated compet-itive process may therefore fail at this

level of interaction and hence not de-liver what is efficient.

Two major consequences followfrom this:

Firstly, tax competitionwill occur asjurisdictions compete for the mobilefactors of production. This is seen asapplying particularly to capital andtobe reflected in theprocessofdecreas-ing capital tax rates that have recentlybeen witnessed in several countries.

Secondly, the movement of labor isexpected to overwhelm welfare sys-tems as people engage in benefit shop-ping.This isespecially important for theEuropean Union with its enlargementto the East.

Both these consequences can besummarized as having the nature of a�race to the bottom� as governmentscut taxes and public good provisionin order to compete. Such ideas havereceived much attention in areas ofthe economic literature as diverse asenvironmental management and finan-cial regulation. At the heart of all of thisanalysis is the general idea that the pol-icy choices of countries impose nega-tive externalities upon others. Unlessregulated, an advantage accrues tothose who cut their standards and thispressurizes others to do likewise. Con-sequently, allwill cut standards (degreeof regulation, rate of tax, benefits paidetc.) to the general detriment. This isjust a reflection of the usual conflict be-tween private and social benefits thatalways arises in the presence of exter-nalities.

The outcomes described in Sinn�spaper are perfectly possible and maywell happen. However, this is by nomeans certain and a range of policy op-tions is available to mitigate the conse-quences. After a brief review of somesalient data, the following sections will

1 Gardner (1980).

Gareth D. Myles

94 �

suggest reasonswhy some of the effectsmay be beneficial, describe theoreticalresults that provide cause for hope, anddiscuss some policy proposals.

3 Basic Data

This section provides some data to il-lustrate the extent to which taxes oncapital have declined and the potentialfor labor mobility within an enlargedEuropean Union.

3.1 Capital TaxationAreviewof the statutory taxrates leavesnodoubt that theyhave fallen steadily ina number of countries in the last fewyears. Care must be exercised thoughbefore it is concluded that this indicatesa reduction in the effective tax uponcapital since the statutory burdenand the actual burden can be quitedifferent.

There is no doubt that the revenueraised from capital taxes has been lowrelative to the potential tax base. This isprobably due to the difficulty of defin-ing liability in away that preventswide-spread avoidance (and probably someevasion). What matters for the effectof a tax change is the elasticity of rev-enue with respect to the statutory rate,

and this may well be greater than one.If it is, with lower rates reducing theincentive to avoid, revenue may riseas the tax rate falls.

To provide some insight into this,chart 1 plots United Kingdom revenuefrom capital taxes as a percentage ofGDP over the period from 1982 to2001. The trend line in the chart showsthat there has been a general decline inthese revenues over the period. So overthis twentyyear period thehypothesis issupported and capital taxes declineboth statutorily and effectively.

Itmight beexpected that if tax com-petition is driving down capital taxrates, the process would have acceler-ated since the completion of the SingleMarket in December 1992. To test thisidea, consider the data in chart 1 since1993. It can be seen in the chart, andeasily confirmed by plotting the data,that the effective burden on capital hasactually risen since 1993— the converseof what the tax competition argumentwould suggest.

This discussion just illustrates averystandard observation: considering stat-utory rates of tax never tells the fullstory of tax incidence. What is reallyrelevant for economic analysis is the

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actual incidence and burden of the tax.A cursory glance at statutory rates maysupport the tax competition argumentbut it requires a comprehensive analysisof the actual burden to convincinglyprove the point. As the chart above sug-gests, there may be some surpriseswhen the latter is undertaken.

3.2 Potential MigrationOneof themostdisturbing claimsof thepaper is that migrants will overwhelmthe welfare systems of the existingEuropean Union countries once theUnion is extended to the East. As a firststep in establishing this argument, it hasto be shown that sufficient incentivesexist for such migration to take place.

The standard representation ofmigration in economics is that it willbe driven by a combination of pure eco-nomic factors and an attachment tohomeland. These ties to homeland ruleout a situation of perfect mobility inwhich movements of labor occur in re-sponse to even the smallest of economicadvantages. Although it is difficult todirectly evaluate the value of these ties,so that a complete picture of potentialmigration cannot be obtained, at leastthe size of the economic factors can bedetailed.

Table 1 provides data on averageincomes (measured byGDP per capita)in someexistingEuropeanUnionmem-bers (top group), some of the potential�first-wave� of Eastern European newmembers (centre group) and some ofthe potential �second-wave� newmem-bers (bottom group). One point isstrikingly clear from this table. Averageincomes in the existing member coun-tries are severalmagnitudes higher thanthose of potential members. In fact theUnited Kingdom,which is fairly repre-sentative of the European Union in thisrespect,hasaverage incomeseventimesthat of Turkey and fifteen times that ofRomania. It is clear that these simplefigures support the contention that mi-gration will be a very significant issue ifthe EuropeanUnion does extend to theEast. The financial incentives exist andare substantial. Significant migration istherefore a distinct possibility.

4 Grounds for Optimism?

The previous section has detailed somefacts that are in broad agreement withthe general hypothesis of the effects ofsystems competition. The consequen-ces, though, need not be as bad as sug-gested. Two reasons why are now de-scribed.

4.1 Tax DifferentialsOne of the effects of the race to thebottom is that tax rates are reducedthrough tax competition and that taxdifferentials will not be maintainedin the long-term. This is especially truewhen there is mobility and a singlemarket.

In addressing whether these claimsare correct, the United States makesan interesting case study. There isclearly mobility of labor (though notthe income differentials identified be-tween European Union countries andpotential members shown in table 1)

Table 1

GDP per Capita and Population

GDP per Capita Population

GBP million

Austria 18,392 8.14Belgium 17,397 10.14France 16,596 58.68Germany 18,212 82.13Spain 9,665 39.63United Kingdom 14,676 58.65

Czech Republic 3,530 10.28Hungary 3,092 10.12Latvia 1,659 2.42Lithuania 1,741 3.69Slovakia 2,536 5.38Turkey 2,166 64.48

Bulgaria 836 8.34Romania 932 22.47

Source: The Economist.

Gareth D. Myles

96 �

and a single market. Individual statesare able to set their own income andsales taxes, and cities and countiescan add their local taxes on top ofthe sales taxes.

Table 2 provides data on tax rates inten U.S. states (actually the first ten inalphabetical order). These clearly illus-trate substantial differences betweenthe rates of both income taxes and salestaxes. If a suitablemetricwere adopted,these differences are likely to exceedthe differences observed across theEuropean Union countries. In fact,there are five states with a sales taxof 0% (Alaska, Delaware, Montana,New Hampshire and Oregon), al-though the highest city tax was 7%inWrangell, Alaska. The highest com-bined sales tax rate was 11% in the cityof Arab in Cullman County, Alabama,and the highest state tax was 7.25% inCalifornia.

To these observations should beadded the fact that, rather than declin-ing, the sales taxes have had a tendencyto rise. Bell (2001) notes that therewere 18 consecutive years of increasein the average combined rate (state pluslocal) until an all-time high of 8.251%was reached in 1998. The average com-bined rate fell to 8.231% in 1999 but

increased again to 8.235% in 2000.Furthermore, the rates have been sus-tained even with the advent of Internetshopping thateffectivelyallows tax-freeshopping in all locations (seeGoolsbee,2000).

What conclusions can be drawnfrom this? Overall, this evidence seemsdifficult to dismiss easily. What it ap-pears to show is an outcome in whichtax competition has not resulted in arace to the bottom but instead one itwhich an equilibrium has been estab-lished with diversity in rates reflectinglocal preferences. One might even betempted to argue that this reflects theefficiency claimed by the Tiebouthypothesis (see 5.2 below). If so, thenthe damaging effects of tax competitionwill only apply in Europe if there issomething significantly different be-tween Europe and the United States.It is not immediately clear what thisdifference might be. One argumentcould be that factors are less mobilein the U.S., though this does seem un-likely. Applied to sales taxes, such anargument makes no sense since theInternet makes cross-border shoppingpotentially available to all consumerswhich should have further reducedthe differentials.

Table 2

U.S. State Income and Sales Taxes

State Income tax rates Income brackets1) Personal exemption Statesales tax3)

Low High Number Low High Single Married Child

% number USD %

Alabama 2.0 5.0 3 500 3,000 1,500 3,000 300 4Alaska no state income tax noneArizona 2.87 5.04 5 10,000 150,000 2,100 4,200 2,300 5.6Arkansas 1.0 7.0 6 2,999 25,900 20tc2) 40tc2) 20tc2) 5.125California 1.0 9.3 6 5,454 35,792 72tc2) 142tc2) 227tc2) 7.25Colorado 4.63 Same 1 flat rate none 2.9Connecticut 3.0 4.5 2 10,000 10,000 12,000 24,000 0 6Delaware 2.2 5.95 7 5,000 60,000 110tc2) 220tc2) 110tc2) noneFlorida no state income tax 6Georgia 1.0 6.0 6 750 7,000 2,700 5,400 2,700 4

Source: www.bankrate.com.1) Income bracket ranges generally are for single taxpayers.2) tc = tax credit.3) In some states, local sales taxes are levied on top of state rate.

Gareth D. Myles

97�

4.2 Welfare SystemsThe paper under discussion noted thatmost new immigrants arenet recipientsof benefits for the first ten years of res-idence. The question then, is whetherthe benefit systemwill survive the pos-sible influx.

For some time it has been acknowl-edged that one of the major difficultiesfacing the welfare systems of Westerncountries is the increase in the depend-ency ratio facing state pension schemes(see Miles, 1999). This is due to bothincreased longevity and the decreasein the birth rate. It is predicted thatthe relatively smaller working popula-tion will face increased difficulties insupporting pension payments to theretired. This trend is illustrated inchart 2.

Given this observation, the poten-tial benefit of inward migration be-comes clear. If the inward migrantsare working-age individuals thenthe dependency ratio will be reduced.This may allow the continued function-ing of the existing pension schemes

until reforms can be introduced thatremove the long-term difficulties.Hence, rather than immigration beingthe end of the benefit system, it mightactually be its savior.

5 Theory

The practical observations of the pre-vious section can be supported by sometheoretical observations. These are notbriefly described.

5.1 Optimal Capital TaxationOptimal tax theory attempts to deter-mine the �best� tax structure accordingto some given measure of economicwelfare. One of the most importantrecent results in this area is that ofChamley (1986) and its extension inLucas (1990).

In an infinite-horizon model withoptimizing agents, Chamley showsthat a zero rate of tax on capital willbe the optimal policy in the longrun. It may initially be positive but willthen decline along the equilibriumgrowth path. The tax burden trans-

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98 �

fers gradually to labor. If this doescharacterize the optimal policy, thenthe reductions that have been seenmay just be movement along the equi-librium path to the long-run opti-mum. If they are, then the decreasein rate is to be approved rather thancriticized.

Care, of course, must be exercisedin putting too much faith in a result ofthis kind. The economy in which it isderived is very stylized and requires in-tertemporal optimization by the singleconsumer and the government. In ad-dition, there is no natural way in whichto interpret the long run, and even lessto believe that we are currently con-verging to it.

5.2 The Tiebout HypothesisThe seminal contribution of Tiebout(1956) established the hypothesis thatcompetition between regions (in theirchoice of taxes and government provi-sion) would lead to an efficient out-come. In essence, by voting with theirfeet between competing jurisdictionsindividuals would simultaneously re-veal their preferences and join a juris-diction that was optimal for them. Thisprocess leaves no scope for inefficien-cies to arise or for a race to the bottomto take place.

A particular version of the Tiebouthypothesis can be found in Myers�(1990) work on tax competition. Iflabor is perfectly mobile, then it canmove to benefit from the smallest dif-ferences inregional incomes.Whateverone region does is then to the advantageof all consumers. Hence any inter-regional externality is eliminated. Thissimple mechanism can allow efficienttaxes to be sustained even if regionsarecompeting.AlthoughMyersphrasesthe analysis in terms of labor mobility,it clearlyalsoapplies toperfectlymobilecapital.

How important are these resultsfor rescuing the efficiency of thenew systems competition? Tiebout�shypothesis has been subject to consid-erable criticism (see, for example,Bewley, 1981) andhas proved a difficulthypothesis to formalize.What is clear isthat it relies on fairly extreme assump-tions on mobility and the availability ofpotential jurisdictions in order to gen-erate the efficiency argument. How-ever, even if reality does notconform to the required conditions

of the theory, this does not say thatthe forces identified by Tiebout arenot at work in an imperfect world.

5.3 Inter-Regional TransfersThe fundamental problem of systemscompetition has already been identifiedas one of externalities. The standardresponse to solve such market failureis to institute a system of Pigouviantransfersbetweenregions thatpreciselyoffset the external effects. An activecenter, such as the EU or the U.S. fed-eral government, can undertake suchtransfers between member countriesor states in order to internalize thetax competition externalities.

On the surface, these transferswould seem to be unlikely to be imple-mented since although socially desir-able they seem not to be individuallyrational. If this is the case, it wouldtherefore seem difficult to obtain con-sensus on their implementation. How-ever, the argument in Hindriks andMyles (2002) demonstrates that re-

Gareth D. Myles

99�

gions may find it in their own intereststo voluntarily provide such transfers.This finding is representative of thegeneral class of observations thatmutually beneficial (though individu-ally damaging behavior) can be sus-tained in equilibrium when decisionsare taken in separate stages.

Taken at a very literal level, it is inthe nature of the European Unions thatregions pay to the center and receivetransfers back from the center. Thetwo need not balance, however, thus

generating transfers between regions.This process can be interpreted ashaving some of the features of a systemthat can internalize the externalities oftax competition.

6 Policy

The arguments so far have attempted tolimit the potential damage of the newsystemscompetitionbyappealing totheU.S. situation, the potential benefits ofimmigration and to theoretical results.These can provide some hope that theoutcomemay not be as bad as predictedbut they are not entirely compelling.Attentionnowturns topossiblepoliciesthat can be implemented.

The basic requirement of policy isto internalize the externalities wher-ever this is possible and to protect wel-fare systemsagainst excessivedemands.Tax externalities can be internalized bythe inter-regional transfers already dis-cussed. Within a trading bloc such asthe European Union these can be madean explicit response to reduce the

consequences of tax competition. Todo this successfully, the center has tounderstand its role and to make itsobjectives clear.

An alternative solution is the har-monization of taxes. This was a keypolicy of the European Union in the1980s (see Keen, 1993) which wentsome way to lessening differentialsin commodity taxes. However, it nolonger seems to be actively pursued.Harmonization has its problems inthat it is perceived to lessen the

degree of domesticcontrol over taxa-tion and the free-dom to run inde-pendent tax policy.If it is to workthough, these polit-ical difficulties mayhave to be put aside

inorder toachieve thebenefitsofhigherlevels of taxation.

If competition is across tradingblocs, it becomes more difficult toachieve a solution. The obvious solu-tion is to introduce some transnationalbody to oversee and coordinate policyor else hope that a solution willemerge naturally. Sandler (1997) de-scribes the many global problemsthat have been confronted and solvedby either formal agreement or throughvoluntary cooperation. Not all suchagreements have been successful; therecent decision of the U.S. and Aus-tralia not to ratify the Kyoto agree-ment shows some of the difficultiesthat can arise.

The problem of immigration andwelfare payments can be respondedto in several ways, even acceptingthe principle of the free migration oflabor. It is possible to restrict someben-efits to only existing residents, or atleast phase in entitlement so that thereis no immediate major effect of immi-

Gareth D. Myles

100 �

gration. A more expensive, and longerterm, option would be to discouragemigration by raising average incomesin the eastern countries. This is the rolethat regional development has alreadyplayed within the European Union.The difficulty facing this policy is thatthe income differentials it is confront-ing are so much larger than anythingchallenged in the past. For example,even if income in the U.K. were to re-main constant, it would take Latvia23 years at 10% per annum growthto catch up.

Mentionhas alreadybeenmade sev-eral times of the role of inter-regionaltransfers. The European Union couldengage explicitly in such transfers inorder to fund welfare payments inthe lower income members. Effec-tively, this would involve paying thepoor to stay at home rather then mi-grate and consume benefit paymentselsewhere. The providers of the fundswould benefit since its removes fromthem the burden of immigration.The recipients would also benefit asthey would not lose their workingage population and therefore retain abasis for development.

7 Conclusions

The challenges presented by the newsystems competition are dauntingand the worst-case scenario brings sig-nificant consequences. However, theoutcomes do not seem to be entirelyinevitable. This discussion has touchedupon a range of reasons, both practicaland theoretical, why this is so. There isalso a range of countervailing policiesthat can be introduced. Some ofthese are protectionist, but protection-ist of social security systems and bene-fits rather than industries. Others

appeal to the role of transnationalauthorities to provide cover for theinefficiencies that emerge betweengovernments. §

References

Bankrate.com (2001). State taxes.www.bankrate.com/nsc/itax.

Bell, K. (2001). Sales tax rates remain lownationwide, but some residents still pay apretty penny. www.bankrate.com/nsc/itax/state/20010503a.asp.

Bewley, T. F. (1981). A critique of Tiebout�stheory of local public expenditure. In: Econ-ometrica, 49: 713—740.

Chamley, C. P. (1986).Optimal taxation ofcapital income in general equilibrium withinfinite lives. In: Econometrica, 54: 607—622.

Gardner, R. (1980). Sterling-Dollar Diplo-macy in Current Perspective. New York,Columbia University Press.

Goolsbee, A. (2000). In a world withoutborders: the impact of taxes on Internetcommerce. In: Quarterly Journal of Eco-nomics, 115: 561—576.

Hindriks, J., and Myles, G. D. (2002).Strategic inter-regional transfers. In: Journalof Public Economic Theory, forthcoming.

Keen, M. (1993). The welfare economics oftax co-ordination in the EuropeanCommu-nity: a survey. In: Fiscal Studies, 14: 15—36.

Lucas, R. E. (1990). Supply-side economics:an analytical review. In: Oxford EconomicPapers, 42: 293—316.

Miles, D. (1999). Modelling the impact ofdemographic change upon the economy.In: Economic Journal, 109: 1—36.

Myers, G., (1990).Optimality, free mobility,and the regional authority in a federation. In:Journal of Public Economics, 43: 107—121.

Sandler, T. (1997). Global Challenges,Cambridge University Press, Cambridge.

Tiebout, C. M. (1956). A pure theory oflocal expenditure. In: Journal of PoliticalEconomy, 64: 416—424.

Gareth D. Myles

101�

Gertrude Tumpel-Gugerell, Tagungsvorsitz/Chair

Dirk Bruneel

Reinhard Ortner

Albrecht Schmidt

Axel A. Weber

Podiumsdiskussion Finanzpolitik:

Spielraum

fu‹r regionale Finanzinstitutionen?

Financial Policy Panel:

The Scope

for Regional Financial Institutions

Introductory Remarks

The role of regional financial institu-tions was until very recently clearlylimited by national borders and narrowlegal constraints. Fifteen years ago thequestions we will discuss today wouldhave been posed differently. This hasindeed changed quite dramatically.

The successful establishment ofEMU and the introduction of the euro

created a new situation for the Euro-peanand international financial system.Its indirect effects on the structure ofEuropean financial markets andfinancial institutions, in particularthe European banking industry, arefar reaching, but have materialized toa limited extent only today. There islittle doubt that the role of regionalfinancial institutions is and will bestrongly affected by this process overthe coming years.

A trend most clearly visible is astrong tendency for mergers and thecreation of bigger units. In Austriathe five biggest banking groups oftoday are the result mergers at thebeginning of the 1990s. In the bank-ing industry activities such as assetmanagement and investment bankinghave grown more important at thecost of the more traditional bankingbusiness. To remain competitive atthe international capital markets bankstend to merge and form bigger units.Though the empirical evidence for

overall economies of scale in bank-ing is rather limited,we cannot excludea bigger role of those economies ofscale in the future, in particular inspecialized areas of the bankingindustry. Restructuring of bankingactivities as a consequence of financialmarket integration might take placeat the cost of regional financial institu-

tions and diminishtheir role and scopeof business.

On the otherhand we know fromthe modern theoryof banking andfinancial interme-diation that financial

institutions often fulfill functions thatfinancial and capital markets cannotprovide by themselves. Much of thesefunctions are related to problems ofasymmetric information. This is arecurring topic in current academicresearch on banking and financial inter-mediation. Allen and Gale in their wellknown book �Comparing FinancialSystems� write for instance �� (some-times financial) markets are not viablebecause of asymmetric information,moral hazard, or something else. �Financial Institutions can overcomethese problems by offering made-to-measure risk sharing contracts.�(p. 17). In this context client specificrelations play an important role.The very business of financial inter-mediation therefore partially relieson functions that are to a certain extentdependent on regional or even localknowledge. There might thus existlimits to centralization and creatingbigger units. One should not under-estimate the essential asset of local


Vice Governor, Oesterreichische Nationalbank

104 �

knowledge held by regional institu-tions which is of utmost importancein the business of financial intermedia-tion. Those assets might be devalued orget lost in the course of the creation ofunits beyond a certain size.

I think it is necessary to enter intoa deeper discussion of these issues toget a clear idea of future developmentsand to assess the role of regional finan-cial institutions. A couple of questionsto be addressed in this context come to

mind immediately. Let me just namea few of them:— Do only large financial conglomer-

ates have a viable future or can re-gional institutions survive?

— Is there an optimal degree of con-centration?

— What is the role of financial andcapital markets in this context?

— Should policy interfere to avoidmonopolization or should it pro-mote theconcentrationprocess?§


105�

The International Strategy of Dexia

IntroductionDexia belongs to the restricted groupof European credit institutions with amarket capitalisation in excess ofEUR 21.3 billion (as of 30 April2002) and is now 19th of the 25 largestpublicly-quoted banking institutionsin Europe and the 11th largest in theeuro area. In the Euronext 100 indexDexia ranks as number 24 (as of 22May2002).

The data given in table 1 will allowyou to locate the Dexia Group in theEuropean financial landscape.

Few European banks have under-gone such a change during the lastfew years as Dexia Bank. The creationof Dexia must be seen within thegeneral and worldwide tendency to-wards larger entities in the financialsector since the beginning of the1990s. At the end of 1996 Dexia

was formed as a combination ofDexia Bank, known until May 2000as Cre«dit Communal de Belgiqueand Cre«dit Local de France, mean-while transformed into Dexia Cre«ditLocal.

Established in 1860 as a publiccredit institution in order to financethe investments of the Belgian localauthorities, Cre«dit Communal devel-oped as the second largest Belgianbank, offering a full financial serviceto private individuals, self employedpeople and small companies next toits initial tasks.

This strategic choice was an answerto the challenges thebanking sectorwasconfronted with and allowed the for-mer Cre«dit Communal to take controlof its own future, since the originalshareholders, being the Belgianmunic-ipalities and provinces, could not con-

Table 1

The Dexia Group in the European Financial Landscape

Principal balance-sheet aggregates

2001 Evolution 2001/2002

EUR million annual change in %

Total assets 351,355 +36.3Customer deposits 84,007 +60.5Debt securities 140,861 + 4.8Customer loans 156,379 +16.4

Ratios

2000 2001

%

Return on equity 17.7 18.7Tier 1 ratio 9.3 9.3Capital adequacy ratio 9.8 11.5Cost/income ratio 55.1 59.5

Ratings (long term)

Dexia FSA DexiaMunicipal Agency

Moody�s Aa2 Aaa AaaStandard & Poor�s AA AAA AAAFitch AA+ AAA AAA

Source: Dexia.

Dirk Bruneel

Member of the Executive Committee of Dexia

106 �

tinue to provide the necessary financialmeans for its further expansion.

Currently, the Dexia Group, em-ploying some 25,000 people, has or-ganised its activities around four busi-ness lines:— public/project finance and credit

enhancement— retail financial services— investment management services— capital markets and treasury activ-

itiesFor each of these four business lines

a specific strategy has beenworked out,that I will describe briefly later on.

The main shareholders with morethan 5% of the capital are at present:

In many regards Dexia differs fromits European sector companions, whileit was playing a pioneering role in theEuropean integration and concentra-tion trend.

Let us illustrate this by commentingfollowing three items:— Dexia as an answer to the creation

of Economic and Monetary Union(EMU) and the euro

— Dexia as one of the few cross-border mergers in the euro areaand as a truly European bank

— Dexia�s low risk profile as a guar-antee for stable revenue streams

1 Dexia as a Clear Answerto the Creationof EMU and Euro

There is more than one answer or validstrategy in response to the changingenvironment of the financial worldand the challenges of the rapid develop-ments in the information technology.Next to consolidation and large-scaleentities there is certainly roomfor small

institutions and pure local or regionalplayers. It is difficult to say how muchconcentration is needed or, in otherwords, there is not one optimal sizefor a bank. Indeed, banking consists ofa lot of activities, products and servicesand most of them certainly require acertain minimum size, but mostly adifferent one and it is difficult to saywhich is the optimal size. A lot hasto do with the degree of specialisationand the choice of a targeted customerbase.

Many people were convincedthat the disappearanceof theprotectionfrom the national currencies requiredto look for a larger scale, since a criticalsize is necessary to face the results ofintegrated, more transparent and com-petitive European financial markets.This was also the basic reason for thealliance with Cre«dit Local in 1996but also for the acquisition of ArtesiaBanking Corporation in March 2001,securing Dexia�s leading position inthe Belgian market.

But Dexia was also fully aware thata financial institution couldn�t beevery-thing to everyone at the same time.Clear choices had to be made. Dexiahas chosen for a limited numberof busi-ness lines, but in eachof these lines a fullservice and product range is providedandmostly at a European level or some-times even broader. Furthermore spe-cial attention has been paid in order tohave activities developed in each busi-ness line that could possibly support orreinforce the products and services in

Arcofin 15.34%Holding Communal 15.04%Groupe CDC 6.99%SMAP (Insurance) 5.17%

42.54%

Dirk Bruneel

107�

other business lines. For example thebusiness line �capital markets� concen-trates on those financial products andstructures that can support or be usedby the other business lines.

But in the same logic, Dexia has noambitions in a lot of activities, such asinvestment banking and only small am-bitions in corporate finance.

This European dimension of ouractivities is in linewith the globalisationof the financialmarkets.Letus illustratethis globalisation by three examples:

— The broader and deeper euro mar-ket allowed also other issuers thancentral governments and banks tocome to the capital markets at at-tractive conditions. According tofigures published by the EuropeanCentral Bank (ECB), the issuanceactivity by non-monetary financialcorporations (including the special-purpose vehicles for the financingof specific assets) was very strongin 2001. Their outstanding euro-denominated debt securities in-creased much more (+34.5%)than for the banks (+6.8%). Inthe same way, the growth of thecentral government issuance wasrather low (+5.2%) while theissuance of other authorities washigh (+28.9%). This has probablyto do with the pan-Europeanbudget restrictions and a growingdelegation of competences fromcentral governments. It means thatfinancial institutions that are speci-alised in public finance and securi-

tisation structuring are well posi-tioned to benefit from these ten-dencies.

— Derivatives: For the year 2001 as awhole, the aggregate value of turn-over in financial derivativeproductsrose by 55% to USD 594 trillion,according to BIS-data. This was byfar the largest yearly increase inactivity since 1993 (the year theBIS began to compute value-basedstatistics for financial contracts).This upsurge reflected the nervousstate of financial markets duringmuch of the year, but also the con-tinuingglobalisation.Business in in-terest rate contracts grew the mostrapidly (by 60%) to USD 543 tril-lion, with money market instru-ments driving the expansion (risingby 71% to USD 475 trillion).Moneymarket business was fuelledby monetary easing as well as bybroad changes in risk managementpractices. Overall activity in equityindex contracts expanded by 10%to USD 12.8 trillion.

— The creationofEuronext (stock ex-change of Paris, Amsterdam, Brus-sels, and Lisbon) is a first step in aEuropean consolidation of stockexchanges that until now was hin-dered by differing legislation, reg-ulations, clearing and settlementsystems. Such larger scale Euro-pean stock exchanges are a naturalresult of the integration processwith many advantages to most par-ticipants and they do not excludelocal or regional exchanges forsmaller or mid caps.The efforts of Euroclear�s ap-proach, involving a process of �hor-izontal integration� of the clearingand settlement through partner-shipswith other clearers, decreasedthe obstacles to a European-wideexchange (cf. the already estab-

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lished links with Euronext andNasdaq Europe).

2 Dexia as One of the FewCross-Border Mergersin the Euro Area

The existence of different nationallegal, regulatory and fiscal structuresand the reluctance of the nationalauthorities have made cross-bordermergers less straightforward untilnow. But for the Dexia project thesedifferences were not insurmountable,thanks to a practical and decentralisedorganisationof thegroupandpragmaticsolutions to enter the markets in thedifferent core activities in which Dexiaproved its experience and competence.

Initially Dexia was a French andBelgian financial institution, alsopresent in Luxembourg through itssubsidiaryDexiaBanque Internationalea‘ Luxembourg (BIL) that is specialisedin private banking, asset managementand fund services. In 1999 the bina-tional holding structure was replacedby one single Dexia holding. Now atruly European character dominatesthe management structure of thedifferent core activities.

This European character of theDexia Group is a key factor in its suc-cessful acquisition policy. The reasonsfor the rapid external expansion ofDexia are twofold:— to tap a bigger growth potential for

each of the four business lines. Theacquisitions have been in line withthe strategy and activities of thebusiness lines;

— to increase our market capitalisa-tion in order to remain attractivefor important international institu-tional investors, which should se-cure the financing capacity for fur-ther growth in the future.

3 Dexia�s Low Risk Profileas a Guaranteefor a StableRevenueFlow

It is important to notice the continuouscare that Dexia devoted to secure asteadygrowing revenue flowbyactivelymonitoring a low and manageable riskprofile.

Three of our core business lines,namely public finance, private bank-ing/asset management and retail, havebasically a low risk profile. Public fi-nance credits are in general of out-standing creditquality (peren-nial nature of lo-cal authorities);whereas the rateof credit defaultsin retail bankingis very low be-cause of the kindof credits (mortgage loans) or the strictinternal credit scoring systems. Privatebanking/asset management for theaccount of private and institutionalclients is fee business, with only veryexceptional indemnifications, thanksto the strict description of clients�risk profile and a meticulous invest-ment process. The activities in �Finan-cial Markets� are developed and moni-tored in such a way that the low riskprofile of the bank is maintained. Thisis reflected in the excellent ratingsDexia and its operational entities re-ceived from the international ratingagencies. It is also reflected in thelow cost of risk amounting only to0.14% (=write-downs and allowancesfor loan losses and off-balance sheetitems over gross outstanding customerloans and off-balance sheet financingcommitments). Although there was acertain increase of this ratio against2000, due to the general economicdownturn and decline in asset quality,it is still a very low ratio that compares

Dirk Bruneel

109�

very well with respect to the sector asa whole.

Furthermore, Dexia is expandingits activities with particular attentionto the equilibrium of the intermedia-tion revenues resulting from balancesheet operations and fee income fromoff balance operations. In this way, fee-business revenues have supplementedinterest revenues from traditional pub-lic financeoperations inmanyEuropeancountries from securitisations, mainlyinFranceandGermany,and fromcreditenhancements in the United States andfrom asset management.

These relatively stable revenueflows from well-diversified activitieswith a low risk profile are the basisof the regularly growing results ofthe group. On the other hand Dexiaalways followed a strict cost manage-ment that allowed achieving a cost toincome ratio that is among the lowestin Europe.

With an average yearly growth ofnet profits per share of 13.6% from1996 to 2001, Dexia not only qualifiesamong the best performing Europeanbanks, but it also showeda lowvolatilityof its results. This good track recordcomforted investors and itwas the basisfor successful capital raisings during thelast few years.

4 Presentationof the Business Lines

Let us now briefly describe the strat-egy that was worked out for each busi-ness line.

Strategy in Public FinancePublic finance must be understood in avery broad sense, not only financing ofpublic authorities but also encompass-ing structured finance (projects, infra-structure), credit enhancement andfinancial services to social or non-profitorganisations and mid corporates.

The general aim is to be a worldleader in financial services to the publicsector.

In the European Union Dexia has amarket share of 17%. Dexia wants toconsolidate this position by— diversifying its offer of financial

services in these countries whereit is well established since long;

— looking for equilibrium betweenprofitability and market share inthe other countries.Dexia hopes to acquire in each EU

country a market share of minimum15%.

The acquisition of Financial Secur-ity Assurance (FSA) in the U.S. inMarch 2000 for EUR 2.7 billionsecures Dexia a leading position inthis field since— it opens the U.S. market for

financial services to local author-ities;

— it providesDexiawith know-how inthe field of �credit enhancement�;

— it increases Dexia�s potential in thearea of �securitisation� (assetbacked securities);

— it opens new perspectives for newproducts and services to be offeredto the European local authorities.Apart from the acquisition of FSA,

concrete recent actions and steps inpublic finance have been:— February 2000: a 60% participa-

tion in Crediop, the Italian bankerof the local authorities (in Decem-ber 2001 brought to 70%). Theremaining capital is placed withthree regional Italian banks (BancaPopolare), namely Milano, Veronaand Emilia-Romagna.

— April 2000: togetherwithKommu-nalkredit Austria a participation of30% was taken in Prva« Komuna«lnaBanka (PKB), a bank specialisedin financing local authorities inSlovakia.

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110 �

— July 2000: merger of DexiaFrance, Dexia CLF and DexiaProject & Public Finance Inter-national Bank into Dexia CreditLocal in order to strengthen thecompetitive position in the Frenchand international market for publicfinance.

— November 2000: replacement of aparticipation in Spanish Banco deCredito Local (40%) by a participa-tionof60%inDexia Sabadell BancoLocal (a common subsidiary ofDexia and Banco Sabadell that isspecialised in public finance).

— January 2001: the participation inKommunalkredit Austria is in-creased from 26.7% to 49%.

— January 2001: the participationin the Israelian Otzar HashiltonHamekomi (OSM) is increased to41%.Thisbankspecialised inpublicfinance has a market share of 12%.

— March 2001: acquisition of ArtesiaBanking Corporation that, in addi-tion to its important retail orientedbusiness lines, is a recognisedplayerin the Belgian non-profit sector(hospitals, schools, associations,etc.).

— October 2001: buyout of 75% ofGlobal Structured Finance (GSF)from PricewaterhouseCoopersLLP. GSF is active in the area ofadvice and engineering for struc-tured finance and completes theDexia Group�s offer of productsand services in this sector.This overview clearly shows that

the Dexia Group is well positionedto benefit from— a truly European presence in public

finance;— a tendency to decentralise compe-

tences to regions and local author-ities;

— the implementation of synergiesbetween the various entities and

business lines in the Dexia Groupallowing a complete range of prod-ucts and services;

— the increasing outsourcing of thedelivery and management of publicprojects to the private sector;

— the growth of the securitisationmarket in Europe (joint offers ofFSA and Dexia).As of 31 December 2001, the total

long-term credit outstanding of thisbusiness line amounted toEUR150bil-lion, a growth of 10% over a year.There was alsoa very satisfac-tory increase inthe amount of in-come from com-mission in thead-visory or under-writing business,which amountedto EUR 25.6 million for the year.

At present Dexia�s ambitions in thearea of public finance inEasternEuropeare very limited. The demand forpublic finance activities from the localauthorities in these countries is not yetdeveloped to the same extent as inWestern Europe. Furthermore, Dexiahas a certain, but in general very smallpresence in those regions. But mostactivities in public finance just requirea certain minimummarket share that iswell above our present reach.

Retail Financial ServicesWith the acquisition of ArtesiaBC/BACOB in July 2001 (announcedin March 2001), Dexia ranks amongthe top three providers of retail finan-cial services in Belgium. Bank andinsurance activities have been consid-erably enlarged (900.000 new clients).Dexia hopes to improve the econom-ics of its retail business through theintegrationof the543BACOBbranchesin its network of 930 branches,

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111�

grouped in 159 �hub and spoke�clusters.

As for Dexia Banque Internationalea‘ Luxembourg, this bank has a lead-ing position in the Grand Duchy ofLuxembourg through 44 retail bankingbranches. A participation of 20% wastaken in the French retail bank Cre«ditdu Nord in September 1999. All these�brick� networks are supported by a�click� offer that provides direct accessto a comprehensive range of servicesdelivered through centrally-orientedIT platforms and call centres.

Another strategic step was the cre-ation in January 2001 of Dexia Insur-ance & Pensions Services, that providesglobal solutions for problems related tosetting up and funding local and inter-national pension plans. It assists com-panies in selecting, introducing andmanaging appropriate staff pensionvehicles.

Total customer deposits and invest-ment products increased with 34.7%in 2001 to amount to EUR 79.7 bil-lion at year-end. Total customer loansincreased with 45.5% and reachedEUR 20.7 billion at the end of 2001.This was due to the broader consolida-tion since this growth at constant scopewas respectively 0.7% and 8.1%.

For the futureonemightexpect thatthe Dexia Group would expand thisbusiness line in other European coun-tries, using appropriate distributionchannels.

Dexia is convinced that the retailbank of tomorrow will function as anavigator to accompany the client inhis analysis and choice among an exten-sive and complex European offer offinancial products and services. Finan-cial expertisewill allowDexia tomodelfinancial products and services to thespecific requirements of its customersand to use the most appreciated distri-bution channels.

Investment Management ServicesIn this business, Dexia provides a fullrange of products and services to abroad spectrumof clients, including in-stitutional investors, fund promoters,high net worth individuals, etc. Dexiais active in four main lines of activitieschiefly in Europe:— private banking— asset management— fund administration— equity-related activities

These businesses are set to grow inthe future as the need for financial assetmanagement products and expertise isbound to increase due to the changes inthe demographic structure in Europeand the foreseeable future of pensionschemes.

The development of these activ-ities in the last years and the variousacquisitions made (Artesia BC,Kempen & Co, Labouchere, Bancoval,Financie‘re Opale, Linde Partners,Bikuben Girobank International S.A.,transformed into Dexia NordicPrivate Bank S.A.) have positionedDexia as one of the important playersin this field.

Private banking is undergoing amajor shift in European countriesand it is Dexia�s ambition to developits franchise in other European coun-tries, more particularly in the neigh-bouring countries: France and theBenelux, which is the Group�s �homebase�. Through the acquisition ofArtesia BC and Kempen & Co, Dexiahas now a recognised presence inequity-related banking services.

The asset management services to abroad range of customers are con-ducted under one structure, DexiaAsset Management that resulted fromthe merger on 31 January 2002 ofDexiam and Cordius Asset Manage-ment. (Assets under managementamounted to EUR 82.8 billion at the

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end of 2001). This united structure al-lows the harmonisation of the manage-ment processes, a rationalisation ofthe product range and a specialisationin the seven management centres, theprincipal ones being Paris, Brussels andLuxembourg. Dexia�s investment fundadministration business consists ofcustody services, central administra-tion services and transfer agent servicesand these are provided through DexiaFund Services (DFS) and First Euro-pean Transfer Agent (FETA) and avail-able in Dublin, Paris, Brussels, Milan,Madrid, Singapore and the CaymanIslands.

DFS provided in 2001 services to1,067 investment funds or compart-ments, an increase of 13%over the pre-vious year. The total outstandingamount in these funds reached EUR92.2 billion. FETA saw a 15% increasein its activity volume from EUR185.8 billion to EUR 213.8 billion.

Dexia thinks it can preserve a com-petitive advantage in this challenging,active and growing market. Despitea difficult environment for the secur-ities industry in 2001 Dexia has ob-served further growth of 28.6% innet commissions and other incomein this total business line.

Under the Dexia Securities bannerdifferent operations have beengrouped:— equity sales and trading— equity research (expertise in some

pan-European sectors)— derivatives (options market of

Euronext)— corporate finance (most of the

clients are listed small andmid capsin the Netherlands)This new development within the

Investment Management Services sec-tor is aimed at increasing the level ofservices to the Group�s clientele, bothinstitutional and individual, and is

approached so as to comply fully withthe Group�s policy ofmaintaining a lowrisk profile.

Capital Marketsand Treasury ActivitiesUnder this heading Dexia conducts anumber of activities either relatingto the central treasury functions ofthe Group and/or giving the necessarysupport to the first three business linesso as to supply the most efficient serv-ices to their respective clients.The aimsof this business line are— to secure the long-term and the

short-term funding of the Groupand to manage its liquidity;

— to provide financial expertise andadded-value products and servicesto the Group�s first three businesslines;

— to be instrumental in the Group�sassets and liabilities managementprocess;

— to contribute to the net income ofthe Group as a profit centre.These functions are conducted in

accordance with the Group�s risk man-agement policy: maintaining a low riskprofile and ensuring that the revenuestreams provide stable cash flow.

Overall, 2001 was a good year forthe Group in these activities, despitevolatile anddifficultmarket conditions.It generated a total revenue stream ofEUR 636million, despite the exposureto market risks being kept at a very lowlevel.

Some Final Remarks

Keeping the confidence of private andinstitutional investors and the financialmarkets in general is the big challengefor Dexia in the years to come.

With regard to transparency to themarket, Dexia has stated its medium-term objectives on three financial keyindicators:

Dirk Bruneel

113�

— reduction of the cost/income ratiobelow 50%

— achieving a stable level of return onequity in the region of 20% peryear

— earnings per share: corporate tar-get of EUR 1.95 to EUR 2.00 in2005Therefore Dexia has developed a

value based management method,which is used to adjust the targetsand measure the performance of theactivities in the Group and to allocatethe equity capital.

The rapid external growth throughacquisitions during the last few yearsalso necessitates now to examinewhether all parts and activities of theacquired companies are still in linewith

the mapped out strategy and are stilljustified from a value based manage-ment point of view.

It proves thatDexiawants to remainwell focussed and loyal to its chosenstrategy.For the samereason, theDexiaGroup, after a review of the global ex-posures to the corporate sector, nar-rowed its target customer segments.

Dexia attaches great importance tothe liquidity and market perception ofits share. That is why now, more thanever, Dexia intends to be at the cuttingedge of international corporate gover-nance and sustainable development,thereby guaranteeing investors top-quality monitoring of its activitiesand complete transparency in itsreporting. §

Dirk Bruneel

114 �

Erste Bank Group in Central Europe —The Background of an Austrian Success Story

1 The Politicaland Economic Conditions

1.1 Klondike in Europe?Five years ago, a bank pursuing a strat-egy of building up retail banking inCentral Europe was regarded by manycompetitors with a mixture of pity andscorn. However, times have changedradically: nowadays, it is almost a re-quirement of good form within thebanking sector to have a foothold inthe Central and Eastern Europeancountries, or to be at least on the pointof acquiring such a foothold. The igno-rance still prevailing only a few yearsago with regard to the economic, po-litical and cultural situation in theCzech Republic, Slovakia, Hungary,Croatia and Slovenia has given wayto what almost amounts to a kind of�gold rush� euphoria. This appliesnot only to the banking sector, butmay be observed equally within theautomobile industry (e.g. Skoda orAudi), the beverage industry (RicardPernod and South African Breweries)

or the telecommunications sector.Central Europe has unmistakablyturned into a magnet for booming sec-tors of the economy. Numerically, thistrend can be seen by studying exportsand/or direct investments. Such ex-ports/investments, coming from en-terprises operating out of the EU coun-tries and directed into the CentralEuropean states, have soared duringthe past few years.

On the other hand, the exports ofthe Eastern European EU candidatecountries have increased five-fold since1990, attaining EUR 92 billion. Thesetwo figures, even if taken alone, dem-onstrate very clearly how much theintegration of the economies of theEU and its Central European neigh-bours has progressed since thebreak-downof the totalitarian regimes.

Not least so because, at present, theCentral and Eastern European coun-tries constitute the only real growthmarket in Europe, perhaps even acrossthe globe, which, furthermore, lies

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Erste Bank der oesterreichischen Sparkassen AG

115�

right at the front door of the EuropeanUnion. The growth potential inherentin these countries can be deduced froma comparison of the situation in Spain,Portugal or Greece before and a fewyears after their accession to theUnion:not only the gross national product, butalso prosperity in general, the invest-ment activity in those countries andexports have markedly increased orimproved. With regard to the mostimportant economic indicators, suchas the rate of inflation or the interest

rate, a convergence leading to stabilitywithin the region was noticeable evenbefore accession.

Of course, the region with its ap-proximately 40 million inhabitants isnot the proverbial land of milk andhoney. Some areas of the laware in needof reform, the infrastructure onlypartly satisfies Western standards andthe willingness to give service in thetertiary sector has not kept pace withrecent development and is still more orless at the level maintained throughoutCommunist times. However, on thewhole, the people of all of the countrieswithin the region show great readinessto quickly implement economic andpolitical reforms, and, observinghow swiftly and professionally privati-sations are carried out and how fastleaps in technology are realized, it ap-pears safe to assume that the implemen-tation of the necessary reforms over thenext fewyearswill not present any seri-ous problems. Moreover, the fact thatthe new policymakers in Central and

Eastern Europe are often young busi-ness professionals who have gatheredexperience abroad and are unfetteredby the political problems of the pastprovides additional momentum to asustainable favourable development.

1.2 Enlargement of the EUFrom the point of view of Erste Bank,theenlargementof theEuropeanUnionis more than a contribution to thepolitical stability of the region. Itwould of course have far-reaching

economic conse-quences — mostlyof an advantageousnature. For exam-ple: the integrationof the economies ofthe candidate coun-tries and the EU,which has been re-

ferred to above, is alreadymore intenseat this time than the economic integra-tion among the candidate countriesthemselves, and it has extremely fa-vourableeffects.Numerous integrationmeasures have already been taken inthe areas of industry and financial serv-ices — though always supposing a quickaccession to theEU. If theaccession failsto take place or is materially deferred,there will, without any doubt, be neg-ative effects for the economies of thecandidate countries and thus for thedynamics of one of the most importanteconomic regions in the neighbour-hood of Austria.

However, from the viewpoint ofErste Bank and judging from our expe-rience, the development of a successfulregional bank is not seriously hinderedby political frontiers. It is obvious thatsynergies cannot be exploited as fullyacross political frontiers as they canbe within a unified economic area.But this does not mean that politicaldecisions are an obstacle to expansion.

Reinhard Ortner

116 �

2 Success Factorsand Trends in EuropeanRetail Banking

2.1 No Pan-European Retail BankRetail banking, as we understand it,means a close relationshipwith the cus-tomers in tworespects: first,geograph-ically, to be present locally near the cus-tomer bymeans of a network of branchoffices and alternative distributionchannels, and, secondly, a system ofdecisions made locally and guarantee-ing quick and customer-oriented solu-tions, for instance as regards loans.Nobody can know the structures andrequirements of the local industriesbetter than the employees in the branchoffices. There is no doubt that adequatecontrol mechanisms are necessary, butdecisions regarding loans that are takenin financial centres far away only leadto an alienation from the customer andhis needs.

If this is regarded as a prerequisitefor the successful implementation of aretail strategy, therewill benodevelop-ment towards a retail bank activethroughout all European countries.On the contrary: local closeness tothe customer requires an easy-to-sur-vey radius of activity as well as a suffi-cient number of potential customers.A study of the development of bankingthroughout the European countriesover the past ten years will confirmthe above thesis. Several geographicalregions in which profitable retail

banking is carried on have evolved overthe past few years: Scandinavia, theBritish Islands and Ireland. The IberianPeninsula or Germany, taken by them-selves, represent largeenoughmarkets,as does France. Central Europe, withits up to 40 million — depending onthe geographical definition — inhabi-tants and, thus, potential customers,could also develop into such a regionconstituting a promising market forretail banking activities.

2.2 Erste Bank�s Extended HomeMarket in the European RetailBanking Regions

An expansion of a bank into CentralEurope, into a politically stable andeconomically booming region, leads,on the one hand, to a more favourabledistribution of risk in markets showingdifferent rates of economic develop-ment and, on the other hand, contrib-utes to a heightened stability of thebank�s economic development. Withthe economic development inWesternEurope stagnating at present, and pol-iticians spending their time in futilediscussions about the exact startingpoint of a recession, the economicresearch specialists are predictinggrowth rates of about four percentfor the Czech Republic, Slovakia,Poland, Hungary and Slovenia (see2002/3 EU spring forecast ofApril 24, 2002 for EU candidatecountries).

Table 1

Selected Economic Data

GDP growth C/A CPI

2001e 2002e 2001e 2002e 2001e 2002e

in % % of GDP in %

Czech Republic 3.0 3.5 (5.7) (4.8) 4.4 4.0Slovak Republic 3.2 4.0 (8.9) (6.9) 7.2 4.4Hungary 4.5 4.8 (3.5) (3.2) 7.8 5.5Croatia 4.0 3.5 (3.5) (3.0) 4.8 4.5Austria 1.3 1.9 (2.6) (2.5) 2.6 1.9

Source: Erste Bank, EBDR.

Reinhard Ortner

117�

3 The Strategyof Erste Bank

3.1 Clear Focus in Terms of Geographyand Content

The strategyofErsteBank concentrateson business with the private customersand with small and medium-sizedenterprises. From a geographical pointof view,we limit ourselves to the regionof Austria and the surrounding coun-tries. These are the Czech Republic,Slovakia, Hungary, Croatia and Slov-enia. These countries not only presentus with a closed-in economic area withmore than 40 million inhabitants, butare also a geographical entity of a sizeperfectly adapted to the structure ofErste Bank. Product-wise, our focusis on mortgage and infrastructure fi-nancing as well as investment and pen-sion products.

3.2 Customers as the Basisfor Economic Success

Western European customers cannot,of course, be compared in any way tothose in Central Europe. However, inthis lies theattractionof theEUenlarge-ment for the enterprises active in thesemarkets, rendering them highly inter-esting to investors looking for valueswith a chance or potential of yieldinghigh profits. Furthermore, in this area,the acquisition of the relevant customerstructures is also more cost-advanta-geous. Erste Bank paid approximatelyEUR 400 for a customer in this area, ascompared to — by now— EUR4000 percustomer in Western Europe.

It is our opinion that, within thisstrategy, the key to success is the num-ber of customers attended by one insti-tution. The larger the number of cus-tomers to which an institution has ac-cess, the stronger the latter�s positionwithin the distributionmarket of finan-cial services. The more customers an

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institution can boast, the more attrac-tive it will be as a partner for other sup-pliers of financial serviceswhomay notwant to build up their own distributionnetwork or for whom such an invest-ment appears too expensive. An insti-tution with a market share of between15% and 20% will be a welcome part-ner for insurance companies and invest-ment companies looking for access tothis market. And, as in the food trade,any distributor whose portfolio in-cludes an adequate number of custom-erswill be able to fix themargins that heis prepared to pay for the products thathe does not manufacture himself, butacquires by purchase.

With the acquisition of the twosavings banks in the Czech Republicand in Slovakia, Ceska« sporitelna andSlovenska« sporitel�na, with their morethan eight million customers, ErsteBankhasacquiredthemostcomprehen-

sivebasis of customer relations availablewithin the region at present. This alsobrings an advantage that is almost asimportant for a retail bank, namely, ac-cess to inexpensive customers� moneythat will eventually lead to a favourablerefinancing basis on the assets side.

3.3 Cross-Selling on the Highest LevelOffers New Potential

Nowadays, retail banking in CentralEurope is much less concerned withspreading basic banking services thanit would have been only a few yearsago.At that time, percentageswere cir-culated that reflected the percentage ofthe population owning a bank accountin a particular country and/or thenumber of enterprises that still handedout their employees� wages in enve-lopes. In this area, the Central Euro-pean countries have caught up withamazing rapidityover the last fewyears,

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Table 2

Range of Products and Distribution Channels of Erste Bank

Branch offices Financial advisor Callcentre Internet

Austria 1,1251) 3 3 3

Czech Republic 684 3 3 3

Slovak Republic 441 — — 3

Hungary 66 — 3 —Croatia 107 — 3 3

Source: Erste Bank, EBDR.1) Including the 810 branch offices of the Sparkassen (savings banks) group.

Reinhard Ortner

119�

coming close to Western Europeanstandards almost everywhere. In themeantime, a new world is openingup in retail banking: nowadays, wearemore concernedwith the cross-sell-ing of the various banking products thatare (can be) offered in the relevantcountries.

Comparing the current marketshares of the two leading retail banksin theCzechRepublic andSlovakiawiththe market shares held by Erste Bank inAustria, it is easy to see the enormousgrowth potential still present in thesemarkets. The relation of the availableincomes is approximately one to ten.

While, for instance, each Austrian citi-zen invests approximately EUR 12,000of his available income into funds, thecorresponding value in the CzechRepublic, where Ceska« sporitelna hasa market share of almost 50% in thisbranch, is no more than approximatelyEUR 200. A comparison with thesituation in Slovakia reveals similarpotentials.

3.4 The Right MomentIn accessing an emerging market, thequestion of the right moment is, ofcourse, always a fundamental one. InCentral Europe, or so it seems, the

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most important markets — that is, fromour pointofview, thecountrieswith thehighest population figures — have al-ready been divided among the variouscompetitors. Most recently, a shiftingofmarket shares couldonlybeexpectedin Hungary and Croatia. The privatisa-tion of the large banking firms has beencompleted in all countries. And, as inWesternEurope, the three largestmar-ket participants in Poland, the CzechRepublic and Slovakia with their sub-sidiaries dominate more than 50% ofthe market. In Hungary and Croatia,further consolidation steps are alreadyunder way or are to be expected thatoffer new opportunities of acquiringmarket shares. As recently as May2002, this enabled Erste Bank to in-crease its market share in Croatia from4% to 10% by acquiring 85.02% ofRijecka Banka, thereby expanding itscustomer base to 600,000 customers.

Many foreign investors are evenabandoning some of their operations

in this area because they are realizingthat market shares of less than 10%do not constitute investments that willturn in long-term profits. Moreover,regional banks of varying financialsoundness will continue to be for sale.

Experience shows that retail bank-ingcanonlybecarriedonsuccessfully inthose economies that have reached acertain level of economic developmentregarding the average income or per-capita capital assets. In all other coun-tries, investments are too risky and/orthe chances of profit are insignificantowing to a lack of purchasing power.

Erste Bank has succeeded early onin quickly positioning itself as one ofthe leading retail banks within the re-gion.This is truenotonlywithregard tothemarket shares in important productsegments, but alsowith regard to accessto the customer groups that are impor-tant for retail banking. We are no �latecomers�, but �frontrunners� in retailbanking, since there are just a fewbanks

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within the region that have succeeded inbuilding up a customer base wideenough to enable them to recover theirinvestments through the various distri-bution channels.

4 The ComparativeAdvantagesof Erste Bank Group

4.1 Market LeadershipWithin Five Years

By concentrating on the economic areaoutlined above and the customergroups which have been mentioned,ErsteBankhas succeeded inestablishingitself as one of the most important par-ticipants in the Central European mar-ket since going public in 1997. Figure-wise, the picture is as shown in table 3.

As a result, Erste Bank group andthe Austrian savings banks taken to-getherarecurrentlyhandlingmorethanten million customers within their ex-tended home market. This and its al-most 30,000 employees make ErsteBank today�s leading financial servicesgroup within the region.

Offering services ranging fromcap-ital-building to financing to insurance,Erste Bank group quite distinctly anduncompromisingly concentrates onprivate customers and small and me-dium-sized businesses. This is an essen-

tial characteristic and— as the success ofthe past fewmonths has shown— a com-parative strategic advantage over thecompetition.

The market leadership of ErsteBank group in Central Europe is notan end in itself, though. It affordsthe basis for increased profitability ofthe entire group and is grounded ona swift and effective integration ofthe Central European banking estab-lishments and on regarding them toreachErsteBankquality levels.Wehavedemonstrated that we are able to make1+ 1 add up tomore than just 2, and todo so for the benefit of our customers,employees and shareholders.

4.2 Uniform Marketfor Customers and Employees

Tied up with the expansion of ErsteBank intoCentralEurope is thecreationof a uniform geographical market forboth customers and employees. Thisdistinguishes our strategy from thatof our competitors. As an example,Vienna is only about 50minutes distantby car from the Slovakian capital, Bra-tislava,andPragueandBudapestare lessthan 4 hours away. Austria is a popularholiday region for Hungarians andCzechs, not only in winter, and theCroatian coast is also high up on the

Table 3

Participation of Erste Bank Group in the Central European Market

Austria Croatia Slovakia Czech Republic Hungary

Bank Erste Bankder oester-reichischenSparkassen

Sparkassen Erste & Steier-ma‹rkische Bank;Rijecka Banka

Slovenska«sporitel�na

Ceska« sporitelna Erste BankHungary

Participation since 1995 since 1998and 2002,respectively

since 2001 since 2000 since 1997

Balance sheettotal EUR 56.7 billion EUR 3.5 billion — EUR 4.7 billion EUR 13.9 billion EUR 961 m

Branch offices 315 810 107 441 684 66

Employees 4,750 — 2 6,300 14,500 950

Customers 600,000 1,800,000 600,000 2,300,000 4,900,000 400,000

Market share 5.50% 45% 10% 41% 32% 3%

Source: Erste Bank, EBDR.

Reinhard Ortner

122 �

list of favourite holiday destinations ofthe Central Europeans. A uniform IT-system enabling the (travelling) cus-tomer to print bank statements inthe required language in all branch of-fices of a banking group active withinthe region in question and/or to carryout banking transactions in the branchoffices, offers an enormous strategicadvantage by comparisonwith those in-stitutes whose markets are one or twothousand kilometres apart.

The employees also profit from theattractiveness of a uniform market.Leaving aside for themoment apossiblelanguage barrier, it should be no prob-lem to change from one subsidiary ofthe group to another: an employee ofthe Slovakian investment company willbe able to change over into a branchoffice in Austria or in the CzechRepublic, just as a culturally interestedHungarian father of a familywill be abletocarryouthis jobasacustomeradvisorin festival towns like Salzburg, Vienna,Bregenz or Prague for a few years.These are no utopian ideas.Wewill stillneed a few years to implement them,but we are on our way.

4.3 A Spirit of PartnershipBased on a Cultural, Sociologicaland Geographical Advantage

Although, from time to time, politicalobstacles may have to be overcome inour relations with our Central Euro-pean neighbours, it is especially inthe area of business that one can seehowmuch theCentral European regionhas grown together over the past fewyears. Here, Austrian businesses havean advantage — for instance over theirAnglo-American competitors — notonly in terms of geography but alsowhere sociological aspects and (busi-ness) culture are concerned.

Erste Bank has succeeded in usingand maintaining that advantage in its

expansion strategy. It was, and stillis, our goal to independently manageand expand an international groupwhile operating from Austria. Today,the former Erste oesterreichischeSparkasse is the biggest Central Euro-pean supplier of financial services withits corporate headquarters in Austria.The number of customers — which,as pointed out above, is one of themost important indicators of successfor a supplier of financial services —had been increased more than ten-fold, i.e. from600,000 tomorethan 8 million,within48monthsof going public in1997. What wasdecisive for thesuccess of thistransformationwas not least the conviction of allpolicymakers that the independenceof Erste Bank could best be maintainedbyupgrading it tobecomean importantplayer within the Central Europeanregion. The concept behind this visionis that of partners of equal standing —meaning the countries concerned aswell as the banking establishments con-cerned — growing together to form anew identity.

Our firm belief in the region ofCentral Europe and our strong orien-tation towards pursuing a dialoguewithall the stakeholders from that regionhave always been present during theprocess of making Erste Bank the lead-ing Central European supplier of finan-cial services. Indeed, yet another essen-tial comparative advantage of ErsteBank group seems to be the personalcontacts and business relationsthroughout the region which have de-veloped over many years. We haveshown that, in an international group,personal roots not only have their place

Reinhard Ortner

123�

but are an invaluable asset. Opennessand fairness as well as the practice ofrelating to shareholders, investors, an-alysts, customers, partners and em-ployees in a spirit of partnership areessential aspects of our strategy and,therefore, of our success.

4.4 �In Every Relationship,It�s the People that Count� �

� is more than a buzzword withinErste Bank group. For, in modernmarketing, it is the people, i.e. thecustomers and employees, who areat the centre of attention. The centralimportance of this �human aspect� isparticularly well exemplified andeasily measurable in the Czech Repub-lic, where, only a short time after itsintegration, Ceska« sporitelna has beenvoted the most customer-friendlybank and the third friendliest businessof the country. Since the take-over, ithas already won half a million newcustomers — and not quite by chance,it seems.

This example demonstrates clearlyto what extent: the people behind thevarious ratios, quotations and yield fig-ures matter, especially in the bankingbusiness. At the end of the day, it isthe employeeswho are themost impor-tant success factors, in bringing a strat-egy and an idea to fruition.We at ErsteBank realized this early on, and it is ofthe utmost importance to us that theemployees of our group, although theirnumbermayhavemultiplied, are famil-

iarwithour commonconcepts andhavea clear view of the goal.

We set great store by personnel de-velopment because, if a team wants tomake itsway, everybodymust know thedirection and allmust join forces. In thespace of just a few years, we have man-aged to create a feeling among our em-ployees thatweallbelong together.Thisfeeling transcends the boundaries of in-dividual banks and countries. The con-sciousness of contributing to the suc-cess of our young, Central Europeangroup and being rewarded by respectund recognition—not only in one�s pro-fessional life but also in one�s privateenvironment — is a spur andmotivationto many of our employees and doubt-lessly quite an essential �USP� of ErsteBank group as compared to our com-petitors.

Conclusion

Over the past five years, Erste Bank hasproved that an Austrian business iscapable of building up an internationalgroup by its own efforts, where allbusiness policy decisions are taken inAustria. On the one hand, this successis based on the clear strategy whichwe have been pursuing with determi-nation since going public, and on theother hand it is based on the motiva-tion of our staff, who, in the main,are performing their work for thebiggest supplier of financial servicesof Central Europe with pride andenthusiasm. §

Reinhard Ortner

124 �

Comments for the Panel Discussionon the Scope for Regional Financial Institutions

Businesswith regions has acquired suchan appeal because the regions inEuropeare experiencing a renaissance. Thisdevelopment began twelve years agoin Central and Eastern Europe withthe downfall of an ideology and cen-trally planned economies which burstnot only external but also internalborders. And through globalizationand the competition for industrial loca-tions, in Western Europe the samedevelopment which repelled the level-ing force of the nation andwelfare stateis becoming perceptible so that longburied regional self-confidence isnow reviving. In Britain, Scotlandand Wales have already achieved moreautonomy, and even in such centralistcountries as France, Italy, and Spain,regions have won greater independ-ence.

Regional MarketAnchoring

Regional financial institutions operateon the principle �all business is local.�And they implement this principle by(i) providing special proximity to the

customer and regional expertise inorder to respond adequately to theneeds and the individuality of theregions;

(ii) decentralizing and delegating mar-ket responsibility and establishinglocal competence centers to keepdecisions paths short;

(iii) building efficient corporate man-agement systems which allow atop-down cascade of goals and con-trol impulses to ensure that objec-tives are achieved and risk control isin place. On the other hand, these

systems must also pass on bottom-upmarket signals toenable financialinstitutions to adjust flexibly tochanging customer and market re-quirements.Regional financial institutions have

the advantage in business managementterms of not hav-ing to dissipatetheir energy overa broad area.Instead, they fo-cus on regionalgrowth poleswhich usuallyhold trumpcardsin the form of specialization, close eco-nomic networks, and low transactioncosts because they are geographicallyclose to each other and have much incommon. They profit from the compe-tition of regions among each otherwhich, according to Friedrich A.Hayek, is after all a process of discoveryin the search for the best ideas, per-formances, and solutions. The attrac-tiveness of the regions is enhancedby a sensible regional economic policy,moderatewage settlements, good pub-lic administration, good educationalfacilities, a pro-business climate, recep-tiveness to innovation and location ofnew business. In terms of the economy,strong financial institutions are of greatadvantage for the regions: Modern fi-nancial services increase their effi-ciency and promote their developmentby mobilizing savings, capital inflowsand direct investments, and facilitatetransactions and risk management inbusiness. Central and Eastern Europe,the region of the future, still has much

Albrecht Schmidt

Spokesman for the Board of Managing Directors,

HVB Group

125�

catching up to do in this area if in ad-dition to joining the EU these countriesare also to equal Western performanceand standard of living.

Global Product Capability

Financial institutions operating in theEuropean regions need a broad horizonand cannot ignore globalization and itsdemands.(i) Global competition for risk capital

as a scarce resource means thatshareholders demand an adequatereturn. No company can affordto ignore this if it hopes to retainits independence and scope for ac-tion. Companies must thus bestreamlined from top to bottom.They must concentrate on per-formance in the market and — asa reflection of this — reduce loss-making corporate activities, allthe way down to the individualregional units.

(ii) The opening up of the markets, in-creasingly shorter product lifecycles, and the Internet have low-ered market thresholds and gener-ated ever steeper internationalcompetition. As a result, compa-nies must gear themselves to themarket and their customers. Re-gional niches are tending to disap-pear.

(iii) One result of the liberalization andlinking of capital markets is the re-vival of many old financing instru-ments such as shares and corporatebonds,but also theriseof innovativeinstruments like ABS and MBS andthe development of increasinglycomplex financing solutions. Thishas consequences for financingstructures: financings which tapthecapitalmarketareonthe increaseand are accompanied — in no smallmeasure as a result of Basle II —by a re-dimensioning of credit

funding. At present we arewitness-ing this development in the EUMember States. In the countriesof Central and Eastern Europe,the still underdeveloped capitalmarkets are profiting from the de-velopment of privately financed re-tirement pension systemswhich arefurther ahead than in the West.With this inmind, it isprobablycor-rect that these countries will makethe transition directly to a market-oriented financing systeminsteadofgoing theroundaboutway throughabank-oriented financing system.

(iv) Globalization also brings largermarket dimensions and makesour operations more international.This creates economies of scale andscope, in other words cost savingsand new services demanded notonlybyglobal but also local custom-ers. No longer content with tradi-tional service, customers are de-manding international productcapabilities, global market links,speed, and convenience — and allthis at a low price.

The Bank of the Regions

The HVB Group which arose from themerger of two regional universal banksentitled to perform mortgage bankingoperations and the coalescence withBank Austria, is meeting the challengesof both regionalization and globaliza-tion. With total assets of EUR 728 bil-lion, shareholders� equity of EUR 25billion, almost 70,000 employeesand over 2,200 branches, it is one ofthe three largest banks in Europe. Asa focused universal bank it no longerdoes everything for everyone like tradi-tional universal banks, but instead con-centrates on business segments inwhich it is or in the foreseeable futurecan become a market leader. In sodoing, it pursues a distinct strategy be-

Albrecht Schmidt

126 �

tweenthe twoextremesofglobalplayerand niche specialist. This is the strategyof the Bank of the Regions based on itsmarket anchoring, its resources, and itsproduct capabilities. As such, the HVBGroup is a leading bank in Germany,Austria, and Central and EasternEurope, a market with altogether160 million inhabitants.

At the beginning of this year, theBank introduced a new managementand control structure. Three alterna-tives were conceivable:(i) A purely regional orientation. This

would have meant ensuring cus-tomer proximity, regional exper-tise, short decision paths, but alsothe loss of economies of scale andglobal product capabilities.

(ii) A purely divisional, product-ori-ented stance with retention ofthe advantages of economies ofscale and international product ca-pability, but with the risk of losingcontact to the customer and localanchoring.

(iii) Linking the regional and divisionalstrategies. In the past, the HVBGroup had already had such amatrix organization which hadproved itself to be far too compli-cated. It also absorbed too muchenergy and resources which thenwere lacking when it came to pro-viding optimum customer service.This explains why the HVB Group

sought a fourth solution: a simplecombination of regional and divisionalmanagement, entirely without a ma-trix. Here regional operations in theBank of the Regions in Europe arelinked with the global product capabil-ities of the Bank of the Capital Marketswithwhichwehavecompletedour newGroup structure. TheHVBGroup nowaltogether consists of five businessdivisions.

The New Managementand Control StructuresIn broad private customer business andin business with midsized corporatecustomers, what counts is regional ex-pertise, individual advisory service, andshort decision paths. For this reasonwehave grouped the Bank of the Regionsinto two regional business segments:(i) One is the business segment

Austria/Central and EasternEurope. The leading company forour offices in this area is BankAustria Creditanstalt. In Centraland Eastern Europe,we focus espe-cially on Poland, the Czech Repub-lic, Hungary and Slovakiawhereweare in each case one of the top bankswith a market share ranging from4% to 10%.

(ii) The other regional business seg-ment is Germany with HypoVer-einsbank in the south and Vereins-und Westbank in the north.We will continue enhancing our

position through a regional brandand the cost advantages of a standar-dized range of products in our coremarkets while expanding our positionin other regions of Europe as well.

The HVB Group has bundled theinternational product capabilities ofour capital-market bank in three globalbusiness segments:(i) We have HVB Real Estate which

through the merging of three for-merly independentmortgage bankshas opened up opportunities forgrowth at home and in the inter-national real estate business wheremargins are better. This segmentserves professional customers inEurope and the U.S. and createsscope for new business through se-curitization and placing risks in thecapital market.

(ii) Then there is HVB Corporates &Markets which is responsible for

Albrecht Schmidt

127�

all activities in global capital mar-kets for the HVB Group and forthe multinationals and those whichtap the capital market. It servesfor product development and actsas service provider for the Bank ofthe Regions.

(iii) Next comes HVB Wealth Manage-ment which brings together theimportant growth areas, PrivateBanking and Asset Management.It delivers product and servicesolutions related to asset accumu-

lation and provision for the futurefor private and institutional cus-tomers. The HVB Group is apioneer in the growth market ofcompany retirement plans.The goal of these global business

segments is to offer topnotch advisoryservice to clients seeking capitalmarketsolutions and to provide them withglobal market capabilities.

The prerequisite for regional ex-pertise and global product capabilityis consistently defined with clear man-agement responsibility. In the newlyformed management boards we haveseparated the operative responsibilityfor the individual business segmentsfromstrategicmanagement and further

development of the HVBGroup, but atthe same time forged a close link be-tween strategic and operative respon-sibilities through the members of theseboards. The Board of Directors for theHVB Group is responsible for strategiccontrol, but in addition to the spokes-man of the Board of Managing Direc-tors, the Chief Financial Officer andChief Risk Officer, the Board alsoincludes the heads of the various busi-ness segments. They hold operative re-sponsibility together with their chiefoperating officers at the division levelin the individual business segments andmember banks. In contrast, the Boardof Directors for the HVB Group is re-sponsible for the strategy of the entireHVB Group, in particular for theGroup�s business segment portfolio,for the allocation of resources andcapital, and for controllingGroup busi-ness segments.Theaimof thenewman-agement structures is to enable theHVB Group to respond faster andmore sensitively to changes in themarket.

In short, it could be said that theconcept of the HVB Group as a Bankof the Regions and global markets bestfulfills the needs of customers, share-holders and employees for regionalityand globality. This concept, coupledwith our new management structure,constitutes a synthesis which combinescustomer andmarket proximity of a re-gional bank with the capabilities andcost advantages of an internationalbank. §

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Comments for the Panel Discussionon the Scope for Regional Financial Institutions

My task as the academic participanton the panel will be to put into per-spective the strategies we have beenhearing about and to relate them tothe current economic debate. Beforethat, letmemaketwodisclaimers: first,I should like to say that I speak herepurely in a personal capacity. The viewsexpressed are my own and do notnecessarily reflect the views ofGermanCouncil of Economic Experts. Second,I am not an expert on banking strat-egies. However, the organisers knowthat as a former Director of theFrankfurt-based Center for FinancialStudies I have hosted many bankerstalks and heard the entire spectrumof banking strategies and their adapta-tion over time, so based on that expe-rience, I hope to have somethinginteresting to add to this panel onthe scope for regional financial institu-tions.

This topic is of interest because weobserve two diametrically opposedtrends in banking and finance today,namely globalisation/internationalisa-tion/cross-border banking and region-alisation. Both strategies are interre-lated and cannot be discussed in isola-tion, since they are the two possiblechoices for banks embarking on differ-ent avenues of geographic diversifica-tion. But why do banks diversify geo-graphically? Two main arguments aretypically referred to: first, cost syner-gies, usually achieved in connectionwith x-efficiency gains or economiesof scale or scope, and second, revenuesynergies, usually by moving intoeither less than fully competitivemarkets or into growing markets

(which probably applies more tointernationalisation than to regional-isation).

Given these two alternative strat-egies, which specific factors can besaid to support the regionalisation ofbanking, that is, the strengtheninglocal customer-client relation-ships? What isthe key role ofa regional/localbank? In the EU(and to a similarextent in theU.S., as Gover-nor Santomero indicated over lunch)local banks typically provide creditto small businesses. Such small businessloans are usually associated with ahigher cost of project evaluation thanloans to large firms with more estab-lished track records and reportingpractices. Why is this the case? Thekey argument is that information accessfor such small businesses is typicallymore limited, and local banks havebetter access to intangible information,for example, they are aware of the rep-utation of the creditor in the local com-munity. Therefore, local banks can do abetter job at evaluating credit risks asthey have a comparative advantagein solving the asymmetric informationproblems inherent in credit relation-ships, that is reducing adverse selec-tion, moral hazard and the cost ofthe private production of informationversus publicly available information,which is very limited for small enter-prises. Furthermore, local banks� in-formation advantage with respect to

Axel A. Weber

Professor,

University of Cologne

Member of the German Council of Economic Experts

129�

small businesses is frequently given bythe fact that they also simultaneouslydeal with their credit customers onthe deposit and transaction side ofthe business. Such information is typ-ically not available to non-regionalcredit competitors of regional banks.

So, why is regional banking not anundisputed strategy in the geographicdiversification attempts of the bankingindustry? The answer is simple. Thesame factors that are behind the majoradvantages and opportunities offered

byregionalbank-ing are responsi-ble for the higherrisks of regionalbanks as well,that is regionalbanks are morevulnerable to re-gional economic

slowdowns due to their regionally con-centrated loans and deposit business.For example, in June 2001 roughlytwo thirds of the U.S. banks had morethan 97% of their loans outstandingconcentrated in a single county. Notethat I said county and not state, sincedue to the institutional and legal set-up in the U.S. the latter would notbe too much of a surprise. Local or re-gional shocks therefore simultaneouslyreduce the credit quality of many loansin a system of predominantly regionalbanks. The recent literature on thecredit or banking channel of monetarypolicy transmission would suggest thatthis may amplify the differential re-gional impact of a common monetarypolicy if asymmetric negative shocksoccur predominantly at the regionallevel. This is precisely why optimalcurrency area considerations wouldnot favour a common monetary policyin such circumstances.

So, shouldweworry about bankingsystems with predominantly regionally

concentrated banks from a systemicpoint of view? If regional banks are seri-ously exposed to regional shocks anoptimal response to this would be todiversify the banks� exposures bybranching out across regions, eithernationally or even cross-border if nec-essary. In addition, this would havefurther benefits through exploitingeconomies of scale by being part of alarge and strong financial group. Buthow pressing is the need to diversifyagainst the adverse effects of regionalshocks? Empirical evidence suggeststhat a considerable degree of regionaldiversity is present and will persistwithin the EU, but the occurrence ofregional as opposed to national, EU-wide or even global shocks has beendeclining over the years. European in-tegration and the impact of Economicand Monetary Union (EMU) are mak-ing European regions more synchron-ized in terms of their business cycle andinflation performance. However, em-pirical evidencealso suggests that struc-tural change in the European industriallandscape is causing very diverse andpersistent differences in the regionalemployment impact of this process.Unemployment rates differ dramati-cally across European regions and showlittle tendency of convergence. Re-gional concentration of large businessfirms or even entire industries, such ascoal or steel in Germany, is partly re-sponsible for this. If regional shocks arelikely to be less of a problem in thefuture, the exposure of regional banksto such shocks is likely to decline. Atthe same time the advantages of nation-wide banks in diversifying risks by op-erating across many regions will de-cline, since regions which show strongcyclical co-movements provide littlediversification. Risk diversificationmotives therefore are likely to drivenation-wide banks to embark on

Axel A. Weber

130 �

pan-Europeanorevenglobal geograph-ical diversification strategies,whilst re-gional banks are likely to focusmore ontheir comparative advantage in creditrisk evaluation at the regional and locallevel by providing credit to small andmedium scale regional firms.

My previous remarks suggest adevelopment in banking that may bestbe described by a hollowing-out sce-nario: large banks will grow biggerandmore international, whilst regionalbankswill remain focussedontheir corebusiness, which is likely to remainlocally contained. However regionalbanks are also likely to network witheach other increasingly, owing to at-tempts to exploit scale effects. Whatare the policy implications from this?Let me focus on those issues that areof relevance to a central bank. Dueto time constraints I will focus exclu-sively on supervisory issues here. Letme start with a question I asked Gov-ernor Santomero over lunch: Is super-vision demand different for more(locally) concentrated regional banks?Differences in vulnerability to local de-velopments make local informationand data processing more important.Governor Santomero called this thegrass-root perspective of supervision.National central banks in the Euro-system and even regional branches ofnational central banks (such as the for-merLandeszentralbanken inGermany)will therefore have to continue to play akey role in safeguarding the soundnessof the local and regional banks in the

EU. Aggregating this information upthrough the system to the nationaland European level is the second, fed-eral pillar of bank supervision thatneeds to be developed and strength-ened quickly in Europe. Efficient andfast real time coordination across coun-tries in theEUshouldbe a key featureofthe banking supervision system. TheEuropean System of Central Banks(ESCB) will have to play an importantrole in this process of understandingsystematic risks locally and aggregatingthis information system-wide. But sofar I only talked about banks, disregard-ing other financial institutions, such asinsurance companies, asset manage-ment institutions, stock exchanges,near-banks, non-banks etc. Thebranching-out of financial institutionsinto the various lines of business andfinancial products complicates the co-ordination process considerably. Thissuggests that the ESCB is unlikely betheonlyagency involved in this financialsupervision process at the Europeanlevel. But institutional arrangementsin this area need to be implementedsoon, before the failure of a largepan-European financial institutionhighlights this need for action in a moreobviousmanner. Thus, if speed is of theessence, entrusting the ESCB with thetask of building a pan-European co-ordination system for financial super-vision seems like the natural thingto do in order to fill this vacuumquickly. §

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Klaus Liebscher

The Role

of National Central Banks

Within the European System

of Central Banks

Introductory Statement

Welcome back to our conference.Today, we have quite a comprehensiveand ambitious program on our agenda,which covers institutional matters, theissueof financial structuresandof finan-cial market surveillance in Economicand Monetary Union (EMU), as wellas the question as towhether structuraleconomic differences in EMU are amatter of concern.

I amhappyandhonored towelcomemy esteemed colleagues and close per-sonal friends, Jean-Claude Trichet andArnoutWellink, both also members oftheGoverningCouncil of the EuropeanCentral Bank (ECB),whohave contrib-uted substantially to shaping the Euro-pean System of Central Banks (ESCB)as it exists and as it successfully operatestoday.

Klaus Liebscher

Governor,


As you know, the ECB GoverningCouncil usually takes its decisions byconsensus. So, do not expect us to offercontroversial views on the role of thenational central banks (NCBs) withinEMU simply to spark a lively debate atthis conference. But we have made ita principle and good tradition to inviteacademics and advisors for an openexchange of views on all mattersrelevant in our quest for the best mon-etary policy for European citizens. Itis thus a great pleasure for me to

welcome DavidG. Mayes andRichard Portes,who will, asI expect andhope, help ustease out someof the more ana-lytical issues at

stake in the context of the role ofNCBs within the ESCB.

The division of tasks within theESCB is an old — and much discussed —issue. It was extensively considered intheCommittee ofGovernors and in theIntergovernmental Conference for theMaastricht Treaty in the late 1980s,when the draft Statute of the ECBand the ESCBwas being prepared. Alsoa considerable portion of the work ofthe European Monetary Institute be-tween 1994 and 1998 concentratedon the allocation of precise responsibil-ities and the design of efficient proce-dures for deciding on, and implement-ing, the euro area�s monetary policy.

The issue was also addressed in aprevious OeNB Economics Confer-ence in May 1998, i.e. shortly beforethe establishment of the ECB. On thatoccasion, I identified five areas ofresponsibility NCBs would have inEMU:— First, the national central bank

governors actively contribute to

all central decision-making proc-esses within the ESCB — today Ihave to be more specifically by say-ing �in the Eurosystem.�

— Second, in this context the nationalcentral banks serve as intermedia-ries between the single monetarypolicy and national economic pol-icies.

— Third, they act as the Eurosystem�soperative entities in carrying outmonetary and foreign exchangepolicies as well as policies relatingto payment systems and in compil-ing monetary and balance-of-pay-ments statistics.

— Fourth, the national central bankscontribute the ECB�s capital and,as �the owners� of the ECB, also re-ceive their share of ECB income.

— Fifth, the national central banks,apart from being ESCB memberbanks, continue to exist as inde-pendent institutions and as suchare free to perform additional func-tions on their own responsibility.In themeantime, roughly four years

later,we have gained a lot of experiencein the practical functioning of the Euro-system. What is my personal assess-ment of this experience in short?— First, I think that the five areas of

NCBs� responsibility I mentionedbefore, which in 1998 were stillconceived to be somewhat pro-grammatic, have very much turnedout to become the reality in theEurosystem.

— Second, once the rules of the gamehad been agreed upon — admittedlynot always an easy process — theEurosystem in its actual operationturned out to work very smoothlyand efficiently.Clearly, the operation of the Euro-

systemwill evolve further in the future,as the political and economic environ-ment inwhich the euro area�smonetary

Klaus Liebscher

136 �

policy operates changes. There will bean evolutionary process in the course oftime, and the exact direction of thisevolution will be influenced by expe-rience gained in the conduct of mon-etary policy and other areas of our busi-ness.

The very constructive and friendlyclimate within the group of personal-ities involved at all levels of the Euro-

system is, indeed, capturedverywell bythe topicour first speaker thismorning,Jean-Claude Trichet, Governor of theBanque de France, has chosen: �TheEurosystem: The European MonetaryTeam.� The nature of good teamwork isthat tasks and responsibilities are sharedin a fair manner among themembers ofthe team. §

Klaus Liebscher

137�

Jean-Claude Trichet

The Eurosystem:

The European Monetary Team

The Maastricht Treaty clearly definesthe institutional and organisationalframework of the European Systemof Central Banks (ESCB) and of theEurosystem, which comprises theEuropean Central Bank (ECB) andthe 12 national central banks (NCBs)of the euro area. I am convinced thatsuch a set-up, which combines bothcentralised decisions and decentralisedimplementation, is able to cope suc-cessfully with current and future chal-lenges.

The Unique and OriginalSet-Up of the EurosystemResults in a Close-KnitMonetary Team

The Unique Nature of the Eurosystemin the EU ConstructionTheMonetary Field FallsWithin theExclusiveCompetence of the CommunityIn theEUconstruction, theEurosystemis a unique institutional structure, of asupranational (in away: federal)nature.The first basic taskof theEurosystem is,according to the Treaty, �to define andimplement the monetary policy of thecommunity�, in order to achieve theprimary objective assigned to the Euro-system: maintaining price stability.

Jean-Claude Trichet

Governor of the Banque de France

The single monetary policy frame-work implies that:— there are neither national nor �re-

gional� monetary policies in Euro-pean Monetary Union (EMU);

— thedecisions of theECBare bindingon the entire EMU;

— monetary policy decisions are im-plemented in all Member Statesparticipating in EMU accordingto identical procedures.Moreover, the probability of any

inconsistency on exchange rate matters— a subject onwhich responsi-bility is sharedwith the EUCouncil — isruled out by sev-eral provisions.

First, whilethe ultimate de-

cision to participate in an exchangerate system in relation to non-Com-munity currencies is to be made bythe EU Council, the Treaty pointsout that the ECB shall be consulted�in an endeavour to reach a consensusconsistent with the objective of pricestability�. Such a decision can indeedhave important implications for mon-etary policy.

Second, the Luxembourg EuropeanCouncil in 1997 stated that the EUCouncil may formulate general orien-tations for exchange rate policy �onlyin exceptional circumstances�, and thatthese general orientations must alwaysbe �consistent with the primary objec-tive� of maintaining price stability andrespecting the independence of theEurosystem. This reinforces the cred-ibility of the commitment to pricestability and rules out the likelihoodof any inconsistency between exchangerate policy and monetary policy.

This Unique Institutional Settingis Enhanced by a Strong IndependenceCoupled with Transparencyand CommunicationThe independenceof theECBandNCBs isenshrined in the Treaty.When exercis-ing their powers and carrying out theirtasks and duties, neither the NCBs ofthe Eurosystem nor any member of itsdecision making bodies shall seek ortake instructions from Community in-stitutions, from any government of aMember State or from any other body.Independence means institutional, op-erational and financial independence.We consider this comprehensive defi-nition as anessential contribution to theclarity and the credibility of the singlemonetary policy.

Transparency and communication: po-litical institutions, opinion leaders of allsensitivities, enterprises, unions andpublic opinion at large must be fullyinformed on the conduct of the singlemonetary policy: an independent insti-tution is in fact accountable before thepublic opinion. The ECB was one ofthe first central banks in the worldto introduce, as of 1 January 1999,the concept of a regular, frequent,real-time display of the detailed diag-nosis of the central bank. Indeed, onceamonth, immediatelyafter themeetingof the Governing Council, the Presi-dent of the ECB holds a press con-ference.

The independence of a central bankand its accountability are two sides ofthe samecoin. In this respect, bothpub-lic speeches and testimonies by thePresident of the ECB and by the gov-ernors of NCBs, to the attention ofinstitutions as well as public opinion,are significant, and an important partof our collective duty consists in tire-lessly explaining the reasons and the ar-guments that underpin the decisions ofthe Governing Council.

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140 �

The EMU Set-Up also Providesfor a Permanent Dialogue with the Europeanand National Authorities,as Well as an Operational Frameworkfor the Co-ordination of Economic PoliciesAt the European level, the ECB main-tains a permanent dialogue with theEuropean Council and the EuropeanParliament, as NCBs do with nationalinstitutions. As the Eurosystem oper-ates with a plurality of languages, itis important that its message is con-veyed by all the governors who arethe natural contact point of the Euro-system for their respective nationalpublic opinion, national media andnational parliaments. This shared re-sponsibility enables the Eurosystemto deliver a �single message� as regardsmonetary policy and the exchange rate.

Turning now to economic policy —that is to say fiscal and structural pol-icies — there are sometimes questionson an alleged lack of co-ordination be-tween Member States economic poli-cies, in the absence of a political fed-eration.

It is not disputable that for EMU tofunction well, Member States, espe-cially the major ones in terms ofGDP, must be aware of the spill-overeffects of all their national budgetarypolicies. The existence of spill-over ef-fects justifies the implementation ofclose co-ordination between nationaleconomic policies. This is containedin theTreaty itself,whichobligesMem-ber States to treat national economicpolicies �as a matter of common con-cern� and subjects them to a multilat-eral surveillance procedure.

Institutions and mechanisms havethus been set to promote the requiredlevel of co-ordination. A coherent op-erational framework has been providedfor the co-ordination of economic pol-icies through close mutual surveillance(under the responsibility of the �Euro-

group� and the Ecofin Council) andthrough the implementation of theStability and Growth Pact. Moreover,the Broad Economic Policy Guidelines, dis-cussed each year by the Heads of Statesand Governments, help monitor andguide macroeconomic and structuraldevelopments in the Member States.

An Original Frameworkwith Centralised Decisionsand Decentralised ImplementationCentralisation of the DecisionWithin the EurosystemThe Treaty provides for a centralisationof the decision-making process withinthe Eurosystem. This contributes tostrengthen confidence in the institutionand credibility in its commitment toprice stability.

The Governing Council of the ECB isthe supreme decision-making body ofthe ECB. It consists of the six mem-bers of the Executive Board and thetwelve governors of the NCBs of theMember States which have adoptedthe euro.

According to the Treaty and theStatute of the ESCB and the ECB, de-cisions relating to the objectives andtasks of the Eurosystem are taken cen-trally by the Governing Council whichadopts the guidelines and takes thedecisions necessary to ensure the per-formance of the tasks entrusted to theEurosystem. In particular, the Govern-ing Council formulates the monetarypolicy of the euro area and establishesthe necessary guidelines for its imple-mentation.

The Executive Board of the ECB isprimarily the co-ordinating centre atthe operational level. In accordancewith the guidelines and decisions laiddown by the Governing Council, itadopts implementing instructions ad-dressed to the NCBs, which enablesthe Eurosystem to react and adapt to

Jean-Claude Trichet

141�

quickly changing conditions in themoney and capital markets, to addressspecific cases and todealwithmattersofurgency. To sumup,with its central co-ordinating position, the ExecutiveBoard, and thus the ECB, is the �coach�of the whole Eurosystem monetaryteam.

The ECB and NCBs co-operatetightly in the decision-making processthrough the ESCB Committees. ThoseESCB Committees are composed ofrepresentatives of the Eurosystem cen-

tral banks and, where appropriate, ofother competent bodies, such asnational supervisory authorities inthe case of the Banking SupervisionCommittee. At the request of boththe Governing Council and the Exec-utive Board, they provide expertise intheir fields of competence and thusfacilitate thepreparationof theGovern-ing Council decisions.

Decentralisation of the Implementationof the Decisions: Decentralisation is BothPossible and AppropriateIn accordancewith European tradition,theEurosystemadheres to theprincipleof decentralisation, which stipulatesthat, to the extent deemed possibleand appropriate, the ECB shall have re-course to the NCBs to carry out oper-ations which form part of the tasks ofthe Eurosystem. This principle is theorganisational reflection, within theEurosystem, of the subsidiarity princi-ple which underpins the whole Euro-pean construction.

Given due account of the knowl-edge and operational experience accu-mulated by the staff of NCBs in the set-up of the Eurosystem, the system ac-tually relies on theNCBs for the imple-mentationofmonetarypolicy, theman-agement of foreign reserves, the collec-tion of statistics, the issuance of bank-notes, the management of large valuepayment systems, etc. As integral partsof the Eurosystem, NCBs comply withthe internal legal instruments adoptedby the Governing Council or the

Executive Board.They act thereforeas operative armsof the Eurosystem,carrying out on adecentralised basisthe tasks conferredupon the Eurosys-tem in accordance

with the rules established centrallyby the Governing Council.

The experience accumulated since1999 has proven that this framework isnotonlypossible, as testified by the cur-rent practice, but is also appropriate.— Each NCB remains the natural con-

tact and interlocutor for credit insti-tutions established in its country.They are the access points to centralmoney in euros for national creditinstitutions, which have their ac-counts on the books of the NCBsThis configuration ensures a levelplaying field for the different finan-cial markets.

— Through theNCBs, theEurosystembenefits from a direct access torelevant national information. NCBscan also channel the local needsto the European level and theyare of course an important channelfor communication of the Euro-system stance to the credit institu-tions.

Jean-Claude Trichet

142 �

The Cohesive Actionof Each Component of theEurosystemMonetary Teamhas Produced EffectiveResults and ConcreteBenefitsThe Mutualised Assetsof the Eurosystem Monetary TeamCommon View and CultureWithin the Governing CouncilThe Governing Council takes the mostimportant and strategically significantdecisions for the Eurosystem. Its com-position represents a very fruitfulground for building a common Euro-system identity and culture.As amatterof fact, it perpetuates awell establishedtradition of close relationships and co-operation, within the European Mon-etary Institute (EMI), and even beforewithin the Committee of Governors ofthe European Economic Community(EEC), which was created in 1964and greatly contributed to buildingthe indispensable common approachesin the run up to EMU.

For all decisions relating to the def-inition and conduct of the single mon-etary policy, the Governing Councilmembers vote according to the �onemember, one vote� principle. NCBs�governors sit in a personal capacity, thatis to say, they do not represent partic-ular national interests; they take to-gether the decisions best suited tothe overall situation in EMU.

The smooth functioning of theGoverning Council, inter alia throughits bimonthly meetings, helped makethe multi-cultural dimension of theEurosystem strength. In this deci-sion-making body, common viewsare formed not only on monetary pol-icy, but also on many other issues ofrelevance for a central bank or linkedto the additional tasks laid down by theTreaty. These common views estab-lished within the Council through

frequent meetings, ultimately provevery useful for the credibility of theEurosystem.

Close Co-operation and Team SpiritBetween NCBs and the ECBThe Eurosystem is a team whosemembers work in close co-operation,and the team spirit is very strong. Theorganisation of the Europeanmonetaryteam according to the principle ofdecentralisation allows the system totake full advantage of the diversityof its compo-nents, bymakinguse of existingknowledge andresources with aview to sharecompetenciesand experienceand enhance theEurosystem�s identity and corporateculture.

The network of the ESCBCommit-tees, which provide assistance to thedecision-making bodies of the ECB,plays an important role in formingthe co-operation spirit between thecentral banks of the Eurosystem. Thisoriginal institutional feature hasgreatly contributed to the progressiveconstitution of a shared corporateculture.

As an example, within the Inter-national Relations Committee, issuesscheduled for discussion by relevantinternational and European institu-tions or fora (International MonetaryFund — IMF, G-7, G-10, G-20, Finan-cial Stability Forum — FSF, Economicand Financial Committee — EFC,etc.) are prepared with all Eurosystemparticipants.This allows the full bodyofthe Eurosystem to build its positions ona comprehensive analysis and to showa great cohesiveness in internationalorganisations and fora.

Jean-Claude Trichet

143�

The Concrete Benefits Resulting fromThis Original Set-UpSuccess in Terms of Credibility and EfficiencyThe Eurosystem has inherited a legacyof credibility and expertise from itsconstitutive NCBs. The introduction ofeuro banknotes and coins on 1 January2002 has been the last step of anow more-than-twenty-year processof monetary integration. This uniqueand highly symbolic event for Europecan be considered as an outstandingachievement. Theway the cash change-over has been successfully handled,thanks in particular to the efficiencyof the monetary team of Europe,had, for sure, a strong positive impacton the image of the Eurosystem as awhole.

As regard France, the early change-over of non-cash payments in 2001, andthe rapid introductionof banknotes andcoins in euro inearly2002,proved tobea success entirely in line with the sce-narios devised by Banque de France inclose consultation with all the involvedparties (the banking sector, cash-in-transit companies, the Police and theArmy, retailers, companies and con-sumers). It has been the same all overEurope.

The internationalisation of the euroalso illustrates the success of the Euro-pean monetary team in terms of cred-ibility.

The euro has become a major cur-rency in theworld.Asanofficial reservecurrency, it is the second most widelyused. As a bond issuance currency, ac-cording to the most recent statisticsfrom the Bank for International Settle-ments (BIS), the euro has played a sub-stantial role since the end of 1998 andaccounted for around 35% of total is-suance in 2001. The share of the euro ininternational bank assets has also in-creased significantly over the pasttwo years.

Furthermore, the euro constitutesa major reference currency for ex-change rate regimes adopted by thirdcountries. Over 50 countries in theworld, mainly in Europe and Africa,are managing exchange rate arrange-ments that include a reference to theeuro. The intensive trade and financiallinks with the euro area are the mainfactors behind this choice. Of course,the adoption of a euro-based exchangerate arrangement by a non-EU countryis a unilateral decision, and does notinvolve any commitment from theEurosystem.

The internationalisation of the euromight develop further, thanks to anestablished track record of the Euro-system with reference to its primaryobjective of price stability and continu-ing integration of financial markets inthe euro area. But the Eurosystem doesnot pursue the internationalisation ofthe euro as an independent policy goal:this implies that it neither fosters norhinders this process.

A Successful Technical Framework,as Highlighted by the SmoothFunctioning of the Monetary PolicyFramework and the OperationalEfficiencyPrior to the launch of euro banknotesandcoins in2002, the launchof theeuroon the financial markets, on 1 January1999, has also been an indisputablesuccess from a technical point of view.In this respect, three points are worthmentioning:— the monetary policy framework con-

tains a wide set of instrumentschosen with a view to observingthe principles of market orienta-tion, equal treatment, simplicity,and transparency.The decentralisa-tion of the operations has undoubt-edly contributed to the smoothfunctioning of the framework.

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Maintaining a close contact be-tween commercial banks and theirnational central banks has helpedthe financial markets to quicklyadopt the harmonised practices re-lating to open market operations,eligible collateral for credit opera-tions and minimum reserve sys-tems;

— operational efficiency is highlightedby the precise adjustment of bank-ing liquidity and effective steeringof short-term interest rates. TheEurosystem has demonstrated thisefficiency, in the days after thetragic events of 11 September2001, by acting quickly and by en-suring a smooth and orderly func-tioning of the European financialmarkets;

— security is provided by the proce-dures and systems implemented,both for the execution of interbanktransactions, and vis-a‘-vis large-value payments. It is reinforcedby the decentralised set-up. In par-ticular, thanks to the setting up ofthe Target system for the real-timetransfer of large-value paymentsthroughout the euro area and inother EU countries, the inter-bankmarket became highly integrated.The credibility of the European

monetary team and of the single mon-etary policy, the successful changeoverto the euro are major achievements.They certainly demonstrated the effi-cient functioning of EMU and of theEuropean economic and financial insti-tutional framework. Those are strongassets, which will help us to deal withtwo main challenges: financial stabilityandtheaccessionofnewMemberStatesto the EU.

The Flexibilityof Its Set-Up Allows theEuropean Monetary Teamto Address Currentand Future ChallengesFinancial StabilityA Growing ChallengeLike every modern and independentcentral bank, the European monetaryteam has to fulfil two main functions:firstly, ensuring price stability, a keycondition for sustained growth, andsecondly, preserving financial stability,a growing chal-lenge in a con-text of globalisa-tion of the worldeconomy, of am-plification of fi-nancial cycles,of instant accessto information.I insist on the highly complementarynature of these two objectives: pricestability is the bedrock on which finan-cial stability is built.

Maintaining financial stabilitymight be considered as a fairly complextask nowadays. Indeed, globalisationand financial integration have signifi-cantly contributed to improving over-all economic efficiency, by allowinga more optimal allocation of resour-ces. However, experience over the lastdecade suggests that they also havetended to amplify financial cyclesrelative to business cycles, whichmay in some circumstances have ledto somewhat erratic developments.I would also like to mention the rapidemergence of the �new economy�bubble in 1999 and early 2000, whichwas followed by a series of sharpcorrections. As a result, financialauthorities, and, among them, centralbanks, have been confronted withboom-bust episodes, which must becarefully monitored, since they could

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affect global monetary and financialstability.

The tragic events of 11 September2001 and their impact on the financialmarkets have recently reinforced con-cerns over financial stability. The fightagainst the potential abuse of the finan-cial system for the financing of terror-ism has received top priority on inter-national and European agendas. Theinternational community is steppingup its efforts to hunt downmoney usedby organised crime and terrorism.

To this end, all players on the financialmarkets should observe the rules ofinternational legal co-operation.

The Adequacy of the European MonetaryTeam�s Set-Up Enables it to Adapt Quicklyto Current Financial Trends and toContribute to Tackling Related ChallengesI would like to stress here the specialresponsibilities of central banks asregards financial stability, due totheir position at the heart of financialsystems:— they contribute directly to supply-

ing liquidity to the economy, via thebanking sector, and might be calledupon to play their role of lender oflast resort in exceptional circum-stances;

— because of their close and constantcontact with credit institutions,their expertise in banking systemsis indisputable;

— they contribute to prudentialsupervision and to the safe and ef-ficient functioning of payment sys-

tems, and at least for some of them,to the safe and efficient functioningof securities clearing and settle-ment systems.The present set-up of the European

monetary team is appropriate to tacklethe changes triggered by the currentfinancial trends and the introductionof the euro. Their key position allowscentral banks to capitalise on the infor-mation-related synergies betweensupervisory tasks and core centralbanking functions. Coupled with ex-tensive supervisory responsibilities ofNCBs in domestic markets, and withreinforcedco-operationat anarea-widelevel, their traditional focus on sys-temic riskputs themina strongpositionto assess the potential impact of distur-bances in domestic or international fi-nancial markets.

Beyond financial stability, the acces-sion of new Member States to the EUand to EMU is the last challenge that Iwould like tomention,butcertainlynotthe least.

Accession of New Member Statesto the European Union and EMUAttractiveness of the European FrameworkIndeed, we are already working in theperspective of enlargement of the EUand, at a later stage, of the euro area.

Twelve countries from central,eastern and southern Europe are cur-rently negotiating their accession to theEU. According to the very demandingcalendar endorsed by the EuropeanCouncil, new accessions to the EUwilltake place as from 1 January 2004, thatis to say in less than 19 months. Thistestifies again to the attractiveness ofthe EU framework,which has providedus with economic prosperity and polit-ical stability forhalf a century.Whenwenegotiated the Maastricht Treaty, wedid not think at all about enlargement.History has gone very fast. And after

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27members, wemay go up further, upto 36 members or even more.

The accession countries have ac-complished remarkable progress instabilising and strengthening theireconomies and institutions. Observingtheir recent history shows the majorimprovements those countries havemade, in hardly ten years, on the roadtowards convergence with the EU andthe euro area.

However, we must not forget thatthe nominal convergence, which is re-quested in order to adopt the euro,mustbe sustainable and therefore constitutes amedium-term objective, rather than ashort-term priority. Indeed, the EUTreaty calls, as a prerequisite for adopt-ing the euro, for a high degree of sus-tainable convergence in the fields ofprice stability, government fiscal posi-tion, stability of the exchange rate, andlong-term interest-rate levels. There-fore, nominal and real convergenceshould be pursued in parallel, andare not antagonistic, in the interestof both accessing countries and theeuro area.

Moreover, a sound and efficient bank-ing and financial system is essential. Sig-nificant progress has been made overthe past few years in rehabilitatingthe banking sector and encouragingreorganisations and foreign ownership.Progress in corporate governance, theenhancement of the legal and super-visory frameworks that support thebanking sector, and an efficient fightagainst money laundering, are alsocrucial. They are conducive to achiev-ing the macroeconomic objectives ofthe accession countries.

Role of the Eurosystem Monetary TeamThe Eurosystem, and notably theBanque de France, is following theenlargement process with a great dealof attention. The European monetary

team monitors the enlargement proc-ess, and particularly the followingpoints, which are of particular rele-vance for theEurosystem and for acces-sion countries themselves:— Central bank independence is of the

essence. As I said earlier, it is an in-tegral part of the acquis commu-nautaire, which is laid down, notonly in national legislation, butabove all in the Maastricht Treaty.The effective implementation ofthe acquis communautaire is notonly a legal prerequisite for acces-sion to the EU. It also implies theeffective transformation of acces-sion countries� economic frame-work, which should facilitate theirintegration into the EU and, later,the euro area. In this context, itshould be ensured that there isno discrepancy between the centralbanks� formal status in the legisla-tion and the implementation of thatlegislation. Independence meansinstitutional, operational and finan-cial independence. We considerthat comprehensive concept as anessential contribution to the clarityand the credibility of the singlemonetary policy. It is of utmost im-portance that all present and futureMember States respect this eco-nomic and institutional ground ruleof the European framework.

— I noted that many accession coun-tries have already expressed theirintention to join exchange ratemechanism II (ERM II) as soon aspossible after EU entry. This inten-tion is to be welcomed, as it facil-itates nominal and structural con-vergence. However, it should beclear that ERM II membershipneeds neither to happen immedi-ately after EU accession in all cases,nor to be limited to only two years,which is the minimum for adoption

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of the euro. It would be misleadingto consider ERM II as a mere �wait-ing room� before euro.On the verycontrary,ERMIIwouldallowcoun-tries to retain some limited ex-change rate flexibility during thecatching-up process. ERM II mem-bership offers a meaningful, flexi-ble but credible framework for in-creasing convergencewith the euroarea, for tackling the challengesfaced by accession countries onthe road towards the adoption ofthe euro, for contributing to mac-roeconomic and exchange ratestability, and for helping determinethe appropriate level for the even-tual irrevocable fixation of parities;andthis, again, in thebest interestofcandidate countries themselves.

Conclusion

First, the Eurosystem�s track record sofar illustrates that the centralised deci-sion-makingof theEurosystemhas pro-videda strongandcoherentbasis for theexercise of themissions imparted to the

Europeanmonetary teamby theTreaty,both in normal and in exceptional cir-cumstances. Equally, the principle ofdecentralisation of operations, whichis the secondprinciple guiding the func-tioning of the Eurosystem, has alsoproved efficient. Both principles callfor working out, developing and per-manently improving a single team spi-rit, a singlecorporateculturewithin theECB and the NCBs throughout the fullbody of the Eurosystem.

Second, the currency changeoverhas proved that the European citizenshave confidence in the euro, confidencein its capacity to be a good store ofvalue, confidence in its medium- andlong-term solidity, and confidence inthe capacity of the ECB and the Euro-systemas awhole todeliver price stabil-ity. This confidence is a very preciousasset. It is a very important ingredientfor fostering growth through consumerconfidence and therefore consumerdemand which is presently the maindriving force behind the Europeaneconomy. §

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David G. Mayes

Comments on the Theme

�The Eurosystem:

The European Monetary Team�

The introduction of Economic andMonetary Union (EMU), the singlecurrency, the European System ofCentral Banks (ESCB), the Eurosystemand the European Central Bank (ECB)has been a fascinating experience andthe process continues as the EU is en-larged and the single market for finan-cial services becomes more of a reality.It is rare to get the opportunity to beinvolved in thedesigning,mouldingandimplementation of monetary institu-tions on such a scale. Normally, evenif the opportunity to �break themould�occurs, as with the reform process inNewZealand, it is usually in thecontextof a specific national history and cul-ture, not one that runs across a wholeset of different experiences and tradi-tional approaches. While the idea thatEMU in Europe and the Eurosystemis in important senses �unique� canno doubt be overdone, the noveltyof the enterprise is notable. The basic

1 The views expressed here are purely personal andintended to stimulate discussion.

David G. Mayes

Advisor to the Board, Suomen Pankki1

)

ingredients of monetary policy, theprovision of a currency and the effi-ciency and stability of the financial sys-tem are common across countries.However, beyond that, central bankscan vary enormously in their require-ments to regulate banks, operate che-que clearing and settlement systemsetc. Nevertheless, having not merelyto run across a variety of traditionsand languages and bring together aset of institutions that are used to run-ning policy in their ownway is nomean

task. The juxtaposition of the words�competition� and �integration� inthe title of the conference is apt. Forg-ing a new set of institutions and oper-ating cultures involves bothmarket andnon-market forces. Sometimes theseforces pull in the same direction andother occasions they contradict eachother.

In these brief remarks I look at justthree aspects of the evolution of theEurosystem. In the first section I arguethat much of the basis for assessmenttends to be rather weak, as it reliesfor comparison on organisations andconcepts that are superficially similarbut fundamentally different. In thesecond I explore the implication ofthe core �national� element in thesystem for its structure and develop-ment. Finally, I briefly look forwardto how the evolution may develop aswe get beyond the phase of �complet-ing� the internal market for financialservices and expanding the system toadmit new members.

1 Labelling the ContentsThere is a temptation to look towardsparallels for what has been and can beachieved in order to make assessmentsof the ESCB and its components. Theobvious places to look are at other cen-tral banks covering large and heteroge-neous regions or at other European in-stitutions thatcover thesameregionbutfor different functions. In practice, thefirst comparison then focuses on theU.S., as the Peoples Republic of China,Russia and India, while in some caseslarger in population, are rather too dif-ferent in the services being undertakentoprovide auseful basis.However, eventhe U.S. offers only limited compara-bility as the region as a whole has had arather closer federation for over twohundred years and while the centralbank itself did not get its present formfor the first 140 years of the U.S. it hasnevertheless been operating in a similarmode for over 70 years. Even thoughU.S. financial markets have remainedrelatively fragmented, given the regu-latory role of the states, compared tothe individual European countries, thecommon language, single currency andlargely similar structuremakes it muchmore homogeneous. European modelsfor operating single policies are equallydifficult to apply, ranging from compe-tition policy operated by the Commis-sion, through special agencies and theEuropean Court of Justice, to jointaction by the Council of Ministers.

Looking for a basis for comparisonis thus likely to be a relatively fruitlesstask. If the Federal Reserve in the U.S.were being set up today it would nodoubt look rather different. Technol-ogyhasenormouslyalteredthe require-ments for structures to say nothing ofthemovements in populations and eco-nomic activity over the period. TheFederal Reserve Bank of San Francisco,for example, now covers 20% of the

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U.S. population and 35% of the landarea. It might therefore seem possibleto operate with 5 districts rather thanthe current 12. The Federal ReserveBanks are much more similar in sizethan the Eurosystem banks, varyingonly by a factor of two despite muchgreater disparities in GDP and popula-tion — excluding the Federal ReserveBank of New York, which has greaterresponsibilities. Even if we treatLuxembourg as an outlier, the remain-ing Eurosystem banks vary in size by afactor of 20. There are clearly over-heads in running any central bankand anyone designing a system froma blank sheet of paper would be balanc-ing up these initial costs against the dis-advantages of great size, whichmay notbe clearly expressed in terms of centralbankers or dollar costs per head ofpopulation.

There has also been somewhat of aconfusion of labels for the Europeanmonetary system. The U.S. seems tohave a fairly neat and descriptive setof labels. The component banks inthe system are labelled Federal ReserveBanks. The Board of Governors of theFederalReserveSystem inWashington,which is responsible for the running ofthe system,hasno further namebeyondthat. Thus the staff whowork in Wash-ington for the Board do not belong tosome separate institution. Monetarypolicy is decided by a defined commit-tee, the FederalOpenMarketCommit-tee (FOMC), comprising the gover-nors and Federal Reserve Bank presi-dents. The Eurosystem by contrast isnot even a legal entity but a description.Inpart thishasoccurredbecause there isnot an exact match between the mem-bers of the European System of CentralBanks and those participating in theeuroarea.However, ithas alsooccurredbecause of the creation of the ECB inFrankfurt.TheEurosystem ismuch less

centralised than the Federal Reserveand the hierarchy of responsibility isinverted. It is the Governing Councilthat has the ultimate responsibilitynot the Executive Board of the ECB.Yet the organisation supporting thesystem has been labelled as a Bank.The Eurosystem has a Monetary PolicyCommittee but it is not the body thatdecides monetary policy. The confu-sion of labels extends to the head ofthe organisation, who is the Chairmanof the Board in the U.S. but the Pres-ident in the ECB.

These are ofcourse only la-bels and oncethe tasks are de-scribed the posi-tion is clear.Theydohoweverprovide implica-tions foroutsiders forwhatdoeshappenor for what is intended to happen astime passes, which may turn out tobe quite mistaken if assessments arebased on the use of the same labelsin their own countries.

2 The Core NationalIngredient

While the execution of the require-ments for the ESCB laid down in theTreaty is largely a technical matter,the EMU project remains at the heartof national policy-making, as it involvesfiscal and monetary policy, which aretwo of the core activities of govern-ment. The Member States can be ex-pected to guard their interests withconsiderable care. Thus while theremay be no difficulty for governments(or indeed for the local electorate)withthe ideas thatmonetarypolicy shouldbeaimed a price stability for the euro areaas a whole, that purely national con-cerns are not relevant to the discussionand that the national central bank

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governors participate in the decision-making in a personal capacity, not asa national representative, it would bea very difficult matter to persuadethe Member States to give up a seatat the table.

One of the interesting features ofthe ESCB is that each Member Stateis treated equally, with the exceptionof issues relating to the capital sub-scribed on the basis of GDP and pop-ulation. Clearly since many mattersare purely technical and the members

of the Govern-ing Council donot act in a rep-resentative ca-pacity this isnot a prima facieproblem. How-ever, one couldenvisage circum-

stances where disagreement couldprove awkward in a system where asimple majority can decide matters.It is therefore no surprise that the Gov-erning Council tries to act by �consen-sus�.Although consensus is a somewhatill-defined word its practical definitionis clearly that any minority decides nottopursue its claims.Thisprovides aneatbalancewith everybodyhaving their sayand not overriding deeply held dissent-ing views. It is, however, an illusion tobelieve that monetary policy decisionscannotbe takenwithallnecessary speedin this environment. An examination ofFOMC voting records shows that mostproposals are passed without dissentand that when not all parties agree,the number of dissenters is usually verysmall. Just because each individual hasone vote it does not mean that each ar-gument is equally persuasive.

Nevertheless, in many respects itmight seem that trying to create a cen-tral banking institution with at least adozen components and potentially

around thirty would be a recipe for dif-ficulty. It is essential to grasp such prob-lems.TheEuropeanUnion is prone likeany political entity to slogans, such as�strength through diversity�. However,in practice diversity does indeed have alot to offer, not least because each of theindividual states have their own frame-work of laws, traditions of doing busi-ness, financial institutions and so on.Diversity in delivery sounds almost in-evitable even with a single monetarypolicy and a single framework of Euro-pean law applying to financial markets.This same diversity in behaviour andideas provides important opportunitiesfor more rapid learning in other areasof economic policy and is explicitlybuilt into the Employment Guidelinesfor example. It is difficult to seewhy thesame should not be true of monetarypolicy and experience in the commit-tees of the Eurosystem tends to bearthis out.

Perhaps one should not look at thecentral banking system as an entity butas set of functions that canbedifferentlyorganised. The members of the Euro-system, between them, havemore thanadequate expertise to tackle the prob-lems that assail them at the leading edgeof international skills. It is largely amatterofchoicebasedonstandardbusi-ness principles as to how they shouldorganise themselves to tackle anyparticular problem area. In an elec-tronic world many activities can beundertakenwithout regard to location.Indeed there is no requirement for peo-ple to be stationary with respect to theground in order to undertake manytasks including communication. TheEurosystem can thus act as a singleorganisation without having a singlesite. There is a natural assumption thatincreasing integration implies increas-ing concentration, however, in a net-work there is no such requirement.

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Indeed, as people become more usedto working with each other increaseddecentralisation is possible, as thoseworking with the internet have readilydiscovered.

In very crude terms it is possible todivide central banks into their policyfunctions and their service activities.In the U.S. the Federal Reserve Banksare dominated (in personnel terms) bythese service activities. These activitiesinvolve the provision of currency, pay-ments systems and market operations,which in turn can be divided betweenreserves management and monetarypolicy implementation. Some centralbanks are also supervisors of the finan-cial system and all have some responsi-bilities for the integrity of the financialsystem as awhole, including some formof lender of last resort function. Someof these service functions are locationspecific but the requirement of centralbanks to have branches to handle cur-rency for example is negligible. Thereare none in New Zealand for instance.In particular, the South Island, whichcomprises the majority of the land areaand is larger than most of EurosystemMember States including Greece, hasno branch of the central bank at all.Much of the process of issuing andreturning currency can be efficientlycontracted to the commercial banks.Similarly the private sector can runmuch of the payment system includingoperating the RTGS (Real-Time GrossSettlement) system. In practice muchof the reserves management can be runby counterparties and central banksmay in fact have little of the conceptof a bank about them.There is certainlyno necessity for them to be the govern-ment�s bank.Hence there is no require-ment to follow the U.S. model and seethe national central banks in the Euro-system concentrating on being serviceorganisations.

On the contrary a route forward isfor them to act as policy organisations.While substantial amounts of the pro-vision of the information used in thepolicy-making process can be out-sourced, the digesting and analysingof the implications of the information isinherently a core function. The respon-sibility for financial stability requires aclose contact with the local financialsystem. Similarly the framework formonetary policy involves a close rela-tionship with the national government,the media andthe local popula-tion. The linkswith the popula-tion are particu-larly difficult toexercise acrossborders and in-deed large coun-tries find that they need a local presencein their regions.TheBankofCanada forexample has reopened some provincialoffices so that it can remain more intouch with local sentiments. An inde-pendent central bank inevitably faces anissue of legitimacy. Not only is its staffindirectly appointed but the route toaffecting it if it does not appear tobe fulfilling its mandate is also, delib-erately, indirect. It is one thing to beindependent but quite another to be�distant�, where distance in this sensereflects stance and perceptions notlocational separation. Many centralbanks make considerable efforts tobe visible in local areas despite theabsence of local offices, through partic-ipation in local events, direct commu-nication in the local papers and radio.This local dialogue can be important inbothdirections as ithelps thebank in theimplementation of policy. Greaterunderstanding of the bank can helpreinforce expectations and hence re-duce the �costs� of monetary policy.

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It also helps in the detection of financialtrendsandmisperceptions inadvanceofpublished statistics or more formalsurvey indicators.

However, this still implies that it isthe local issues that are the driver ofthe policy as opposed to a variety ofview and analysis contributing tobetter policy. It is this latter whichis a particular strength of the Euro-system. It is of course a coincidencethat there are twelve Federal ReserveBanks and twelve national central

banks in the Eurosystem but quite anumber of organisations are requiredto cover the range of plausible viewsin a varied area. Concentrating thoseviewsbeforehandthroughasingle routeand then having a single �voice� presentthe range of views ismuch less effectivethan having the proponents promotetheir views in thedecision-makingbodyitself. However objective and profes-sional the presenter, it is unlikely thatsecond-hand views are as coherentlyargued. This is particularly true whena compromise has to be brokered. Evenin a court of law, where the judgesummarises the evidence and argu-ments for a jury, the jury has alreadyheard the arguments put directly bythe parties involved.

It is thus not surprising that the par-ticipating banks in the Eurosystem havebeen increasing rather thandiminishingtheir policy and research functions. It isnot simply that they each want their�day in court� but that they want tosee the issues debated more widely

by academic experts, market practi-tioners and of course through themedia, parliaments and government.Central banks do not have a monopolyof knowledge and in an uncertainworldwant to see as much of the difficultieswith policy strategies spelt out inadvance.

There are some difficulties if na-tional parliaments and governmentsare not matched by national centralbanks. The Finnish parliament debatesthe conduct of monetary policy on aregular basis and the Bank of Finlandhas to respond to that debate in personin parliament. It has to explain theimpact of Eurosystem policy in thenational context. The period sincethe start of Stage 3 of EMU in Finlandhas been characterised by less pricestability than in the preceding yearsand clearly less than that previouslyrequired under the Bank of Finland�sinflation target. The appropriate re-sponse requires not an appeal to thegreater European good but to the con-text of the Finnish economy.

3 Characteristicsof Maturity

One of the key features of the Euro-system is that it is an evolving organi-sation. The first few years have beendominated by trying to work outhow it should be organised, what sys-tems to put in place and learning how towork with each other. Now with thesystem up and running and the notesand coin in circulation the pace willslow, although there is still the potentialof enlargement to continue to compli-cate procedures. Elsewhere the processof financial integration, the impendingneed to implement some form of BaselII and respond to our increasing under-standing of financial (in)stability andthe consequential reorganisation ofthe regulatory and supervisory struc-

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ture inEuropewill continue togeneratechange for some time to come. It willtherefore be a while yet before thesystem reaches even dynamic equili-brium.Over thatperiodnodoubtmanyof the national central bankswill shrinkin size as the activities become moreefficient or are hived off. The Bankof Finland certainlyexpects tobemark-edly smaller five to eight years ahead.However this does not of itself implyany �centralisation� of activity, indeedthegeneral experienceof financialmar-kets would suggest that while activitiesmay become more concentrated orspecialised, the trend is for the entireorganisation to shrink including �headoffices� as productivity improvementsrun ahead of output growth. An effi-cient network organisation is actuallylikely to be hollower.

It would be helpful to find a char-acterisation of the Eurosystem in thisperiod of change that was apt, accurateand generally acceptable, particularlyto those involved. Almost all analogiessuch as hubs and spokes are likely tobe misdescriptions. Use of the word�centre� is likely to please almost no-body. The challenge is to come up withsome more neutral description thatmakes it clear that the parts of thesystem are operating (harmoniously)together in a variety of interlockingroles towards a singly defined set of ob-jectives. The word �team� is helpful in

this regard, as long as it is associatedwith pulling together rather than withsporting events.

Even if the issue of labelling can besolved, a real challenge remains onmany fronts foroutsiders tounderstandthe Eurosystem. The Eurosystem andthe media are at last beginning to cometo termswith the fact thatdisagreementover many issues including monetarypolicy is not only inevitable, it is thesign of a healthy and vibrant organisa-tion, as is clear from the example ofthe U.S. Federal Reserve. The mediahas now learnt how to distinguish offi-cial statements and personal remarks.The academic policy debate has takenoff and the rapid increase in researchpublications is helping our understand-ing of the choices available and of howto handle the uncertainty that inevita-bly faces the decisionmaker in mone-tary policy. The macroeconomic de-bate in the U.S. has been impressivefor a long time. While it is not yetmirrored in Europe, the balance ischanging. Ironically as the organisationmatures and becomes one of the insti-tutions of the European map its profilewill tend to diminish as its reputationgrows.Effectivemonetaryand financialpolicy is not a talking point. In thosecircumstances central bankers onlybecome a focus of attention whensomething goes wrong. §

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Richard Portes

Comments on Jean-Claude Trichet,

�The Eurosystem:

The European Monetary Team�

It isapleasureandachallenge todiscuss,perhaps more accurately to comple-ment Jean-Claude Trichet�s eloquentpresentation of the European CentralBank (ECB) and the European Systemof Central Banks (ESCB). The differ-ence between the two institutions isof course central to some of the issueswe consider. As did Governor Trichet,I shall cover awiderange:general struc-tural questions, the functions of theECB, and the political context inwhichit operates.

Many academics who supportedmonetary union, myself included,voiced early concerns on two groundsrelated to the institutional structureof Economic and Monetary Union(EMU): the potential for conflict be-tween the ECB and national centralbanks (NCBs) and the risk that the de-centralised structure of financial super-vision couldnot copewith an episodeofserious financial distress.1) Fortunately,we were overly pessimistic.

1 See, for example, several papers in the Special Issue ofEconomic Policy on EMU (Number 26, April 1998),and Monitoring the European Central Bank 1 (�Unsafeat any speed?�), CEPR, November 1998.

Richard Portes

Professor,

London Business School

President,

Centre for Economic Policy Research (CEPR)

On the first point, wewere perhapstoo influenced by the historical exam-ple of the Federal Reserve System —possibly the use of �System� in bothnames was misleading. It took decadesfor the Fed to work out a satisfactory,non-conflictual relationship betweenthe Board in Washington and the re-gional Federal Reserve Banks. It hasbeen a pleasant surprise to observehow well President Duisenberg andhis colleagues on the Frankfurt-basedExecutive Board have defused the

natural tensions between the Euro-tower and the NCBs. There has beenan apparently high degree of consensusin decision-making as well as a creativeuse of the inbuilt, structural competi-tive relationships. Policies have demon-strably been set at the euro area level,rather than as a compromise amongdifferent national interests. And theNCBshavedoneratherwell in justifyingtheir continued existence (though per-haps not the maintenance of their pre-vious staffing levels) as sources of localknowledge, research, and decentral-ised implementation of policies.

Nor havewe seen any cases inwhichtheESCBhasprovedunable todealwithfinancial instability. The concern herewas that in a crisis, one or moremajor financial institutions might re-quire a lender-of-last-resort (LOLR)response, and that the unclear alloca-tion of LOLR responsibilities might

inhibit the system fromreactingquicklyenough.1) I do not agree that Septem-ber11wasa serious test, fromthispointof view. It did indeed require fast actionto stabilise financial markets, but therewas no need to make bailout decisions,no concern about systemic risk arisingfrom illiquidity or insolvency of keyfinancial institutions. September 11did not raise the issues of cross-bordercoordination or the division of respon-sibility between the ECB andNCBs andfiscal authorities. In fact, we have notyet seen any serious threat to a bankwith euro-area systemic significance.

One might like to believe that onboth points, policy-makers just reactedeffectively to the concerns we had ex-pressed. That would be awelcome fur-ther justification for academic researchand the free expression of critical aca-demicviews!Analternativeor comple-mentary explanation is that on neitherpoint has the system really been stress-tested yet. We have not seen strongasymmetric shocks or an extended,deep recession, so monetary policy-making has been operating in a rela-tively benign environment. And wehave not had a European LTCM orContinental Illinois, although thatmay indeed be a consequence of veryeffective financial supervision at thenational level.

The underlying structural issues re-main.Therearewell-knowndifficultiesin managing a network structure, andhere they are not compensated by anyclear network externalities or econo-mies of scale. Moreover, this is not apure networkof individual nodes, nonewith any special status. There is a hub,the ECB, and spokes, the NCBs; andsome of the latter are �more equal thanothers�. Theory is not much help here.

1 See Portes, R. (2001). The European Contribution to International Financial Stability. CEPRDiscussion PaperNo. 2956,August.

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We do have a theory of teams, but it isbased on the incentives that teammem-bershave to share informationanduse iteffectively. Here the incentives are atbest fuzzy and there are conflicts be-tweentheneedtogenerateanduse localknowledge (but distortions in aggre-gating it) and the desirability of cen-tralising information and decision-making.

TheNCBs themselves differ signifi-cantly. The obvious issue is that theycome fromcountries of verywidelydif-fering economic weight and character-istics — fromGermany to Luxembourg,a much wider range than across U.S.Federal Reserve regions. Yet the ruleis one governor, one vote. In practice,of course,we can expect that discussionand consensus formation will incorpo-rate informal weighting, just as the ag-gregate euro-area data on which deci-sions are based incorporate formalweighting. Still, there are other differ-ences as well — in research capacities orspecialisations, for example (an issue ofgreat interest to academics), whichaffect the perspectives and authoritythat individual governors bring tothe discussions. Yet there is more sym-metry than in the Federal ReserveSystem, insofar as no euro-area NCBhas a role analogous to the money mar-ket centre status of the New York Fed.There may be political constraints thatpreclude the emergence of any singleNCB with this status in the euro area— although U.K. entry might leadunavoidably to a de facto role of thiskind for London.

Structure is intimately related tofunction. Let me take up two pointsregarding the functions of the ECB.First, although current arrangementsfor setting monetary policy seem se-cure, they become an issue with en-

largement.1) The composition andvoting structure of the ECB couldquickly become unwieldy and its flex-ibility overly constrained. The Niceoutcome specified that the ECB shoulditself come forward with a proposal todeal with this, or failing that, theCommission should offer its proposal.Neither has spoken. Enlargement, wemust hope, will proceed according tothe agreed timetable and bring in newmembers in 2004. It would be unwiseto delay the discussions and nego-tiations on ECBvoting structuresuntil then, or in-deed until theratification ofthe Nice Treatyor the outcomeof the constitu-tional conven-tion. Academics have of course putseveral options on the table, such asa monetary policy committee alongthe lines of the Bank of England Mon-etary Policy Committee — perhaps thepresence of �independent� members,including academics, enhances its ap-peal. It is improbable, however, thatany proposal transferring monetarypolicy authority away from NCB gov-ernors would emerge from the ECB.But would they prefer a rotationscheme, a constituency scheme, orwhat? They should tell us sooner ratherthan later.

Second, a key function of both theFrankfurt-based ECB staff and many ofthe NCBs is research. We should hearmore open discussion of the justifica-tion forNCBresearch activities, exceptinsofar as they might relate to nationalfunctions (financial system supervisionand regulation, in particular). If thereis a euro-area policy — as I believe there

1 See Baldwin, R., et al. (2001). Preparing the ECB for Enlargement. CEPR Policy Paper No. 6, October.

Richard Portes

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is —what is the need for national macro-economic and monetary research, ex-cept possibly for a few of the largestcountries? Even if one posits a casefor competition — among NCBs andwith the ECB — one might argue thatthree or four major competitors wouldsuffice. In practice, some of the smallercentral banks are important contribu-tors to euro-area central bank researchoutput — including, of course, our hostsat this conference — and it would behelpful to know more about how thiswork interfaces with that conducted atthe ECB.

The two final issues I wish to raiseboth have significant political dimen-sions. First, I have criticised the ECBfor its �neutral� stance on the interna-tional role of the euro, and morebroadly for its reticence regarding uni-fied euro-area representation in inter-national financial institutions and dis-cussions.1) Europe�s influence is notin fact enhanced by having four mem-bers of the G-7 and several ExecutiveDirectors in the International Mone-tary Fund (IMF), especially since theyseldom put common positions. It is en-couraging that the International Rela-tionsCommitteeof theESCBhas finallyagreed a European position on sover-eign debt restructuring. That it doesseem to have influenced the UnitedStates significantly, and this is reflectedin the April 2002 G-7 Action Plan,shows that a common European view

can have weight. The implicationsare clear.

Second, both proponents of en-hanced EU political union (especiallyin Germany) and sceptics aboutEMU (especially of the �Anglo-Amer-ican� variety) have maintained thatgreater political integration is essentialto underpin a single monetary policy.The arguments range from the sup-posed need for a federal fiscal policyto the problems of ensuring democraticaccountability and legitimacy for mon-etary policy decisions that can some-times be politically divisive. I disagreeon economic grounds, because nationalfiscal policies, when properly run, canprovide the necessary complement to acentralisedmonetary policy. But on thepolitical argument, there are concretecounterexamples.TheEuropeanCom-mission has sole competence in bothcompetition policy and trade policy— these are not domains in which theMember States or the Parliament haveany authority. Of course the relevantCommissioners and their staffs docommunicate closely with national au-thorities and Parliament, but the Com-mission has decision-making power.And these two domains are at leastas politically sensitive as monetarypolicy. Greater federalism is not re-quired to sustain their legitimacy.Nor is it required to buttress theECB and EMU. §

1 Portes, R. The euro and the international financial system. CEPR Discussion Paper No. 2955, forthcoming in: Buti, M.,and A. Sapir (eds.). EMU: Early Challenges and Long-Run Perspectives.

Richard Portes

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The Role

of National Central Banks


of Central Banks

Introductory Statement

As Governor Trichet has already out-lined in his speech national centralbanks (NCBs) in the European Systemof Central Banks have to cover a verywide range of tasks. These tasks rangefrom preparing the analytical basis formonetary policy decisions, the partic-ipation in the decision-making processitself over to its operational implemen-tation at the national level. NCBs areresponsible for producing reliable stat-istical data and concise economic anal-ysesaswell as for theprovisionof liquid-ity, banknotes and coins and the func-tioning of the payment system. And,above all, NCBs have to make sure thatthe monetary policy which is decidedon the European level is well under-stood by national financial marketsand the general public.

One task which is of utmost impor-tanceandonwhich Iwant to focus todayis the contribution of NCBs in the fieldof financial stability and, more in


Vice Governor,


particular, the institutional structure ofbanking supervision in Europe.

The current banking supervisorysystem in Europe is essentially basedon three pillars:(i) harmonization of regulations across

Europe,(ii) national regulatory powers, and(iii) bilateral and multilateral coopera-

tion.In line with the principle of home

country supervision, every bank hasthe right to offer its services through-

out theEuropeanUnion, the onlylegal require-ment being a sin-gle license, theso-called Euro-pean passport.In order to coverthe cross-border

activities, bilateral cooperation be-tween home and host country super-visory authorities — within and outsidethe EU — is regulated by means of a va-riety of memoranda of understanding.

The above-mentioned arrange-ments are complemented by coopera-tion platforms at the multilateral level.Let me deal briefly with just a few ofthem:

The Eurosystem body responsiblefor banking supervisory cooperationis the Banking Supervision Committee(BSC),whichwas set upby theECBandiscomposedof senior representativesofcentral banks and banking supervisoryauthorities of all 15 EUMember States.Another body on the level of the Euro-pean Union involved in banking regu-lation is theBankingAdvisoryCommit-tee (BAC), which is made up of repre-sentatives of the banking supervisoryauthorities, finance ministries and cen-tral banks.

Let me now turn to the Europeandebate currently underway. Financial

markets change a lot and the introduc-tion of the euro certainly brought in anew structural element that has to bereflected in the institutional setupwhenit comes to financial market regulationand supervision.

The adequacy of the existing ar-rangements for prudential supervisionand the safeguarding of financial stabil-ity in the EuropeanUnion have recentlybeen assessed in two reports producedunder the outstanding chairmanship ofHenkBrouwer fromDeNederlandscheBank. The outcome of the analysis wasthat the current institutional systembased on national responsibility isappropriate, but that there is a needto strengthen cross-border and cross-sectoral cooperation between super-visors. This is to enhance convergenceof supervisory practices and to rein-force collaboration between super-visors and central banks.

Onlyrecentlyanewdebatehasbeenlaunched by a letter written jointly bythe German and British Ministers ofFinance. The aim of this letter is tostreamline the Community financialregulatory process in analogy to theproposals made by the �group of wisemen,� led by Alexandre Lamfalussy, inthe field of securities regulation. Theburden of detailed and cumbersomeregulation at theCommunity level shallbe removed by delegating rule-makingpowers to a committee of regulatorsand by promoting consistent imple-mentation at the national level througha committee of supervisors. Extendingsuch amechanism tobanking and insur-ance would probably also produce tan-gible benefits, thoughdifferences exist-ing between the three sectors shouldalso be taken into account.

The Council of Ministers has de-cided to have the institutional structureof financial supervision reformed. A fi-nal report shall be delivered in Septem-


166 �

ber thisyear.Myopinion inthis regard isthat an improvement in the decisionmaking process is always welcome.However, by reforming the systemtwo principles should be respected:(i) The involvement of all those who

play a role in preserving financialstability and improving financialregulation in the respective com-mittees must be ensured: Thismeansministries of finance, centralbanks and supervisors shall all berepresented in new institutionalformats.

(ii) One should not re-invent thewheel, but rather start from exist-ing structures and try to improvetheir functioning. As the Brouwerreport concluded: what is neededis not the creation of new institu-tions, but rather an improvementof thecooperationbetweenexistingbodies.The first drafts of the reform ideas

that are circulated currently appear togo into the wrong direction: NCBsshall be excluded both from decision-making and from advisory bodies withrespect to banking regulation andsupervision. The only forum whereNCBs shall be represented would bea very large forum on financial stabilityof no particular institutional or deci-sional importance.

We are still in themiddle of the dis-cussionprocess, but Iwould like tourgenot to underestimate the importance ofhaving central banks on board in thearea of financial supervision. The rea-sons for this range from the profound

central banks� knowledge of thenational banking industry to the linkbetween micro- and macro financialstability and the issue of crisis manage-ment. My warning would thereforebe to very carefully analyze differentpossible options before rearrangingthe institutional framework of financialsupervision in Europe — leaving NCBsaside can certainly not lead to an opti-mal solution. What is at stake is thestability of the European financialmarket — and this should not become

subject to short-sighted political wargames.

The contribution of NCBs to thestability of financial markets is one ofthe most important tasks to be metin the future, but it is only one taskof NCBs in the European System ofCentral Banks among others, as wasalreadypointedout.DeNederlandscheBank is certainly one of the leadingNCBs with respect to the professionalconduct of its supervisory functions inthe banking sector. I am therefore veryglad and honored to announce ArnoutWellink, the President of De Neder-landsche Bank, who is also memberof the Governing Council of theECB, as our next speaker. §


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The Role of National Central Banks


of Central Banks:

The Example of De Nederlandsche Bank

IntroductionMonetary policy is one of the few areasof European integration where there isa genuinely supranational policy. Inconsidering the role of central banksin general, the main focus of authorsis typically on monetary policy (e.g.Fischer, 1995). The same focus is evi-dent among thosewho have consideredthe role of national central banks(NCBs) within the European Systemof Central Banks (ESCB).1) Seen fromthis perspective, the transfer of mone-tary policy sovereignty from individualcountries to the European level since1999 has raised questions about the on-going role of national central banks.However, central banks also have anumber of other tasks. This paper takes

1 See, for example, De Nederlandsche Bank (2000) andGoodfriend (1999). For convenience, and consistencywith the Treaty, the paper refers to the ESCB (whichincludes all EU central banks), even though someEU countries have not adopted the euro.


President, De Nederlandsche Bank

Bryan Chapple

Philipp Maier

De Nederlandsche Bank

a broader perspective and considers theposition of NCBs in the context of theESCB with respect to the full range oftasks carried out.

We set out a number of criteria toevaluate the division of ESCB tasks,review the current assignment of tasksand consider how they are likely tochange in the future. Moreover,NCBs also fulfil non-ESCB tasks. ForDe Nederlandsche Bank (DNB), thesenon-ESCB tasks span a wide range ofpolicy areas that are indirectly related

toourESCBresponsibilities andoccupyaround 50% of staff.1) These tasks arenot specified by the Maastricht Treaty,but are agreed uponwith the respectivenational governments. The role ofNCBs in carrying out these othertasks is discussed, using the exampleof DNB.

To preview the conclusions, ourcurrent system is likely to continueto evolve over coming years as wegain experience with monetary unionand efficiency gains are exploited. Aslong as nation states remain in exis-tence, it seemsunlikely, for various rea-sons, that the role of national centralbankswill alter completely.2) Althoughmajor changes in the way in which thesystem is organised can be expected,

most of them are only likely in the longterm, by which we mean more than ageneration.

The paper continues in section 2with a discussion of the criteria pro-posed for evaluating the distributionof central banking tasks within theEuropean context. Section 3 discussesthe current role of NCBs within theESCB and the possible future evolutionof these tasks. Section 4 discusses thenon-ESCB tasks that DNB is respon-sible for and section 5 summarisesthe main findings.

2 A Framework to Analysethe Division of Tasks

Ideally, a �normative literature� on cen-tral bankingwould provide guidance onwhat central banks should be doing, in-cluding(i) the tasks the Eurosystem should be

fulfilling and(ii) an optimal division of these tasks

between a centre (the ECB) and na-tional central banks. Such a norma-tive literature on central banking is,however, lacking. Instead,weestab-lish some criteria against which thecurrent division of tasks can be as-sessed. In the European context,theMaastricht Treaty forms the ba-sis for the current assignment oftasks. It is based on the idea thatthe ESCB as a system shares a num-ber of tasks. Given this commonresponsibility, all participatingcentral banks — be it the ECB orNCBs — have to be involved in allrelevant policy areas. In addition,all participating central banks have

1 In this regard,wealso count tasks suchas banking supervision as �indirectly related� tomonetary policy, as is explained belowin section 4.2. Note, however, that not all NCBs perform this task.

2 The conference theme concerns a Europe of regions. Regions can obviously be defined in different ways. Regions which areeconomically integrated need not necessarily correspond to the geographic boundaries of nation states (which form politicalregions). However, NCBs are linked to nation states. Given that, the regional analysis in this paper is linked to politicalregions.


170 �

tohave themeans to fulfil these tasksfor which they are collectively re-sponsible. Within this overridingframework, the Treaty refers totwo broad principles: first, the ideaof subsidiarity, i.e. the currentsystem was created out of respectfor national sovereignty withinsome basic rules set by the EU,and not on the basis of better co-ordination or centralisation perse. This also reflects the hetero-geneity of theMember States. Con-sequently, any task should be per-formed at the lowest regional levelpossible and there are limits on theextent to which national tasks canbe centralised. Second, the Treatyemphasises the idea of efficiency,i.e.where can the task beeffectivelyundertaken at the least cost?1)There is a relationship betweenboth principles, in that subsidiarity(and the benefits that comewith it —see below) should prevail, but grossinefficiencies should be preventedor eliminated.The Maastricht Treaty specifies the

tasks to be carried out by the system,but in most cases is not specific aboutwhich part of the system should under-take them. The following sections con-sider the extent towhich the allocationof tasks conforms with the subsidiarityand efficiency criteria proposed. Theconcept of effectiveness subsumed inthe efficiency principle includes, interalia, the following aspects:2)— A system of checks and balances

form part of ensuring the account-ability of independent centralbanks.Because theESCB independ-ence is contained in an international

treaty, unlike other central bankswhere independence can be over-turnedby a parliamentarymajority,accountability arrangements areparticularly important as a counter-part to this independence. The lackof credible accountability arrange-ments could undermine public andpolitical confidence in the mone-tary union and therefore the effec-tiveness of monetary policy.

— One of the key �ingredients� formonetary policy is the accurateassessment of market sentimentand expectations, and of economicdevelopments. A system of NCBsspread across Europe can poten-tiallyprovideabetter pictureof sen-timent within the entire euro areathan a single, centralised body.

— NCBs are important channels forESCB communication, as theyare more closely linked to their na-tional audiences. They are moreaware of national traditions, cul-tures and histories, and can there-fore potentially better tailor com-munication to the needs of the localpopulation. Moreover, it may beparticularly �reassuring� for thepublic in countrieswhereeconomicdevelopments diverge from theeuro area average if �their� NCBgovernor is seen to participate inthe formulation of the single mon-etary policy, even though the gov-ernor�s decisions are based on euro-wide considerations. These na-tional governors are then betterable to explain the consequencesof European monetary policy.The above-mentioned framework

can be used to assess the allocation

1 This principle has also been stressed by the ECB. See European Central Bank (1999), p. 57. A framework based on similarconsiderations has also been proposed for the re-organisation of the Bundesbank after the adoption of the single monetarypolicy. See Ko‹sters et al. (2001) and Deutsche Bundesbank (1999).

2 Note that not all of the aspects of effectiveness discussed here are relevant for every task carried out by NCBs.


171�

of Treaty tasks between the ECB andNCBs. Throughout the analysis wefirst examine the current situationand then consider likely changes inthe future.

3 The Division of ESCBTasks Between ECBand NCBs

3.1 Monetary Policy DecisionsMonetarypolicy-making covers a num-ber of aspects. This sub-section dis-cusses the role of NCBs in decision-making, inresearchactivitiesunderpin-ning those decisions and in the commu-nication of decisions.

The Treaty provides that the meet-ings of the ECB Governing Council(which formulates monetary policy)are to be prepared by the ExecutiveBoard of the ECB. The main task ofthe ECB in this respect is to lay thegroundwork for the monetary policydecisions of the Governing Council.NCB governors (together with ECBExecutive Board members) decideon monetary policy, requiring theNCBs to brief their governors (andthis briefing has to be an interactiveprocess) so that they can carry outthis joint responsibility. NCBs aretherefore involved in research andthe preparation of monetary policydecisions.1) That is, the need to con-duct independent research inter aliaarises from the obligation NCBs haveto fulfil their role in carrying out thetasks the ESCB as a system has beenassigned. Certainly for NCBs such as

DNB, which prior to Economic andMonetary Union (EMU) had main-tained a fixed exchange rate vis-a‘-visthe German mark, monetary policypreparation has become more com-plex. It nowrequires the analysis of eco-nomic variables and monetary indica-tors for the euro area as a whole.2)

Thesecurrent arrangements areex-plicitly set out in theTreaty, so are fixedfor the time being. However, the com-position of the Governing Council hasbeen the subject of debate, with somearguing for limits on the number ofNCB governors. It has been argued thatdecreasing the numbers of nationalgovernors may increase effectiveness,since having twelve NCB governorsparticipating may exceed the optimal�club size� for monetary policy deci-sions.3) This could make it difficultfor the Council to engage in effectivedebates over policy decisions andhamper the development of a cohesivedecision-making body. A further argu-ment against including all NCB gover-nors is that the Eurosystemhas to guardagainst the perception that Europeanmonetary policy could be sub-optimalfor the following reasons (e.g. Baldwinet al., 2001):— National interests could dominate

decision-making.4) This could bethe case if NCBs governors regardthemselves as representing themonetary policy requirements oftheirhomecountry,rather thanbas-ing their decisions on the euro areaas a whole.5)

1 NCBs are also involved in the preparation of monetary policy via their participation in the ESCB Monetary PolicyCommittee, which inter alia prepares the economic projections of the euro area.

2 See also De Nederlandsche Bank (2000), p. 26.3 This holds all the more in an enlarged EMU with more than 20 Member States.4 Berger and de Haan (2002) and Meade and Sheets (1999).5 In fact, small, open countries have a natural inclination to make decisions on the basis of the euro area as awhole — possibly

more so than largecountries.A strongand successfulEuropean economy is ofparticular importance for smallermembers of theeuro area. For example, if euro area decisions were based only on Dutch circumstances, this would eventually have negativeconsequences for the euro area as a whole and therefore for the Netherlands.


172 �

— If euro area countries are very het-erogeneous, competingnational in-terests could offset one another andresult in a bias against changinginterest rates. This could make itdifficult to reach a decision tochange interest rates in theGovern-ing Council.1)Despite the above arguments, we

consider a Governing Council withoutadequate representation ofNCB gover-nors as unwarranted for a number ofreasons. First of all, NCB membersof the GoverningCouncil do not con-sider themselves tobe representativesof their home coun-try. Second, theirremoval runs coun-ter to the criteria setout in section 2. Inparticular, it conflicts with the notionthat all NCBs must contribute to themaintenance of price stability andthe other tasks of the ESCB. Broadparticipation in decision-making is apart of the checks and balances thatare a necessary counterpart to theindependence of the ESCB. Third,the quality of policy debates in theGov-erning Council could be adversely af-fected if the number of NCB governorswas to be reduced. The argument runsas follows: economic theory suggeststhat competition typically leads tohigherefficiency.Competitive pressureon the centre (ECB) regarding researchand the preparation of monetary policydecisions is provided by the NCBs toensure that monetary policy remainsinnovative and e.g. incorporates thelatest academic insights. It also en-sures that decision-makers are exposed

to alternative academic paradigms:�Everyresearchdepartment�isat riskof developing a dominant �in-house�view that is intolerant of challengesto the local orthodoxy. It would beunfortunate for the citizensofEurolandif all � Council members drank onlyfrom the same fount of economic wis-dom.�2) Finally, as noted above, mon-etary policy requires the accurate as-sessment of market sentiments and ex-pectations. Here NCB members of theGoverning Council play a vital role, as

they have a �regional informationadvantage� and can — helped by the factthat they have at their disposal estab-lished organisations — typically providea better assessment of the situation intheir home country.3) This local knowl-edge is also important in the commu-nicationofmonetarypolicydecisions tothe public. Here there is a role to beplayed by national central banks, ascommunication is facilitated by a betterknowledge of languages, regional insti-tutions and particular circumstances.

In summary, monetary policy deci-sion-makingwithin theECBGoverningCouncil should therefore be character-ised by a team effort with a strong, butnot dominant centre. Interest ratedecisions are based on input providedbyboth theECBandNCBs.At the sametime, to ensure that the public under-stands that monetary policy is based on

1 See Aksoy et al. (2002).2 See Buiter (1999).3 See Goodfriend (1999).


173�

the entire euro area, NCBs must becareful not to overemphasise coun-try-specific needs.

It is possible that in the long run,integration and trade links within theenlarged EU will reduce diversity andreduce the argument for NCB input indecision-makingbasedontheir regionalinformation advantage. However, evenif this were to occur, in our view, theargument for reducingNCB input so asto improve efficiency is outweighed bythe benefits provided via competition,the contribution to the checks andbalances of the ESCB and their rolein communication.1) Also, to a largeextent it resembles the setting in theU.S., which indicates that in othermonetary unions regional participantsalso play an important role.2)

3.2 Monetary Policy ImplementationThe Treaty requires the ECB�s Execu-tive Board to �implement monetarypolicy inaccordancewith theguidelinesand decisions laid down by the Govern-ingCouncil.�3)Consistentwith thesub-sidiarity principle,monetarypolicyop-erations are co-ordinated by the ECBand the transactions are normally car-ried out by the NCBs (European Cen-tral Bank, 2001a). The decentralisedoperation also reflects a philosophyof allowing broad participation inmon-etary policy operations: all financialinstitutions subject to minimum re-serve requirements in the euro areaare able to participate in standard openmarketoperations andaccessour stand-ing facilities.4)For theNetherlands, thismeans that around 85 institutions can

participate in tenders, and around 5 to10 regularly do so.Within the euro areaas awhole, between 300 and 400 bankscurrently participate. This contrastswith the systemoperated inother coun-tries (such as the U.S.), where partic-ipation in open market operations islimited to a few large players. In thelatter systems, the transmission ofmonetary policy to a broad range of fi-nancial institutions occurs mainly viathe money market. Both systems arepossible. Perhaps the most importantdifference is that the system used bythe Eurosystem differentiates less be-tween types of market participants. Fi-nancial institutions are able to decidefor themselveswhether or not to accessfunds from the central bank or themar-ket.This also allowsmonetary policy tomore directly influence a greater num-ber of financial market participants,without being completely dependenton the interbank market.

At the same time, the decentralisedimplementation ensures an element ofcontinuity for counterparties to theoperations in that they continue to holdaccounts at their national central banks.The decentralised approach also em-bodies an element of insurance againstdisasters, by ensuring that the systemhas theability to implementpolicy fromlocations across the monetary union.Finally, the approach fosters ongoingcontact between NCBs and marketparticipants which is useful in the for-mulation ofmonetary policy and, in thecase of some NCBs (including DNB),can assist in the exercise of the super-visory responsibilities.

1 This does not exclude the possibility that, for practical reasons, the number of NCB governors in the Governing Council maybe limited at any point in time (e.g. subject to some form of rotating scheme) following euro area enlargement. Nevertheless,were this to occur, it would be important for NCBs to continue to participate in the Council to the fullest extent possible inorder to be able to effectively contribute to the tasks of the ESCB.

2 See, for example, Goodfriend (1999).3 Protocol on the Statute of the European System of Central Banks and of the European Central Bank, Article 12 (1).4 See European Central Bank (2000).


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Given the philosophy underlyingthe system, we do not see any scopefor significant changes here in theshort-term. This would also run coun-ter to some of the criteria set out pre-viously, notably the need to accuratelyassess market sentiment and the rele-vance of NCBs for communication.In the long term, if there is increasingconsolidationwithin the banking sectorthat reduces the total number of banks,as well as an increase in cross-bordermergers, the usefulness of implement-ing policy from every central bank maydiminish. If that occurs, it is possiblethat operations might be centralisedin one or a few locations.

3.3 International Co-OperationWith regard to international co-oper-ation, it is necessary to distinguish be-tween �European� and �national� re-sponsibilities: European responsibil-ities relate to matters that are ofimportance to the entire Eurosystem,whereas national responsibilities arelinked to national institutions or gov-ernments. The Treaty states that theECB should be the system�s represen-tative vis-a‘-vis third parties. TheGoverning Council, as the key deci-sion-making body of the ECB, decideshow this is arranged in practice. Formost European issues, the ECB presi-dent would normally fulfil this role.But, the Council can decide thatothers should also act as the repre-sentative where this is desirable, orthat national representation is moreappropriate.

However, not all external repre-sentation involves European issues.National central banks are the agentsof governments, and to the extent thatinternational responsibilities are linkedto national sovereignty, these respon-sibilities remain at the respectiveNCB. An example is IMFmembership:

nations are members of the Inter-national Monetary Fund (IMF), repre-sented by their central banks and/orministries of finance, soNCBs are ofteninvolved in the preparation of IMF-related activities. The internationalnetwork that NCBs have can in turnbe beneficial for other tasks. Giventhe fact that national interests can di-verge across EMU members, thisset-up can be regarded as appropriate.NCBs are also represented directly at(and are shareholders in) the Bank

for International Settlements (BIS).The BIS is not only a bank, but alsoprovides a forum to discuss a rangeof issues, including those relating tofinancial stability. As is discussedbelow, this is a national responsibility.Given that we are a shareholder inthe BIS, and that the topics discussedin BIS forums relate to our areas ofresponsibility, it is logical for NCBsto remain actively involved in BISforums.

In the long run, as European inte-gration proceeds, European interestswill increasingly replace national inter-ests. There will be less need to pursuepurely national policies vis-a‘-vis theoutsideworld in some areas. The speedat which this internationalisation oc-curs will probably vary across issues.If European integration also movestowards political union, it makes senseto de-couple representation of theMember States from the nations andto transfer it to anEuropean institution.That is likely tomean that the ECB, and


175�

therefore its president, would have anincreasing role as the public face of theESCB. If national representation wereto be centralised at the European level,governance arrangements of someinternational organisations may needto be adjusted to reflect this. A singleEuropean representative in the IMF,for example, would imply that boththe European and the U.S. representa-tives have blocking votes. Such an ar-rangement could hamper the effectiveworking of the IMF.

3.4 Foreign Exchange Operationsand Reserves Management

The Treaty provides that the ESCB isresponsible for conducting foreignexchange operations and managingthe official foreign reserves ofMember States. To avoid conflictingpolicy messages, the Treaty also pro-vides that foreign exchange trans-actions should take place within a com-mon framework.

Key reasons for central banks tohold foreign reserves are to ensure thatthey have the ability to intervene in for-eign exchange markets if necessary —e.g. to smooth exchange rate fluctua-tions or in reaction to financial crises.All members of the ESCB own foreignreserves. Those of the ECB are man-aged on its behalf by NCBs.

Foreign reserves and a centralbank�s net worth represent a part ofthe wealth of a nation and are thereforeowned by the nation. Accordingly,there is no particular need to transfertheownershipof these assets.However,

the question of who should managethese funds on behalf of a country isopen to debate. Currently NCBs areresponsible for managing these fundsand do so according to their own riskpreferences. Nevertheless, these re-serves could in principle be centralisedand managed by the ECB (or a privatesector asset manager). The ECB (or aprivate sector manager) would then ef-fectively be acting as an agent forNCBs.

However, there are economic argu-ments against the complete centralisa-

tion of reservesmanagement: giventhe substantial valueof these reserves, acommon reservesmanagement is notnecessarily optimal.The risks of poolingsuch a large fund can

be spread if each NCBmanages its ownreserves. The potential benefits fromthe reduction in riskmay therefore out-weigh the additional costs of the decen-tralised reserves management (consis-tent with the concept of effectivenessset out in section 2).Moreover,manag-ing reserves deepens our knowledge offinancial market developments, whichassists in carrying out our other tasks.However, this argument should notpreclude co-operation with anotherNCB or the ECB where an NCB lackssufficient economies of scale to carryout the task efficiently. NCBs currentlyalso manage the reserves of the ECB —this involves only marginal additionalcosts for NCBs and means that theECB does not need to duplicate the re-serves management expertise thatalready exists in the system. However,at some point, it is likely that the ECBwill manage its own reserves, therebygaining the benefits of additionalmarket contacts. In making decisionson this issue, the Governing Council


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will consider the costs and benefits forthe system as a whole.

In the long run, the argumentsagainst centralisation of all reservesare likely to remain valid. Scope forcomplete centralisation thereforeseems small.

3.5 StatisticsAccording to the Maastricht Treatythe ECB �� shall collect the necessarystatistical information� to fulfil its tasks,but the Treaty stipulates that the tasksshould be decentralised �� to the ex-tent possible�1). Monetary statistics arecollected by NCBs, as the collection ofdata typically involves close contactswith commercial banks. In a situationwhere NCBs are responsible for boththe implementation ofmonetary policyand prudential supervision, the effi-ciencycriterionof section2 implies thatit is clearly more efficient for the NCBto collect monetary statistics. Other-wise, another statistical agency wouldalso have to establish and maintaincontacts with commercial banks. Tothe extent that NCBs collect statisticson national data, it seems reasonablethat this should remain a national task.2)There seems little scope for gain fromcentralisation.

Some NCBs also collect or compilenon-monetary national statistics. DNBdoes this for balance of paymentstatistics as most of these data are alsoobtained from commercial banks.Although this task could in principlebe transferred to the national statisticsinstitution, there is no indication thatthey would be any more cost-efficientthan DNB, given the natural links wehave with commercial banks.

Over the long term, if national bor-ders become less important from an

economic perspective, the argumentsfor national collection of data diminish.It seems, however, unlikely that allstatistics collection activities could beefficiently centralised in one location(given the size of the bureaucracy im-plied), but some clustering into re-gional groupings could occur. Closerpolitical union would also presumablyresult in some clustering or centralisa-tion of statistics gathering, as somecountriesmight wish to centralise theirstatistical activities.

3.6 Operational Tasks:Payment Systems and Banknotes

Operational tasks remainwithin thedo-main of the NCBs. As the banker tobanks, central banks have typicallyprovided facilities whereby banks cansettle debts amongst themselves. Pay-ments to and from the government arealso often channelled through the cen-tral bank (as banker to the govern-ment). A further reason why centralbanks provide services in this area isto ensure financial stability. Becausepayment systems form a link betweenfinancial institutions, there is a risk thatinstability can be transmitted via thesesystems. By providing payment sys-tems, central banks minimise that risk.

Payment systems differ across theeuro area. In this context, it is usefulto make a distinction between whole-sale and retail systems. An integratedwholesale system was necessary for

1 See Article 5 of the Protocol on the Statute of the European System of Central Banks and of the European Central Bank.2 Language differences also play a role here.


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the introduction of the commonmonetary policy. To meet this re-quirement, the Eurosystem has devel-oped the TARGET (Trans-EuropeanAutomated Real-time Gross settle-ment Express Transfer) system. EachNCB has its own wholesale paymentsystem, based on their existing tech-nologies, and the European paymentsystem TARGET provides a commoninterface. TARGET works effectivelyas one pan-European system, but na-tional differences remain. There is

also a link in thisarea tomonetarypolicy impleme-ntation. Institu-tions subject toreserve require-ments are re-quired to holdreserves at the

NCB in the country in which theyare established. Similarly, they partic-ipate in monetary policy operations viathat NCB. This necessitates the provi-sion of some form of payment systemsby NCBs.

Looking ahead, further harmonisa-tion of the TARGET system is likelyin coming years, although the exactform that this will take is not yetclear. In this respect, there are threeimportant factors that will deter-mine how payment systems are organ-ised in the long term: (i) the desires ofcustomers (i.e. commercial banks),(ii) competition and (iii) technology.(i) Customers� wishes differ some-

what.Somelargebanks thatoperateacross Europe are keen to see theintroduction of a completely cen-tralised system. That reduces theirneed to deal with different nationalcentral banks anddifferentpaymentsystems. On the other hand, those

banks which focus mainly on na-tional markets are less interestedin seeing greater European harmo-nisation that would entail (poten-tially costly) changes.

(ii) Competition is less of an issue withwholesalepayments, given theneedfor systems that ensure financialstability (implying a continued rolefor central banks). However, we doneed to ensure that the services weoffer to banks donot take advantageof any monopoly power that wehave.

(iii)Although we cannot be preciselysure how the wholesale paymentsystemswill develop, it is clear thattechnology provides us with in-creasing options. For example, itis possible to envisage a system thatis more harmonised than the cur-rent system, but nevertheless al-lows for some national variationto reflect the different desires ofcustomers in different countries.Using the criteria of section 2, it

seems likely that, in the long term,the efficiency argument would implya further consolidation in the area ofwholesale payment systems.An impor-tant determinant of the speed of thisprocess is trends in the banking andfinance system.To the extent that thereis a significant consolidation of banks,and increasing numbers of banks oper-ating across the euro area, theremay beless demand for national differences inpayment systems. Integration of stockmarkets and other exchanges also in-creases the demand for harmonisation.These factors could eventually lead tosome or all NCBs ceasing to offer pay-ment systems.1)

In contrast, central banks are oftennot directly involved in the provisionof retail payment systems. Instead, they

1 That could also have implications for the decentralised implementation of monetary policy.


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typically act to promote market solu-tions. Cross-border retail paymentsin the form of credit transfers are madevia correspondents (sometimes in amultilateral context in the form of�club� arrangements), or the commer-cial banks� own networks. These pay-ments are relatively expensive, espe-cially for small amounts.

For the future of retail systems, therole of central banks is less relevant asthey do not provide the systems here.On the other hand, competition mayplay more of a role. That is already evi-dent in the Netherlands where cur-rently a single providerof clearing serv-ices operates between banks, althoughanother provider is considering enter-ing the market. There is clearly morescope for cross-border services to de-velop. That is beginning to occur. TheEUhas recently decided that cross-bor-der paymentswithin the euro areamustbe provided for the same price as pay-mentswithin a country. This decision islikely to stimulate the provision ofcross-border services. Here commer-cial banks need to consider how to bal-ance the competing demands of thosecustomers predominantly interested inmaking payments within a country andthe costs that are incurred to accommo-date those wanting cross-border pay-ments. To be cost-efficient, a com-pletely integrated clearing systemwould require countries� payment sys-tems to be more harmonised (e.g. withregard to the use of instruments such ascheques and giro payments). Reachingagreement on how to proceedwill taketime and the ESCB has a role to play inencouraging and supporting furtherprogress.

Finally, it is also important to con-sider the more physical side of the op-erational tasks, i.e. the production anddistribution of banknotes. It is clearlynot efficient to centralise all operations

inone location, for instancewith regardto the sorting of banknotes. On theother hand, the production of bank-notes is an area where further ration-alisation is possible and where consid-erable efficiency gains can clearly beachieved for the system as a whole,as can be seen by a comparison betweenthe number of staff involved in this taskin Europe and the number involved intheU.S. In addition, the introductionofa common currency suggests that thedistribution of banknotes can be ration-alised across themonetary unionas awhole, ratherthan being basedwithin individualcountries. Mar-ket participantsare already call-ing for discus-sions on this issue and we need to con-tinue to work with them to arrive atsensible solutions.

4 National Tasks —Responsibilities of DNBOutside the ESCB

As is the case for other national centralbanks within the ESCB, DNB carriesout a number of tasks that do not fallunder the provisions of the Treaty ofMaastricht. Cross-country differencesbetween NCB activities in this area re-flect different preferences and tradi-tionsregarding theorganisationof thesetasks and whether they have been allo-cated to the central bank or not.Although emanating from a national re-sponsibility, these other tasks are gen-erally related to monetary policy andallow synergies between the varioustasks to be exploited.

In this section we use DNB as anexample to illustrate national duties.The key non-ESCB tasks of DNB coverfinancial stability, prudential super-


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vision and our role as an independenteconomic advisor to theDutch govern-ment.1) As noted above, some of ourstatistical functions and parts of ourrole in international co-operationalso fall outside the framework ofthe ESCB.

For these non-ESCB tasks, therelevant question to consider iswhether these national tasks can bestbe carried out by a (national) centralbank or by another national and/or in-ternational institution. This sectionwill focus on financial stability, bankingsupervision and our role as an inde-pendent advisor.

4.1 Financial StabilityTheTreaty specifies that �theESCBshallcontribute to the smooth conduct ofpolicies pursued by the competentauthorities related to the � stabilityof the financial system.�2) Financialstability is a responsibility that bringstogether a number of the key tasksof central banks — including monetarypolicy, banking supervision and pay-ment systems.3) Because monetarypolicy is implementedvia financialmar-kets, financial stability is required forthe effective implementation of mon-etary policy. Payment systems also havean important linkwith financial stabilityin that they can be a transmission chan-nel for financial instability. For thoseNCBs with an involvement in bankingsupervision, there is a further link, asthe soundness of individual financial in-stitutions is obviously relevant for thestability of the entire financial system.Given these links, all NCBs have a com-petence in the area of financial stability

— even where that is not explicitly setout in national legislation. In fact, cen-tral banks are unique in that they areentrusted with an array of interrelatedtasks that gives them a broad oversightof the financial system from these var-ious perspectives. That implies thatthey have a competitive advantage inensuring the stability of the financialsystem.

In some countries, authoritiesother than central banks also have a re-sponsibility for financial stability.GiventheTreaty requirement that theESCB isalso involved, those non-central bankinstitutions have a responsibility towork togetherwith the ESCB to ensurethatwecan fulfil the task allocated tous.The increasing integration betweenfinancial systems (both cross-sectorand cross-border) requires close co-operation and information exchangesbetween all institutions with a respon-sibility for financial stability.

Atpresent the financial stability taskis mainly national in character, withcountries taking responsibility formar-kets in their jurisdiction. At the sametime, international meetings and ESCBnetworks provide the opportunity toexchange information and views.Where necessary, international co-op-eration can be readily arranged to en-sure the stabilityof the financial system,aswas evident in September 2001. But,as globalisation of financial markets andfinancial institutions continues, the in-ternational character of this task willbecome increasingly apparent. As in-ternationalisation continues, we willhave to consider whether some formof European financial stability forum,

1 Additionally, together with the Minister of Finance, DNB provides reinsurance of foreign payment risks for exporters andimporters.

2 Protocol on the Statute of the European System of Central Banks and the European Central Bank, Article 3 (3).3 These issues are discussed in more detail below. Note that although not all central banks have explicit banking supervision

tasks, their involvement in financial stability means that they have to take a close interest in it.


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or a broader co-ordination mechanismsuch as aworld-wide forum, is themosteffectiveway forward. At themoment,such international forums provide forthe exchange of information, but theyrespect national responsibilities in thisarea. Whether and how that mightchange in the future is unclear.

4.2 Banking SupervisionAs with financial stability, the Treatyprovides that the ESCB shall contributeto the conduct of policies pursued bythe competent authorities relating toprudential supervision.1) In contrastto the situation for financial stability,not all NCBs are the leading authorityfor prudential supervision in theircountries. But, by explicitly assigninga role to the ESCB, rather than tothe ECB, the Treaty gives all parts ofthe systema role in contributing to pru-dential supervision. This institutionalset-up requires a creative solution toallow the various players to each fulfiltheir role.

This sub-section briefly reviewstwo issues: (i) the arguments surround-ing whether supervision should be atask for a central bank, and (ii) the issueof the integration of supervision acrossEurope. Clearly, countries have madedifferent decisions regarding theirchoice of the lead banking systemsupervisor. Moreover, those choiceshave recently been reviewed in a num-ber of countries, including the Nether-lands,where thedecisionwasmade thatthe central bank should continue to be

the prudential supervisor.2) To evaluatethe potential long-term developmentof banking supervision, we briefly re-view the factors that determined thedecision to retain the supervision func-tion for theNetherlandswithin the cen-tral bank: first, the functionwas alreadyin place in the central bank. In order tojustify a change, there need to be clearefficiencygains frommoving to anotherallocation of tasks. That was not judgedto be the case. Second, there is a closelink to our role in financial sector over-

sight, meaning that we can exploit syn-ergies between the two functions.Third, there is a link to our role aslender of last resort. Having the super-visor in-house makes the communica-tion channels shorter in the event of acrisis where it is necessary to judgewhether problems relate to only oneinstitution or to the system morebroadly, and to assess whether theyreflect solvencyor liquidity difficulties.For small countries, the need to ensurea strong and viable institution (includ-ing its ability to attract high-qualitystaff) is anadditional argument in favourof combining supervision with mone-tary policy.

1 Again, theTreaty does not give theESCBprimary responsibility in this field. Article 105 (6) does provide that, in the event ofunanimous agreement by the European Council, acting on a proposal from the Commission and after consulting the ECB,could confer on theECB specific tasks relating to prudential supervision.There is no indication that this is likely to happen inthe foreseeable future.

2 The recent changes have resulted in a division of tasks of along functional, rather than sectoral, lines. Organisational linksbetweenDNBand the insurance supervisorhavebeen strengthened.This facilitatesan integratedapproachwith respect to theprudential supervision of financial conglomerates who may be active across a range of financial products. These prudentialsupervision tasks have been separated from tasks associated with overseeing the conduct of business of these companies andconsumer protection.


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There are also arguments againstcombining supervision and monetarypolicy in the same institution. Promi-nent among these is the argument of aconflict of interest: for example, mon-etary policy may not be tightenedsufficiently to offset an inflation riskfor fear of undermining the positionof parts of the banking system (seeSinclair, 2000). In practice, however,the risk of a conflict of interest israther limited (see Goodhart, 2000,and European Central Bank, 2001b,regarding the relevance of this point).1)Advocates of removing the supervisoryfunction from central banks also arguethat agreements to exchange informa-tion can ensure that there are sufficientinformation flows between the centralbank and the supervisor. However,apart from carrying risks in terms oftimeliness and completeness, informa-tion exchanges are no substitute forhands-on responsibility in the field.The impetus to keep fully up-to-datewith new developments in financialinstruments, and their implicationsfor risk management, diminishes ifthe central bank has no involvementwith prudential supervision. Evenwhen the central bank is not ultimatelyresponsible for supervision, some in-volvement in supervisory tasks is im-portant. These arguments illustratethat there may not always be a singlecorrect answer to the issue of whereprimary responsibility for supervisionshould lie. However, for the Nether-lands at least, it is not obvious that

alternative arrangements would bepreferable.

The second issue concerns the cen-tralisation of supervision within theeuro area. The key argument in favourof amorecentralised supervisory frame-work is the increasing internationalisa-tion of the financial sector. These inten-sified links between institutions andmarkets have increased the risk thatcontagioncouldextentbeyondnationalborders.Euroareacentralisationwouldalso reduce the scope for competitionbetween regulators and align pruden-tial supervision with the geographicboundaries of the monetary union.2)

Clearly, although the increasinginternationalisation of bankswill deter-mine supervisory arrangements in thefuture, it is not obvious that the estab-lishment of a single European super-visor is the most effective responseto increasing internationalisation. Firstof all, financial structures currentlydiffer across Europe and can thereforebetter be supervised by national insti-tutions. Second, such an institution(which should be independent in orderto function effectively) would be verypowerful and a system of checks andbalances would be necessary.3) Finally,the absence of any fiscal union also playsa role here, as any major financial crisisis likely to have implications on nationalbudgets. Currently it is not clear towhat extent sovereign countries arewilling to bear the financial consequen-ces of the failure of institutions in othercountries.

1 This holds in particular for Europe.Monetary policy is supranational, implying that there is little conflict, as no singleNCBis in a position to determine Europeanmonetary policy.More generally, even if banking supervision is delegated, the risk of aconflict of interest (albeit between different institutions) could still result in monetary policy reacting inappropriately toexternal pressure.Having banking supervision andmonetary policy under one roofmight allowa better solution because anytrade-off canbe explicitlymade. It is not the existence of conflicts of interest that is the issue, buthowtheyaredealtwith.Herethe solution is good monetary and prudential policies, not the physical separation of institutions.

2 See van der Zwet (2002) for a discussion of these issues.3 TheU.S.achieves these checksandbalances via the existence ofanumber of supervisors. For small countries, the importanceof

achieving checks and balances may be outweighed by the need to ensure a strong and effective institution.


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What is required (and already oc-curs) is that the setting of basic rulesof conduct takes place at the Europeanlevel, and the practice of supervision ismore harmonised, so as to ensure alevel playing field within the singlemarket and beyond. In addition,cross-country agreements betweensupervisors are established as banksexpand across borders. These can betailor-made for the specific banks� cir-cumstances. Out of these arrange-ments a more co-ordinated systemmight evolve organically over the com-ing years, andwe should encourage thisto ensure that there truly is a level play-ing field for banks from differentparts of the EU. This is preferable toattempts to impose a top-down Euro-pean solution.

The Dutch situation might serve asan example: unlike other major Euro-pean banks, our larger banks havetended to expand into the Americas,rather than into other parts of theEU. A common European solutionmay therefore not be the most efficientfrom the Dutch perspective, since ourbanks have different interests and needsthan those from other euro area coun-tries.The issue is currentlyunder activeconsideration, with various proposalscirculating for increased Europeanco-ordination. What is important hereis that all central banks are actively in-volved, regardless of whether or notthey have primary responsibility forsupervision.

4.3 National Economic AdvisorIn a number of countries, national cen-tral banks have a formal role as an eco-nomic advisor to the government. Inthe Netherlands, for example, thepresident of De Nederlandsche Bankis an ex officio member of the Socialand Economic Council (SER). Thiscouncil is made up of members

nominated by employers and unions,along with independent members ap-pointed by the crown. The SER pro-vides advice to the government acrossvarious social and economic issues. Anadvantageof this council is that itsmem-bers represent various segments ofsociety, ensuring that its advice is basedon a range of perspectives (a variant ofthe checks and balances argument ofsection 2). DNB plays an active rolein the SER. To some extent, the inputthat DNB provides reflects our in-sights stemmingfrom our rolein monetary pol-icy formulation.This includeshighlighting theimplications ofthe commonmonetary policyfor national economic policy in theNetherlands. The issues covered bythe SER are, however, considerablybroader than those where there is anobviousconnection tomonetarypolicy.Moreover, DNB�s role as an advisor oneconomic issuesextendsbeyondpartic-ipation in the SER. What, then, is thevalue-addedofDNBonissuesunrelatedto monetary policy?

The most important point is that itcan be valuable for governments to re-ceive objective advice from an inde-pendent organisation. At times, theadvice from such an independentorganisation may be unpalatable for agovernment. On the other hand, gov-ernments are also able to �hide behind�such independent organisations inorder to advance policies that are seenas necessary but unpopular. Such a roleas independent advisor does not haveto be fulfilled by a central bank, butbecause of our historic involvementin these issues it makes sense. We haveestablished a reputation and are per-


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ceived as credible by the public. Thisreputation is important if we — andour advice — are to be taken seriously.We also have the necessary infrastruc-ture and are able to exploit synergieswith some of our other tasks. This im-plies that we are able to undertake thistask at relatively low costs (i.e. rela-tively efficiently).

An alternative to the national cen-tral bank would be to involve researchinstitutes in this field. In the Nether-lands there are already anumberof such

institutes andthey fulfil a val-uable role. Butthe comparativeadvantages ofDNB in eco-nomic policy ad-vicemore gener-ally include the

fact that we are actively involved inpolicy-making. Our involvement inpolicy-making ensures that we donot operate in an ivory tower butare part of a world-wide network thatgives us access to awide rangeof policy-relevant information. As a result, ifwe criticise some specific economicpolicies, the government cannot dis-miss our comment as readily as ispossible with an academic researchreport. It would also take time andsubstantial investment before otherinstitutions were able to build upthe credibility and networks necessaryto effectively carry out this role. It istherefore not evident that therewould be any efficiency gains intransferring this role to another insti-tution.

Soour role as policymaker providesa counterpart to the valuable con-tributions of academic research. Our

involvement in euro area monetarypolicy formulation strengthens ourvoice at the national level. At the sametime, our knowledge of country-specific factors is higher, comparedto a situation where the ECB wouldfulfil such a role. We are able totake relatively controversial positions,because of our high degree of statutoryindependence. Therefore it is highlylikely that DNB will continue to fulfilthis function even in the long run.

5 Concluding Comments

The history of European integrationwas politically motivated, but showsquite clearly that economic integrationpreceded political integration at times.Monetary policy (and in particular ex-change rate arrangements) have tendedto be at the forefront of these efforts.1)Despite deep economic integration,political integration still has a longway to go, as is inter alia evidencedby the ratherweak role of the Europeanparliament and the fact that the role ofthe Commission is not completelyclear. One of the guiding principlesof European integration is its co-oper-ative nature. This is reflected in theMaastricht Treaty, which entrusts theESCBas a systemwith policy tasks.Thisimplies that all participating centralbanks, i.e. both the ECB and theNCBs,must jointly fulfil the roles assigned bythe Treaty.

The unique history of the ESCB —formed when a group of sovereigncountries surrendered their monetarypolicy autonomy to form a monetaryunion — goes a long way towards ex-plaining why that is so. The centralbanks within the system operate to-gether as a team.While a strong centreis important for the team to perform

1 For a more detailed discussion on the history of European monetary union, see European Commission (2002) and Houben(2000). Houben also discusses the different monetary policy traditions in the various EU countries.


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well, the various national central banksare also crucial parts of the system.Thisis particularly important in the formu-lation ofmonetary policy,where publicconfidence in the policies of the system(and therefore their effectiveness) alsodepends on our communication skillsand our knowledge of country-specificfactors.

The European preference for sub-sidiarity reinforces the tendency fordecentralisation.This preferenceyieldsa number of benefits, but at the sametime entails certain costs. In particular,it has consequences regarding the ex-tent to which efficiency gains can beachieved through centralisation.Viewed purely from an cost-conscious-ness point of view, there would appearto be scope for centralisation or greaterregional specialisation in a number ofareas. For example, increasing cross-border activity by financial and non-financial companies is likely to resultin further harmonisation of paymentsystems and co-ordination in financialstability. A more harmonised paymentsystem would in turn facilitate greaterspecialisation in the implementation ofmonetary policy. Banknote productionanddistribution is also an areawherewecan look for more efficiency gains.

Inefficiencies need to be eliminatedwhere theyexist,without underminingthe fundamental principles uponwhichmonetary union has been founded.Looking ahead, it seems likely thatthe basic structure of the system willremain intact for the foreseeable future.More substantial changes are linked tothe need for further political integra-tion within Europe and the develop-ment of supranational institutions inother policy areas. As long as Europeremains a community of nation states,national tasks are likely to remain a keypart of the work of NCBs, as the exam-ple of prudential supervision shows.

Furthereconomic andpolitical integra-tionwouldalsoallowamorecentralisedapproach to be taken in areas such asinternational representation.

Even in a full-fledged politicalunion, regional identities continue tobe an important factor. Shared histor-ies, cultures and, in particular lan-guages, are fundamental in shapingidentities. These factors will remainin place for generations. Institutionstend to be related to these feelingsof identity, and may even outlive them.National central banks are thereforelikely to remain in place, albeit in adifferent form, for a long time tocome. §

References

Aksoy, Y., P. De Grauwe and H.Dewachter (2002). Do AsymmetriesMatter for European Monetary Policy? In:European Economic Review. Vol. 46:443—469.

Baldwin, R. E., E. Berglof, F. Giavazziand M. Widgren (2001). Nice Try:Should theTreatyofNiceBeRatified?CEPR.

Berger, H. and J. de Haan (2002). AreSmall Countries too Powerful Within theECB? Forthcoming in: Atlantic EconomicJournal.

Buiter, W. H (1999). Alice in Euroland.In: Journal of Common Market Studies 37.

De Nederlandsche Bank (2000). TheRole of aNational Central Bank in the SingleEuropean Monetary Policy. In: QuarterlyBulletin March: 25—32.

Deutsche Bundesbank (1999). U‹ ber-legungen und Vorschla‹ge zur ku‹nftigenOrganisationsstruktur der DeutschenBundesbank. In: Monthly Bulletin 7.

European Central Bank (1999). TheInstitutional Framework of the EuropeanSystemofCentralBanks. In:MonthlyBulletin7: 55—63.

European Central Bank (2000). TheSingle Monetary Policy in Stage Three.General Documentation on Eurosystem


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Monetary Policy Instruments and Proce-dures. Frankfurt.

European Central Bank (2001a). TheMonetary Policy of the ECB. Frankfurt.

European Central Bank (2001b). TheRole of Central Banks in Prudential Super-vision. Frankfurt.

European Commission (2002). FromRome to Maastricht: A Brief History ofEMU. Download: http://europa.eu.int/scadplus/leg/en/lvb/l25007.htm.

Fischer, S. (1995).ModernCentral Banking.In: Capie, F., C. Goodhart, N. Schnadt andS. Fischer (eds.). The Future of CentralBanking: The Tercentenary Symposium ofthe Bank of England. Cambridge UniversityPress: 262—308.

Goodfriend, M. (1999). The Role of aRegional Bank in a System of Central Banks.Federal Reserve Bank of Richmond Work-ing Paper 99/04.

Goodhart, C. (2000). The OrganizationalStructure of Banking Supervision. FSI Occa-sional Papers No.1. Financial Stability Insti-tute, Bank for International Settlements.Basel.

Houben, A. (2000). The Evolution ofMonetary Policy Strategies in Europe.Financial and Monetary Policy StudiesVol. 34, Kluwer Academic Publishers.

Ko‹sters, W., S. Paul and J. Su‹chting(2001). Ein Effizienzmodell zur Struktur-reform der Deutschen Bundesbank.Mimeo.

Meade, E. E., and D. N. Sheets (1999).Centralization vs. Decentralization in theFederal Reserve System: Lessons for theEuropean Central Bank. In: Meade, E. E.andD.N. Sheets (eds.). The EuropeanCen-tral Bank: How Accountable? How Decen-tralized?American Institute forContempor-ary Studies, Conference Report 4, Febru-ary: 53-67.

Sinclair, P. J. N. (2000). Central Banksand Financial Stability. In: Bank of EnglandQuarterly Bulletin, November : 377—391.

VanderZwet,A.M.C(2002).TheBlurringof Distinctions Between Different FinancialSectors: Fact or Fiction. Research SeriesSupervision No. 46, De NederlandscheBank, Amsterdam.


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Peter Bofinger

Comments on

Arnout H. E. M. Wellink,

�The Role of National Central Banks

Within the European

System of Central Banks:

The Example of De Nederlandsche Bank�

1 IntroductionThe paper by Arnout Wellink is verycomprehensive and informative. It isdivided in two main parts. In the firstpart he discusses the division of labourbetween the European Central Bank(ECB) and national central banks(NCBs) in the European System ofCentral Banks (ESCB). In the secondpart he describes and analyses the re-sponsibilities of a NCB in the nationalcontext using the specific example ofDe Nederlandsche Bank (DNB). Inmy short comment I want to focuson the first part of the paper with aspecial view to the future role ofNCBs in the monetary policy decision-

Peter Bofinger

Professor,

University of Wu‹ rzburg

making process of the ESCB. Due tothe enlargement process it is obviousthat this role has to be redefined inone way or another.

2 Current Situationand Prospectsfor theDivision of LabourBetween the ECBand the NCBs

As a starting point and theoreticalframework for his discussion GovernorWellink uses two criteria which arelaid down in the Treaty establishingtheEuropeanCommunity: subsidiarityand efficiency.With this framework heanalyses thecurrent situationandfuturechanges in the division of tasks betweenthe ECB and the NCBs in six importantareas:— monetary policy decisions— monetary policy implementation— international co-operation— foreign exchange operations and

reserve management— statistics— payment systems and banknotes

The analysis shows that the divisionof tasks is currently characterised by arelatively high degree of decentralisa-tion in all six areas. It reflects the spe-

cific political environment in which theESCB is operating. For the time beingArnoutWellink regards this division oflabour efficient. For the future he sees atrend towards more centralisation allareas. But for two fields he is clearlyin favour ofmaintaining a decentralisedapproach: monetary policy decisionsand foreign exchange market opera-tions and reservemanagement.Amoredetailed survey of the results is pre-sented in table 1.

3 What Role for the NCBsin the Field of MonetaryPolicy Decisions?

As I completely agreewith this analysis,I want to use my comments for a some-what more detailed discussion of thetaskofmonetarypolicydecisionswhichis certainly the most important area fora participation of the NCB governorsin the ESCB. A clear analysis of the di-vision of labour in this field is of specialimportance since the EU enlargementprocess has already led to an intensivediscussions of how to solve the �ECB�snumbers problem� (Baldwin et al.2001). In my view we have to findan answer for two interrelated ques-tions:

Table 1

Main Results of the Paper by Arnout Wellink

Present tasks of the NCBs Assessment of the current situation Assessment of changes in the future

NCB governors participatingin monetary policy decisions

�Team effort with a strong,but not dominant centre�

�Benefits provided via competition,contribution to checks and balances,role in communication�

Monetary policy implementa-tion by NCBs

�No scope for significant changes� �Usefulness of implementing policyfrom every central bankwill diminish�

International co-operation:national responsibilitiesrepresented by NCBs

�Setting can be regardedas appropriate�

�As European integration proceeds,European interests will increasinglyreplace national interests�

Foreign exchange operationsand reserve managementby NCBs

�Transferring of ownershipto ECB problematic,Common reserve managementnot optimal�

�Scope for complete centralisationseems to be small�

Statistics: collectionof monetary data by NCBs

�Efficient� �Arguments for national collectionof data diminish�

Wholesale payment systemsoperated by NCBs

�Justified by the decentralisedimplementation of monetary policy�

�Some or all NCBs ceasingto offer payment systems�

Peter Bofinger

190 �

— Is it advisable to give national cen-tral bankers a say in the formulationof the single monetary policy?

— If yes:What is their optimum sharein the overall voting power of theGoverning Council of the ECB?In order to structure the discussion

I want to analyse three basic policyoptions:(i) Amodel for a centralised approach: it

is provided by the Bank of England(BoE), where the Monetary PolicyCommittee council — with ninemembers — takes all monetary pol-icy decisions. For the ECB this ap-proach has been proposed by Bald-win et al. (2001).

(ii) A decentralised approach is providedby the status quo of the Treaty onEuropean Union according towhich the governor of each mem-ber country�s central bank has a fullvoting power in the GoverningCouncil. The guiding principle ofthis decentralised approach is�one member — one vote�.

(iii) An intermediate approach can be de-rived from the Federal ReserveSystem (Fed). It would be charac-terised by a restricted voting powerof the national governors. Accord-ing to the U.S. model, the votingpower could rotate among the gov-ernors so that e.g. not more thanseven governors would have a voteat a given point in time.For a discussion of these options

the general principles of subsidiarityand efficiency are very important cri-teria, but they are — in my view — notexhaustive. If we want to identify anoptimal constitutional framework fora central bank, we have to take intoaccount those criteria which were spe-cifically designed for monetary policypurposes. I think there is broad consen-sus among economists that they includeabove all:

— The principle of independence ofmonetary policy decisions fromthe general political process and —in the case of a supranational bank —also from national considerations.

— The requirement of a high degreeof accountability which can beregarded as a natural corollary ofa very independent legal status

— Of course, the requirement of ef-ficiency is also very important,above all the need to react flexiblyin situationswithunforeseenshocksthat could threaten the ECB�s over-all target of price stability or thestability of the financial system.

3.1 Monetary Policy IndependenceLetme start the analysis of three institu-tional options with regard to theircontribution to monetary policy inde-pendence. As I have shown in Bofinger(2001), one can differentiate betweengoal, instrument and personal inde-pendence. Since the three optionsare identical in termsof goal and instru-ment independence, we can focus onpersonal independence which is pro-vided above all by— long terms of office,— a diversified decision making body,

and— a diversification in the nomination

process.It is obvious that all three options

would meet these criteria. A sufficientdegree of diversification would be al-ready granted with an MPC of ninemembers that are elected by the Euro-pean Council. But as the degree ofdiversification increases with the num-ber of members, the status quo couldbe regarded as the best solution.

Under the specific conditions ofEuropean Monetary Union one hasto be aware of the fact that independ-ence has an additional dimensionwhichis sometimes overlooked: independence

Peter Bofinger

191�

fromnational interests.1)Acommonmon-etary policy requires that the decision-makers feel responsible for the wholearea and do not regard themselves asrepresentatives of their own nationalinterests. In this respect a monetarypolicy committee would be clearlysuperior to the two other solutions.This applies above all for intermediatesolution. As it would require to aban-don the principle �one country — onevote�, the voting power of each gover-nor is determined by his or her country

of origin. Thushe or she wouldbe permanentlyreminded of thefact that he orshe is regardedas a representa-tive of his or hercountry and not

as individual expert who is held re-sponsible for a single monetary policy.What about the decentralised approachwhich is provided by the status quo? Inmy view, the Bundesbank�s experiencehas shown in an impressive way that theprinciple �one member — one vote�helps to transform individual stand-points that were shaped by a specificregional or political background intoa common interest (the so-calledThomas Becket effect). I want to addthat so far — at least seen from outside— this effect has also been working effi-ciently in theECB�sGoverningCouncil.

3.2 Monetary Policy AccountabilityIn terms of accountability, which isespecially important for a very inde-pendent central bank like the ECB,the centralised solution has serious dis-advantages. Monetary policy is prob-ably the most important field of overalleconomic policy and it has a very direct

impact on the living conditions of allcitizens inEurope.Above all, it is some-times unavoidable that policy decisionsare taken that have unpleasant short-term effects on output and employ-ment.Giventhegeneralpublicmistrustin European politics which is obviouslygrowing, it would be very dangerous toleave the management of the commonmonetary policy to a group of ten wisemen. This could lead to a situationwhere politicians in many — or evenall — countries criticise the ECB whilethere are no longer national governorsand national central bank institutionsthat feel a responsibility for the com-monmonetarypolicy.Given theNCBs�function of a �national economic advi-sor� this would also make it more dif-ficult for the ECB to convey its views tothe national governments. In this re-spect the intermediate solution whichviolates the principle �one country —one vote� is also problematic. Again,it would have the consequence thatthere are governors who have not par-ticipated in the voting process andwhowould not feel fully responsible forwhat is being decided in Frankfurt.In sum, thedecentralised statusquosol-ution clearly provides the optimumcontribution to the requirement of ac-countability. In the words of Wellink:

�[I]tmaybeparticularly �reassuring�for the public in countries where eco-nomic developments diverge from theeuro area average if �their� NCB gover-nor is seen to participate in the formu-lation of the single monetary policy.�

3.3 Monetary Policy FlexibilityIn terms of flexibility, a very large de-cision-making body certainly doesnot look very attractive. If each EUmember country would have a say ininterest policy, the Governing Council

1 See Berger and de Haan (2002).

Peter Bofinger

192 �

could in the medium- or long-term in-clude up to 28 governors plus 6 mem-bers of the board. As Arnout Wellinkhas stated, this would certainly go be-yond an �optimal club size� for discus-sing the often very complex issues ofmonetary policy. Thus, under this cri-terion the centralised approach with arelatively slim monetary policy com-mittee is clearly superior to any decen-tralised solution.As far as the flexibilityof the intermediate solution is con-cerned, it is interesting to comparethe number of interest rate changes de-cided by the Fed, the BoE and the ECBsince January 1999. Based on this veryrough evidence, one could come to theconclusion that the ECB has indeedbeen somewhat less flexible than thetwo other central banks with a morecentralised decision making process(table 2). It seems obvious that withadditional members the flexibility of

the ECB�s Governing Council woulddecline further.

However, it should be added thatthe overall macroeconomic perform-ance of the ECB, if it measured witha standard social loss function,

L ¼ 0:5ð�� TargetÞ2 þ 0:5ðOutput�gapÞ2

has not been worse than the perform-ance of the more centralised FederalReserve System (table 3). The sameimplies for a loss function where onlythe inflation ratematters (inflation nut-ter). However, it should be noted thattheverycentralisedBankofEnglandhasbeen able to achieve the best perform-ance. But again, this is a very roughevidence.

3.4 Assessment of the Three OptionsThe results ofmy admittedly very shortanalysis of the threemainpolicyoptionscan be summarised in table 4.

Table 2

Interest Rate Changes Since 1 January 1999

Central Bank Memberswith votingpower

Shareof membersfrom the centralinstitution

Numberof interest ratechanges

Number % Number

Bank of England 9 100 15European Central Bank 18 33 12Federal Reserve 12 58 17

Table 3

Average Annual Social Loss (from 1999 to 2002)

Bank of England EuropeanCentral Bank

Federal Reserve

%

Target inflation rate 2.5 2 2.5Loss with flexible IT 0.1 0.4 1.1Loss inflation nutter 0.1 0.3 0.4

Table 4

Assessment of Three Basic Policy Options

Criteria Centralised solution(Monetary Policy Committee)

Decentralised solutionaccording to the principle:�one member— one vote�

Intermediate solutionlimiting the number of NCBgovernors with voting power

Independence from— political influence + + +— national influence + + 0Accountability — + 0—Flexibility + — 0+

Peter Bofinger

193�

It showsthatweareconfrontedwiththe unpleasant outcome that none ofthe three options would perform wellunder all criteria. A centralised ap-proach would provide flexibility andindependence but it is clearly sub-optimal in terms of accountability.The �one-member-one-vote approach�performs well in terms of accountabil-ity and independence but it cannot berecommended because of its inflexibil-ity, especially if the number of EMUmember countries will increase. Theintermediate approach is not reallybad, but it is second-best in terms ofnational independence, accountabilityand flexibility.

4 A Synthetic Solution

Since all criteria are equally important,it would be dangerous to adopt a sol-ution with an insufficient or even a sec-ond-best performance inone criterion.Therefore, I suggest to increase themenu of options by a synthetic solutionwhich tries to combine the advantagesof the two polar solutions as far aspossible.

Such a synthesis would make a dif-ference between— decisions which require a fast and

very confidential decision process, i.e.above all decisions on interest rates,foreign exchange market inter-ventions, and the provision oflender-of-last-resort facilities, and

— decisions which allow a more timefor discussion andwhich areof a lessconfidential nature, above all deci-

sions on strategic and institutionalmatters.For the first groupof issuesmyblue-

print envisages a clear prerogative forthe ECB Board:— It would take such decisions with a

simple majority.— After this the decision would be

discussed by the Governing Coun-cil. It should be given a veto poweraswell as the power to take anotherdecision. However this would re-quire a majority of two thirds ofthe votes.For the second group of issues,

decisions would be taken with a simplemajority by the Governing Council.Ofcoursewitha largeCouncil, itwouldbe difficult to discuss complex ques-tions in detail. However, from myexperience with the Bundesbank Iknow that it is possible to have efficientdiscussion by an exchange of internalpapers before the meetings take place.

This synthesis would have the ad-vantage that it allows the Board to reactin flexible way to changing economicconditions while at the same time itwould keep all national central bankgovernors actively involved in the de-cision-making process for the singlemonetary policy.

In order to guarantee a sufficientdegree of diversification in the Boardthis approach would require that thenumber of the Board members is in-creased to at least nine. It would beadvisable to share the responsibilityfor economic analysis and research

Table 5

Staff of Major Central Banks

EuropeanCentral Bank(2001)

Federal Reserve(2001)

DeutscheBundesbank(2001)

Banquede France(2000)

Number

Staff in the headquarter 1,043 1,650 2,412 5,924Staff in regional branches x 21,290 12,405 7,828

Source: Annual reports.

Peter Bofinger

194 �

among the present chief economist andthe additional members. This wouldprovide some protection against therisks of a �dominant inhouse view thatis intolerant of challenges to local or-thodoxy� a quote from Willem Buiterthat I found in the paper by ArnoutWellink.

A strengthening of the ECB�s Boardwould also require that the number ofits staff will be substantially increased.As table 4 shows the ECB�s Board is ob-viously understaffed in comparisonwith the Fed, and even more so withthe Bundesbank or the Banque deFrance.

5 Summary

The paper by ArnoutWellink has madevery clear that a high degree of nationalrepresentation will remain an impor-tant requirement for a successful per-formance of the ECB in the future. Butgiven the challenges of enlargement, itwill becomemore andmore difficult tomeet this requirement in a way thatmaintains the flexibility of the singlemonetary policy. A very centralisedapproach along the lines of the BoE�sMonetary Policy Committee wouldbe first-best in terms of independenceand flexibility but it would impair anadequate representation of the ECB�spolicy in the national sphere and itsaccountability. A very decentralised

approach would run the risk of paralys-ing of monetary policy which wouldhave to be decided by a largeGoverningCouncil of 30 or even more members.Since an intermediate solution with arotating voting scheme is second bestin most respects, I have tried to designa synthetic solution which combinesthe advantages of a very centralisedand a very decentralised solution. Itgives the Board a dominant role ininterest rate decisions but the Councilwould have the right to overrule Boarddecisionswith amajority of two-thirds.In addition the Council would retaina full say in institutional and strategicissues. Thus, the response of my ap-proach to EU enlargement is tostrengthen the role of the Board so thatit is able to cope with an increasingnumber of NCB governors which re-main involved in the decision-makingprocess. §

References

Baldwin R., E. Berglof, F. Giavazzi, andM. Widgren (2001). Nice Try: Shouldthe Treaty of Nice be Reformed? CEPRLondon.

Berger, H., and J. de Haan (2002). AreSmall Countries too Powerful Within theECB? Forthcoming in: Atlantic EconomicJournal.

Bofinger, P. (2001). Monetary policy.Oxford University Press.

Peter Bofinger

195�

Paul De Grauwe

Comments on Arnout H. E. M. Wellink,

�The Role of National Central Banks

Within the European System of Central Banks:

The Example of De Nederlandsche Bank�

1 IntroductionThemain point of this thoughtful paperof Arnout Wellink is the following.National central banks continue to playan important role within the Euro-system. This is the case not only inthe formulation and implementationof monetary policy, but also in otherareas, e.g. in the areas of financial stabil-ityandbanking supervision.This roleofthe national central banks within theEurosystem is not some remnant ofthe past that must be eliminated asquickly as possible. It also providesfor a better functioning of the Euro-system.

I share theview that national centralbanks have an important role and willcontinue to have one in the future. I alsoshare the view stressed byArnoutWell-ink that the degree of centralisation inthe Eurosystem must proceed in stepwith further political integration. Yetincertain areas, the roleofnational cen-tral banks will have to be reduced veryquickly.

Paul De Grauwe

Professor,

University of Leuven

I will concentrate here on the de-cision-making process within the Gov-erning Council and the challenges thatarise as a result of enlargement. This isan area where the role of national cen-tral banks must be re-evaluated.

2 Enlargement andInstitutional Reform

The enlargement is bound to have im-portant implications for the decision-making processwithin the Eurosystem.The present system is characterised

by equal representation of each mem-ber country in the Governing Councilthrough the presidents (governors) ofthe national central banks. When, liketoday, the number of countries is lim-ited to twelve such a system can worksatisfactorily. In a future system where27 countries could be sending a repre-sentative to the Governing Council thedifficulties to achieve a consensus aboutthe stance of monetary policy will bemuch greater than today.1) This isdue not only to the larger numbersof persons involved in such a system,but also because there will be moreasymmetric developments in an en-larged euro area. These asymmetrieswill necessarily lead to different per-ceptions among the national gover-nors about what the most appropriate

course of action is for the euro area asa whole.

The problem can be illustrated us-ing avery simplemodel in the followingway. In chart 1 we present the interestrates that are desired by the twelve gov-ernors of the Eurosystem. We take theview that there are asymmetric devel-opments leadingeachgovernor tocom-pute an interest rate, which is optimalfor his own country.2) Thus each gov-ernor desires a different interest rateto prevail in the Eurosystem. For the

sake of simplicitywe assume thatthese desired inter-est rates are distrib-uted uniformly be-tween 3% and4.1%. This is shownby the horizontalline. Chart 1 also

shows the relative size of each countryas measured by GDP. For example,Germany�s GDP represents 30% ofthe total. It can be seen that Germanydesires an interest rate of 3.4%. Wemake the further assumption that theECB Board (sixmembers) has the samedesired interest rate and that this is ob-tained by an analysis of the euro-wideeconomic conditions. Thus the ECB-Board computes the optimal interestrateusing theEurosystem-wideaverageof inflation and output. This impliesthat the ECB-Board takes a weightedaverage of the nationally desired inter-est rates, where the weights are theGDP-shares.3) This yields the resultthat the ECB-Board desires an interestrate of 3.5%. Thus, seven members ofthe Governing Council (six Board

1 See Baldwin, et al. (2001) for a detailed analysis of the decision-making problems in an enlarged European Union.2 Officially the governors are not supposed to do this. It is doubtful, however, whether governors do not take the national

economic conditions into account. There is interesting evidence that even in the U.S. Fed, regional interests play a role inmonetary policy decisions. See Meade and Sheets (2002).

3 See Aksoy, De Grauwe and Dewachter (2002).

Paul De Grauwe

198 �

members and one governor) desire thesame 3.5%. This feature produces apeak in the distribution of desired in-terest rates around 3.5%.

It is now obvious that the ECB-Board will have a strategic positionin the decision-making process. It willhave to find only two extravotes to haveamajority for its interest rate proposal.These can easily be found among thetwo governors that are close to theECB-Board�s desired interest rate.Note that it will be very difficult forother coalitions to beat the ECB-Board�s proposal because such a coali-tionwould have to span both those gov-ernorswho desire a higher interest rateand those who desire a lower interestrate. The nice thing about this result isthat the Governing Council will selectthe interest rate that is optimal for thesystem as awhole, even if each nationalgovernor is only concerned about theeconomic conditions prevailing in hiscountry. It is clear that if the nationalgovernors disregard the national eco-nomic conditions and care only aboutthe Eurosystem�s average economicconditions (as they claim they do)the result will be the same. Thus inthe present situation with 12 Eurosys-

temmembers, itdoesnotmakeadiffer-ence whether the national governorscare about the euro area-wide eco-nomic conditions or not.

The previous description is nothingbut an application of the medium votertheorem. The ECB-Board which isaveraging the desires of national gover-norswill be close to the desired interestrate of the median governor, (at least ifthese desires are symmetrically distrib-uted). In a majority voting system themedian voter�s preferences prevail.

Note that since the strategic posi-tion of the ECB-Board is so powerful,it is unlikely that the members of theGoverning Council will come to ex-plicit voting. Everybody is aware thatwhatever the Board is proposing willalmost certainly find a majority.

How is this result affected by differ-ent distributions of the desired interestrates? Suppose that this distribution isasymmetric in that the large countries(Germany, France, and Italy) have dif-ferent desires than the small countries.This could arise when the large coun-tries experience subdued economicactivity while a large number of smallcountries experience booming eco-nomic conditions.Weshowanexample

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of such a scenario in chart 2. We nowfind that theECB-Board�s desired inter-est rate (3.3%) is significantly differentfrom the median desired interest rate(3.55%).This follows fromthe fact thatthe large countries have a large share inthe averaging procedure applied by theECB-Board. Thus the ECB-Board de-sired interest rate is relatively closeto the desires of the large countries(and rightly so because the three largecountries represent about 70% of theEurosystem�s GDP).

It can now be seen that despite thefact that the ECB-Board�s desired inter-est rate diverges from the median, theECB-Board should have few difficultiesin forcing its desire to pass in theGoverning Council. All the Boardhas to do is to find three votes forits proposal. It will likely find it amongthe three central banks whose desiredinterest rate is close to 3.3%. In addi-tion, despite the asymmetry in thedistribution there are only eight gover-nors available for a coalition in favourof a higher interest rate than 3.3%. Inorder to beat the ECB-Board�s proposalten votes are necessary.

We conclude that in the present sit-uation the ECB-Board has a strategic

positionwithin theGoverningCouncil,which is maintained even when the dis-tributionofdesired interest rates is verydifferent among large and small coun-tries. As a result, the decision-makingprocess within the Governing Councilensures that the interest rate thatwill bedecided is the optimal one from thepoint of view of the Eurosystem as awhole.

Things will be very different inan enlarged Eurosystem. We firstpresent chart 3, which is similar tochart 1 and which presents the distri-bution of desired interest rates inthe enlarged Eurosystem consistingof 27 members. Thus the GoverningCouncil consists of 33members,whichmeans that an interest rate proposalmust have 17 votes to obtain amajority.We assume that the distribution ofthe desired interest rates among smalland large countries is approximatelysymmetric. As before the ECB-Boardcomputes the desired interest ratefor the Eurosystem as a whole (theweighted average of the nationallydesired interest rates).

A first thing to observe is that theECB-Board�s strategic position isweak-ened. It will now have to find ten gov-

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Paul De Grauwe

200 �

ernors to back its proposal for its de-sired interest rate of 3.7%. Since onegovernor has the same desired interestrate of 3.7%, nine governors with dif-ferent desiresmust be found to obtain amajority.

Despite the fact that theECB-Boardmust make a greater effort to find thebacking for its proposal, it can also beseen that the ECB-Board still has astrong position. The reason is that itsproposal (the mean) is very close tothe median proposal. As a result, coa-litions to defeat the ECB�s proposal willbe difficult to find. For example, thenumber of governors in favour of aninterest rate higher than 3.7% amountsto only 13 (remember that one needs

17 votes to form a majority). Similarlythe governors desiring less than 3.7%can only muster 13 votes. Thus, theECB-Board will most likely be ableto find a majority.

The asymmetric case is shown inchart 4. As in chart 2 we now assumethat there is an asymmetric distribu-tion of interest rate desires betweenlarge and small countries. We assumethat the four large countries (Germany,France, Italy, and U.K.) all desirerelatively lowinterest rateswhilea largefraction of the small countries desirerelatively high interest rates. Ourresults are now very different. The dif-ference between the ECB-Board�sdesired interest rate, 3.1%, (themean)

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is now significantly lower than themedian desired interest rate, 3.7%.Asaresult, acoalitionof small countriesdesiringahigher interest rate than3.1%can now be found, thereby defeatingthe ECB board�s proposal.1) It is there-fore possible that an interest rate deci-sion is made that suits the interests ofa coalition of small countries that rep-resent a small fraction of the Euro-system�s GDP. This interest rate wouldnot be optimal for the Eurosystem asa.whole. If such a scenario were

to materialise itwould likely leadto grave conflictswithin the Euro-system.

How likelyis the precedingscenario? Theanswer is diffi-

cult to give. The scenario has someplausibility, however. Most of the smallcountries in the enlarged euro area areless developed and therefore experi-ence relatively large productivitygrowth. This is likely to lead to the Ba-lassa-Samuelson effect, i.e. these coun-trieswill experience stronger inflation-ary pressures than in the rest of theEurosystem. There may be other rea-sons why such asymmetries occur. Inany case even if they are not likely, theymay still occur at some point puttingmuch strain on the Eurosystem.

The problemwe have identified canbe summarised as follows. In thepresent set-up theECBBoardhas a stra-tegic position in the decision-makingprocess within the Eurosystem. Thisensures that the interest rate decisionsare made on the basis of the needs oftheeuroareaasawhole.This is soeven ifthe national governors are guided bythe economic conditions that prevail

in their own countries. Since the largecountries (Germany, France, Italy)represent about 70% of the total, thisdecision-making model also ensuresthat the large country�s interests arerelativelywell served, despite the over-representation of the small countries inthe Governing Council. Because of thestrategic position of the ECB-Board aconsensus can usually be reached easilyaround the interest rate proposalsmadeby the Board. As a result, formal votingis usually not necessary.

In an enlarged Eurosystem this con-sensus model is likely to break down.The reason is that the ECB-Board willloose its strategic position. It will beconfronted by the possibility that its in-terest rate proposals will be overruledby coalitions of small countrieswho ex-periencedifferenteconomicconditionsthan the average (which is dominatedbythe large countries).Thiswill create thepossibility that interest rate decisionswill be made on the basis of economicconditions that prevail in a relativelysmall part of the euro area. This isbound to lead to grave conflicts withinthe Eurosystem.

The essence of the problem is thatthe small countries are over-repre-sented in the Governing Council andthat in an enlarged Eurosystem this willhave the fatal effect that interest ratedecisions may not always be made onthe basis of the average economic con-ditions that prevail in the union. Thesolution to this problemmust thereforeconsist in reducing the importance ofsmall countries in theGoverningCoun-cil, so that the strategic position of theBoard can be maintained. This can beachieved in several ways. We discusssome possible formulas.— The U.S. Fed formula: this consists in

allowing all governors to partici-

1 This does not mean that such a coalition will necessarily be found. The point is that it is now a serious possibility.

Paul De Grauwe

202 �

pate in the deliberations of theGoverning Council but to restrictthe voting rights to a limited num-ber of governors (e.g. ten) on arotating basis.

— The IMF formula: this consists in hav-ing small countries group togetherin constituencies and be repre-sented by one governor.

— The centralised formula: this consistsin restricting the decision-makingto the Executive Board of theECB. Today the Board consists ofsix members. In this formula thereis some scope for expanding the sizeof the Board.The third formula is probably too

drastic. The advantage of the first for-mula is political. By introducing asystem of rotation in the voting, onedoes not have to discriminate betweensmall and large countries. The effect onthe outcome will be broadly the samewhether it is small or large countries,which are allowed to vote since thisrotation system reinstores the strategicposition of the ECB-Board. Largecountries, however, may not like thissolution. As a result, a combinationof the first and second formula couldbe a reasonable compromise wherebygroups of smaller countries delegate

one of their governors on a rotatingbasis.1)

3 Conclusion

I share thegeneral philosophyofArnoutWellink�s very interesting and thought-ful paper, i.e. that there is merit in thedecentralised set-upof theEurosystem.However, there is one area where wewill have to move to more centralisa-tion quickly, i.e. in the decision modeswithin the Governing Council. This isnecessary because in an enlarged Euro-system, the present decision-makingmodel will become unworkable. §

References

Aksoy, Y., P. De Grauwe, and H.Dewachter (2002). Do AsymmetriesMatter for European Monetary Policies.In: European Economic Review, 46:443—469.

Baldwin, R., E. Berglo‹ f, F. Giavazzi, andM. Widgre«n (2001). Nice Try: Shouldthe Treaty of Nice be Ratified? MonitoringEuropean Integration, 11, CEPR, London.

Meade,E.,andN.Sheets(2002).RegionalInfluences on U.S. Monetary Policy: SomeImplications for Europe. InternationalFinance Discussion Paper, No. 727, Boardof Governors of the Federal ReserveSystem, Washington, D.C., May.

1 It is unclear, though, whether this solution is consistent with the Nice Treaty which says that the rebalancing of the votesshould not introduce discriminations between countries.

Paul De Grauwe

203�

Christian de Boissieu

The European Industry

and the Organization

of Banking Supervision

in Europe

Thedebateconcerning theorganizationof prudential policy and banking super-visionhasbecomeahighly sensitive sub-ject in the present European context.This is so because it involves many as-pects: the necessity to cope with per-sistent banking fragility and financialinstability; the difficult balance to befound between centripetal forces(i.e. centralization or, at least, deepercoordination) and centrifugal forces(i.e. decentralization and the full re-spect of the subsidiarity principle) inthe context of Economic andMonetaryUnion (EMU); the respective role oftheMinistries of Finance, the EuropeanCentral Bank (ECB) and the nationalcentral banks (NCBs) and, when theyexist, of somemoreor less independentcommissions or committees in chargeof banking supervision; the conflictsand arbitrage between a lot of vestedinterests; etc.


Professor, University of Paris I (Panthe« on-Sorbonne)

The purpose of this paper is to re-view the facts and some of the argu-ments concerning the organization ofbanking supervision in Europe andto come to some policy recommenda-tions.

1 The EuropeanBanking Industry:Where Do We Standand Where Do We Go?

1.1 About the Effectivenessof the Single Market

The single market has dramatically ac-celerated banking and market integra-tion in Europe. Nowadays the share ofcross-border transactions within theeuro area varies between 40% and50% according to the type of trans-actions. For example, the average valueof payments through TARGET (Trans-European Automated Real-time Grosssettlement Express Transfer) is aroundEUR 400 billion per day.

We have seen in the last couple ofyears an impressive acceleration in thebank�s appeal to the supplyof cross-bor-der financial services. The launching ofthe fiat euro as of January 1, 2002, hasbeen fostering competitive pressuresincluding tax- and regulatory competi-tion. Even if those competitive pres-sures are more intense in the wholesaleand the middle market, they also affectthe retail market.

Nominal and real convergence hasprogressed markedly in Europeanbanking. Nevertheless some relevantdivergences and some important ob-stacles to a genuine single market stillremain in place. I cite some of them.(i) Divergences in the structure of

financing of EU countries. Thesedivergences are fully expectedand normal since they reflect thespecific historical path and the eco-nomic and cultural characteristicsof each national financial system.

Following Cecchetti (1999), thestructure of financing refers hereto three structural aspects: 1. thefinancing of non-financial agents(firms, households, the state,etc.), i.e. the respective share ofintermediation and disintermedia-tion in total financing. In EU coun-tries like everywhere, disinterme-diation has been developing inparallel to financial innovation, de-regulation, securitization, etc. Thecurrent trend is toward market-based financial systems (see Allenand Gale, 2000), but in most euroarea countries, as opposed to theU.K., bank financing still amountsto nearly 50% of the overall exter-nal financing of non-financial units(see Boissieu, 2002, for the Frenchfigures); 2. banking concentration.Looking at the recent data particu-larly at the concentration ratios(the Herfindahl index, the shareof the top five banks, etc.) calcu-lated by the ECB staff (ECB,2000), three groups of countriesmust be taken into consideration:highly concentrated banking sec-tors, to be found in small and openeconomies (Finland, the Nether-lands, Belgium, Denmark, etc.;outside the EU Switzerland); me-dium concentration ratios regis-tered in Austria, France, Italy,etc.; �under-concentrated� (at leastin comparison toEUaverage) bank-ing systems (Germany, Luxem-bourg, theU.K.). Everywhere con-centration ratios have increased sig-nificantly since1995 inEUMemberStates, with one important excep-tion (the U.K.). In the meanwhilethe standard deviation of concen-tration ratios within the EU areahas not dropped significantly. Bythe way, when looking at the effec-tiveness of competition, the degree


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of contestability in the market forbanking and financial services ismorerelevant than thebankingcon-centration ratio. From the view-point of contestability there couldbe more convergence in Europeanbanking than when consideringconcentration ratios; 3. corporategovernance characteristics. Both thesingle market and the single cur-rency, by speeding up cross-borderconsolidation transactions, are gen-erating some convergence in banks�corporate governance in Europe.But some national idiosyncrasiesstill prevail regarding the role ofthe board, the relationships be-tween the management, the stock-holders, theother stakeholders, thedegree of transparency of informa-tion, etc.

(ii) Loopholes in EU legislation. Animpressive set of European direc-tives concerning the financial sectorhas been adopted and implementedsince the mid 1980s, including thecrucial 2nd Banking Directive (andits �home country� control rule asthe principle, with the usual excep-tions). When assessing this set ofdirectives,wemust in thesametimeacknowledge the progress alreadyattained and notice the remainingloopholes and regulatory chal-lenges. Some topics which are cru-cial for the establishment of a true�level playing field� are not yet cov-ered by a European directive, suchas the liquidity ratio, internal con-trol rules and procedures or take-over bids (after the failure of thedraft directive on take-over bidsin2001). Somedraft directives havestill to go through the lengthy butdemocratic process of adoption(e.g. the directive concerning thesupervision of financial conglomer-ates). Other directives have gener-

ated a minimum harmonizationthroughanadjustmenton the �shortside�of theregulation.For instance,the 1994 directive on depositinsurance is fully consistent withthe current wide disparity in coun-try deposit insurance schemes. I amnot saying that we must convergeto the same liquidity rules, internalcontrol rules, anddeposit insuranceschemes or to the same level andstructure of savings taxation.WhatI am saying that the gaps observed

in many dimensions of the regula-tory framework are not consistent,in the medium and long term, withthe euro andEMU.These gapsmustnot disappear but they have to nar-row. This is necessary, but not suf-ficient, to come closer to a �levelplaying field.�

(iii) Divergences in the attitude of pub-lic decision-makers. The generalrule is that, for becoming effective,aEuropeandirectivehas tobe trans-posed into the national law of eachmember country. Due to the signif-icant room for maneuvers that ex-ists into such a procedure, impor-tant competitivedistortions remaindespite the harmonization process.Banking consolidation is also a goodexample of persistent divergences.In January 1999, M. Fazio, gover-nor of the Banca d�Italia, rejectedthe draft merger between IMI,San Paolo di Torino and Banca diRoma since it was unfriendly.Twomonths later the French Com-


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ite« des Etablissements de Cre«dit etdes Entreprises d�Investissement(CECEI) authorized the launchingof the twofold bid by BNP on Soci-e«te«Ge«ne«raleandParibasdespite thefact that it was unfriendly (�unsoli-cited� by the targeted banks) (inAugust 1999, after themarket deal,the CECEI rejected the purchase ofSocie«te« Ge«ne«rale by BNPmainly onthe ground of corporate gover-nance considerations). Is such a dis-crepancy in the attitude of pruden-tial authorities consistent with agenuine single market? I have somedoubt.

(iv) Persistent divergences in the behav-ior of private investors. I give twoillustrations.First, the retailmarket(households, individual entrepre-neurs,etc.)remainsandwill remainvery sensitive to �proximity serv-ices� (proximity (or vicinity) refershere not only to geographical con-siderations, but also to cultural andcommercial aspects).Therefore therelevant market area for such cus-tomers and for the retail bankerswill continue to be local or regionaldespite the ongoing developmenttoward financial globalization andthe new technologies (includingInternet). Second, a significant�national bias� does remain onthe part of borrowers and investorsand the reasons for this are numer-ous (asymmetry of information,transactions costs, remaining regu-latory barriers to capital mobilityand international diversificationnotwithstanding the single marketrules, etc.).

1.2 The Outlook: Growing External-ities Coming from FurtherConsolidation and Integration

Given the �youth� of EMU and euroand given the time required to ensure

the effectiveness of the single market,we could reasonably expect furtherintegration as regards financial mar-kets, payment systems and banking sec-tors in Europe. Notwithstanding thecrucial implicationsof financialmarketsand payment systems for prudentialpolicy and themanagement of systemicrisks, I will here focus on banking re-organization and its main policy conse-quences.(i) Europe in general, the EU area in

particular are just in the midst ofthe banking consolidation process.The forces behind this processare still very active: deregulation,growing competitive pressures(the euro is not the cause of bankingreorganization, just a catalyst forit), a persistent excess capacity atthe world level (therefore, also inEurope) on many segments ofthemarket forbanking and financialservices (intermediation activity,some market activities of banks,possibly e-banking, etc.). There-fore banking consolidation inEurope could last a couple of yearsmore from now.

(ii) Due to theeuroandamoreeffectivesingle market, cross-border merg-ers or acquisitions are going torepresent an increasing proportionof overall consolidation deals.Nowadays this proportion is stillmarginal. During the year 1999,cross-border consolidation trans-actions represented nearly 17%of the overall number (NB not theamount) of transactions. Duringthe first half of 2000, the figureraised to nearly 26%(data collectedby the Banking Supervision Com-mittee of the ECB). In most EUmembercountries,bankingconsol-idation has been taking place in twophases which are somewhat over-lapping: first the creation of �na-


208 �

tional champions,� second a grow-ing cross-border dimension (e.g.the friendlybidonCre«ditCommer-cial de France by HSBC).

(iii) Banking concentration will keepgoing on despite the controversyconcerning the existence and themagnitude of economies of scalein banking. There is no doubt thatInternet and theother newtechnol-ogies are opening some additionalroom for scale economies. Never-theless the critical size above whichscale economies disappear and aretransformed either in constant re-turns to scale or even in disecono-mies of scale remains pretty low inbanking in comparison with indus-try. Most merger and acquisitionactivities (M&As) in banking comefrom the search for bigger marketshares rather than from actualeconomies of scale.

(iv) InEurope like elsewhere consolida-tionwill progress in parallel to con-glomeration. There is some eco-nomic foundation for such a trend:the evidence ismore convincing foreconomies of scope than for econo-mies of scale. However, from anempirical viewpoint, concentra-tion and product diversificationare often difficult to disentanglefrom each other. In 1999 consoli-dation across the various financialsectors (banking, insurance, bro-kerage, etc.) either domestic orcross-border represented 33% ofthe overall number of consolidationtransactions in the EU. There is noclear token that this proportioncould have already started to drop.Product diversification and despe-cialization are still overwhelmingvis-a‘-vis the strategy of re-special-ization by some financial inter-mediaries (e.g. somebanks are leav-ing the non-life insurance business

due to the lack of clear-cut compa-rative advantages). For the me-dium- and long run, three catego-ries of banks are going to coexist(Boissieu, 2001): universal banks,multi-specialized banks (with a cer-tain number of �niches�), mono-specialized banks (having one maincomparative advantage). Subcon-tracting relations between thosevariouscategoriesofbankswill con-tinue to develop.

(v) We cannot dismiss the policy impli-cations of further banking concen-tration. This concentration is notgoing to jeopardize competitionand the protection of customersprovided that the market stays con-testable enough. Let us concentrateon the prudential consequences ofbanking consolidation. On the onehand, such consolidation is oftenthe institutional answer to an actualand/or expected banking fragility(a lack of capital, a low returnon equity by the sector standard,etc.). On the other hand, bankingconsolidation could generate an-other type of systemic fragilityby enlarging the area of the �toobig to fail� (TBTF) rule (see Bergeret al., 1999).Therefore, in order tocontain moral hazard, the super-vision authorities must improvethe monitoring of large banksand financial conglomerates. In ef-fect, banking supervision has toconcentrate on sizeable financial in-termediaries (to limit the moralhazard generated by the TBTF rule)and also on small banks which stayunder the critical size regarding theimplementation of reliable internalcontrolprocedures.Chart1depictsthe U-curve relationship betweenthe size of the bank and the requireddegree of banking supervision(Boissieu, 2001):


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To sum up the various and converg-ing arguments, externalities (and alsonetworkeffects) are going to develop inthe European financial sector, relatingto payment systems, financial interme-diariesand financialmarkets.This trendunavoidably influences theorganizationof prudential policy and banking super-vision.

2 Banking Supervisionin Europe: What to Do?

2.1 Main Trends in Banking RegulationAt theworld levelwe are observing im-portant trends regarding banking reg-ulation. I cite some of them.(i) The development of self-regulation

in banking and finance. The artic-ulation between �external� regula-tion and self-regulation, namely thecomplementarity or substitutabil-ity between them, has become atopical subject. Since the mid-1990s, we have seen self-regulationprocedures developing in over-the-counter (OTC) derivativesmarkets(leading to what I call OTC+, i.e.OTC plus private clearing houses,margin requirements, deposits,etc.) and in some other compart-ments.

(ii) The spread of internal control proce-dures and techniques within finan-cial intermediaries, brokeragefirms, etc.

(iii) The transition from the Cooke tothe Mc.Donough ratio, which isgoing to imply the search for anewbalancebetweencentralizationand decentralization. Each bank

will have to choose either the stand-ard model (relying mostly on theexternal grading by the rating agen-cies) or its own internal model forassessingcredit risk (this freechoiceis the token of decentralization).But a �referee� (depending on thenational institutional idiosyncra-sies, the national central bank,the banking commission, the Finan-cial Services Authority — FSA, etc.)will have to gauge the quality of in-ternal models, requiring some cen-tralization of information (aboutthe content and the accuracyof eachmodel).What is at stake for the laststages of the negotiations in Baseland Brussels is precisely the desir-able balance between centralizationand decentralization.

(iv) The gradual transition from the in-stitutional control (i.e. by institu-tion) to a functional control (i.e.by activity). This transition is apre-requisite for a true �level play-ing field� and the implementationofthe �same activity, same rule� prin-ciple. Realistically, for many rea-sons, the institutional control willkeepprevailing butmore functionalcontrol has to be incorporated.Given these world-wide trends and

the role of the Basel Banking Super-vision Committee, Europe and theEU are not always the relevant dividingline when looking at the dynamics ofbanking supervision and prudentialpolicy.

2.2 Banking Supervision in Europe:The Current Framework

2.2.1 Taxonomy of Banking Super-vision in Europe

In the EU three types of supervisionorganization could be distinguished:— thecentralbank (CB)model,where

banking supervision is assignedeither directly to the CB (Italy,

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the Netherlands, Portugal, Spain,Greece, Ireland, etc.) or to a com-mittee or a commission highly de-pendent on the CB (France);

— the dual model, where bankingsupervision is assigned to theMinistry of finance or to a commis-sion attached to it, or to an inde-pendent committee. In both cases,the central bank brings an extensivetechnical assistance (for on-site in-spections, etc.) but is not the leadsupervisor. This formula, whichprevails in Germany, Belgiumand Austria (in both countries afterthe recent reform) requires a highdegree of cooperation between thevarious supervisors. For instance,the German Bundesaufsichtsamtfu‹r das Kreditwesen appeals tothe support from the Bundesbank;

— the FSA model, where bankingsupervision lies within the compe-tenceofan independentbodywhichmonitors all banking and financialactivities (banking, investmentfirms, insurance firms, stock ex-change markets, etc.) (the U.K.,Sweden, Luxembourg, Denmark,Finland where the FSA enjoys thesupport of the central bank).Despite a growing attention paid to

the FSA formula, the institutional con-vergence within the EU and the euroarea has remained moderate. The draftreforminGermany implies thecreationof an FSA-type structure functioning inclose cooperationwith the Bundesbankwhereas the draft law in Belgium keepsthe general competence of the Com-mission Bancaire et Financie‘re (a sortof FSA) while extending the super-visory role of the Banque Nationalede Belgique.

2.2.2 The Present Stateof Cooperation

The current configuration is based onthree pillars:(i) Subsidiarity does apply to banking

supervision, which remains a na-tional prerogative. The ECB couldexercise a consultative role on alarge set of issues (article 105para 4 of the Maastricht Treaty)and has to back the national com-petent bodies as regards the pru-dential control of credit institutionsand financial stability (article 105para 5).

(ii) According to the rules of the singlemarket, banking supervision takesplace on a consolidated basis.Namely, branches located abroadare controlled by the home countrysupervisor whilst the subsidiariesof a bank located abroad fall withinthe jurisdiction of the various hostcountries.

(iii) Both bilateral and multilateral co-operation has developed dramati-cally during the recent years. Co-operation concerning micro-pru-dential issues is mainly bilateral(Memoranda of Understanding,exchange of information aboutthe situation of individual banks,etc.). It is delicate and even ineffec-tive to disclose any confidential in-formation at 15 (much more in acouple of years after the first waveof enlargement). In Europe, multi-lateral supervisory cooperationmostly relates to macro-prudentialquestions. It is currently imple-mented through several channels:the Groupe de Contact; the BAC(Banking Advisory Committee)composed with the national Treas-uries, the NCB and national super-visors (when they are distinct fromthecentral bank) and involved in theregulation-making procedure: the


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BSC (Banking Supervision Com-mittee), comprising the NCBsand national supervisors (if differ-ent from the central bank), close tothe ECB and strengthening the ex-change of information and conver-gence regarding macro-prudentialpolicy.

2.3 The Main ScenariosTwo separate but de facto closely inter-twined issues must be distinguished:the cross-sector dimension and thecross-border viewpoint.

As regards the possible ways to dealwith cross-sector aspects, for the sakeof simplification, I underline here threecases: 1. the full specialization of super-visors (each one in charge of a type ofactivity: banking, insurance, stockmarkets, etc.), a pattern which imple-ments the principle of comparativeadvantage and something close tothe assignment rule in the Mundell-Flemingmodel.This formula generatesa big challenge for domestic super-vision coordination. 2. the Australianformula or dual model where domesticcoordination leads to two main groupsof supervisors (the �twin peaks�model): the ones in charge of super-vising the institutions and the othersmonitoring the functioning of capitalmarkets (in France, Laurent Fabius,the former Minister of finance, hasproposed to pass to a scheme closeto this one and it is likely that thenew government is going to endorsethis proposal). 3. the full integrationof domestic supervisors through aFSA-type system.

From the cross-border perspectiveI also propose to differentiate betweenthree configurations: 1. the status quo,i.e. resorting to the existing networkof cooperation tools: Banking Advi-sory Committee (BAC), BankingSupervision Committee (BSC),GroupedeContact, etc.2. theenlargedcooperation. In comparison with thepresent situation, this scenario wouldimply to delegate more own compe-tence to the existing bodies (BAC,BSC) and/or to transform theminto decision-making institutions. TheEichel-Brown proposal put forwardduring the Oviedo Council and cur-rently under discussion clearly belongsto this category, as the proposed appli-cation of the Lamfalussy process to thebanking field. 3. full centralization ofbanking supervision through the crea-tion of a single banking regulatory bodyat the level of Europe.

Combining the two criteria, wecome to nine possible scenarios(table 1).

Behind the choice of a combinationin this (3,3) matrix, what is at stakedeserves more attention. No doubtthe balance between the �center� andthe �periphery,� i.e. the actual degreeof centralization/decentralization asregards banking supervision and thecompetition and/or cooperation be-tween national and European deci-sion-makers, is the priority issue.But the relationships between theECB and the NCBs on the one hand,the Ministries of Finance all overEurope are also at stake.

Table 1

Scenarios for Banking Supervision in Europe

Cross-border Cross-sector

Specialization Dual system Full integration

Status quoEnlarged cooperation xCentralization


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2.4 Some Policy RecommendationsAmong theninepossible configurations(table 1), which one to favor? Manycriteria would have to be taken intoaccount before arriving to firm andreasonable normative conclusions. Iunderline three of them.

2.4.1 Externalities and EuropeanPublic Goods

According to Tinbergen (1954), thetools that generate externalities (eitherpositiveor negative)must be integratedin order to develop (positive external-ities) or restrain (negative external-ities) their use. We already suggestedthat externalities between nationalbanking and financial systems are goingto extend dramatically. Therefore abanking or financial crisis in Italy orFrance in five or ten years from nowwill not be only Italian or French.Due to the conjunction of manyspill-over effects, it will become veryquickly European (affecting severalmember countries) or even pan-Euro-pean. Conclusion: the status quo inbanking supervision (first row intable 1) is not consistent with thecurrent and expected state of bankingand financial integration in Europe.

2.4.2 The Gathering and Treatmentof the Relevant Information

I amconvincedthatdespite Internet andthe other new information technolo-gies, local (i.e.national) authoritieswillkeep their comparative advantage forgathering local knowledge and dealingwith local information,monitoring do-mestic banks and assessing their globalrisk exposure. For the future, with thetransition from the Cooke ratio to theMcDonough ratio,national supervisorswillbe inabetter position to implementPillar 2, i.e. to exercise their ability torequire additional capital (above thelegal 4% and 8%) on a discretionary

basis. The argument relies on the verynotion of �proximity�, which must beunderstood by combining geographic,cultural, informational and sociologicalaspects.

This criterion combined with theformer one leads to support the �en-larged cooperation� solution (secondrow in table 1) which is consistent withthe specialization or the integration ofsupervisors at thenational level.There-fore a European Banking Commissionreplacing the national Banking Com-

missions or a European FSA wouldbe much premature. We have to bepragmatic. In 2010 we will have to re-view the existing institutional arrange-ment and to see whether the transitionfrom enlarged cooperation to morecentralization is needed. Anyhow theimportance of local information willkeep necessitating some decentraliza-tion (see, for instance, the supervisoryrole of the regional Feds in the U.S. inconjunction with the Board of Gover-nors).

2.4.3 Managing the Riskof �Institutions Inflation�

Under the current circumstancesgoods and services inflation is less athreat than what I call �institutions in-flation,� i.e. the creation of new insti-tutions and new levels of decision-mak-ing without abolishing the older ones.Since the 1987 crash we have beenknowing that coordinationbetweendo-mestic regulators is as challenging asinternational coordination, sometimes


213�

more (with the FSA formula as one ofthe conceivable solutions). The multi-plication of new bodies at the Europeanlevel could generate additional coordi-nation issues. Are they complementaryto or substitutable for existing nationalauthorities?Towhatextent? Insteadof ageneral answer and solution, I wouldadvocate a case-by-case analysis ofinformation flows, decision-makingprocedures and of the enlarged coop-eration requiredby theprogress towardamore integrated banking and financialsector in Europe.

2.5 About the Lamfalussy Processand Comitology

TheLamfalussyReport (2001) broughtseveral interesting proposals inorder tospeed up the legislative process in thefield of investment services, particu-larly securities markets. Thereafter thecooperation between national secur-ities and exchange commissions hasbeen strongly reinforced by the crea-tion of two new committees at theEuropean level.

What is called today the Lamfalussyprocess corresponds to the combina-tion: specialization plus enlarged coop-eration (the space with X in table 1). Itappeals to some basic goals: 1. tostrengthen cooperation between na-tional supervisors; 2. to speed upthe completion of the single market;3. to make the decision-making proc-ess in the EU more efficient (but alsoto circumvent existing rules such asunanimity, which could raise manypolitical and democratic issues). Mustwe apply the Lamfalussy process tothe banking area? The Eichel-Brownproposal and the counter-proposalsby the Eurosystem and the EuropeanCommission, all currently under dis-cussion, are not so different from eachother. One way or another they applythe Lamfalussy process to banking

supervision and favor the comitologyapproach, since they propose to givespecific powers and roles to Europeancommittees. A three-tier model is putforward in all proposals: 1. a EuropeanBanking Committee (EBC; in thewording of the Eichel-Brown draft)(parallel to the European SecurityCommittee), deeply involved in thelegislative and regulatory process. ThisEBC would be a reinforced (or �aug-mented�) BAC; 2. a Banking Super-visory Group, mainly consultativeand in charge of regulatory conver-gence (this BSG is an �augmented�BSC); 3. a European Stability Forumwhich would transpose at the regionallevel the modus operandi of the FinancialStability Forum.

Significantdivergences appear as farthe composition of these various com-mittees and groups is concerned. Insome of the drafts the Treasuries donot participate to some committees(the national central banks and theECB not participating to some othercommittees). We need a more cooper-ative monetary-fiscal mix in the eurozone. More cooperation between theTreasury and the NCB within eachcountry is required as well.

Generally speaking, comitologyraises several issues:(i) Thecomitologyapproachassumesa

clear-cut borderline between theprinciple and rules (which comeunder the competence of the legis-lative process: directives, etc.) andtheir technical application (compe-tence of committees more or lessindependent vis-a‘-vis the centralbank, the Ministry of Finance,etc.). In practice, this line couldbe rather uneasy to draw.

(ii) From a theoretical viewpoint, thedevelopment of comitology appealsto the delegated monitoring para-digm a‘ la Diamond (1984) and to


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the principal — agent model inher-ent in the delegation scheme.1) Inparticular, it would be enlighteningto focus on the right incentivesstructure and the risk of �free rid-ing� in the Lamfalussy process.

(iii) Comitology has to go parallel toaccountability and to a certain de-gree of transparency (vis-a‘-vis theEuropean Parliament, the nationalParliaments, the public opinion ingeneral). I do not believe in thepossibilityof improving thebankingsupervision cooperation in Europesignificantly andon amedium-termbasis without democratic support.

2.6 Crises Management in Europe:Concluding Remarks

Whilebankingsupervisionandpruden-tial policy are mainly preventive,lender-of-last-resort (LLR) interven-tions are curative. However useful itcould be, the distinction between thepreventive and the curative phases ofcrises management must not be pushedtoo far since, for instance, depositinsurance enjoys the two dimensions.

The optimal degree of centraliza-tion or coordination is not necessarilythe same for supervision as for LLRinterventions. In the United Statesthe LLR function rests with the Boardof Governors and the Federal OpenMarket Committee (FOMC), whilstbanking and financial supervision andmonitoring is split among Federalentities (the Board of Governors, theOffice of the Comptroller of theCurrency (OCC), the Securities andExchange Commission (SEC), etc.),regional entities (regional Feds), stateor other local authorities, etc. Whythe LLR function requires more cen-tralization than supervision does? I

see the conjunction of a couple of argu-ments:(i) The fact that externalities are

increasing dramatically duringsystemic crises.

(ii) The fact that such systemic crisescall for a very quick interventionby the LLR(s) (e.g. in case of amacro liquidity crisis). Centraliza-tion or at least an intense coordina-tion could be necessary to acceler-ate the decision-making process.

(iii) The established fact that localknowledge is less decisive forLLR intervention than for bankingsupervision. Therefore the compa-rative advantage of national author-ities over European authorities isless evident for LLR activities thanfor banking supervision since theexternalities argument prevailsover local knowledge considera-tions as far as LLR interventionis concerned.In a paper prepared for the Conseil

d�Analyse Economique (Aglietta andBoissieu, 1999), we discussed theFischer (1999) proposal concerningthe international LLR and we extendthe analysis and the policy recommen-dations to EMU. My view is that theECBwill have to act in the coming yearsas a LLR at the euro area level (and pos-sibly at the world level, in case of aworld-wide crash, etc.), in conjunctionwith theNCBs. As far as banking super-vision is concerned, a European bank-ing regulator is premature. For the fiveyears to come, a Lamfalussy-type proc-ess applied to banking supervisionseems to be the best solution, providedthat this process be respectful towardthe national idiosyncrasies concerningthe specialization or the integration ofdomestic regulatory authorities.

1 A recent and interesting application of this paradigm to the German banking system from 1800 to 1914 is proposed byGuinnane (2002).


215�

ReferencesAglietta,M.,andCh.deBoissieu(1999).

Le pre�teur international en dernier ressort.In: Architecture Financie‘ re Internationale,Report to the Conseil d�Analyse Economi-que, La Documentation franc�aise.

Allen, F., and D. Gale (2000). ComparingFinancial Systems. MIT Press, Cambridge.

Berger,A.,R.Demsetz,andPh.Strahan(1999). The Consolidation of the FinancialServices Industry: Causes, Consequencesand Implications for the Future. In: Journalof Banking and Finance, February.

Boissieu, Ch. de (2001). Banking Consoli-dation in Europe: Some Remarks. Paperpresented to the Third Saint-Gobain Con-ference, Paris, November.

Boissieu, Ch. de (2002). Les me«canismesde transmission de la politique mone«tairedans une Union e«conomique et mone«taire.Paper presented to the Symposium for the40thAnniversaryof theBCEAO,Dakar,May.

Cecchetti,S. (1999).LegalStructure, Finan-cial Structure, and the Monetary PolicyTransmission Mechanism. In: Federal Re-

serve Bank of New York Economic PolicyReview, July 1999.

Diamond, D. (1984). Financial Intermedia-tion and Delegated Monitoring. In: Reviewof Economic Studies: 393—414.

ECB (2000). Mergers and AcquisitionsInvolving the EU Banking Industry. Decem-ber.

Fischer,S. (1999).OntheNeed for an Inter-national Lender of Last Resort. In: Journalof Economic Perspectives.

Guinnane, T. (2002). Delegate Monitors,LargeandSmall:Germany�sBankingSystem,1800—1914. In: Journal of Economic Litera-ture, March.

Lamfalussy Report (2001). Report of theCommittee ofWiseMen on the Regulationof European Securities Markets. Brussels,February.

Padoa-Schioppa, T. (1999). EMU andBanking Supervision. Lecture at the LondonSchool of Economics, February 24.

Tinbergen, J. (1954). Centralization andDecentralization in Economic Policy.North-Holland, Amsterdam.


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Urs W. Birchler

Comments on Christian de Boissieu,

�The European Industry

and the Organization

of Banking Supervision

in Europe�

Professor de Boissieu�s paper describestheEUintegrationprocess in the fieldofbanking supervision in positive as wellas, to somedegree, innormative terms.The author discusses the institutionaldimension of supervision (who shouldsupervisewhom?) aswell as the interna-tional dimension of supervision (what isthe optimal degree of centralization?).In both, he takes a clearly Europeanperspective and he argues as an econ-omist. He uses externalities and thedistribution of information as factorsexplaining institutional settings. Prac-tical aspects, including cross-borderand cross-sectional issues are given suf-ficient room. All in all, de Boissieu of-fers an interesting to read, balanced andcircumspect piece.

The author is cautious in his policyrecommendations. Regarding the insti-tutional dimension of supervision he

Urs W. Birchler

Director,

Head of Systemic Stability Research and Policy,

Swiss National Bank

takes a pragmatic neutral view on whathe calls the central bank approach, thedual approach and the Financial Serv-ices Authority (FSA) approach, thuslargely following Goodhart et al.(1998). I would admit that the oldworld of single purpose institutions(the central bank regulating the moneysupply, the banking authority super-vising banks) is probably a paradiselost. Maybe it was not even a paradise,as incentive problems and conflictsof interest created the dangers of

regulatory for-bearance or ofliquidity provi-sion for insolventinstitutions.

Yet, todayboundaries be-tween institu-tions tend to

become blurred. Central banks aremore explicitly accepting their re-sponsibility for systemic stability.They are thus increasingly confrontedwith questions traditionally faced bythe supervisors. Conversely, super-visory actions may become morerelevant for the macroeconomy. Onereason is concentration in banking;another is the potential cyclicalimpact of the more risk sensitivecapital requirements being consideredby the Basel Committee on BankingSupervision (2001). It is thusdifficult to take issue with a cautious,pragmatic approach as advocated byde Boissieu and others. Yet, theoptimal division of tasks betweencentral banks and supervisorsremains an unsolved problem, andpractitioners can only benefit fromany further efforts by the academiccommunity to understand optimal

institutional mechanisms and infor-mational arrangements.

Regarding the international dimen-sion of supervision de Boissieu favorsenlarged cooperation as a middleway between national autarky and fullcentralization.Theauthoralso takes theopportunity to warn against the maindanger of international cooperation,namely the inflation in the numberof institutions. Finally, tackling oneof the issues in European monetary in-tegration that are not explicitly settled,de Boissieu claims that lending of lastresort should be more centralized thansupervisory powers. One could arguethat these policy recommendations,particularly the one just mentioned,are not rigorously derived from theanalysis offered in the paper. However,it seems more fruitful to focus on thebasic leitmotiv of de Boissieu�s paper,namely the concept of regulatory com-petition.

Does competition among regula-tory systems lead to the survival ofthe best rules or to a �race to the bot-tom�? Measured against other contri-butions to this conference, de Boissieuagain is on middle ground, here be-tween the skeptical view presentedby Hans-Werner Sinn1) and the moreoptimist view offered by Gareth D.Myles.2) Starting from the skepticalside, I would agree that competitionamong bank regulators may fail for sev-eral reasons like the existence of exter-nalities (international contagion, ter-rorist finance), network effects, trans-action costs, and information prob-lems. As Sinn put it: �Since statesintervene where markets fail, the mar-ket of states is also likely to fail.�

Unfortunately, harmonizationmight fail just aswell as regulatory com-

1 Please refer to the paper entitled �The New Systems Competition� by Hans-Werner Sinn published in this volume.2 Compare the comments byGarethD.Myles onHans-Werner Sinn �TheNew Systems Competition� published in this volume.

Urs W. Birchler

220 �

petition. de Boissieu touches uponsome very relevant questions like:How can we harmonize implicit guar-antees? Can we harmonize bankingsupervision, but not crisis manage-ment? Who stops the growth of com-mittees? These are questions the advo-cates of international harmonizationwill need to answer if they want to haveeconomists on their side. I would add afew more:— Is the EU the right club for harmo-

nization?My answer would be: quite defi-nitely not. An optimal regulatoryarea might very well differ fromanoptimal currency area. TheBaselCommittee member countries,hosting most internationally activebanks, to my view are a more plau-sible candidate for an optimal reg-ulatory area.

— Where goes the regulatory labora-tory after harmonization?Tome this is a serious concern. Ex-isting regulations have been foundby trial and error. Adapting regu-latory rules to a constantly chang-ing environment thus involvesmaking mistakes. Harmonizationprobably means that regulatorymistakes become less frequentbut more expensive. The loss oftoday�s world-wide regulatorylaboratory may thus involve highcosts in the long run.

— Are regulatory cartels any morestable than other cartels?Somecountriesmayperceive a con-flict between their contribution tointernational financial stability anda desire for improving the compet-itive position of their domesticbanks. As supervisory acts are dif-ficult to monitor in sufficient detailinternationally, there are alwaysopportunities to free-ride onharmonized rules by applying them

with regard to the national, ratherthan an international interest.There is one dimension in the �cen-

tralization versus regulatory competi-tion� debate that deserves more atten-tion than it got at this conference,namely the choice among rules withina jurisdiction.Oneexample is companylaw which in most countries offers in-dividual firms a menu to choose from.Such a choice among individual rulesis more likely to lead to a survival ofthe best rules than the choice amongbundles of rules(as representedby jurisdictions).It is thus unclearto me why weshould botherabout productbundling in theMicrosoft case,e.g., but not in the case of competitionamong jurisdictions. In a similar vein,Sunder (2002) strongly argues in favorof competing accounting standards.

The new Basel Capital Accord(Basel II) is a good example of a prag-matic and flexible approach that com-bines centralization (common stand-ards)withchoiceamongamenuofrules(different approaches) as well as withdecentralized application (national im-plementation). The main rules, laiddown in the so-called Pillar 1, are com-mon standards supposed to be followedby all countries represented at the BaselCommittee (and likely to be followedbymanymore).However, bankswill beable to choose individually among dif-ferent approaches: most importantlyamong a relatively simple �standardizedapproach,� and a more sophisticated�internal ratings-based approach� forwhich two options (�foundation� and�advanced�) are available. The Com-mittee thus explicitly stimulates com-petition among rules. A decentralized

Urs W. Birchler

221�

element enters with national imple-mentation and application of Basel II.Under Pillar 2, national supervisorsare expected to apply the capital stand-ards according to their spirit: Banksshall be asked to hold additional capitalwherever they face higher risks than as-sumed in theAccord.Yet, decentraliza-tionopens somescope forcompetition;theCommitteewill thus probablywantto follow the national implementationand interpretation of the Accord ratherclosely. Its task — to find a pragmaticand flexible way between (excessive)centralization and national autarky(potentially leading to an erosion ofstandards) — seems to be quite in linewith de Boissieu�s recommendations.Finally, Pillar 3 defines standards fordisclosure and transparency designedto support market discipline. TheCommittee thus recognizes the com-plementary nature of market disciplineand of supervisory discipline. If Sinnargues that, in controlling bank�srisks, the market, the state, plus themarket for states may fail, I understandthe Committee to take the pragmaticview that the optimum solution is a

combination of all three imperfectforces.

De Boissieu and other speakers atthis conference have offered interestingand mostly plausible views on many as-pects of centralized versus decentral-ized European institutions. Yet, theyhave alsomadeobvious thatmany issuesare still undecided. Progress can onlybe made through further continuedresearch and through interaction ofresearchers and practitioners, hope-fully very much in the spirit of thisconference. §

References

Basel Committee on Banking Super-vision. (2001). The New Basel CapitalAccord, (consultative paper, January);http://www.bis.org/publ/bcbsca03.pdf.

Goodhart,Ch.,P.Hartmann,D.Llewel-lyn, L. Rojas-Suarez, and S. Weis-brod. (1998). Financial Regulation; Why,HowandWhereNow?Routledge, London.

Sunder, S. (2002). Regulatory CompetitionAmong Accounting Standards Within andAcross International Boundaries. Forth-coming in: Journal of Accounting and PublicPolicy.

Urs W. Birchler

222 �

Olivier Lefebvre

Regional

Stock Exchanges —

Is There a Future?

Iused tobe the chairmanof theBrusselsExchanges, which admittedly was a re-gional stock exchange until 21 monthsago,whenwemergedwithParisBourseand the Amsterdam Stock Exchange tocreate the first cross-border exchangein Europe: Euronext. Euronext is nowalso covering Portugal and last but notleast, we acquired the London-basedderivatives market LIFFE. So basedon this experience, Iwould like to covertwo points.

First of all, what are the challengesfor the regional stock exchanges? Wewill look at some charts and someotheraspects. In the second part wewill con-sider how to carry on and how to try tocombine the global approach to size,which is essential, with the local rele-vance.

First some challenging facts. Themajor event for stock exchanges inEurope is the arrival of the euro. Ifyou look now at the split between eurostockexchangesandnon-eurostockex-changes in Europe, you can see that interms of market value the stock ex-changes within the euro area represent

Olivier Lefebvre

Executive Vice President

and Member of the Managing Board,

Euronext N.V.

a highermarket value than theonesout-side of the euro area. The largest oneout of the euro is obviously London,while the largest one within the euroarea is Euronext. If we look at theimpact of the euroonmarketvaluation,there has apparently been an influenceon the relative evolution of the marketvalue of the stock exchanges bothwithin and outside of the euro area.If we look at the turnover, there isapparently no impact of the euro.

However, if you compare the turnoverof the large stock exchanges and theregional stock exchanges in Europeover the same period, you see a verysignificant evolution between thetwo. One reason might be that inter-national diversification of portfoliosis asymmetric, meaning that whendiversifying, the investor sells domes-tic shares and rather switches to a cross-border sector-based investment pat-tern. By doing so, he first looks at

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the most liquid shares and obviouslythe larger market. It is even morestriking if we compare the regionalstock exchanges belonging to the euroarea and the regional stock exchangesoutside of the euro area.We can clearlysee that the pattern of turnover ofthe regional stock exchanges outsidesuffered much less than was the casefor the regional stock exchangeswithin the euro area. This is anotherindication that the boost given by themonetary union to the diversificationof portfolios was stronger within theeuro area. Within this zone, the biashas been in favour of the larger stockexchanges to the detriment of thesmaller ones. So, that is the first chal-lenge for the regional stock exchanges,and in particular it is a challenge for

the regional stock exchanges withinthe euro area.

The organisation of the equitymarket along national borders is notrelevant any more and no longermatches the behaviour of the marketparticipants. Another aspect, anotherchallenge and even a driver of the con-solidation in Europe is the constructionand the business model of an exchange.A stock exchange is a provider of aninfrastructure with computing ca-pacity, with financial guarantee, withfinancial regulation and credibility en-hancement. This means a significantinfrastructurecost butmeanshigh fixedcosts, relatively low marginal cost:adding an additional listed companywould not increase the cost verymuch,for adding an additional member the

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marginal cost is close to zero. So, sizematters in terms of business profit-ability for a stock exchange. Somesmaller stock exchanges try tomitigatethat as Vienna did for example by usingthe technology of a larger stock ex-change.

The third challenge for smallerstock exchanges is the concentrationof the activity in a limited number oflisted companies. I take the exampleof Brussels as I know it well. Between1997 and 2000, we lost eight of thetwelve largest listed companies follow-ing mergers and acquisitions: most ofthem by either Dutch or French com-panies by the way. This means that theimpact on profitability as a stock ex-change can be highly exposed to

cross-border mergers of key listedcompanies.

On chart 6, you see a sort of indi-cation of the concentration rate of thevarious stock exchanges in Europe, i.e.theproportionof the total turnoverthatis concentrated on the top five mosttraded securities. You see that thesmaller stock exchanges are on theleft-hand side of the graph. In Helsinki,Nokia alone represents 65% of the ac-tivity. You have the largest stock ex-changes, Deutsche Bo‹rse, LondonStock Exchange and Euronext, withthe surprising exception of Athens,on the right-hand side of the scheme.This is an important source of concern.Of course, this should be refined, tak-ing into account the probabilityof some

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companiesbeingtakenover.—Is itprob-able that Nokia would be taken over byanother company? — You also have toconsider this from a qualitative andquantitative point of view. Neverthe-less, this certainly is a sourceof concernfor smaller stock exchanges. The ques-tion is: how can we meet these chal-lenges? My answer will be based onour own experience; I will call it the�Euronext answer�.

First of all we have to bring a multi-national dimension, not only an inter-national dimension.We have to de-liver synergies, thatis the size-effect onthe cost-side andwehave to deliver effi-ciency. Most Euro-pean markets arevery efficient lo-cally, in terms of vertical straight-throughprocessing fromtrading, clear-ing to settlement, buton a cross-borderbasis we still have problems. Obviouslywe have to gain credit.

If you look at away to reduce Euro-pean fragmentation and to consolidatethe market in terms of equity trading,you basically have two views. The first,�old view�, is to claim, as a stock ex-change, that you are pan-European andtry to attract all the activity to your ini-tial jurisdiction. Ithas traditionallybeenthe attitude of some large stock ex-changes, e.g. London or Frankfurt. Ithas also been the ambition of somenew commerce in the market: Trade-point a few years ago, now Virt-X andJiway and some others: these initiativesdid not succeed until now. The mainreason is that liquidity is sticky. Youdo not move liquidity from one stockexchange to another easily. The reasonis very simple, i.e.whenyou trade equi-ties, the total transaction cost is for aminor part composed of the stock ex-

change fees, on average about 12% ofthe total cost. The largest part of thetotal cost is the price impact of thetransaction. Obviously on the stockexchange already concentrating trad-ing on a specific security, the orderson the buy and the sell side will min-imise this largest component out oftotal transaction cost. That is the reasonwhy liquidity can hardly bemoved fromone stock exchange to another.

The second difficulty is that if youwant to force all the activity into

one jurisdiction, let�s say the U.K. ju-risdiction, which is the largest finan-cial centre in Europe, you will putadditional adjustment costs on theshoulders of the clients of stock ex-changes, either issuers, listed compa-nies or even members because theywill have to act mostly in a differentjurisdiction than the one they arefamiliar with.

Last but not least, it is a negation ofthe home market value, which remainsimportant in the equity market. Theequity market is a market based oninformation and obviously issuersbenefit from a sort of free informa-tion in the country or in the regionin Europe they are coming from. Thisis obvious for smaller and mid-sizedissuers in Europe, but also for largerissuers: if you look at their shareholderbase, you still see a national bias. Lookat Deutsche Telekom — obviously a bigone —: despite of an internationalshareholdership, it still has a Germanbias, while France Telecom would

Olivier Lefebvre

229�

have a French bias in the shareholder-ship. We have to find a solutionwhich combines the global and thelocal dimension. Basically it is theapproach that we have developed atEuronext by saying: if we cannotmove the liquidity from one stockexchange to the other, let�s buy it,apply an active merger and acquisi-tion policy, let�s put all these liquiditypools on the same systems in orderto bring synergies and accessibilitywhile keeping the local attributesfor the members and the issuers. Thatis the way to bring continuity to themand to offer the additional value of alarger dimension, without asking themto move from one country to another,which would make little sense. This

is basically the way we are structuringthe market.

Practically, how did we do that?Initially we started with three jurisdic-tionswhenwemerged andwe kept ourlicenses as a regulated market in thesense of the European directive inthe three jurisdictions. Some peoplesay we do that for political reasons.No, it is not for political reasons,but for commercial reasons, to be closeto the customer. Because this gives usthe possibility to offer to the listedcompanies or the members the choiceof the entry point to Euronext.

At the same time we unified themarket, not only by putting it on asingle technical platform, the NSCplatform, but also by creating a

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cross-border rulebook, the so-called�Rulebook I� in the Euronext jargon.By doing that, we combined the localand the global dimension.

The beauty of the model is alsothat you can generalise it by addingother jurisdictions as we now do forPortugal and for the U.K. for thederivatives market. Synergy obvi-ously really pays off when threesystems, four, five,maybemore,mergeinto one system. This has been donefor the cash market. We will do thesame for clearing and settlement andfor our derivatives market, wherewe today operate seven differentsystems.

As for vertical integration, that isvertical straight-through processingfrom trading to clearing and settle-ment: contrary to Deutsche Bo‹rse,we have decided not to take controlof settlement but to sell our settlementactivity to Euroclear in a more hori-zontal approach of the various stages.I will not elaborate on that.

If you look at the structure of theexchange industry, we now have threebig players in Europe for the equitymarket. On the derivatives market,consolidation is done in Europe, basi-callywith twomajor players, Eurex andEuronext, including LIFFE.By theway,these first two European derivatives

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markets are also the largest two in theworld, larger than the four derivativesmarkets in the U.S.

So, an important aspect from a cli-entpointofview, froman issuer pointofview, is that they want to see their vis-ibility enhanced by a merger of ex-changes. If you lookat the shareofEuro-next-listed companies in for examplethe MSCI, a European index, youcan see that no serious investor world-wide can affordnot tohave access inoneway or the other to such a large stockexchange. If I remember the position ofBelgium before the merger, it was ab-solutely not obvious that wewould be amust for an institutional investor. So,this enhanced exposure is certainlybringing value for the issuers.

Now let me conclude a little bitbluntly on the question that was raised:is there a future for regional stock ex-changes? The answer, I am afraid, is�no�, not on a stand-alone basis. Theconsolidation is bound to go on inEurope one way or another, but thereis still relevance to keep a regional di-

mension in the exchange business. Wedo not believe that concentration of theequity activity will happen basically bymoving everything into, let�s say, onejurisdiction, for example in London.This would increase the cost of capitalfor local or smaller issuers in Europeand Idonot think that this is thepurposeof the game. The purpose of the gamereally is to keep the value of proximity,keep the value of the regional market,the regional dimension and, at the sametime, combining that in terms of costexposure synergies and accessibilitywith a true international dimension.That is basically what we are tryingto achieve with Euronext.

Now I conclude with two briefcomments in saying first of all thatwe are very optimistic on the fact thatwe will deliver and we have alreadydelivered a number of steps in thisintegration. We will continue to doso. I have to be modest, if you askme:dowesee already today thepositiveimpact for example on the turnover ofthe Belgian companies at this stage?

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I say �no�, that obviously is too early. Infact, we should have more time to lookat this in terms of turnover for all re-gional stock exchanges now included inEuronext, notably because the integra-tion is not yet completed. It will beabout one year from now, from tradingto settlement.

The second comment I would liketo make in my conclusion is that thisis our recipe. We do not pretend thatit is the only one. But the challengefor regional stock exchanges is veryserious and this is a possible route tomention. §

Olivier Lefebvre

233�

Stefan K. Zapotocky

The Challenges and Chances

of Regional Exchanges1)

1 IntroductionThe last decade has seen a long-lastingboom on stock markets, especially intheU.S.,which has led to a problematicdevelopment for a number of small re-gional markets with respect to theirfunction as a source for raising capital:

The large stock markets experi-enced a surge in the liquidity volumesof large institutional investors, espe-cially of U.S. pension funds, whichsoon led to the concentration on afew liquid stocks with relatively highlevels of capitalization. In Germanyalone, for example, about 85% ofthe trading volume is in the 30 DAXstocks. The phenomenon of the passiveindexmanagement strategy pursued bylarge funds with their year-long prac-tice of asset allocation according tothe regional and sector weightings ofa few international index systems (suchas the MSCI, STOXX 50, etc.) aug-mented the global concentration oninvestments in a few hundred, mainlyAnglo-American stocks.

At the same time, the outflow ofcapital fromEuropeanregionalmarketsthat had high concentrations of small

1 This paper has been published in: Socie«te« UniversitaireEurope«enne de Recherches Financie‘res (SUERF). IsThere a Future for Regional Banks and Regional Ex-changes? The Strategies of Selected Austrian FinanceInstitutions. SUERF Studies, No. 19, 2002.

Stefan K. Zapotocky

Joint-CEO,

Wiener Bo‹ rse AG

caps andmid caps accelerated, affectingprecisely markets like the Austriancapital market.

Even after the collapse of the neweconomy boom (in 2001: NeuerMarkt—60.10%,NASDAQEurope—64.15%,NASDAQ U.S.A. —24.54%) severalhundred massively overvalued stocksstood in stark contrast to thousandsof undervalued stocks.

The significant function of (re-gional) capitalmarkets for theeconomyand for local policy goals, growth andemployment is thus at high risk: this isprecisely where the challenges andchances lie for the further developmentof efficient regional stockmarkets suchas Wiener Bo‹rse and the Austrian cap-italmarket. In the following, I amgoingto investigatewhether or not the grow-ing trend of consolidation and concen-tration among international exchangesinvariably leads to the dissolution ofregional exchanges, especially nationalstock exchange systems andwhat alter-native strategies are feasible, using theexample of Austrian capital market asa model.

Starting out from a general discus-sion of the major international bench-marks for capital markets and stock

exchanges, and the scenarios of howstock exchanges are responding tothe current challenges, especiallywithin Europe, I will focus on the start-ing situation and development possibil-ities of Wiener Bo‹rse as a regional andnational stock market.

2 International Develop-ments in the StockMarket Environment

2.1 Benchmarking Capital MarketsEfficient capital markets form the op-timal interface between supply anddemand for capital (chart 1).

At the same time, they also make acrucial contribution to wealth creationand corporate government improve-ment (chart 2).

Studies in Germany and the U.S.prove that listed companies with theoption of raising capital externally alsomake a major contribution to thedevelopment of the labor market(chart 3).

Financing of takeover deals is in-creasingly being done through the ex-changeof shares— thecompanywith the�stronger� shares often has an advantageover a company of equal value withoutan adequate exchange listing (chart 4).

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A breakdown bymarket infrastruc-ture, exchange systems, investors, is-suers and financial intermediariesshows the main factors in the rankingof successful European stock markets:

Infrastructure of Capital Markets— The existence of an independent

supervisory bodywith comprehensiveand far-reaching powers of inter-vention and control to pre-vent market abuse (insider trading,frontrunning, non-disclosure ofimportant company news, etc.).

— The existence of an independenttakeover commissionwith far-reachingpowers of decision in the case oftakeovers of listed companies.

— EU compliant legislation for all as-pects of the legal framework of thecapital market.The work in this area will be final-

ized by 2005 — according to the inten-tions of the Commission — and willinclude more or less harmonized rulesand regulations for the admission tolisting, listing prospectuses and super-visory tasks. I hope that these effortswill not create hypertrophic centralauthorities, but efficient, optimallyharmonized decentralized systems,which will be especially importantfor the improvement of the frameworkfor the development of regional capitalmarkets.

Stock Exchange Structure— The use of state-of-the art trading

and clearing systems with optimizedcost structures embedded in interna-tional networks and operating in aclosely knit and coherent valuechain.

— A market segmentation according tocriteria relating to issuer quality(disclosure practice, free float,reporting practice, etc.) and whichis easy to understand and use.

— Attractive range of products on the cashand derivative markets.

— Transparency forall market participants.— The highest possible market capital-

ization and a higher free float toachieve:— optimal liquidity— highest possible numberofefficient

market participants who are op-timally equipped

Investors— Growing significance of investor

protection to prevent violationsby intermediaries (dealers) and is-suers.

— Massive increase in the investmentvolumes of retail and institutionalclients. It is precisely this trend thatruns against theexpansionof invest-ment opportunities and also con-tributes to the current phenom-enon of the overvaluation of fewinvestment instruments.

— Beside higher investor protectionstandards, market transparencywill play an increasingly importantrole as a benchmark.

Issuers— Astronger focuson shareholder value.— Ad hoc disclosure of price-sensitive

information.— Use of corporate governance rules

modeled after the Anglo-Americansystem.

— More active investor relations.— Moreneedfor newopportunities to

raise capital through capital markets(cf. Basel II).

Financial Intermediaries/Trading Participants— Liquidity providers and market

makerswill play an increasingly im-portant role for maintaining mar-kets with high trading volumes.Trading systems without market

Stefan K. Zapotocky

238 �

making commitments are at a dis-advantage even now.

— Direct distribution channels to endcustomers — especially via efficientbrokerage platforms for retail cus-tomers and institutional investorstrading directly.

— The higher degree of transparencyinmarkets and the easy comparabil-ity due to the eurowill increase thepressure to install an optimized feestructure.

— More competition through tradingvolumes.

2.2 Capital Market Trends in the EUCurrently, there are about 30national —andwithin states also smaller regional —stock exchanges in Europe that operateabout 14 different trading systems.Clearing and settlement is carriedout through some 20 different nationalinstitutions. Only two of these institu-tions are focused on internationalmarkets or are investing efforts insupranational activities (Clearstreamand Euroclear).

According to a study by Accenture,European stockexchanges (over30 tra-ditional exchanges) canbegrouped into

a few leading exchanges (a center fieldgroup) andmany small niche exchangeswith low market shares.

The consolidation that had been ex-pected in Europe for a while now andwas believed to result in two centralexchanges at most within the nextfew years has become much less likelythan at the time the first 3 to 4 largealliances with differing structures wereformed (full merger and use of jointplatform, keeping regional independ-ence). Even now, there are signs ofgroup forma-tions (chart 5).

According tothe study citedabove by Accen-ture, 70% of allexperts inter-viewed expectto see a commonpath towards consolidation as regardstrading platforms and clearing andsettlement institutions.

It is precisely in the area of clearingand settlement that the consolidationpressure to create a more competitiveEuropean approach vis-a‘-vis the U.S.markets is much stronger than in the

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areaof trading systems.The largeEuro-pean stock exchanges that use systemslike Xetra and the trading platformsEuronext, Virt-X and OM group al-ready have strong market positions.There is anenormous improvementpo-tential in closing the value chain withinthe stock markets (from trading toclearing) and within the context ofEuropean integration and consolida-tionof clearing and settlement systems.

Stock exchanges will respond to allthese challenges by creating sets ofmeasures of which the main ones arelisted in chart 6.

3 Developments on theAustrian Capital Market

3.1 Starting SituationBonds, which have always dominatedthe Austrian capital market, especiallythose issued by the public sector andbanks, were supplemented by equityissues only as late as at the end ofthe 1980s, when a timid revival ofstock issues and stock trading onWiener Bo‹rse took place after a breakof actually 70 years. The trading vol-umes andmarket capitalization in equi-ties started to grow on Wiener Bo‹rseonly as of 1987, especially due to theprivatization of formerly state-owned

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companies and a few private IPOs(chart 7 and 8).

Corporate bonds also experienceda revival, though only as of 2001. Thistrend will become stronger and take aplace alongside the predominant loanfinancing among businesses due to,

among other things, the dramaticchanges in risk margins of banks thatwill become necessary after Basel II(chart 9).

On the whole, the capitalization ofthe stockmarket is only 13.1% of GDP(= EUR 30 bill) and below average

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in a European comparison, a situationwhich is unsatisfactory for the futureequity capital needs of the Austrianeconomy (chart 10).

A study commissioned by WienerBo‹rse, the Federal Ministry of Financeand theOesterreichischeNationalbank(OeNB) conducted by BostonConsult-ing Group states the following reasonsfor this situation (chart 11).

The dilemma of the Austrian mar-ket is clearly illustrated by the currentstructure of Austrian investment funds

managed by domestic market partici-pants: less than 2% of the stronglygrowing volume of money investedin funds is invested in Austrian stocks(chart 12).

While the amount invested inAustria in domestic stocks is less thanEUR 2 bill, this share in Germany is atleast 13%ofGerman investment funds,for example, which corresponds to atleastEUR90bill.This is40timesmore!

Although successful in steadilyraising the interest of private investors

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Table 1

Venture Capital Is the Main Source for IPOs

IPOs ParticipationVC VC—Partnerof FGG

1999AvW Invest — —CyberTron x xLibro x xPalfinger x x

2000BetandWin x xFeratel — —JoWooD x xHead — —HTA x xPerformanceAG x —Stage1.cc x xTelekom — —

2001Teletrader — —BLUeBULL — —Euromarketing x —Andritz x —CLC x xwebfreetv.com x —Admiral — —� 19 � 12 � 8

Source: Factbook 2001.

Stefan K. Zapotocky

243�

(in 1997, theyearof the stockexchangereform and the foundation of the newWiener Bo‹rse AG as a single cash,derivatives andcommodities exchange,only slightly less than4%of theAustrianpopulation owned shares1) and by 2001it went up to 7%!), a lot remains tobe done in order to catch up withthe Western European average.

A very positive contribution tothe development of an adequate basefor further stock transactions on theAustrian capital market was provided

by the privatization projects (cf.OMV, VOEST, Telekom, etc.) andthe still small but growing venturecapital scene. An attractive, specificallyAustrian instrument for promoting theformation of the equity capital base ofyoung companies is the equity capitalguarantee of the Finanzierungs-garantie-Gesellschaft (FGG), whichis considerably involved in preparingAustrian companies for a going public(table 1).

3.2 Six Hypotheseson the Positioning ofWiener Bo‹rseas a Regional Stock Exchangeand the Austrian Economic Regionin a Single European Market

Hypothesis 1The establishment of a strong capitalmarket in Austria is vital for maintain-ing and expanding the region as a busi-ness location and for securing stabilityin the labor market. Efficient, tradable

instruments of equity and externalcapital need to be developed in a jointeffort with potential issuers and re-gional retail and institutional investorsas well as with domestic and foreigninvestment banks and trading partici-pants in the Austrian market.

There is no other stock exchangeorganization that is better qualified thanWiener Bo‹rse, being specialized in theregional economic area of Austria, toorganize a platform for the listing ofnew issues and trading in equity and

debt capital for theAustrian market. Itis also the only stockexchange organiza-tion that has a directinterest in the de-velopment of thedomestic capitalmarket.

Wiener Bo‹rse AG will implementthe following projects in the future:— The organization of an inexpensive

market model that optimizesliquidity for trading in the cashand derivative markets.

— Quality segmentation and surveil-lance of the market (cf. primemar-ket).

— Best possible services offered to re-gional issuers in the area of stocksand bonds (new growth segment:corporate bonds):— Support for IR strategies— Consulting services in prepara-

tions for public offerings— Optimal support for the market

environment for private investors.— Flexibility in the new design of

products.It is precisely the small and me-

dium-sized structure of the Austrianeconomic area that calls for this typeof specialized strategy. The potential

1 Excl. funds.

Stefan K. Zapotocky

244 �

for boosting the capital market is highand definitely exists:

The percentage of the population ofprivate individuals owning shares iscurrently7.5%andit shouldbepossibleto increase it to 12% to 15% by 2005.

The capitalization of the Austrianstock market is currently EUR 30 billand only about 13.1% of the GDP. Fur-ther privatizations and IPOs by privatecompanies on Wiener Bo‹rse shouldhelp to raise the percentages consider-ably in the next 5 to 10 years.

Hypothesis 2By using the inter-national tradingplatform Xetra onthe cash market,Wiener Bo‹rse isactively involved inthe alliance of theXetra Group of Deutsche Bo‹rse Frank-furt. This means that the stock marketin Vienna and with it the Austrian cap-ital market is not a regionally limitedone, but rather globally accessible.

The trading participants (remotemembers) are linked either via directlines to the Xetra system or sinceOctober 2001 via the Internet brokersystem of Wiener Bo‹rse. This makes itpossible to take advantage of the bene-fits of the technical and economic as-pectsofan international stockexchangealliance for a regional market and tocreate inexpensive structures.

Hypothesis 3The direct vicinity of regional ex-changes to local markets, as in the caseof Wiener Bo‹rse AG, and the directbroker platforms of the banks and trad-ing participants are used for gainingmore private investors by taking cus-tomized measures to meet the needsof such regional markets. The addi-tional rangeof information andmarket-

ing services offered by Wiener Bo‹rseAG makes it extremely competitiveover alternative competitors.

Hypothesis 4Optimally organized and internation-ally integrated regional exchangescontribute substantially to improvingthe quality of decentralized, regionalmarkets. Not only with respect tothe ongoing monitoring of qualityand disclosure standards for listedcompanies, compliance with trading

norms and the efficient settlement oftransactions, but also with respect tothe high degree of legal certaintyachieved by closely collaboratingwith supervisory authorities.

Moreover, the activities of a well-functioning, specialized regional ex-change are crucial for maintainingmany areas of work for the region inthe fields of banking and finance indus-try, law and fiduciary service, consult-ing, etc.

Training andeducation institutions,especially also universities benefitgreatly from these activities. The cre-ation and preservation of jobs in aregion that requires highly qualifiedstaff profit in particular from the activ-ities of the local exchange.

Hypothesis 5The technological revolution in tradingand settlement systems and the techni-cal feasibility of inexpensive, virtual�pseudo exchanges� in conjunctionwith the one-sided arguments for min-

Stefan K. Zapotocky

245�

imal system costs have brought to lightthe main tasks of an exchange, namely:— Optimal framework for local com-

panies wishing to raise capital.— Full independence fromall involved

�customer groups� (market partic-ipants, investors, issuers) especiallyfrom the trading interest of thelarge global banks.

— Attainment of the highest possibletrading volumes in a single securityinstead of the dispersion of possiblevolumes across several competingalternative market systems.This shouldbe taken intoaccount all

themore considering that amodern re-gional exchange such as Wiener Bo‹rseAG offers the advantages of efficient

electronic trading and information sys-tems anyway.

Hypothesis 6Even in an economically unifiedEuropewith one single currency the specificcultures and languages of the differentcountries or regions will last. To mo-tivate and mobilize the regional poten-tial will require a future organizationthat truly represents the unique char-acteristics of the region. That way anoptimally structuredregional exchangewill be an integrative partner of a Euro-pean platform and a local marketingspecialist with an optimal marketingstrategy tomeet the local needs of theirregion. §

Stefan K. Zapotocky

246 �

Gertrude Tumpel-Gugerell, Tagungsvorsitz/Chair

Alexander Italianer

Richard Portes

Sinikka Salo


Podiumsdiskussion:

Regionale Wirtschaftsstrukturen —

Wie viel Divergenz ist tragbar?

Panel:

Regional Economic Structures —

How Much Divergence Is Sustainable?

Introduction

It is a pleasure for me to open the lastsession of our conference which dealswith regional economic structures andthe question of how much divergenceis sustainable. These issues are closelyrelated to both real and nominal con-vergence, which are the cornerstonesof the proper functioning of amonetaryunion.

What does the last decade show usabout nominal convergence in the euroarea? Since the beginning of the 1990s,we have undoubtedly seen a conver-gence of nominal variables such as in-flation rates, market interest rates, andthe reduction of budget deficits anddebt levels among EU Member States.The rules-based fiscal policy as definedby the Maastricht Treaty and, subse-quently, by the Stability and GrowthPact, has contributed to improvingpublic finances across different EUMember States, as most countries havereduced their debt-to-GDP ratio andimproved their budgetary positions.

This process has been accompaniedby long-term movements toward realconvergence of income levels. EUMember States with lower per-cap-ita-income have significantly caughtup with the living standards of moreadvanced Member States; being sup-ported by structural and cohesionfunds. Moreover, the growing eco-nomic integration of Europe and, in

particular, the start of the Economicand Monetary Union (EMU) has re-duced the volatility of GDP growthrates across economic regions overthe past decade. Business cycle instabil-ity tends to shift from the productionside to financial assets. Financial cycleshave become broader and more com-plex and these financial cycles play an

increasing role inthe business cycle.

Factors that mayhave triggered realcycles are not onlyshocks resultingfrom economic pol-icy (EMU) andexogenous shocks

like productivity shocks, but also �en-dogenous� factors, in particular erro-neous expectations by householdsand companies.

Recently, however, we have seen astandstill — and in some cases a turn-around — in the process of nominal con-vergence within the euro area. This isthe case both for public finances as wellas for inflation, where divergence ispresently growing. The slowdown ineconomic growth contributed to grow-ing fiscal deficits in some countries,whileothers continued fiscal consolida-tion irrespectiveof theeconomicdevel-opment.

Some observers view the presentdivergence of inflation rates amongcountries in the euro areawith growingconcern: inflation rates of countries inthe euro area currently range from1.6% in Germany and Austria to5.0% in Ireland. Some explanationmight be found in the Balassa-Samuel-son effect of higher inflation rates incountries catching up. On the other


Vice Governor,


250 �

hand this effect cannot lay at thegrounds of the Netherland�s high infla-tion rate of 4.2% in May 2002. Thequestion iswhether this is a serious eco-nomic problem for which a �policy an-swer� is needed or whether it is just amatter of fact that inflation rates varyfrom one economic region to the other— within a monetary union or evenwithin a country. A further questionis whether temporarily diverging fiscalbalances are an indicator for different

budgetary sensitivities to the economiccycle across countries orwhether thereis adangerofdeviating fromthestabilitypath of the last years.

Those are questions which are ofhigh interest, in particular at the dawnof an enlargement of the EuropeanUnion. I hope our distinguished panelwill give some answers to those ques-tions and shed some light on the issue ofconvergence and divergence in a mon-etary union. §


251�

Are Divergent Macroeconomic Performancesin a Monetary Union a Reason to Worry?1)

1 IntroductionThe first three years of the euro area�sexistence have reminded economistsof the need to monitor carefully diver-gences in macroeconomic performan-ces across the participating economiesand to think about the extent towhich such divergences are sustainablein amonetaryunion.The relevancewilleven increase further with the perspec-tiveofEUenlargementandtheeventualparticipation of new Member States inthe euro area. However, the issue of asymmetric shocks and the availabilityof adjustment instruments to thoseshocks already figured prominentlyin the early literature on the Economicand Monetary Union (EMU).2) Overthe years the issue of diverging per-formances has become a domain thathas many angles to it. This article willfocus on four points:(i) the longer-term developments as

far as economic growth in theMember States is concerned,

(ii) business cycle synchronisation acrosseconomies and prospects for cycli-cal convergence in the euro area,

(iii) inflation diversity andwhy it shouldbe a subject of attention, but notnecessarily amatter toworry aboutonce it has been identified, and

(iv) external imbalances and theirrelevance in a monetary union.

Certainly this list could easily beextended, but this would widen thescope too much. Here budgetarypolicy or labour market performancecome tomindas anexample.As regardslabour markets, differences in humancapital matter for economic growth,market rigidities affect the cyclical pat-tern of employment, wage settlementsare an important determinant of infla-tion diversity and migration affectsexternal imbalances.

2 Economic Growth:Convergenceand Divergence

The study of convergence has been onthe agenda for decades in economicsand theemergenceof the �NewGrowthTheory� in the second half of theeighties has stimulated research andprovided us with numerous of studieson the topic.3) Formanyof themand forthe topic of convergence and diver-gence in EMU a storyMilton Friedmanhas told ten years ago appears stillrelevant.4)

Friedman told the story of FrancisGalton, a cousin of Charles Darwin,who studied human height, especiallythe relation between the height ofparents and children. He examined asub-sample of fathers selected for theirexceptionally high stature, and noted

1 Disclaimer: the views expressed in this paper are those of the authors and do not necessarily correspond to those of theEuropean Commission.

2 See Emerson, M., D. Gros, A. Italianer, J. Pisani-Ferry, and H. Reichenbach (1992). One Market, One Money. OxfordUniversity Press.

3 See e.g. Barro,R. J., andX.Sala-i-Martin (1998). EconomicGrowth.MITPress; andSala-i-Martin,X. (2002). 15Yearsof New Growth:WhatHaveWe Learned? In: Loaiza, N. (ed.) The Challenges of Economic Growth. Central Bank of Chile,forthcoming.

4 Friedman, M. (1992). Do Old Fallacies Ever Die? In: Journal of Economic Literature, December, 30(4), 2129—32.

Alexander Italianer

Director, European Commission

Oliver Dieckmann

European Commission

252 �

that their sonsexhibitedonaveragestat-ures closer to the mean stature of thegeneral population than to the meanheight of the tall fathers concerned.This has been interpreted as a regres-sion towards the mean. Obviously asimilar finding could have been demon-strated for exceptionally short fathersand their children. Galton�s fallacy wastowrongly infer from these valid obser-vations that a general contraction of thespread of heights in the population wastaking place; a reduction in thevarianceof heights. And it issuch an (invalid) in-ferencewhich econ-omists risk drawingwhen searching forconvergence and di-vergence. This fal-lacy denotes a prob-lem arising whenconvergence (or divergence) is testedin a cross-country framework (oftenreferred to as Barro regressions), apoint of particular relevance to theEU integration process.

A large number of economists havetried to answer the question as towhether economies tend to convergeto similar levels of per-capita incomein the long run. In the simplest eco-nomic models the answer will alwaysbe �yes� since capital will migrateacross borders as long as rates of returndiffer. Thus, countries with lower in-come levels can be expected to expe-rience faster growth. Many empiricalstudies have tried to find evidencefor this hypothesis, often based onsimple regression techniques, andfound that countries with an initiallylower income would display higherrates of growth. If this hypothesiswere true, it would imply that therewould be growth differences in theshort run because the poorer countrieswould tend to grow faster than

the richer ones. Does this mean thatthere should be no reason to worryabout growth divergences in theshort run?

The answer to this question cannotbe unequivocally negative. The Barro-regression models disregard many ofthe factors that are important for eco-nomic growth like technologicalshocks, externalities, labour forcecharacteristics, humancapital, the legalframework, etc. Moreover many ofthe empirical studies suffer from

shortcomings like the aforementionedGalton�s fallacy. So it seems too simplenot toworry about growth divergencesonly on the basis of such stylised con-vergence models.

The conclusion to be drawn is thateven in the presence of convergencephenomena in termsof incomeper cap-ita, and therefore of diverging growthratesovera longer period, there is everyinterest to smoothen the variationsaround these growth paths. If all policy-makers in a monetary union supportefforts in this direction, there is no par-ticular reason toworry about sustainedeconomic growth differences.

In the euro area many efforts havebeen made to put in place an environ-ment that is conducive to stable eco-nomic growth. And the results dis-played in chart 1 indicate a substantialsuccess of these efforts. If one disre-gards the three fastest growing econo-mies the growth rates registeredthroughout the last decade are veryclose to the euro area growth path.

Alexander Italianer,

Oliver Dieckmann

253�

Looking for reasons one just has tolook at the sound economic policy ar-chitecture that characterises the euroarea. This framework is characterisedby a number of principles enshrinedin the Treaty: the commitment to openmarkets and free competition, pricestability and sound public finances,which are supportive to sustainableeconomic growth. On this basis, theresponsibility for the single monetarypolicy is with the independent Euro-pean Central Bank (ECB) guided byits primary objective is to maintainprice stability in the euro area as awhole,1) while the principle of soundpublic finances has been translated intothe Stability andGrowthPact. This par-ticular euro area architecture of �policy

convergence� creates the conditions forsustainable medium-term growth.When there are divergences occurring,such as for instance the slower growthperformance of Italy and Germanysince the mid-1990s, it is importantto find outwhether they are just a ques-tion of the short run with cyclical as-pects dominating, orwhether there areunderlying structural impediments. Toname just a simple example, divergingageing performances can be a source oflong-term growth divergences, ceterisparibus.

1 While the ECB has not yet explicitly named regional developments as a determinant of its decisions, a recent study presentedevidence that regional developments mattered for Fed decisions; see Meade, E.E., and D.N. Sheets (2002). RegionalInfluences on U.S. Monetary Policy: Some Implications for Europe. International Finance Discussion Paper No. 721,Federal Reserve Board, February.

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254 �

3 Business CycleSynchronisation

Closely linkedtogrowthdifferences arecyclical differences and asymmetricshocks (see chart 1). But before think-ing about indicators one has to answerthe question as to whether a monetaryunion is bound to experience increasedcyclical convergence. Several argu-ments have been presented in favourof convergence:1)— Economic interdependence is in-

creasing due to larger intra-uniontrade and inter-company links asfor instance induced by foreigndirect investment.

— Linkages between financialmarketsare strengthening in a huge internalmarket, in particular due to grow-ing non-resident portfolios andconfidence-spillover effects.

— Macroeconomic policies are com-ing to rely more on the same stabil-ity-oriented �policy convergence�framework than in the past dueto the singlemonetary policy aimed

at price stability and the sound fiscalframework.Amain counter-argument has been

provided byKrugman,who argued thatthe organisation of production inside amonetary union inevitably brings alonga specialisation that makes single coun-tries (or regions) more vulnerable toglobal shocks. This could decreaseco-movements in output fluctuations.Increased intra-industry trade, on theother hand, could have the oppositeeffect.

In order to answer the questionabout the extent of synchronisationone has to identify cyclical diversity.Here almost all observers start witha common set of tools: cyclical differ-ences between the Member States canbe identified by reference to the evo-lution in output gaps, i.e. the growthrate of GDP relative to that of potentialoutput.While in the run-up to the startof Stage 3 of EMU measures of disper-sion seemed to indicate a certain reduc-tion (e.g. maximum cyclical differen-

1 See e.g. Wynne, M.A., and J. Koo (2000). Business Cycles Under Monetary Union: A Comparison of EU and the US. In:Economica, 67 (267), August: 347—74; further arguments have been presented and tested in the growing literature onbusiness cycle synchronisation in general and the emergence of a euro area business cycle in particular; see e.g. Artis, M. J.,and W. Zhang (1999). Further Evidence on the International Business Cycle and the ERM: Is There a European BusinessCycle? In: Oxford Economic Papers, 51(1), January: 120—32; Do‹pke, J. (1999). Stylised Facts of Euroland�s BusinessCycle. In: Jahrbu‹cher fu‹r Nationalo‹konomie und Statistik, 219(5—6): 591—610; Breitung, J., and B. Candelon (2001).Is There a Common European Business Cycle? In: DIW Vierteljahreshefte zur Wirtschaftsforschung, 70 (3): 331—8.

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ces, standard deviation across MemberStates), the more recent data display aninverse U-shaped pattern (see chart 2).However, it should be mentioned thatthese results depend inparticularon theperformance of the relatively smalleconomyof Ireland.This suggests beingcautious in using standard measures ofcyclical differences. In particular the�sample period� since the start ofEMU might be too short to draw reli-able conclusions at this stage.

Where cyclical differences occuramong euro area Member States, theycould for instance reflect correspond-ing differences in monetary and finan-cial conditions, in external competi-tiveness or in labour-market develop-ments (particularly in terms of produc-tivity growth). Non-cyclical factors arealso likely to be relevant, such as differ-ences in the sectoral composition ofoutput leading to asymmetric effectsof changes in the common externalenvironment, or structural aspectssuch as tax systems and pension fund-ing. It is beyond the scope of this articletoexamineallof these factorsbuttwoofthem—monetary and/or financial con-ditions and external competitiveness —are of particular interest insofar as theyhave been specifically affected by the

introduction of the euro and becausethey are related to the adjustment in-struments in order to respond toshocks.— Real interest rates. Euro area Mem-

ber States share single nominalmoney-market rates, but theunderlying real interest rates canvary per country due to inflationdifferentials.While real short-terminterest rates haddeclined in almostall Member States up to 1999, de-velopments since then are not thatuniform (see chart 3). In generalreal interest rates have tended tobe below average or even negativein those Member States that wereleast in need of stimulus to eco-nomic activity. Although there isan element of causality involved,it may thus seem that real interestrates tend to display pro-cyclicalbehaviour.

— Long-term interest rates. These rateshad also converged downwardahead of the introduction of theeuro in 1999 and in the time sincespreads have been negligible.Thereby, they tended to accentuatethe effects of differences in under-lying real interest rates betweenMember States.

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— Price and cost competitiveness. Eco-nomic growth differences in theeuro area also relate to differencesin the external competitiveness ofthe Member States vis-a‘-vis theeuro area, as reflected in severalcost and price indicators. For in-stance an increase in the priceand cost indicators (equivalent toa real exchange rate appreciation)need not be a cause for concern,if it is consistent with relative pro-ductivity performance. For exam-ple, a catching-up Member Statemay experience relatively high pro-ductivitygrowthand inflationrates.More generally, real appreciationmay reflect improvements in eco-nomic fundamentals related forinstance to non-price competitive-ness factors, or changes in under-lying savings and investment pat-terns. However, there may be cir-cumstances in which real appreci-ation would signal a build-up ofcompetitiveness problems thatwould ultimately result in subduedeconomic growth and rising unem-ployment. In these cases, therewould

be a need for corrective action thatwould mainly have to take the formof wage-cost adjustment relative toeuro area partner countries.Data on price and cost competitive-ness can be produced with severaltypes of deflators (see table 1), butgenerally one finds the same ten-dencies as regards losses or gainsin competitiveness. In many cases,the data suggest that cost and pricepressures are linked to advancedcyclical positions and thereforeinfluence competitiveness accord-ingly. Through its impact on thetrade balances, the price/cost ad-justment channel therefore seemsto contribute to dampening cyclicalfluctuations, although there is againan issue of causality involved.These observations suggest that the

observedcyclical diversity so far hasnotbeen a source of major worry for thefunctioning of EMU. Again, the choiceof an appropriate policy framework(and obviously its steady developmentover time) is crucial in coping with di-vergent patterns when they emerge. Inthese terms the euro area has shown a

Table 1

Relative Cost and Price Indicators Relative to the Euro Area1)

Over the last year(1st quarter 2002against 1st quarter 2001)

Over the last two years(1st quarter 2002 against1st quarter 2000 to 4th quarter 2001)

Relative to average(1st quarter 2002 against1987 to 2001)

Total ULC Manuf.ULC

GDPdeflator

Total ULC Manuf.ULC

GDPdeflator

Total ULC Manuf.ULC

GDPdeflator

BELU 0.4 �0.1 �0.2 0.5 1.2 �0.4 3.8 � 2.2 1.3DE2) �1.4 0.5 �0.9 �3.4 �0.4 �2.9 � 5.0 4.6 � 4.9GR 0.2 �2.6 1.1 �1.9 �6.9 0.1 9.3 5.8 10.8ES 0.4 1.0 0.9 1.3 3.4 2.7 2.5 10.2 2.2FR �0.4 �0.7 �0.7 �0.7 �1.2 �1.6 1.0 � 4.8 � 2.5IE 3.2 0.2 2.6 5.6 �1.9 5.3 2.8 �26.7 13.8IT3) 0.1 �1.0 �0.1 0.6 �1.4 0.7 � 4.3 � 0.3 0.7NL 2.3 1.6 2.6 5.7 4.2 6.6 9.6 4.3 7.4AT �1.2 �1.9 �0.6 �2.0 �4.1 �1.1 � 0.9 � 9.0 � 0.9PT 2.5 0.5 1.3 6.4 3.3 2.8 15.9 6.2 15.1FI 1.4 1.3 �1.2 2.9 1.3 0.3 � 9.1 �18.3 � 6.0

Source: DG ECFIN, Price and Cost Competitiveness Report - First Quarter 2002, April 2002.1) Changes in per cent calculated using total unit labour costs (ULC), manufacturing industry�s unit labour costs, and the GDP deflator respectively.

A �—�-sign indicates an improvement in cost competitiveness.2) These indicators probably underestimate the unification-induced deterioration in German cost competitiveness.3) Relative unit labour cost indices for Italy relative to any period before 1998 are distorted by the 1998 tax reformwhich shifted taxation from labour costs

to value added but did not significantly change competitiveness.


Oliver Dieckmann

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good record in the first three years.Whether this result canbeextrapolatedto the future will depend on the deter-mination of participants to stick to therules and to develop them further asmuch as necessary.

4 Inflation Diversity

Differences among national inflationrates (inflation diversity) could be acause of worry in a monetary unionif temporary inflation shocks becomeentrenched in inflation expectationsat national level, potentially leadingtoawage-price spiral that coulddurablyaffect competitiveness of the countryconcerned.

In the first three years of the euroarea there has been inflation diversity,as illustrated in chart 4, which depictsthe minimum and maximum inflationrates and averages of groups of bestand worst performing countries interms of Harmonised Index of Con-sumer Prices (HICP) inflation rates.

Someof theextreme inflation rates,the outliers, have been observed insmall Member States as indicated by

the big distance between the extremelines and the other groups. But evendiscarding these cases, the diversitydoes not vanish as the lines for theother country groups also display dis-tance from the euro area average (blackline). The persistence of the rangedisplayed is also mirrored in standardmeasures of inflation dispersion (seechart 7a).

In spite of the stability-orientedmacroeconomic policy framework,the remaining cyclical differences canprovide an explanation for some ofthe regional differences in inflationrates that have been observed so farin the euro area. Indeed a comparisonof output gaps (independent of theway they are calculated) and inflationrates indicates that a more advancedposition in the cycle has often beenaccompanied by higher inflation rates(see chart 5). Here the experiencefrom Ireland, the Netherlands andPortugal has often been mentioned.However, in addition to cyclical deter-minants there are other factors wehave to assess.

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— External shocks. The increase in en-ergy prices in 2000 and 2001 has hitsome countries more than others.Countries having a larger share ofenergy consumption in their HICPobviously showa stronger impact ofoil price changes on HICP inflationrates.

— Policy induced price changes. Deci-sions about indirect taxes, admin-istrative prices and fees are takenat the level of the Member States.They affect HICP inflation as forinstance the example of theNether-lands has shown in 2001. Also thenational introduction of ecologicaltaxes couldhave a significant impactand explain differences.

— Balassa-Samuelson effect. It has beenargued that productivity differen-tials between sectors producingtradable and non-tradable goodscould justify inflation rates thatdiffer from those of other countrieswithout endangering the price andcost competitiveness and thuswithout giving any reason for beingconcerned.These aspects deserve to be looked

at in more detail.

4.1 Inflation Diversityat the Aggregate Level

In view of the different cyclical posi-tions of Member States, national infla-tion rates cannot be expected to coin-cide (see chart 5). While the cyclicalcontribution to inflation diversityshould diminish to the extent that a uni-form euro area business cycle emerges(see section 2), differencesmay also re-flect country-specific factors that are, atleast partly, non-cyclical in nature. Forexample, it is well known that struc-tural differences (e.g. energy intensityof production, natural resources, andimport structure) make the impactof changes in prices of crude oil ratherdifferent across economies. Asymmet-ric impacts like this should becomevisible in comparisons of developmentsin HICP components. However, evenif individual componentswould displaya similar evolution in all MemberStates, the development in the overallHICP could be different due to differ-ences inweights attached to single com-ponents in national HICP indices. Anexample is Ireland, where processedfood constitutes around 20�% ofthe HICP, while it constitutes onlyabout 13% of the HICP in theeuro area as a whole. Further obviousdifferences are linked to climatic con-ditions and preferences that differacross countries.

4.2 Inflation Diversityas Evident in HICP Components

In search of reasons for inflation diver-sity attention has been attracted bydevelopments in the single componentsof HICP indices.1) On the one hand,specific groups of goods and servicesprices could explain some of the ob-served differences, on the other hand

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Oliver Dieckmann

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an analysis of themain HICP categoriescan reveal their contribution to thelevels and the dispersion observed inthe overall index. Especially the ob-served differences between headlineand core inflation rates (see chart 6)suggest that prices of unprocessed foodand energy do not only show a highervolatility than others, but also that theycould have been a major source of in-flation differentials:— Unprocessed food. Food prices are

known to be themost volatile com-ponent in explaining country-spe-cific differences, due to differencesin seasonal patterns, weather con-ditions or country-specific reasons(e.g. the outbreak of foot-and-mouth disease in only a few Mem-ber States in 2001). This volatilityimplies a relatively large dispersionof price changes, but the absence ofany clear trend in the dispersionmeasures of this component (seechart 7c).

— Energy. A comparison of the HICPenergy component across econo-mies indicates an asymmetric im-pact of higher oil prices resultingin high volatility indicated by stand-

ard measures. The periods withan above-average increase in theGerman index can be explainedby increases in the so-called ecolog-ical tax, while the below-averageincrease in the French index pointsto a low level of oil-based energyproduction. Moreover, some gov-ernments have decided to softenthe impact of temporary high oilprices on energy consumers, whileothers have not. These differentresponses as well as different taxschemes (e.g. �floating gasolinetaxes� in France contrasting with�fixed� taxes elsewhere) could con-tribute to a further widening ofinflation differentials.

— Services inflation has been on anupward trend between 2000 andMay 2002 (see chart 6), reflectingstrong demand and in catching-upcountries also theneed topaywagessimilar to those in the high-produc-tivity sectors (bringing the reason-ing back to the Balassa-Samuelsonargument). However, standard dis-persion measures show a steadierdevelopment than other compo-nents (see chart 7e).

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These selected subcategories sug-gest that differences can be traced backto differences in energy, as this has beenthe only graph displaying a positiveslope of trendlines. However, a closerlook at the twelve categories formingthe HICP reveals that dispersion hasincreased only in four categories in2001 (see table 2). Moreover, the maincontribution to euro area inflationcomes from alcoholic beverages and to-bacco, which displays a rather low

standard deviation. The calculationof contributions of items to the euroarea aggregate also highlights the sub-stantial changes in their contributionover time. As item weights differ sub-stantially across countries this inevita-bly comes alongwith inflation diversityacross the Member States.

The national contributions to theeuro area aggregate are displayed intable 3. In 1999 Germany, Spain andItaly contributed most in absolute

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terms, but as Germany as a large coun-tryalsohas a largeHICPcountryweightit still contributed less than suggestedby the weight, while Italy contributedover-proportional (0.11 percentagepoint). In2001the largest absolutecon-tribution came from Germany, but theNetherlands were the country with thelargest excess contribution (0.14 per-centage point).

4.3 InflationDifferencesattheSectoralLevel and Catching-Up

Some causes of inflation diversity couldbe linked to the sectoral level. Short-term differences can be induced bypolitical measures like tax changes thatare introduced by individual MemberStates for policy reasons (i.e. responsesto oil price increases favouring trans-port companies).

Table 2

Differences Between HICP Components1)

Items Euro area inflation rate Standard deviationacross euro area Member States

Contribution to euro areaHICP inflation rate

1997 1998 1999 2000 2001 1997 1998 1999 2000 2001 1997 1998 1999 2000 2001

% Percentage points Percentage points

1 Food, non-alcoholicbeverages 1.0 1.5 0.2 1.1 4.9 1.30 1.16 1.34 0.95 1.12 0.19 0.28 0.04 0.18 0.80

2 Alcoholic beverages, tobaccoand narcotics 3.6 2.7 2.5 2.2 2.9 3.01 2.17 1.77 2.95 1.81 0.16 0.12 0.11 0.09 0.12

3 Clothing and footwear 1.2 1.2 1.1 0.8 0.6 3.05 3.21 2.37 2.02 1.51 0.11 0.11 0.09 0.07 0.054 Housing, water, electricity,gas and other fuels 2.8 1.0 1.4 4.3 3.3 1.53 1.16 0.86 2.03 1.53 0.45 0.16 0.23 0.67 0.51

5 Furnishings, householdequipment and routinemaintenance of the house 1.0 1.1 1.0 1.0 1.9 1.61 1.50 0.80 1.12 1.10 0.08 0.09 0.08 0.08 0.15

6 Health 4.4 3.4 2.3 1.8 1.2 2.98 5.29 1.17 3.11 2.84 0.03 0.02 0.02 0.06 0.057 Transport 1.6 0.3 2.0 5.4 1.2 1.36 1.40 1.23 1.36 1.57 0.25 0.05 0.32 0.84 0.198 Communications �1.3 �0.9 �4.4 �4.5 �2.8 2.59 2.47 4.02 3.43 3.91 �0.03 �0.02 �0.11 �0.11 �0.079 Recreation and culture 1.4 0.9 0.4 0.6 1.8 1.76 1.38 0.94 1.63 1.33 0.14 0.09 0.04 0.06 0.17

10 Education 2.5 2.9 2.6 2.9 3.1 2.07 1.56 1.39 3.14 2.45 0.01 0.01 0.01 0.03 0.0311 Restaurants and hotels 2.2 2.4 2.3 2.7 3.3 1.68 1.61 1.54 1.22 1.48 0.19 0.21 0.19 0.23 0.2912 Miscellaneous goods

and services 1.6 1.0 1.5 2.2 3.0 2.22 1.72 1.17 1.33 1.23 0.10 0.06 0.09 0.15 0.22All items (HICP) 1.7 1.2 1.1 2.4 2.5 1.15 1.07 0.72 0.96 1.02 1.70 1.20 1.10 2.40 2.50

Source: DG ECFIN, Price and Cost Competitiveness Report — First Quarter 2002, April 2002.1) Under the heading euro area the aggregate of the 12 participating countries is displayed (for all periods). This applies to all tables and the text.

Table 3

National Contributions to the Euro Area HICP Inflation Rate

Country HICP inflation rate National contribution to euro areaHICP inflation

Actual contribution minus contributionconsistent with HICP weight

1997 1998 1999 2000 2001 1997 1998 1999 2000 2001 1997 1998 1999 2000 2001

% Percentage points Percentage points

1 Belgium 1.5 0.9 1.1 2.7 2.4 0.06 0.03 0.04 0.11 0.08 0.00 �0.01 0.00 0.02 0.002 Germany 1.5 0.6 0.6 2.1 2.4 0.51 0.2 0.2 0.71 0.74 �0.03 �0.17 �0.17 �0.07 �0.033 Greece 5.4 4.5 2.1 2.9 3.7 0.11 0.09 0.04 0.06 0.09 0.08 0.07 0.02 0.01 0.034 Spain 1.9 1.8 2.2 3.5 2.8 0.17 0.16 0.20 0.31 0.29 0.03 0.06 0.10 0.11 0.035 France 1.3 0.7 0.6 1.8 1.8 0.28 0.15 0.12 0.37 0.37 �0.06 �0.09 �0.10 �0.10 �0.146 Ireland 1.2 2.1 2.5 5.3 4.0 0.01 0.02 0.02 0.05 0.05 0.00 0.01 0.01 0.03 0.027 Italy 1.9 2.0 1.7 2.6 2.3 0.34 0.36 0.31 0.47 0.43 0.05 0.16 0.11 0.05 �0.048 Luxembourg 1.4 1.0 1.0 3.8 2.4 0.00 0.00 0.00 0.01 0.01 0.00 0.00 0.00 0.00 0.009 The Netherlands 1.9 1.8 2.0 2.3 5.1 0.10 0.09 0.10 0.13 0.27 0.02 0.04 0.05 0.00 0.14

10 Austria 1.2 0.8 0.5 2.0 2.3 0.04 0.02 0.01 0.06 0.08 �0.01 �0.01 �0.02 �0.01 �0.0111 Portugal 1.9 2.2 2.2 2.8 4.4 0.03 0.04 0.04 0.05 0.09 0.00 0.02 0.02 0.01 0.0412 Finland 1.2 1.4 1.3 3.0 2.7 0.02 0.02 0.02 0.04 0.04 �0.01 0.00 0.00 0.01 0.00

Euro area 1.7 1.2 1.1 2.4 2.5 1.70 1.20 1.10 2.40 2.50

Source: DG ECFIN, Price and Cost Competitiveness Report — First Quarter 2002, April 2002.


Oliver Dieckmann

262 �

Longer-term differences can belinked to catching-up processes: In par-ticular, differences in sectoral produc-tivity growth can result in economy-wide wage increases oriented towardsthose of the more dynamic sectors,imposing anupwardbias to the inflationrate for the total economy. Thesesectoral causes of inflation diversityare most frequently associated withBalassa-Samuelson effects.1) But giventhat aggregate price levels vary mark-edly across euro area Member States,2)convergence in price levelsdue togreatermarket integration and productivityconvergence will also inevitably be re-flected in inflation rate differentials.

For tradables, the forces acting forprice level convergence are those thatincrease market integration: singlemarket rules, lower transport costs,increased price transparency, etc.The forces acting for convergence ofnon-tradables prices are more indirectand aremainly related to real economicconvergence; cf the Balassa-Samuelsoneffect. In addition, a widening range ofservices is becoming tradable due totechnological progress and this mayadd to convergence in non-tradablesprices. Increased mobility of capitaland labour across the euro area wouldalso promote an equalisation of factorprices.

Concluding, it seems that the slightincrease in inflation diversity that hasbeen observed since the start ofEMU seems related to the fact thatthe average inflation level has somewhat

increased, to the direct or indirect im-pact of energy price increases and pos-sibly to price level convergence in thewake of further integration for goodsand services markets.

5 External Imbalances

The areas that have been looked at areobviously the ones that attract most ofthe attentionwhendiscussingdivergingperformances. However, there is an-other area on which there has beenless focus so far, but which couldget more atten-tion in the fu-ture: the diver-sity in externalpositions.

Large exter-nal imbalancesin Japan and inthe U.S.A. havebeen at the centre of debate for a longtime(seechart8).Often theyhavebeenassessed as a risk to economic and finan-cial stability. Adjustment scenarioswere mostly based on cyclical or ex-change rate changes providing the basisfor adjustment of trade and capitalflows. Compared to these external im-balances those registered for the euroarea appear to be rather small.

However, in the euro area somesubstantial external imbalances areregistered at the level of the MemberStates (see chart 9). Such imbalancesraise questions about the appropriate-ness and sustainabilityofnational exter-nal imbalances in a monetary union.

1 For an exposition of the Balassa-Samuelson argument see for instance ECB (1999). Inflation Differentials in a MonetaryUnion. In: ECB Monthly Bulletin, October: 35—44; Alberola, E.(1999). Is There Scope for Inflation Differentials inEMU? In: Banco de Espan�a Economic Bulletin, January: 69—73; Bjo‹rkste«n,N., andM. Syrja‹nen (1999).How ImportantAre Differences Between Euro Area Economies? In: Bank of Finland Bulletin, 73 (4): 20—25; and Alberola, E. (2000).Interpreting Inflation Differentials in the Euro Area. In: Banco de Espan�a Economic Bulletin, April: 61—70; for adiscussion of policy implications see for instance Sinn, H.-W., and M. Reutter (2001). The Minimum Inflation Ratefor Euroland. NBER Working Paper no. 8085, January.

2 See for instance European Commission (2001). Price Levels and Price Dispersion in the EU. European EconomySupplement A, July.


Oliver Dieckmann

263�

Do imbalances matter for MemberStates? Do they matter for the euroarea as a whole? What can be doneto reduce imbalances if deemed neces-sary? All these questions have receivedrelatively little attention in recentyears, in the absence of financing con-straints and potential exchange ratetensions.

In general, current account imbal-ances at the level of the Member Stateshave been persistent in the past too. Butthe euro has in importantways changedthe situation, because the single cur-rencymakes it easier to financedeficits,and because exchange rates do not existany longeramongeuroareacountries asa tool for adjustment:

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— Easier financing of deficits. Countriescan run imbalances for a long timeand accumulate large positive ornegative net external positions.This is not inherently inappropri-ate, as there can be good reasonsfor current account deficits (e.g.in the context of catching up). Alsoone also has to acknowledge thatimbalances often simply reflect pri-vate sector activity. However, animbalance in a Member State�s in-ternational account will imply ulti-mately a change in its net externalposition, and even without discus-sing the theoretical foundations ofcurrent account sustainability onecan recognise that the accumulationof external debt as such is not un-limited.

— No internal exchange rate adjustment.Corrections cannot any longer takethe form of nominal exchange rateschanges; other channels affectingcompetitivenesshavebecomemoreimportant. For a deficit country animprovement can be achieved bywage moderation and structuralreform raising productivity. Struc-tural reform has become particu-larlyurgent toachievethe flexibilityneeded, as relative wage modera-tion is more difficult in the low-inflation environment of the euroarea.A key element will always be the

early recognition of inappropriate im-balances. Thus there is some justifica-tion tomonitor the development of ex-ternal imbalances of theMember Statesto discuss adjustment where imbalan-ces are deemed to be too large. Severalelements could be taken into accountfor such amonitoring. Since the start ofStage 3 of EMU the euro area currentaccount deficit now represents thebalance of surpluses in Finland, theNetherlands, Belgium-Luxembourg,

and France, roughly balanced currentaccounts in Italy and Germany and def-icits in all the otherMember States.As apercentage ofGDP the diversity in cur-rent account positions is even moreapparent. Strong surpluses of morethan 4%ofGDP in three countries con-trast with deficits of more than 4% ofGDP in two catching-up countries (seechart 9). Current account analysis of-fers a variety of explanations for ob-serveddevelopments as for instance cy-clicaldeterminants andchanges incom-petitiveness.— Cyclical reasons. Due to variations

in domestic absorption, it can beargued that the part of the deficitin any particular country that iscyclical (higher import volumesinduced by strong economic activ-ity) can be expected to unwind asgrowth resumes (assuming theeconomy returning to its long-run trend).Thiswould imply, ceterisparibus, an increase in current ac-count deficits or a decline in sur-pluses in periods of above-averageincome growth and the opposite intimes of below-average incomegrowth.Suchacorrelationbetweenoutput gaps and changes in currentaccount positionswould show up inthe scatter diagrams in data pointsforming a downward sloping linebetween the northwest and thesoutheast. However, such a patternis difficult, if not impossible, to de-tect in chart 10. For instance in allthree years Ireland was in an ad-vanced cyclical position, but regis-tered relatively small changes in itscurrent account and even an im-provement in 2001. The cyclicallyadvanced economy of the Nether-lands reported current account im-provements in all threeyears.How-ever, during these years substantialchanges inoil priceswereobserved,


Oliver Dieckmann

265�

which were increasing the importbill and possibly hiding the cyclicalcomponent of current accountchanges. Moreover other impor-tant determinants (e.g. price com-petitiveness) and lags have affectedcurrent account developments.

— Changes in competitiveness. Price andcost competitiveness is a majordeterminant of trade flows amongindustrial countries. Changes inindirect taxes, wage settlementsand country-specific factors changethe cost situation of producers andaffect their position in world mar-kets. If for instance wage increasesexceed productivity gains a result-ing deterioration in terms of com-petitiveness can not be offset bynominal exchange rate changes,as it could before EMU started.Thus, one would expect deteriora-tion in competitiveness to result in alarger current account deficit andvice versa.The first threeyears of the euroareahave seen some marked changes inrelative cost and price indicators(see table 1). In particular Ger-many, France, Austria and Greece

have achieved improvements incompetitiveness as measured byall three indicators displayed. Alsoin the short-term (the last fourquarters)mostof the indicatorshintat improvements in the relative po-sition of these countries. Over thelast year a deterioration has beenobserved in the cyclically more ad-vanced economies of Ireland, theNetherlands, Spain and Portugal.In particular for Greece and Portu-gal, deterioration is reported rela-tive to the 1987—2001 average. Asthe latter two countries registerthe largest external deficits (seechart 10), competitiveness factorsappear to have contributed.

— Competitiveness and profits. Changesin competitiveness can be inducedby rather different developments.Improvements could reflect cutsin costs or/and in profit margins.The latter could be aimed at gainingmarket shares and to compensatefor lower margins by increasingthe volume component. As this alsoworks the other way round a dete-rioration in price competitivenesscould also be induced by higher

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Oliver Dieckmann

266 �

profit marginswhereas a deteriora-tion that comes along due to costincreases provides a more seriouscase of concern.As economic policy-making is still

largely decentralised in the euro areaeconomy, it is useful to consider thecurrent account situations in the indi-vidual Member States, since they tendto bemasked by amore or less balancedeuro area current account. Some coun-tries (e.g. the Netherlands) have regis-tered a significant current accountsurplus as they wereat an advanced stageof the cycle. Thiswould suggest thatthe economy couldafford a real appre-ciation that wouldraise living stand-ards.Countries hav-ing a current account surplus and highunemployment (e.g. France) could takestructural orothermeasures inorder tostimulate domestic demand. Othercountries are experiencing a situationof real catching up (e.g. Ireland) withprivate sector confidence and a currentaccount deficit. These countries seemto have benefited from the creation oflarge and liquid euro financial markets,implying a regime change for privatesector borrowers in particular. Else-where (e.g. Portugal) the large currentaccount deficit appears not only to re-flect a catching up situation, but alsolowcompetitiveness and strongdomes-tic demand driven by relatively loosemonetary conditions. Germany andItaly, registering almost balanced cur-rent accounts and slow growth, needmore push to economic growth comingfrom structural reform, which couldlead tomore flexibility and to a currentaccount deficit.

ConclusionThe four issues discussed in this articleindicate that divergences in macroeco-nomic performance exist in the euroarea. However, as has been argued,these differences are not necessarilya matter of concern. An optimal cur-rency area is not so much characterisedby completely convergent perform-ance as well as by the capacity to dealwith such divergences. For instance,what matters is not whether the Krug-man hypothesis of specialisation is true,

but how the economy adjusts to it.Secondly, although it is too early to

give a definitive judgement, the firstalmost three-and-a-half years of exis-tence of the euro area seem to lend sup-port to the view that the sound frame-work of price stability and fiscal pru-dence, established in EMU, in spiteof some of the recent tensions, is capa-ble of assuring a smooth and sustainabledevelopment. The structural reformsthat already started in the run-up tothe launchof theeuro, and that receivedan additional impetus through the re-form agenda agreed in Lisbon in thespring of 2000, have already born fruitin strong job creation and unemploy-ment reduction.

All in all, there is good reason to berelatively optimistic about the ability ofthe EMU framework to cope with thechallenges macroeconomic diversitymight pose. Long-term growth differ-ences are justified by catching up phe-nomena and can be expected to con-tinue once the future Member States


Oliver Dieckmann

267�

will have joined the euro area. Cyclicalgrowth divergences seem to be man-ageable in size. Inflation diversity canbe explained by the business cycle, in-tegration effects, the adjustment to ex-ternal shocksandBalassa-Samuelsonef-fects. National external imbalances arenot (yet) a prime reason for concern,but need to be monitored because theycan have a signalling function for under-lying imbalances.

However, in spite of the achieve-ments alreadyaccomplished in theearlylife of the euro, there is no room forcomplacency and every reason to re-main vigilant. So some of the divergentperformances thatwere identified needcareful monitoring and, where appro-

priate, corrective policy action in viewof ensuring continued macroeconomicand structural policy convergence.Thisis exactly why there is such a thingas multilateral surveillance and theStability and Growth Pact, and whythe European Commission pointedto the delivery gaps in the Lisbon struc-tural reform process in the run-up tothe recent Barcelona Summit.

A credible macroeconomic policyframework combined with an ambi-tious, but socially balanced, structuralreform process are key elements insafeguarding the sustainability of theencouraging performance of the euroarea until now. §


Oliver Dieckmann

268 �

Comments on Alexander Italianerand Oliver Dieckmann,

�Are Divergent Macroeconomic Performancesin a Monetary Union a Reason to Worry?�

This is an excellent paper,which Imuchenjoyed reading. I was particularlypleased with the careful balance drawnby the authors and their use of theevidence. And although their officialpositionmaymake it difficult to answervery directly the question of the title, Ican take advantage of the academic�sprerogative to be controversial. I sug-gest that thepapergivesus good reasonsnot to worry excessively about �realdivergence�.

Of course, a �one-size-fits-all�monetary policy will not in fact fitall. But the tensions that implies arecommon in any large country with di-verse regions, and indeed even in asmall country whose economy maybe based on (say) a major natural re-source export, tourism, and a smalldomestically oriented manufacturingsector — a not uncommon case. Forthe large country example, take theU.K., where our own �one-size-fits-all� monetary policy is having great dif-ficulty in circumstances of an over-valued exchange rate, a housing pricebubble, and significant disequilibria:a recession in manufacturing alongsidea boom in services; a slump in invest-ment alongside powerful growth ofconsumption; high unemployment inthe north-east and tight labourmarketsin the south-east.

But the answer is not to be obsessedby the need for �real convergence�. It isinstead to recognise thatmonetary pol-icy cannot deal with most of these dis-equilibria and should not try. It should

focuson the inflation target,whichdoesnot of coursemean that it should ignoreemployment, growth or the exchangerate. Although monetary policy mani-festlycannotdealwith structuralissues, it can de-liver inflationcontrol, evenwhen there is�real divergence�across a largeeconomy. Andthat is what should be required of it— no more.

Conversely, although �real conver-gence� is desirable, and structural re-forms are necessary to raise productiv-ity growth, they are not necessary forthe sustainability of Economic andMonetaryUnion (EMU). The �optimalcurrency area� (OCA) criteria havebeen grossly overemphasized. Doubt-less if the Mundell paper had existedin thenineteenthcentury,noeconomistwouldhave supported imposing a singlecurrency on such a diverse geopoliticalconstruct (recall it was notmerely eco-nomically �divergent� — there was amajor civilwar and its aftermath). Evennow, just as the U.K. or Italy or Spain,theU.S. has strongly divergent regionaleconomic conditions—compare SiliconValley and Chicago or Atlanta. Yet asingle currency works perfectly well.

That success is not, in my view,primarily because of labour marketflexibility or the fiscal transfer mech-anism. Rather, it is because the single

Richard Portes

Professor,

London Business School

President,

Centre for Economic Policy Research (CEPR)

269�

currency creates the conditions forfinancialmarket integration.The singlecapital market can and does — to someextent, automatically — finance dise-quilibria within the monetary union.The Mundell paper and the OCAcriteria were out of date almost imme-diately, because the paper appearedjust when capital markets emergedfrom the shackles that had bound themfor thirty years. And this iswhat we seetoday, already, within the euro area.Monetary union has removed financialconstraints on divergence. So althoughthere are well-known reasons whythe �OCA criteria are endogenous�, in-sofar as monetary union raises intra-EMU trade and the common interestrate tends to synchronise businesscycles, in fact the single currencyand a unified capital market also per-

mit more idiosyncratic developmentsacross the union.

Ireland and Portugal are good ex-amples. Let me take the latter, whichfeatured in the 2001 �Update� of theMonitoring the European Central Bankseries (CEPR). Portugal�s entry tothe European Union in 1986 was ac-companied by a rise in the growth rateof investment, financed by domesticsavings. Portugal�s entry into monetaryunion in 1999was also accompanied bya rise in the growth rate of investment,but this has been financed by foreignborrowing — to the extent of a currentaccount deficit on the order of 10% ofGDP. Such a deficit would have beenimpossible outside monetary union —there would have been a �balance-of-payments� crisis, and the escudowouldhave been forced out of the ERM. But

Table 1

Portugal: Savings, Investment and the Current Account

1974—1985 1986—1990 1991—1995 1998—2000

% of GDP

Current account � 6.60 � 0.60 � 3.10 � 8.90Gross private savings 22.90 28.00 23.10 16.10Gross national savings 20.30 27.10 21.60 18.60Investment (rate of change) � 1.30 þ11.00 þ 2.00 þ 7.00Pro-memoriaGDP (rate of change) þ 2.20 þ 5.50 þ 1.80 þ 3.40

Source: European Commission, Spring 2001 Economic Forecasts.

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Richard Portes

270 �

there could not be a currency crisis,because the escudo no longer existedexceptas aunitof theeuro,and financialintegration meant that external financ-ing of the deficit was automatic.

This case is representative of amoregeneral phenomenon. Even before thesingle currency, and certainly since,monetaryunificationhaspromoted realconvergence through the capital mar-kets.Weobserve that during theperiodfrom 1995 to 2000, investment/GDPratios rose most for the less developed(lower income) countries in the Euro-pean Union.

The role of capital market integra-tion is clear when we compare the pat-tern of current accounts in 1995 andin 2000. Whereas before monetaryunion, current accounts were hardlycorrelated with income, we find a

strong correlation in 2000: poorercountrieswith higher investment needscan finance them from abroad, with norisk of a balance-of-payments crisis.That does not mean they can ignorethe intertemporal budget constraint!But it is clear that monetary unionfacilitates the divergent investmentperformance that should lead to con-vergence of per capita output. So theanswer to the question put by the titleof thispaper is �no�—theunion itself andits central authorities should not overlyconcern themselves with divergentmacroeconomic performances in theeuro area, because in some respectsthey will be normal and healthy. Andwhere theyarenot, it is for thedomesticeconomic policymakers to deal withthe divergence. §

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Richard Portes

271�

Regional Policies and Differencesin Economic Structures

In a globalising world, resources needto be continuously reallocated accord-ing to changes in demand for products,changing competitive positions andproduction methods. As technologyhas developed and economies haveopened themselves up to trade, reallo-

cation has takenplace in muchlarger regionalentities than ear-lier. There hasalso emerged atendency forpeople and firmsto cluster to-

gether with those that share their par-ticular know-how and skills. Europe�seconomic geography is changing be-cause of these trends and pressuresknown popularly as �globalisation�.These regional developments do notoriginate from European integration,but are likely to have been strengthenedthrough the increased competition ithas brought about. At the same timeintegration — through increased trade,financial market integration and moresimilar macroeconomic policy frame-works — should have a synchronisingimpact on the economic performanceof countries participating in the EU andin particular in the Economic andMonetary Union (EMU).

In general, assessments regardingperformance of the monetary unionduring its first three and half yearsare positive. Alexander Italianer alsoconcludedhis illuminatingpresentationon differences in macroeconomic per-formance in the EMU by expressing�moderate optimism�. Based on the

Finnish experience, one can agree withthe sentiment. Finland, as a small openeconomy with specialised industrialstructure — paper and electronics(Nokia) — was generally regarded asmost prone to asymmetric shocks.However, since the early years of the1990s when the policies aiming at join-ing the EU and the EMUwere adopted,the economic cycle has been moresynchronised with the average cyclein the euro area, albeit with higher am-plitude. Even during the last half of the1990s, when GDP growth in Finlandclearly exceeded the average growthin the EU, inflation remained ratherclose to that of the euro area average.Moreover, the recent rapid slowdownofdemand in the ITsector,whichhit theFinnish economy more heavily thanother euro area countries, did not sig-nificantly change the situation. TheECB monetary policy reaction to adecrease in interest rates was largelytaken as beingwell-suited to theFinnishIT sector and the economy as a whole,while a credible common monetarypolicy prevented the difficulties ofthe IT sector from spilling over intoother sectors in the economy.

In the following, I amgoing to focuson differences in regional structures,questionsof specialisation, andregionalpolicies. I do not even try to answer thedifficult question of how much diver-gence in structures is sustainable, posedin the title of this panel session — I referto the �common understanding� thatpolarisation is bad and should beavoided.

According to recent studies, clus-tering and specialisation need not lead

Sinikka Salo

Member of the Board,

Suomen Pankki

272 �

to polarisation, because — as it isargued — �most regions should be ableto specialise in something�. However,risk of polarisation cannot be ruled out,if policies try to freeze existing patternsof economic structures although theyare no longer competitive. Therefore,issues of regional and cohesion policyhave become increasingly important onthe policy agenda in the EU, in thewakeof enlargement.

The accession countries are a lotpoorer than the current MemberStates. The planned enlargement ofthe EU into a Union of 25 MemberStates will therefore necessarily entaila dramatic increase in economic andsocial inequality in the Union, bothbetween Member States and betweenregions. Even though this increase ininequality is, in a sense, only a notionalconsequence of the change in bounda-ries, the political consequences for theEU are by no means notional.

Increased differences will be dulyreflected in political agenda. The allo-cationof theEUstructural andcohesionfunds is where the conflict of interestwill be seen at its clearest, but similartensions have arisenor are likely to arisein other fields, such as agricultural pol-icy, freedom of movement, incomespolicies etc.

There is, I expect, a broad consen-sus about what could be called the two-pillar approach for cohesion policy inthe EU. The first pillar is the recogni-tion by less prosperous nations and re-gions that they bear the primary re-sponsibility in tackling their own pov-erty, which is crucial, for it is not onlygood economic policy, but is key togood governance. The second pillaris that the EU must provide supportfor its least developed regions. The dis-tinction between these two pillars is ofcourse clear only in theory. In practicenational and community policies are

highly interrelated, especially as faras regional policy in its strictest mean-ing is concerned. But nevertheless, it isconceptually and politically importanttoclearlybear this separationof respon-sibilities in mind.

With regard to national policies, ina welfare state well-developed publicservices and high level, highly pro-gressive taxation tend to reduce in-equality in society in general and con-sequently reduce regional inequality. InFinland, for example, the poorest ofthe country�s 20regions contrib-ute, in the formof taxes to thecentral govern-ment budget,less than 70%of what they re-ceive from thebudget in the form of expenditure,whereas some other regions pay some50%more than they receive. The effectof this redistribution of income on re-gional incomedifferences is substantial.I doubt whether many accession coun-tries at their present level of develop-ment could benefit much from an im-mediate adoption of a full-scale welfarestate and it is likely that they have totolerate much greater regional differ-ences thanmost of the presentMemberStates. But there may be something tobe learnt from the underlying ideologyof the (efficient) welfare state and someof its features could perhaps be adoptedin the new Member States without tooheavyabudgetaryburden. Inparticular,in view of the high level of unemploy-ment and rapid ageing of the popula-tion, one of the main challenges forthe accession countries is to increaselabour force participation and employ-ment. This requires supportive infra-structure and services to be providedby awelfare state, notably such as facili-

Sinikka Salo

273�

ties for childcare and care of the elderlythat particularly support the participa-tion of women in the work force.

Wage moderation and increasedwage differentiation according to pro-ductivity and skills are both essentialingredients in any policies targeted athigher growth and higher employment.Wage flexibility will remain importanteven after theeliminationof fundamen-tal labour market imbalances, espe-cially for countries which aim joiningthe euro area in the relatively near fu-

ture. In themon-etary union eachcountry has toliveup to thegoalof price stability.Countries join-ing themonetaryunion must haveinstitutions, eco-

nomic structures and policy disciplinesuited for specifically that. Meanwhileit should be stressed that for less pros-perous accession countries, the mainpolicy priority is to adopt an overallpolicy framework that is strongly ori-ented towards high and sustainable eco-nomic growth. This will entail encour-aging new activities and combinationsof activities, but regional policy objec-tives should be subordinated to aggre-gate economic policy objectives.

At theEuropeanUnion level, oneofthe key issues in the policy debate is theestablishment of a financial frameworkfor the enlargement process. It is vitalthat someof the issues are solved for theperiod from2004 to2006,but themainproblems seem to lie with the nextfinancial perspective from 2007 to2013. It seems that the continuationof present community policies after en-largement would imply substantialbudget pressures. There is a risk thatthe current limit of 1.27% of GDPfor the Community�s own resources

would be exceeded and by the endof the period this could be an excessthat is more than merely marginal.

Instead of increasing the Europeancitizens� tax burden, efficiency of theCommunity�s policies should be morein focus. Themain targets for improve-ments are the Common AgriculturalPolicy and Cohesion Policies, by thesimple fact that they together takeup some 80% of total Community ex-penditure.

It is generally accepted that theCommunity Cohesion Policy shouldcontinue to target the least developedregions. After accession into the EU,the least developed areas will be inthe newMember States and thus struc-tural and cohesion funds will beredirected to these countries. Thiswill imply substantial transfers fromthe EU budget to the new MemberStates.

Great attention is needed to ensurethat the recipients have the capacity toabsorb them. Under the current rulesfor the period from 2000 to 2006,transfers from the Structural andCohesion Funds are limited up to amaximumof 4%of nationalGDPayearin all Member States. In view of thelimited administrative and absorptioncapacityofmostof thenewEUMemberStates, the Commission proposal in therecent information note Common Finan-cial Framework 2004—06 for the AccessionNegotiations, confirming the same ceil-ing for overall structural financial sup-port for the period from 2004 to 2006,is a step in the right direction. This ceil-ing would seem appropriate even after2006. Strict application of limits with-out exceptionswouldhelppreventmis-understandings and the culture of rentseeking in the new Member States. Inthis regard onemight questionwhetherit is helpful to refer possibilities of addi-tional financing in exceptional cases,

Sinikka Salo

274 �

such as �projects of a particular Com-munity interest in relevant circumstan-ces�, as suggested by the Commissionin its First progress report on economic andsocial cohesion.

To avoid the risk that cohesion pol-icies freeze existing patterns of eco-nomic activity and thereby increasethe likelihood of the polarisation theyseek to prevent, refocusing of cohesionpolicies would be needed to contributeto the objective of increasing regionalgrowth prospects and competitive-ness. Instead of resisting inevitablechanges, the authorities should perhapseven aim at speeding up the adjustmentof the economy to the new economic-political environment. The experien-ces of some countries suggest that rapidadaptation to changing circumstancesin the form of even large migrationflows is feasible and in the endmay evenbe optimal.

One approach to regional policy,that has sometimes been successful,is to favour viable growth centres.As an example, much of the northernpart of Finland has become or is in theprocess of becoming very sparselypopulated. At the same time, the maincentre of the area, Oulu, has success-fully transformeditself,overonlyacou-ple of decades, from a stagnant smoke-stack industry town into a dynamicbusiness metropolis specialising in mo-bile and other information technologyas well as biotechnology. This transfor-mation has, without doubt, been

helped by active regional policies thatfocused on the relatively rich localcentre and not on the whole area. Adecisive move was probably the estab-lishment of the University of Oulu,which started its operation in 1959.Inparticular, the facultiesof technologyandmedicine have played a central roleas promoters of local growth and haveclose connections with the local high-tech companies.

In my contribution to the debate Ihave highlighted some aspects of re-gional policies in preventing polarisa-tion in economic structures and per-formance. It is important to avoidpolicies that would freeze existingstructures of economic activity if theywere not viable. Let me finish my con-tribution by referring to recent discus-sions on institutional reforms:Weneedmore transparency and efficiency, alsoin the administration of the commun-ity�s regional policies, which is verycomplex. At the same time, verylittle is known of the effects of differ-ent programmes. It is important torecall the need for transparent and ef-ficient programme evaluation, detec-tion of fraud or non-conformity withfinancial rules, and harmonised appli-cation of sanctions in the differentMember States in the case of shortcom-ings. More effective use of regionalpolicies also requires greater synergywith other Community policies inthe areas of research, innovation andeducation. §

Sinikka Salo

275�

Ought We to Worry About Regional Diver-gence in the European Monetary Union?

1 IntroductionBefore doctors worry about a maladythey try their best to ascertain whetherthe patient really suffers from it. Andwhen they have convinced themselvesthat this is in fact the case, they willsearch for the cause of the ailment

before they pre-scribe a ther-apy. Frequently,unbearable di-vergence acrossEU regions ormember coun-tries has been di-agnosed in order

to justify the prescription of strength-ened ex-ante harmonization areas ofeconomic policy other than monetarypolicy and setting the rules guarantee-ing the functioning of free and compet-itive European markets. Favorite pre-scriptions have been the stricter coor-dination or centralization ofmacroeco-nomic fiscal policy, the equalization oftax rates, the harmonization of socialpolicy, centralized European wagebargaining, etc. A particularly popularidea in the public policy debate has beenthe claim that Economic and MonetaryUnion (EMU) necessitates a Europeantransfer union (ETU) as part of a fullyfledged fiscal federalist regime. Thearguments in favor of a central fiscalauthorityandETUhavebeeneither thatwithout those supplements EMUwould enhance economic divergenceacross European regions beyond asocially and politically acceptable levelor that the existent heterogeneity,wereit not reduced, would undermine thecredibility of the anti-inflationary

policy orientation of the EuropeanCentral Bank (ECB) (a combinationof both arguments is, of course, oftenencountered). Before discussing theseclaims, I will briefly sketch what thepossible sources of regional hetero-geneity may be and with respect towhich dimensions divergence or con-vergence of European regions couldbe measured.

2 Sources andDimension ofHeterogeneity AcrossRegions

Sources of heterogeneity may be clas-sified into variables that are— exogenous, or— endogenousrelative to the process of market inte-gration andmonetaryunification.Clas-sical examples of exogenous variablesarepreferences, primary factor endow-ments, and (to some extent) technol-ogy in the sense of available blueprints,but also policy-determined variableslike tax systems, subsidies, labor laws,etc.Examples forendogenous variablesare outputs, incomes, prices (relativeand absolute), capital intensities, em-ployment and unemployment rates,industry composition of regions, etc.Another useful classification of hetero-geneity characteristics is based onwhether they are— the result of the individual decisions

of market participants (implyingendogeneity), or

— part of the institutional-regulatoryframework.Finally, we might distinguish be-

tween variables that account for heter-ogeneity in the


Professor,

Otto von Guericke University of Magdeburg

276 �

— short run, or— long run.

In particular, the distinction be-tween exogenous and endogenous fac-tors of heterogeneity depends onwhether we take a short-run orlong-run perspective. Most elementsof the institutional-regulatory frame-work appear to be exogenous in theshort run but will, in fact, adjust inthe medium and long run if cross-na-tional and cross-regional competitionamong institutions is not precludedby ex-ante harmonization. On theother hand, market-endogenous varia-bles like relative prices, realwages, em-ployment, and cross-regional invest-ment flows become quasi-exogenousin the short andmedium runwhen theyare caught in the straight-jacket ofinadequate institutional arrangements,or are misguided by wrong policy-induced incentives, which cause severehysteresis effects.

Shocks to exogenous variablesmay be— symmetric (or common, in the

sense of affecting all the regionsor nations in EMU to the sameextent),

— asymmetric (or idiosyncratic, i.e.region-specific of country-spe-cific);

they may be of an— aggregate nature, or— industry-specific;and they may be— permanent (or highly persistent),

or— transitory (or cyclical).

The adjustment responses of en-dogenous variables can be classified ac-cordingly. Preference shocks, e. g., aretypically industry-specific and mostlytransitory, they may have more or lessasymmetric (region-specific) conse-quences, depending on the differingsectoral composition of regions, and

more or less persistent effects on rel-ative prices, employment and capitalformation due to hysteresis phenom-ena.Technology shocksarepermanent,mostly sector-specific, but sometimes(as in the IT case) also of an aggregatenature, and may affect regions asym-metrically at least in the shorter run,i.e., for an unchanged industry compo-sition. As far as the spread of techno-logical innovation is bound to physicaland human capital it will have a pro-nouncedly endogenous character.Mac-roeconomic de-mand shocks,being by defini-tion of an aggre-gate nature, areas such tempo-rary but mayhave persistenteffects (e.g., onprivate capital formation or inflationexpectations) as well as asymmetricconsequences across nations and re-gions. Even centralized monetary pol-icy in EMU, geared to union-wide ag-gregate inflation indicators, will haveasymmetric effects because of asymme-tries in transmissionmechanisms:Partsof these asymmetries are country-spe-cific due to inherited national differen-ces in the �credit channel� (the struc-ture of the financial sector, in particularthe importance of banks for financinginvestment), part are region-specificbecause of differences in the interestsensitivity of aggregate demand dueto the heterogeneity of industrial struc-tures (Mihov, 2001). Also nation-spe-cific differences in labor market insti-tutions can lead to asymmetrical reac-tions of wages, prices, and unemploy-mentrates toshockswhicharecommontoall themember countriesofEMU.AsBruno and Sachs (1985) have shownwith respect to highly symmetric neg-ative supply shocks (e.g., energy price


277�

shocks), countries with strongly cen-tralized wage bargaining systems willfare better in terms of shorter durationandmilderconsequencesof suchshocksbecause trade unions are inclined to in-ternalize the inflationaryeffectsofwageincreases. Also wage bargaining sys-tems that are extremely decentralizeddown to the firm level (allowing for theinternalization of the effects of wageclaims on the firm�s performance) copemuch betterwith a shock to the price ofa highly complementary factor of pro-duction than wage bargaining systemswith an oligopolistic union structure(Calmfors and Driffill, 1988).

How rational economic policyshould react to shocks — and whetherit should respond at all — depends on thekind of shock. During the advent ofEMU a vast empirical literature onthe character of, and adjustment to,shocks in the euro area has accumulated(for an overview, see e.g. OECD,1999).

This research had mainly been mo-tivated by the debate aboutwhether theEuropean Union would be an �opti-mum currency area� and how EMUwould compare to the U.S. or Canadaon the optimal-currency-area (OCA)criteria. Some studies focused on quan-tity indicators, such as output and em-ployment, others on relative prices,usually the real exchange rate, someex-amineboth.As regards the symmetryofthe impact of shocks inEMUthe studiesare divided in their conclusions. Thereis greater unanimity about the symme-try among six to eight �core� countries(Germany, France, Austria, Belgium,Netherlands, Sweden, to some extentalso Italy and Finland), in particular forthe time after 1992. This result is lessrobust at the EU regional level. In theircomparisonswith theU.S.most studiesconclude that U.S. regions are moreintegrated, also with respect to factor

mobility, thanEUregions and thereforeless affected by idiosyncratic shocks,and that adjustment to shocks is typi-cally faster in U.S. regions. These em-pirical findings, based on data mostlyfrom 1970 to 1990, are not a great sur-prise, however, since they compare along-established economic and cur-rency union with an EU before EMUand even before the enforcement ofthe �four freedoms� of the single do-mestic market. The real question is,of course, what the impact of furthermarket integration promoted by EMUwill be. Will the OCA test, even if notsatisfied ante-EMU, be passed sometime after the introduction of the euro?Before I turn to this point, let us take alook at the development of heteroge-neity of EU regions in order to seewhether divergence really is a problem.

While theEUcross-countrydisper-sion of GDP per capita decreased in the1980s and early 1990s, regional dispar-ities did not show a similar tendency.Some studies even found some increasein the cross-regional dispersion (Fager-berg and Verspagen, 1996; Neven andGouyette, 1995; Magrini, 1999). In averycareful analysisofEUregions at theNomenclature of Territorial Units forStatistics (NUTS)2 level, testing forconvergence versus divergence, Bol-drin and Canova (2001) arrive at theconclusion that levels of regionalGDPper residentdidnotconvergedur-ingtheperiodfrom1980to1996.Theirresults reject, however, definitely theidea that regional development isdriven by divergence and polarization.In fact, long-run growth rates of re-gionalGDPpercapita showasignificanttendency towarduniformity so that rel-ative differences can be expected to re-main rather stable. GDP per resident(y) can be split into labor productivity(x), the rate of employment (e) and therate of net-immigration into the re-


278 �

gional labor market (m), y=x(e—m). Itis interesting that Boldrin and Canova(2001) find some mild cross-regionalconvergence of labor productivities.However, neither the variation in laborproductivitynor that in total factor pro-ductivity indicators can be explained bychanges in capital-labor ratios. Giventhat inter-regional labor mobility israther low and real wages rigid, theslight convergence of labor productiv-itieswas purchased at the price of somedivergence in (un)employment rates(see also Overman and Puga, 2002).It is also important to note that BoldrinandCanova (2001) did not find any evi-dence for a positive relationship be-tween the distribution of flows ofEU Structural Funds, designed to sup-port regional convergence, and eitherthe variation of labor productivity ortotal factor productivity across regions.Typically, in the poorer regions receiv-ing Structural Funds both public andprivate capital-labor ratios grew andconverged toward those of the richerregions, but labor and total factor pro-ductivity indices did not. This, by theway, holds not only for the regions ofGreece andSpain forwhichBoldrin andCanova (2001) have studied relevanttime series data, but seems also tobe characteristic for easternGermany�s�mezzogiorno syndrome.�

3 Is EMU the Problemand ETU the Solution?

Traditional economic theory, assumingaggregate production functions withconstant returns to scale, predicts thatunhampered free trade of goods andservices will lead to an internationaland interregional equalization of factorprices as long as nations or regions donot specialize on some of the tradedgoods because of a high degree ofcross-national or cross-regional varia-tion in relative factor endowments.

Thus, for sufficient diversificationcross-regional income convergencewould come about even in case of com-plete factor immobility. In case that forgiven factor endowments specializationresults and factor prices differ in equi-librium across regions, then interre-gional factor mobility would be neces-sary and sufficient for factor priceequalization (if there are just two fac-tors, capital and labor, then perfectmobility of one factor, e.g. capital,would suffice). Traditional theorywould thereforesuggest that theuncompromisingpursuit of theEUSingle Marketprogram andthe introductionof a commoncurrency arethe best means to ensure the conver-gence ofmember countries and regionsin terms of real income.

This view has, however, not beenadopted by the EU policymakers.On the contrary, theDelors (1989)Re-port claims that �Historical experiencesuggests that in the absence of counter-vailing policies, the overall impact [ofmore economic integration] on periph-eral regions could be negative. Trans-port costs andeconomiesof scalewouldtend to favor a shift in economic activityaway from less developed regions, es-pecially if they were at the periphery ofthe Community, to the highly devel-oped areas at its center. The economicand monetary union would have to en-courage and guide structural adjust-ment which would help poorer regionsto catch up with the wealthier ones�(p. 22). Consequently, the EuropeanCommission�s policy stance favorsthe allocation of Structural Funds topoorer regions (in the NUTS2 defini-tion) and, in addition, of Cohesion


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Funds to new-coming member nations(presently Greece, Ireland, Portugal,and Spain; rather soon another nineor ten countries). Why should therebe need for long-term redistributionin favor of less developed regionsand additional side-payments to joiningcountries (on topof the reasonably slowphasing-in of market integration) iftraditional economic theory predictsbenefits from integration for all partic-ipants and even actual convergence oflabor andcapital incomes across nationsand regions?

The view that EU-wide market in-tegration and adoption of a commoncurrencygeneratesaproblemforwhichEuropean fiscal federalism with cen-trally provided public goods and ex-plicit redistribution via transfers, bothfinanced by EU taxes, has receivedsomeacademic support and intellectualcredibility from the more recent theo-ries of �endogenous growth� and PaulKrugman�swork on international tradeand economic geography. Both strandsof thinking rely crucially onpositive ex-ternalities (at the individual or locallevel) and increasing returns to scales(at the aggregate level).

Krugman (1991, 1993) has arguedthat closer market integration and in-tensified competition fostered by acommon currency might result ingreater regional specialization therebyexposing the regions in EMU to moreand more pronounced asymmetries inthe effects even of EU-wide commonshocks. The empirical evidence fromEuropean data does so far not supportKrugman�s (1993) divergence hypoth-esis for EMU. Frankel and Rose (1997)refute empirically Krugman�s conclu-sion. Moreover, the specialization hy-pothesis is very likely rather sensitiveto the degree of regional disaggrega-tion. At the NUTS0 and NUTS1 levelsthere is strong empirical evidence for

declining specialization between 1980and 1996 (OECD, 1999). At 2- and3-digit levels of regional disaggregationthe results aremore ambiguousbecausethe smaller the region, themore impor-tant will regional externalities and in-divisibilities be. But even at the 2-digitlevel there is no convincing evidencefor increasing heterogeneity in theEU regions� industry composition overthe last 20 years. Moreover, the finerthe regional disaggregation level atwhich divergence phenomena emerge,the less relevant to monetary policy inEMUwill they be, and the strongerwillbe the arguments in favor of leavingcross-regional transfers under nationaljurisdiction. National fiscal federalismhas coped quite well before EMU withregional heterogeneity, and is in nowayhampered by EMU in continuing to doso in the future unless integration andthe common currency would under-mine the national governments� abilityto tax decisively. This danger is, how-ever, not big because of the low cross-national mobility of labor, due to lan-guage and other cultural differencesmuch more important in the EU thanin the U.S. or Canada. This is oneinstance when cross-national hetero-geneity is not an argument in favorof EU-wide fiscal centralization. Het-erogeneity among the member coun-tries along cultural lines has a stabilizingeffect on the tax bases of national gov-ernments, which allows them to bor-row since they will be expected to beable to collect the taxes necessary toservice their debts.

There is another reason why thelong-run endogeneity of regional spe-cialization may not result in EMU be-coming a less optimal currency area expost: Historically measured low de-grees of inter-regional labor mobilityin European national economies reflectthe adjustment to a high level of diver-


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sification of regions in terms of indus-trial composition. Under such circum-stances workers can afford to searchwithin their regionwhensome industryis hit by an adverse idiosyncratic shock.But it makes no sense to view the sec-toral composition of regions as endog-enous while assuming that cross-re-gional labor mobility stays exogenouslyfixed. If, in the long run, regional spe-cialization in a monetary union shouldincrease according to Krugman�s hy-pothesis then we can expect labormobility to increase too. In general,the pessimistic outlook of the earlyOCA literature on the prospects ofEMU seems to suffer from a back-ward-looking bias (see, e.g., Mongelli,2002).

In a currency union the burden ofadjustment to shocks which hit nationsor regions asymmetrically falls fully onfiscal policy. For the sub-regions of anation which has become a memberof EMU this is not a completely newexperience. It had been a member ofa currency union before. The plightof the sub-region is affected only inso far by her nation joining EMU asthe asymmetry across nations is therebyincreased — if only the within-nationasymmetry becamemore pronounced,theabilityof thenationalgovernment tosupport the region would in no way beimpeded. Higher cross-regional asym-metries without concomitant higherwithin-nation correlation of regionalshocks cannot be used as an argumentfor EU-wide transnational transfers.For themember nations of EMUgivingup their independent currenciesmeans, of course, the sacrifice of theflexibility of nominal exchange rateswith its stabilizing functionwithrespectto transitory or cyclical demand or sup-ply shocks having nation-specific asym-metric effects. Stabilization has now torely fully on counter-cyclical fiscal

policy. Whether this is really such aloss for stabilization policy is debat-able, however, since fiscal stabilizationunder fixed nominal exchange ratesand high capital mobility (as in a mon-etary union) becomes more effectivebecause of automatic monetaryaccommodation (no or little crowd-ing-out for small countries). Besides,the distortionary allocational conse-quences of real exchange rate fluctua-tions, in particular of overshooting re-sponses to monetary and real shocks,

and the uncertainty generated therebyare welfare losses avoided by membersofacurrencyunion.Moreover, the like-lihood of nation-specific asymmetricdemand shocks and strongly asyn-chronic business cycles, to a consider-able extent owed to uncoordinatedmonetary policy actions, will be re-duced in a monetary union.

Exchange rate flexibility does notonly have a stabilizing function with re-spect to temporary asymmetric shocksfor which counter-cyclical borrowingwould be a substitute. Flexible ex-change rate also performs an adjust-ment function with respect to perma-nent asymmetric shocks to technolo-gies, preferences, resource endow-ments, tax systems, etc., affectingthe equilibrium terms of trade whennominal prices and wages are rigid.Members of a currency union have re-nounced this adjustment mechanism,whichafter allworksonly in theabsenceof real wage and price rigidities, and,consequently, have to rely either on


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flexibility of nominal prices and wagestobringabout thenecessaryadjustmentin real exchange rates compatible withfull employment, oron sufficientlyhighlabor mobility. It is remarkable thatdespite the relatively low interregionallabor mobility for subnational Euro-pean regions, regional exchange rateflexibility is not greater than in cur-rencyunionswith higher labormobilitylike theU.S. (Obstfeld andPeri, 1998).This is certainly related to the exis-tence of extensive systems of fiscal fed-

eralism in themember statesof the EU whichin addition tosome stabilizingfunction (withrespect to tem-porary asym-metric shocks)

provide interregional redistributionthat might be interpreted as a formof insurance against adverse permanentshocks (Fata«s, 1998). While real ex-change rate flexibility and factor mobi-lity solve the problem of adjustment topersistent real shocks, fiscal transferstend to hide the adjustment problem.Even if transfers are originally intendedto be temporary aids to cope with theinevitable adjustment, they slow downthe adjustment process and make addi-tional transfers necessary.

Progressively developing regions(or national economies) with improv-ing terms of trade will have higher in-flation rates than less dynamic regionsof EMU. Ireland is the prime example.Such a �divergence� of inflation rates isnothing to worry about, it reflects theadjustments of real exchange rates inthe absence of adjustable nominal onesand poses no threat to an anti-inflation-arystanceof theECBas longas the latterpursues an aggregate monetary target.In this respect, the admonition of the

Irish government by the EU-commis-sion (in spite of a significant Irish budg-etary surplus!) was completely mis-placed. Likewise, the observation of di-verging current account balancesshould benocause for alarmunless theyare driven by government borrowing(or, as in the case ofEastGermany, hugecross-regional transfers) accommodat-ing excessive consumption. It is infact one of the virtues of EMU thatit allows less developed regions tofinance investment ratios well abovetheir savings.

EMU per se does not make a con-vincing case for EU-wide interregionalinsurance. The loss of independentnational monetary and exchange ratepolicies it entails affects mainly thespeed of adjustment to shocks, and thusincreases the volatility of temporarydisturbances. This gives a greater roleto national and regional borrowingwhich is facilitated by the integrationof financial markets fostered byEMU. Neither does the implicitEMU-wide redistribution via the cen-tral provision of public goods receivemuch support from cross-regional het-erogeneity:While thecentral provisionof some public good internalizes cross-regional externalities, this has to beweighed against the cost due to impos-ing the samequantity of the public goodon regions with heterogeneous de-mands for it (Alesina and Wacziarg,1999). Some externalities that areinvoked to justify steps toward anEU-wide harmonized social policy(e.g. the imposition of higherminimumwelfare standards on the poorer mem-ber states to reduce the incentives for�welfare shopping� by migrants) arepolicy-induced andcouldbe eliminatedsimply by changing the rules in favor ofdelayed integration of migrants intothe national welfare systems (see thecontributions of Tito Boeri and


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Hans-Werner Sinn published in thisvolume).

The pressure for installing an ETUis, however, increased by an excessiveinterpretation of the so-called Stabilityand Growth Pact which promotes nei-ther stability nor growth. On the con-trary, it tends to hamper the stabilizingfunction of national and regional bor-rowing to cope with temporary asym-metrical shocks, and it stifles growth bydiverting political energies from deal-ing with the true problems, in partic-ular the reform of labor markets and ofpension systems, Moreover, by castingdoubt on the validity of the bail-outclause of theMaastricht Treaty and sug-gesting that the stabilityof theEuropeancurrencydependonapoliticallymanip-ulable agreement on national fiscal def-icits, the Pact undermines the credibil-ityof theECB.As in the unfounded casefor harmonization of social policies theexternality which allegedly requiresmore centralization (here of fiscal pol-icy to avoid negative effects of too bignational debts on the viability of theEuropean financial systemwhichwouldeventually force the ECB to monetizethe debts) is policy-induced and couldbe eliminated by changing the relevantrules, e.g. by putting higher equity cap-ital requirements on banks in propor-tion to the share of risky public debt intheir portfolios (see, e.g., Eichengreenand Wyplosz, 1998; Canzoneri andDiba, 1999).

4 Conclusion

Unsustainable regional divergence iscertainly not a pressing problem forEMU that would have to be solvedby ETU and a central European Eco-nomic Government. There is rathertoomuch convergence in EMU towardthe wrong institutional arrangementsfor labor markets, fiscal and social pol-icy, and toomuch interferencebyEuro-

pean bodies in matters that are moreefficientlydealtwithbynationalor localgovernments.WhatEMUneedsareun-equivocal rules which guarantee thefunctioning throughout Europe of freemarkets for goods and services, laborand capital. These rules have to be cen-trally set and enforced. Good progresshas been made; the introduction of acommon currency was the single mostimportant step so far. It will have to befollowed up by policies to strengthenthe Single Market program, in partic-ularwith respect to factor markets, andto create a coherent framework withinwhich the heterogeneity indispensablefor a market economy will not beviewed as a threat but as a productiveforce. §

References

Alesina, A., and R. Wacziarg (1999).Is Europe Going too Far? In: Carnegie-Rochester Conference Series on PublicPolicy 51: 1—42.

Boldrin, M., and F. Canova (2001).Inequality and Convergence in Europe�sRegions: Reconsidering European RegionalPolicies. In: Economic Policy 32: 205—253.

Bruno,M.,andJ.Sachs(1985).Economiesof Worldwide Stagflation. Basil Blackwell,Oxford.

Calmfors, L., and J. Driffill (1988).Bargaining Structure, Corporatism andMacroeconomic Performance. In: Eco-nomic Policy 6: 13—61.

Canzoneri, M. B., and B. T.Diba (1999).The Stability and Growth Pact: A DelicateBalance or an Albatross? In: Empirica 26:241—258.

Eichengreen, B., and C. Wyplosz(1998). The Stability Pact: More Than aMinor Nuisance? In: Economic Policy 26:65—113.

Delors, J. (1989). Report on EconomicandMonetaryUnion in the EuropeanCom-munity. Report to European Council bya Committee chaired by J. Delors,


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Brussels, Commission of the EuropeanCommunity.

Fagerberg, J., and B. Verspagen (1996).Heading for Divergence? Regional Growthin EuropeReconsidered. In: Journal ofCom-mon Market Studies 34: 431—448.

Fata«s, A. (1998). Does EMU Need a FiscalFederation? In: Economic Policy 26:163—203.

Frankel, J., and A. Rose (1997). Is EMUMore Justifiable Ex Post than Ex Ante?In: European Economic Review 41:753—760.

Krugman, P. (1991). Increasing Returns andEconomic Geography. In: Journal of PoliticalEconomy 99: 483—499.

Krugman, P. (1993). Lessons of Massachu-setts for EMU. In: Torres, F., and F. Giavazzi(eds.). Adjustment and Growth in theEuropean Monetary Union. CambridgeUniversity Press.

Magrini, S. (1999).The Evolution of IncomeDisparities among the Regions of the

European Union. In: Regional Science andUrban Economics 29: 257—281.

Mihov, I. (2001).MonetaryPolicy Implemen-tation and Transmission in the EuropeanMonetary Union. In: Economic Policy 33:372—406.

Mongelli, F.P. (2002). New Views onthe Optimum Currency Area Theory:What is EMU Telling Us?, ECB WorkingPaper No. 138.

Neven, D. J., and C. Gouyette (1995).Regional Convergence in the EuropeanCommunity. In: Journal of CommonMarketStudies 33: 47—65.

Obstfeld,M., andG.Peri (1998).RegionalNon-Adjustment and Fiscal Policy. In: Eco-nomic Policy 26: 205—259.

OECD (1999). EMU: Facts, Challenges, andPolicies. OECD, Paris.

Overman, H. G., and D. Puga (2002).Unemployment Clusters Across Europe�sRegions and Countries. In: EconomicPolicy 34: 115—147.


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Concluding Remarks

At the endof this fascinating conferencethat we leave after many fruitful ex-changes of views, it is difficult tosum up all that has been said. I wouldtherefore like to convey three ideas thatin my view characterize the main find-ings of this conference best:(i) There are inherent limitations to

how far we can push convergence,and we will have to learn to copewith these limitations.

(ii) There are different models tochoose from; in other words, letus not search for the one and only.

(iii) The useful principle of diversitypoints toward a continuing impor-tant role for national central banks.In general, I�m not that fascinated

by football. These days it is, of course,an issue that is bound to crop up in con-versations — especially when you talkwithmen. Imust say, though, that thereis one thing, linked to football, that hasstuck with me, namely how the famousformer Argentine football trainer Car-losMenotti once described football as adialectical mixture between planningand adventure. Well, wouldn�t thisbe a nice metaphor for the processof Economic and Monetary Union(EMU), too? Remember how mostof us had a fairly straightforward ideaof the convergence process, how weanticipated it to run smoothly? Butas such processes go, things developedslightly different.


Vice Governor,


1 Divergence Will Remainan Economic PolicyChallenge in EMU

From an economic standpoint whatmatters is the degree of price conver-gence across euro area markets. Theresults have been disappointing to acertain extent. In a number of furtherpolicy areas, the divergence of the euroarea countries has not been reversed;indeed, it may even have worsened.Well, we knew right from the begin-ning that the euro area did not fulfill

all the criteria of an Optimum Cur-rency Area (OCA), but many certainlyexpected the euro to work as a kind ofcatalyst for change in this direction.

What shall policy do to cope withdivergence? An area that, in my judg-ment, has not gained the attention ofeconomic policy it deserves is the issueof labor mobility. Relaxing restrictionson the international mobility of work-ers — and I donot justmean themobilitywithin the EU— stands to generate higheconomic benefits. Just look at theprice wedges that have remained de-spite the liberalization of financialand goods markets. But in comparisonwith the sharpwagedifferences theyarerather low.1) Up to now there has beenalmost no liberalization of markets for

cross-border labor services. Thus, thepotential of substantial welfare gains isthere. On the other hand, immigrationis highly unpopular in the EuropeanUnion. This points to the political as-pect that all economic questions, evenso-called technical issues, involve.Economists too often just follow polit-ical realities when they should be chal-lenging them through their intellectualefforts. That politically taboo issuesneed not put an end to economic inqui-ries, was shown by D. Rodrik fromHarvard, who recently proposed alabor contract scheme that should ben-efit not only the industrialized coun-tries but also the developing coun-tries.2) But also Tito Boeri at this con-ference argued strongly in favor to en-hance the mobility of the Europeanworkforce by increasing the portabilityof social security rights and actually en-forcing the equal treatment principle.

2 Institutional DiversitiesCan Play a ValuableEconomic and Social Role

AdamSmithoncecomplained thatbusi-nessmen seldom get together withouttheir conversation turning into a con-spiracy against the public.Well, centralbankers seldommeetwithout envision-ing a best-practice model based on thevalues of their institutions.

However, institutions and societiesdiffer in thevalues andnorms that shapetheir selections. To recognize that thereis no unique rule-setting, that there isno institutional best practice solutionto be found, will improve our policydebates.3)

1 Hourly wages (before tax, including special bonuses) in the manufacturing sector, euro area average: EUR 14.9, lowestwage: EUR 4.9 (Portugal), highest wage: EUR 21.5 (Germany); ratio Germany/Portugal: 4.4/1; Source: Eurostat,Labour Cost Index 1999, published in March 2001.

2 A forced saving scheme with a mechanism ensuring a high return ratio of immigrants.3 This argument reflects the conclusions of the booming �varieties of capitalism literature;� a strand of literature highlighting

the importance of strategic interaction among institutions.


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Integration in the EU will remainnecessarily limited by the scope ofinstitutional diversity at the nationaland regional level. Thus, I would arguethat the decisive policy question is theadequate degree of an effective macro-economic policy coordination betweendiverse institutions in EMU. As pro-found integration in the EU will re-main a vision for a long time we ratherhave to look whether existing institu-tions conflict or complement eachother. Sinikka Salo from SuomenPankki launched anappeal to strength-ening the Struc-tural and CohesionFunds. The messageChristian de Bois-sieu gave us wasthat enlarged super-vision cooperationis going to be the best solution inthe short- and medium run. The closenexus between the central bank aims ofmonetary and financial stability hasbeen mentioned several times andpoints also toward the need of strength-ening cooperation between centralbanks and supervisory authorities.And Arnout Wellink stressed the im-portant role the De NederlandscheBank has to play in the Social and Eco-nomic Council.1) The more generalidea underlying all these efforts towardbroad and deep cooperation was for-mulated by Joseph Stiglitz during hisrecent visit in Vienna.We know that eco-nomic policy making is very complicated,thus, it ought to bring together all the af-fected parties.

Furthermore, we discussed exten-sively the question of systems compe-tition (Sinn)betweentheU.S. approachand the European approach. Normallywe mean financial systems that havetended to move toward an Anglo-American model. Labor institutionsremain rather divergent. And recentresearch by Marco Brecht and ColinMayer (2001) confirms that Germanyis still far from having converged onthe British or American type ofownership structure. It seems that

the Rhineland model is still aliveand well.2)

As you will recall, Hans-WernerSinn suggested in a convincing way thatthere is a likely erosion of the Europeanwelfare state, inducing a race to thebot-tom leading finally to an erosion ofnational regulatory systems. To stateit in his terms, the selection principle3)may lead to the more likely outcomeof a failure rather than a smooth func-tioning of systems competition.

For quite a long time there was akind of unquestioned consensus thatEurope was lagging behind and thatit had to learn from the experienceof the U.S. However, this convergencetoward the American model was notseen as unavoidable by all our partici-

1 The Social and Economic Council (SER) in the Netherlands is made up of members nominated by employers and unions,along with independent members appointed by the crown and provides advice to the government across various social andeconomic issues.

2 In more than half of the listed non-financial companies a single block holder controls more than 50% of the voting rightswhile the median block holder controls only 20% of the voting rights in France, 10% in the U.K., and 5% in the U.S.

3 The selectionprinciplemaintains that states take over those economic activities that theprivatemarket is unable to carryout.


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pants. The U.S. and the EU have differ-ent brands of capitalism and in the late1990s the U.S. outperformed the EUon a number of key indicators of eco-nomic success but — and we shouldstress that fact too — generated muchgreater economic inequality. Thus,some believe that the egalitarian EUcan compete with the market-drivenU.S.1)Tito Boeri titled one of his recentpapers �Let Social Policies of USA andEurope Compete: Europe Will Win�.2)Thus, this is anunsolvedpolicyquestion

where the resultslargely dependon your norma-tive evaluationcriteria. My per-sonal answer tothe questionwhether thereis an alternative

model to theAmericanapproachwouldbe a resounding �yes.� The Europeanwelfare statewith its longandsuccessfultradition provides a rich variety ofpolicy designs and this may becomean important resource for Europe inthe transatlantic race.

3 Diversity Underlines theImportant Role ofNational Central Banks

Arnout Wellink took in his extremelyinteresting speech the long-run per-spective and concluded that only sometasks of central banks are likely to becentralized, but that fundamentalchanges in the role of national centralbanks of the Eurosystem will be linkedto further political integration withinEurope. I agree completely with hisconcluding point that institutions tendto be related to feelings of identity.

Thus, as long as Europe remains acommunity of nation states nationalcentral banks will have to play an im-portant part.

Furthermore, we should envisageimportant tasks for national centralbanks directly related to Europeanmonetary policy. As I think that onlyin academic theory monetary policycan be regarded as optimal rule-follow-ing behavior; in practice, I would say,it is rather characterized by a kind ofconstructive ambiguity. A crucial aim ofa central bank has to be to reduceuncertainty, which is why an extensivecommunication with the public andmarkets is so important. In this contextnational central banks in the Euro-systemhave to fulfill a key role. In orderto avoid misperceptions of the policystance, they have to communicate totheir national audiences in a consistentway the rationale of the policy followedby the Eurosystem. Even under the as-sumption that financial global playersmay need national central banks lessin the future, for a long time to comeour role will be to communicate anddiscuss with national politics, nationalwage bargaining institutions and na-tional publics.

Concluding Remarks

The EU will need to demonstrate thatits institutions are prepared to deliverthe policies that people want. Individ-uals look for an EU which delivers realbenefits to them.

The Convention on the Future ofEurope provides an important oppor-tunity to reverse public disenchant-ment with the EU. The Convention�saim must be an EU which is preparedfor the institutional challenges of an

1 Title of a paper by Richard B. Freeman (2002).2 Tito Boeri states that EU supra-national authorities should resist the temptation to impose a particular socialmodel over the

others and rely instead on the mobility of the European workforce as a driving force of political integration.


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enlarged EU, and is better understoodby our citizens. We need to deepen thebond between the EU and its citizensbased on a common attachment to aset of values and effective policies thatdeliver.

At the end let me mention one fur-ther point: an enlarged EU should alsobe a buttress against extremism. Thecriteria for EU membership have beenclearly defined, not just in terms ofeconomics but above all in terms ofvalues, including support for the ruleof law, human rights and respect forminorities. §

References

Boeri, T. (2002). Let Social Policy ModelsCompete and Europe Will Win. Harvardconference, draft.

Brecht,M., andC.Mayer (2001).Corpo-rate Control in Europe. In: Siebert, H. (ed.).The World�s New Financial Landscape,Challenges for Economic Policy.

Cohen, E«., J. Pisani-Ferry (2002).Economic Policy in the US and the EU:Convergence or Divergence? HarvardUniversity.

Freeman, R. B. (2002). Can the EgalitarianEU Compete with the Market-Driven US?Mimeo.

Iversen, T. (2001). The End of Solidarity?Decentralization, Monetarism and theSocial-Democratic Welfare State in the1980s and 90s. Harvard University.

Rodrik, D. (2002). Feasible Globalizations.Harvard University. Mimeo.

Stiglitz, J. (2002). Changing Paradigms inInternational Economic Policy. Lecture atthe Netzwerk Innovation. Wirtschafts-konvent in Vienna.


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Franz-Weninger-Stipendien

Franz Weninger Award

U‹ berreichung derFranz-Weninger-Stipendiender OesterreichischenNationalbankFrau Vize-Gouverneur Dr. Tumpel-Gugerell u‹berreichte am 13. Juni 2002im Rahmen der 30. Volkswirtschaft-lichen Tagung der OesterreichischenNationalbank die Franz-Weninger-Stipendien an drei Preistra‹ger. DasFranz Weninger Stipendium wirdvon der OeNB jedes Jahr fu‹r hervor-ragende Dissertationen und Diplom-arbeiten auf dem Gebiet der Geld-theorie und Geldpolitik vergebenund erinnert an den vor sechs Jahrento‹dlich verunglu‹ckten Leiter derVolkswirtschaftlichen Abteilung derOesterreichischen Nationalbank. DieStipendien werden vom Direktoriumder Oesterreichischen Nationalbank

auf Vorschlag einer Fachjury ver-geben.

Diesmal wurden die Franz-Weninger-Stipendien den im Folgen-den genannten Personen fu‹r Arbeitenmit dem jeweils angefu‹hrten Titelzuerkannt:— Mag. Gertrude Preslmair fu‹r

die Disseration ªDer Transforma-tionsprozess des tschechischenBankensektors�,

— Mag. Stefan Povaly fu‹r dieDiplomarbeit ªRelationship be-tween Stock andCurrencyMarketsin Emerging Regions with Particu-lar Relevance for Poland� und

— Clemens Jobst fu‹r die Diplom-arbeit ªHow to Join the GoldClub: The Credibility of Austria-Hungary�s Commitment to theGold Standard 1892—1913� §

Franz-Weninger-Stipendien

Franz Weninger Award

293�

Die Vortragenden

Speakers

Urs W. BirchlerDate of birth

August 25, 1950Present Positions

— Director, head of Systemic StabilityResearch and Policy at Swiss NationalBank, Zurich

— Member of Basel Committee on Bank-ing Supervision

— Chairman of Basel Committee Re-search Task Force

Professional Experience

— Creation and heading of a BankingResearch Unit at Swiss NationalBank

— Member of Basel Committee and ofseveral other BIS working parties

— Member of OECD Expert Group onBanking

— Member of several Federal expertgroups (Bank Insolvency Law, Finan-cial Market Regulation, CantonalBanks, Mortgage Financing)

Research Interests

— Financial institutions and regulation(banking, insurance, pension funds)

— Financial contracts; law and econo-mics

— Endogenous information (incl. appli-cations)

— General microeconomicsEducation

— Habilitation Universita‹t Bern (veniadocendi: Volkswirtschaftslehre) in2001

— Visiting scholar, Research Depart-ment, Federal Reserve Bank of Rich-mond from September to December1995

— Dr. oec. publ., Universita‹t Zu‹rich in1980

Other Activities

— Teaching of graduate courses at severaluniversities: St. Gallen, Zurich, Bern,Leipzig on a wide range of topics(financial institutions, financing tech-niques, financial law and regulation,applied information economics)

Selected Publications

— DoDepositorsDiscipline Swiss Banks?(With Andre«a Maechler), forth-coming in: Research in FinancialServices, 14, 2002

— Bankruptcy Priority for Bank Depos-its: A Contract Theoretic Interpreta-tion. In: Review of Financial Studies(13), 2000: 813—839

— Aktiona‹rsstruktur undUnternehmens-politik — Bedeutung fu‹r die Sicherheitdes Bankensystems. In: Geld, Wa‹h-rung, Konjunktur (QuartalsheftSNB), 1995 (3): 265—277

— Finanzderivate — volkswirtschaftlicheBedeutung und Auswirkungen aufdas Finanzsystem. (WithW. Hermannand B. Rime), in: Geld, Wa‹hrung,Konjunktur (Quartalsheft SNB),No. 4, 1994: 336—348 (French:349—362)

Tito Boeri

Date of Birth


— Professor of economics at BocconiUniversity, Milan

— Directorof theDegree in InternationalEconomics and Management (DIEM)and of the Fondazione Rodolfo Debe-nedetti


— Senior economist at the Organisationfor Economic Co-operation andDevelopment (OECD) from 1987to 1996

— Consultant to the International Mon-etary Fund, the ILO, the World Bank,the Italian Prime Minister office, andMinistries of Economy and Welfare

Research Interests

— Labor economics— Social policy— Economics of transitionEducation

— Degree in economics at Bocconi Uni-versity

Die Vortragenden

Speakers

295�

— Ph.D. in economics at New York Uni-versity

Other Activities

— Director of the Fondazione RodolfoDebenedetti

— Associate professor of economics andresearch fellow of the Innocenzo Gas-parini Institute of Economic Research

— Research fellow of CEPR and of theWilliam Davidson Institute, Univer-sity of Michigan Business School


— Structural Change, Welfare Systemsand LabourReallocation.OxfordUni-versity Press, 2000

— Welfare and Employment in a UnitedEurope. (With G. Bertola andG. Nicoletti), MIT Press, 2000

— TheRoleofUnions in the21stCentury.(With A. Brugiavini and L. Calmfors),Oxford University Press, 2001

— Institutional Determinants of Reallo-cation inTransition. (WithK.Terrell),in: Journal of Economic Perspectives,2002

— Pension Reforms and the Opinions ofEuropean Citizens. (With A. Boersch-Supan, andG. Tabellini), in: AmericanEconomic Review, 2002

Peter Bofinger

Date of Birth

September 18, 1954Present Position

— Professor at the Economics, Monetaryand International Relations Depart-ment, University of Wu‹rzburg, since1992


— Member of the Scientific Staff at theGermanCouncil of Economic Expertsfrom 1978 to 1981

— Teaching member at the SaarlandUniversity (Chair: ProfessorWolfgangStu‹tzel) before 1985

— Worked in the Economics Divisionat the Land Central Bank Baden-Wu‹rttemberg from 1985 to 1990

— Visiting professor at the Universitiesof Kaiserslautern, Konstanz andWu‹rzburg from 1990 to 1992

Research Interests

— Monetary theory and policy— European integration— Economic transformationEducation

— Studied economics at the SaarlandUniversity from 1973 to 1978

— Ph.D. (rer.pol.) in 1984— University teaching qualification at

the School of Law and Economics,Saarland University

Other Activities

— Research Fellowof theCentre for Eco-nomic Policy Research, London

— Editorial Board:— Economics of Transition— Economics of Planning— International Journal of Finance &

EconomicsSelected Publications

— Monetary Policy: Goals, Institutions,Strategies, and Instruments. OxfordUniversity Press, 2001

— Kazakstan 1993—2000: IndependentAdvisors and the IMF. (With L. Hoff-mann,H.Flassbeck,andA.Steinherr).Springer 2001; also available in Rus-sian language

— Stabilita‹tskultur in Europa (with C.Hefeker and K. Pfleger), Stuttgart1998

— AFramework for Stabilizing the Euro/Yen/Dollar Triplet. In: North Amer-icanJournalofEconomics andFinance,Vol. 11, Dezember 1998: 137—151

— Geldpolitik: Ziele, Institutionen,Strategien und Instrumente. (WithJ. Reischle and A. Scha‹chter),Mu‹nchen 1997

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Christian de BoissieuDate of Birth

March 18, 1947Present Positions

— Professor at the University of Paris I(Panthe«on-Sorbonne)

— Professor at the College of Europe(Bruges)

— Consultant to the World Bank and tothe European Commission


— Post-doctoral fellow at NorthwesternUniversity and Harvard Universityfrom 1973 to 1974

— Visiting scholar at the University ofMinnesota in 1978

— Visiting scholar at the Board of Gov-ernors of the Federal Reserve System(Washington, D.C.) in 1982

Research Interests

— Monetary analysis— Economic policyEducation

— Ph.D. in economics from the Univer-sity of Paris in 1973

Other Activities

— Economic adviser to the Paris Cham-ber of Commerce and Industry

— Member of the Conseil National duCre«dit, Comite« des Etablissementsde Cre«dit et des Entreprises d�Inves-tissement (CECEI)

— Member of the Comite« de la Re«gle-mentation Bancaire et Financie«re

— Honorary president of the FrenchFinance Association

— Former member of the advisory boardof J. P. Morgan (France)

— Memberof the European ShadowReg-ulatory Committee

— Member of the Council of EconomicAnalysis created by the French govern-ment


— Banking in France. (Editor), Rout-ledge, London, 1990

— Lesmutationsde l�e«conomie franc�aise.(Editor), Economica, Paris, 1997

— Monnaie et Economie. Economica,Paris, 1998

— Les mutations de l�e«conomie mon-diale. (Editor), Economica, Paris,2000

— Les Entreprises Franc�aises 2001. (Ed-itor), Economica, Paris, 2001

— Les Entreprises Franc�aises 2002. (Ed-itor), Economica, Paris, 2002

Fritz Breuss

Date of Birth

September 6, 1944Present Positions

— Professor at the Research Institute forEuropean Affairs at the University ofEconomics and Business Administra-tion Vienna since 1993

— Jean Monnet professor for Economicsof European Integration at the Univer-sityof Economics andBusinessAdmin-istration Vienna since 1995

— Economist, Austrian Institute of Eco-nomic Research (WIFO), Vienna/Austria, since 1974


— Visiting scholar at the Department ofApplied Economics, University ofCambridge/England, from 1980 to1985

— Visiting scholar at the Department ofEconomics, University of California,Berkeley/USA, in 1985

— Lecturer at the University of Econom-ics andBusinessAdministrationVienna(International Economics) from 1981to 1985

— Associated professor (Dozent) at theUniversity of Economics and BusinessAdministration Vienna from 1985 to1993

Research Interests

— International economics— European integrationEducation

— Magister (UniversityofVienna) in1972— Doctoral degree (University of

Vienna) in 1974

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297�


— O‹ sterreichs Au§enwirtschaft 1945 bis1982. Vienna 1983

— Die Vollendung des EG-Binnen-marktes. Gesamtwirtschaftliche Aus-wirkungen fu‹r O‹ sterreich. Makro-o‹konomische Modellsimulationen.(With F. Schebeck), WIFO study,Vienna 1989

— TheWorldEconomyafter theUruguayRound. (Editor), Vienna 1995

— Reifegrad der mittel- und osteuropa‹i-schen EU-Beitrittswerber (Coordina-tion). WIFO Study, Vienna 1999

— Vom Schuman-Plan zum Vertrag vonAmsterdam: Entstehung und Zukunftder EU. (Edited with G. Fink and St.Griller), Springer Vienna—New York2000

Dirk Bruneel

Date of Birth

June 20, 1950Present Positions

— Member of the Executive Committee,Dexia Holding, since 2001

— Director of FSA since 2001Professional Experience

— ASLK-CGER Bank, Economics De-partment, from 1973 to 1993— Managing director as of 1992

— BACOB Bank s.c. from 1993 to 2001— Member of the Board of Manage-

ment and managing director as of1993

— Chairman of the ManagementBoard as of 1995

— Artesia Bank— Director as of 1997— Member and chairman of the

Management Board in 1998— Dexia Bank

— Member of theManagement Com-mittee in 2001

Research Interests

— Financial markets activities

Education

— Degree in General Economic Sciences(Gent University, Belgium) in 1972

— Master Company Financial Manage-ment (VLEKHO, Belgium) in 1982

Other Activities

— Director of EHSAL and Erste Bank— Treasurer of VlaamsOmroeporkest en

Kamerkoor

Paul De Grauwe

Date of Birth

July 18, 1946Present Positions

— Professor at the Catholic University ofLeuven, Belgium

— Senator and chairman of the Economicand Finance Committee at the BelgianParliament


— Economist International MonetaryFund from 1973 to 1974

— Associate professor at Catholic Uni-versity of Leuven, Belgium, from1974 to 1982

— Visiting professor Wharton School —University of Pennsylvania in 1983

— Professor College of Europe, Bruges,from 1984 to 1986

— Visiting scholar in the Bank of Japan in1987

— Senior research fellowat theCentre forEuropean Policy Studies, Brussels,from 1988 to 1991

— Belgian Parliament senator from 1991to 1995

— Belgian Parliament member of theHouse from 1995 to 1999

Research Interests

— International monetary economics,more specifically in issues relating tomonetary integration and exchangerate economics

Education

— Licentiaat-Doctorandus;CatholicUni-versity of Leuven,Department of Eco-nomics

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298 �

— Ph.D.; The Johns Hopkins University,Baltimore, Department of PoliticalEconomy

Other Activities

— Chairman of Task Force preparingBelgianprofit sharing legislation (2000)

— Chairman of Task Force preparingBelgian Corporate Governance legis-lation (2000)

— Member of Board of Editors of variousjournals


— Central Banking: Art or Science?Lessons from the Fed and the ECB.In: International Finance, 2002

— Do Asymmetries Matter for EuropeanMonetary Policy? (With Y. Aksoy, andH. Dewachter), in: European Eco-nomic Review 46(3), 2002: 443—469

— Exchange Rates in Search of Funda-mentals: The Case of the Euro-DollarRate. In: International Finance,Vol. 3,Issue 3, 2000: 329—356

— Monetary Policies in the Presence ofAsymmetries. In: Journal of CommonMarket Studies,Vol. 38, Issue 4, 2000:593—612

— The Impact of EMU on Trade Flows.(With F. Skudelny), in: Weltwirt-schaftliches Archiv, Review of WorldEconomics, Vol. 136, Issue 3, 2000:381—402


Date of Birth

July 9, 1935Present Position

— President of the European CentralBank since June 1, 1998


— Teaching assistant, University of Gro-ningen from 1961 to 1965

— Staff member of the InternationalMonetary Fund, Washington, D.C.from 1965 to 1969

— Adviser to the Governing Board ofDe Nederlandsche Bank from 1969to 1970

— Professorofmacroeconomics,Univer-sity of Amsterdam from 1970 to 1973

— Minister of Finance, the Netherlandsfrom 1973 to 1977

— Member of Parliament for the Partijvan de Arbeid (Socialist Party) from1977 to 1978

— Member and vice-chairman of the Ex-ecutive Board of Rabobank Nederlandfrom 1978 to 1981

— Executive director of De Nederland-sche Bank from 1981 to 1982

— President of De Nederlandsche Bankfrom 1982 to 1997

— President of the European MonetaryInstitute from 1997 to 1998

Education

— Degree ineconomics (cumlaude) fromthe University of Groningen

— Ph.D. at the University of Groningen;doctoral thesis: Economic consequen-ces of disarmament

Other Posts

— Chairmanof theBoardandpresidentoftheBank for InternationalSettlements,Basle from January 1988 to December1990, and from January 1994 to June1997

— Member of the Board of Patrons of theEuropean Association for BankingHistory, Frankfurt since 1990

— Member of the Board of Directors oftheBank for InternationalSettlements,Basle from January 1982 to June 1997

— Chairman of the Committee of theGovernors of the Central Banks ofthe Member States of the EEC fromJanuary to December 1993

— Member of the Council of the Euro-pean Monetary Institute from January1994 to June 1997

— Governor of the International Mone-tary Fund, Washington, D.C. fromJanuary 1982 to June 1997


Author of numerous publications and ar-ticles in the areas of economics and mon-etary policy

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Speakers

299�

Alexander ItalianerDate of Birth

March 16, 1956Present Position

— Director for InternationalAffairs at theEuropean Commission, Directorate-General for Economic and FinancialAffairs, since April 2002


— Research assistant at the Catholic Uni-versity of Leuven (BE) from 1980 to1985

— European Commission— Econometric Models division from

1985 to 1989— Unit �Economic aspects of integra-

tion and evaluation of external pol-icy� as of 1989

— Head of the unit �Economic aspectsof integration and evaluation of ex-ternal policy� in 1994

— Memberof theCabinetofPresidentJacques Santer of the EuropeanCommission from 1995 to 1999

— Head of Cabinet to CommissionerGu‹nter Verheugen, responsible forEnlargement, from 1999 until2002

Research Interests

— Economic and Monetary Union— Integration economics— International trade and macroeco-

nomic modellingEducation

— Graduated in econometrics at theUni-versity of Groningen (NL) in 1980

— Ph.D. in economics (cum laude) at theUniversity of Groningen in 1986

Other Activities

— Member of the advisory board (�Cen-trale Plancommissie�) of the DutchCentral Planning Bureau

— Member of the Editorial Board of itspublication CPB Report


— The Euro and Internal EconomicPolicy Coordination. In: Empirica,Vol. 26, No. 3, 1999: 201—216

— The External Implications of theSingle Currency. (With A. Be«nassyand J. Pisani-Ferry), in: Economieet Statistique, Special issue, 1994:9—22

— Regional Stabilisation Properties ofFiscal Arrangements: What Lessonsfor the Community? (With J. Pi-sani-Ferry), in: J. Mortensen (ed.).Improving Economic and Social Cohe-sion in the European Community.St. Martin�s Press, 1994: 155—194

— Whither the Gains from EuropeanEconomic Integration? In: RevueEconomique, Vol. 45, No 3, May1994: 689—702

— One Market, One Money. (With M.Emerson, D. Gros, J. Pisani-Ferryand H. Reichenbach), Oxford Uni-versity Press, 1992.

Olivier Lefebvre

— October 1, 1957Present Position

— ExecutiveVice-President andMemberof the Managing Board of EuronextN.V.


— Economist at theUniversityofLouvain(UCL) in 1981

— Economic research department ofGenerale Bank (now Fortis Bank)for two years

— Advisor and lateronchief of staff ofMr.Philippe Maystadt, the Belgian Minis-ter of Finance, from 1990 to 1995

— President of the Executive Committeeof the Brussels Stock Exchange andafter its merger with Belfox andCIK in 1999president of the ExecutiveCommittee of Brussels Exchanges s.a.

Education

— MBA (Cornell) 1984— Doctor in Economics (UCL) in 1990Other Activities

— Invited lecturer at several universities

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Speakers

300 �

Klaus LiebscherDate of Birth

July 12, 1939Present Positions

— Governor of the OesterreichischeNationalbank (OeNB) since Septem-ber 1998

— Member of both the Governing Coun-cil and the General Council of theEuropean Central Bank (ECB) sinceJune 1998

— Represents the OeNB at the Bank forInternational Settlements (BIS)Gover-nors� Meeting since June 1995

— Austria�s governor to the InternationalMonetary Fund (IMF) since June 1995


— Raiffeisen Zentralbank O‹ sterreich AGfrom 1968 to 1995

— Member of the Executive Board from1980 to 1995

— Chief executive officer and Chairmanof the Board from 1988 to 1995

— President of the Vienna Stock Ex-change Council from 1990 to 1995

— Member of the supervisory boards ofseveral banks andother corporations inAustria and abroad from 1980 to 1995

— Member of the General Council of theOeNB from 1988 to 1998

— President of the OeNB from 1995 to1998

Education

— Law degree (Dr. iur.) from the Uni-versity of Vienna


Author of numerous publications andarticles in the areas of monetary policyand economics

David G. Mayes

Date of Birth

May 30, 1946Present Positions

— Advisor to the Board at the Bank ofFinland since 1997

— Professor of economics at South BankUniversity in London since 1997


— Chief economist and chief manager atthe Reserve Bank of New Zealand

— Group head at the National EconomicDevelopment Office in London

— Director (CEO) of the New ZealandInstitute of Economic Research inWellington

— Senior research fellow at the NationalInstitute of Economic and Social Re-search in London

Research Interests

— Future development of monetary andfinancial integration in Europe

Education

— MA (Oxford)— Ph.D. (Bristol)Other Activities

— Editor of the Economic Journal since1976

— Adjunct professor in the NationalCentre for Research on Europe atthe University of Canterbury

— Member of the Maas Group on theintroduction of the single currency

— Co-ordinator of the ESRC and COSTA7 programs on �The Evolution ofRules for a Single European Market�from 1990 to 1994


Manifold publications in economics andrelated areas, including over 20 books— Improving Banking Supervision— Social Exclusion and European Policy— Achieving Monetary Union— Sources of Productivity Growth— Sharpbenders:TheSecrets ofUnleash-

ing Corporate Potential

Gareth D. Myles

Date of Birth

January 2, 1961Present Positions

— Professor of economics at the Uni-versity of Exeter since 1995

— Research fellow at the Institute forFiscal Studies since 1998

Die Vortragenden

Speakers

301�


— Lecturer in economics at the Univer-sity of Warwick from 1987 to 1992

— Senior lecturer in economics at theUniversity of Exeter from 1992 to1995

Research Interests

— Public economics— Microeconomic theoryEducation

— BA at the University of Warwick— MSc at the London School of Econom-

ics— D.phil. at the Nuffield College, Ox-

ford; Dissertation Supervisor: Profes-sor Sir James Mirrlees

Other Activities

— Managing editor, Fiscal Studies, since1998

— Production editor and editorial board,Review of Economic Studies, since1996

— Associateeditor, JournalofPublicEco-nomic Theory, since 1999


— IncomeDistribution, Taxation and thePrivate Provision of Public Goods.(With J.-I. Itaya, and D. de Meza),in: Journal of Public EconomicTheory, 4, 2002: 273—297

— Economic Mismeasurement and theBias in Policy Choice. In: Journal ofPublic Economic Theory, 3, 2001:139—166

— On the Membership of Decision-MakingCommittees. (With I.G.Bulk-ley, and B. R. Pearson), in: PublicChoice, 106, 2001: 1—22

— Imperfect Competition and the Opti-mal Combination of Ad Valorem andSpecificTaxation. In: InternationalTaxand Public Finance, 3, 1996: 29—44

— Public Economics. Cambridge Uni-versity Press, 1995

Heinrich NeisserDate of Birth


— Professor of political science, JeanMonnetChair, Leopold-FranzensUni-versity of Innsbruck

— Honorary professor, University ofVienna, Institute for Political Science


— Undersecretary of State, FederalChancellery, from 1969 to 1970

— Member of the Austrian Parliament(first chamber) since 1975

— Minister responsible of Federalism andof the Reform of the Public Adminis-tration from 1987 to 1989

— Floor-leader, Austrian People�s Party,Austrian Parliament (first chamber)from 1990 to 1994

— Second president of the AustrianParliament (first chamber) from1994 to 1999

— Memberof theConventionelaboratinga Charter of Fundamental Rights ofthe EU, 1999/2000

Research Interests

— The political system of the EuropeanUnion

— Comparative parliamentary systems— The role of bureaucracy— Political reform in the new democra-

cies in Eastern EuropeEducation

— Studied sociology and economics atthe University of Vienna

— Ph.D. (Law School) at the Universityof Vienna

Other Activities

— Chairman of the Kuratorium desInstituts fu‹r Ho‹here Studien (Institutefor Advanced Studies — IHS)

— President of the O‹ sterreichische For-schungsgemeinschaft (Austrian Re-search Association)

— President of the Politische Akademie

Die Vortragenden

Speakers

302 �


Author and editor of about 20 books andmore than 80 articles in different journalsand publications— Die EG als politisches System. Wien,

1993— DieEuropa‹ischeUnion.Anspruchund

Wirklichkeit. (WithB.Verschraegen),Wien, 2001

— The EU and Fundamental Rights. In:G. Bischof, A. Pelinka, and M.Gehler (eds.). Austria in the EU. Con-temporary Austrian Studies, Vol. 10,New Brunswick and London, 2002:12—21

— Auf der Suche nach Europa. In: H.Denz (ed.). Die europa‹ische Seele.Wien, 2002: 241—254

— The Role of National Parlaments inEuropean Integration. In: 32. Jahr-buch der Diplomatischen AkademieWien, 1996/97: 129—135

Reinhard Ortner

Date of Birth

January 6, 1949Present Position

— Member of the Managing Board ofErste Bank AG since 1984


— Erste o‹sterreichische Spar-Casse since1971— Various functions in accounting/

controlling from 1973 to 1977— Head of Accounting and Control

from 1977 to 1984Education

— Studies of social and economic sciencesat the University of Vienna (specializa-tion in monetary theory andmonetarypolicy)

— Masters degree in economicsOther Activities

— Chairman of the Supervisory Board of— Erste Bank Hungary, Budapest— Erste&Steierma‹rkische Bank d.d.,

Zagreb— Slovenska sporitel�na; Bratislava

— VPK,VereinigtePensionskasseAG,Vienna

— Member of the Supervisory Board of— Generali Holding AG,Vienna— Oesterreichische Kontrollbank AG,

Vienna— Ceska sporitelna, Praha

— Member of the Board of The AustriaFund, New York

Richard Portes

Date of Birth

December 10, 1941Present Positions

— Professor of economics at LondonBusiness School since 1995

— President of the Centre for EconomicPolicy Research (which he foundedin 1983)

— Directeur d�etudes at the Ecole desHautes Etudes en Sciences Socialesin Paris since 1978


— Assistant professor of economics andinternational affairs at Princeton Uni-versity from 1969 to 1972

— Professor of economics at the Uni-versity of London from 1972 to1994 (head of Birkbeck CollegeDepartment of Economics from1975 to 1977 and from 1980 to1983)

— Distinguished global visiting professorat the University of California, Berke-ley, in 1999/2000

Research Interests

— International macroeconomics— International finance— European integrationEducation

— BA, Yale University, 1962— MA(Oxon.), 1965— D.Phil., Oxford University, 1969— D.Sc. h.c., Universite« Libre de Brux-

elles; D.Phil. h.c., London GuildhallUniversity

Other Activities

— Fellow of the Econometric Society

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303�

— Secretary-general of the Royal Eco-nomic Society

— Senior editor and co-chairman of theBoard of Economic Policy

— Member of Commission Economiquede la Nation (France)

— Member of Group of Economic Advis-ers to the President of the EuropeanCommission


— TheEmergence of theEuro as an Inter-national Currency. (With H. Rey),In: Economic Policy 26, April1998: 305—343

— Information and Capital Flows. (WithH. Rey and Y. Oh), in: EuropeanEconomic Review 45, April 2001:783—796

— Defining Benchmark Status: AnAppli-cation Using Euro-Area Bonds. (WithP. Dunne and M. Moore), CEPR Dis-cussion Paper 3490, NBER WorkingPaper 9087, 2002

— Making Sense of Globalization:A Guide to the Economic Issues.(Co-author and editor), study com-missioned from the Centre for Eco-nomic Policy Research by the Groupof Policy Advisors to the Presidentof the European Commission, PolicyPaper No. 8, CEPR, July 2002

— The euro and the international finan-cial system. CEPR Discussion PaperNo. 2955, forthcoming in: M. Butiand A. Sapir (eds.). EMU: EarlyChallenges and Long-Run Perspec-tives

Sinikka Salo

Date of Birth


— Member of the Board, Bank of Finlandsince 2000


— Primary economist, Directorate Gen-eral Economics, European CentralBank from 1998 to 2000

— Head of Country Analysis, Monetary,Economics and Statistics Department,European Monetary Institute from1995 to 1998

— Head of Monitoring Division, Mone-tary Policy Department; senior econ-omist, FinancialMarketsDepartment,Bank of Finland from 1990 to 1995

— Associateprofessorofeconomics,Uni-versity of Helsinki; on secondmentfrom the Bank of Finland from 1992to 1993

— Senior research fellowatTheResearchInstitute of the Finnish Economy(ETLA) from 1974 to 1990

Research Interests

— Monetary policy, financial markets,housing markets and finance, house-hold saving/investment, labormarkets

Education

— Doctor of Political Sciences (econom-ics) at the University of Helsinki in1990

— Licentiate in Political Sciences (eco-nomics) at the University of Helsinkiin 1985

— Master of Political Sciences (statistics)at the University of Helsinki in 1974

— Bachelor of Sciences (mathematics) atthe University of Helsinki in 1970

Other Activities

— Member of the International RelationsCommittee of the Eurosystem 2000

— Memberof theEconomicandFinancialCommittee of the European Union2000

— President and member of the Board ofthe Finnish Economic Associationfrom 1993 to 1996


Author of monographs and articles ineconomic journals and books as well asin economic newspapers

Die Vortragenden

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304 �

Anthony M. SantomeroDate of Birth


— President of the Federal Reserve Bankof Philadelphia since 2000


— Various academic and managerialpositions at the University of Penn-sylvania�s Wharton School for thirtyyears

Research Interests

— Financial risk management and finan-cial structure

— Financial institutions and markets— Financial negotiationEducation

— AB in economics from Fordham Uni-versity in 1968

— Ph.D. in economics from Brown Uni-versity in 1971

— Honorary doctorate from the Stock-holm School of Economics in 1992

Other Activities

— Chairman of the Mayor�s Council ofEconomic Advisors for the City ofPhiladelphia

— Chairman of the Economic AdvisoryBoard of the Stockholm Institute forFinancial Research

— Member of:— Visiting Committee for the School

of Business at the University ofDelaware

— Advisory Boards of the WhartonFinancial Institutions Center

— Penn Institute for Economic Re-search

— Copenhagen Center for Law Eco-nomics and Financial Institutions

— Italian Bankers Association�s Euro-pean Banking Report

— Consultant for leading financial insti-tutions in the U.S. and abroad


More than 100 articles, books and mono-graphs on financial sector regulation andeconomic performance

— Financial Markets, Instruments, andInstitutions. (With D. Babbel)

— Challenges for Modern Central Bank-ing. (With S. Viotti, and A. Vredin)

Albrecht Schmidt

Date of Birth

March 13, 1938Present Position

— Spokesman for the Board of ManagingDirectors at Bayerische Hypo- undVereinsbank AG (before 1998: Bayeri-sche Vereinsbank AG), Munich, since1990


— Bayerische Vereinsbank AG,MortgageDepartment, from 1967 to 1973

— Member of the Board of ManagingDirectors atNu‹rnbergerHypotheken-bank AG from 1973 to 1979

— Member of the Board of ManagingDirectors at Bayerische Vereins-bank AG, Munich, from 1979 to 1990

Education

— Law studies in Tu‹bingen and Munich(1st and 2nd State Bar Exam, Munich)

— Doctorate in law from the Universityof Munich (Dr. jur.)

— Dr. oec. h.c. (University of Munich,2002)

Other Activities

— Major Supervisory Board Mandates— Bank Austria Creditanstalt Aktien-

gesellschaft, Vienna (Chairman)— Mu‹nchener Ru‹ckversicherungs-

Gesellschaft AG, Munich— Siemens Aktiengesellschaft— HVB Real Estat Bank AG (Chair-

man)— Selected Mandates

— Max-Planck-GesellschaftMu‹nchen(Member of Senate)

— Ludwig-Maximilians-Universita‹tMu‹nchen (Member of UniversityCouncil)


Various publications on financial and eco-nomic matters

Die Vortragenden

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305�

Wolfgang Schu‹ sselDate of Birth

June 7, 1945Present Position

— Federal Chancellor since February 4,2000


— Secretary of the Parliamentary Caucusof the Austrian Peoples Party (O‹ VP)from 1968 to 1975

— Secretary general of the Austrian Busi-ness Federation, one of the threebranches of theAustrianPeople�s Partyfrom 1975 to 1991

— Minister for Economic Affairs in theAustrian Federal Government (coali-tion government formed by the SocialDemocratic Party of Austria and theAustrian People�s Party) from 1989to 1995

— Minister for Foreign Affairs and Vice-Chancellorwith the fourth and the fifthFederal Government Cabinet formedby Chancellor Franz Vranitzky andwith the first Government Cabinetof Chancellor Viktor Klima) from1995 to 2000

Education

— LawStudies at theUniversityofVienna(Dr. jur.)

Other Activities

— Elected chairman of the AustrianPeople�s Party at the 30th Party Con-gress in 1995

— President Julius Raab FoundationSelected Publications

— Mehr Privat — weniger Staat. (WithJ. Hawlik), 1983

— Staat la§ nach. (With J. Hawlik), 1985— Ideen die geh�n. Mitarbeiterbeteili-

gung. 1985— Das rot-wei§-rote Weltkugelbuch.

(With A. Komarek), 1998— Im Namen der Zukunft. 1999

Gerhard Schwo‹ diauerDate of Birth

May 12, 1943Present Position

— Professor of economics at theOttovonGuericke University of Magdeburg,Germany, since 1993


— Post-graduate fellowship and assis-tantship at the Institute for AdvancedStudies in Vienna from 1966 to1970

— Research associate at New York Uni-versity (with Oskar Morgenstern)during 1971

— Managing editor of the then foundedInternational Journal of Game Theoryfrom 1971 to 1979

— Director of the Institute for AdvancedStudies in Vienna from 1973 to 1979

— Appointed to a Chair in Economics atthe University of Bielefeld, Germany,in 1979

— Member of the Graduate Center inMathematical Economics

— Several visiting professorships at NewYork University and the University ofSiena, Italy

Research Interests

— Game theory— General equilibrium theory— Strategic interaction of monetary and

fiscal policy, population economics— Transition economicsEducation

— Graduated from the Vienna BusinessSchool in 1965

— Doctor�s degree ineconomics fromtheUniversity of Vienna in 1970

Other Activities

— Scientific coordinator of the newly es-tablished German-Russian Center ofEconomics in Moscow


— U‹ ber die zeitliche Nutzung der Natur.(With B. Frey), in: Schmollers Jahr-buch 91, 1971

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306 �

— Competition andCollusion inBilateralMarkets. (With O. Morgenstern), in:Zeitschrift fu‹r Nationalo‹konomie 36,1976

— Economics and the Theory of Games:ASurvey. (WithA.Schotter), in: Jour-nal of Economic Literature 18, 1980

— The Impact of Taxation on theDistribution of Wealth in an Economywith Changing Population. (With A.Wenig), in: Journal of PopulationEconomics 3, 1990

— Restructuring Ukrainean EnterprisesAfter Privatization: Does OwnershipMatter? (With I. Akimova), in: Atlan-tic Economic Journal 28, 2000

Hans-Werner Sinn

Date of Birth


— President of Ifo Institute for EconomicResearch since 1999

— CEO of CESifo Inc. since 1999— Professor of Economics and Public

Finance, University of Munich since1984

— Director of CES — Center for Eco-nomic Studies, University of Munichsince 1991


— Associate/Full Professor, Departmentof Economics, University of WesternOntario, Canada from 1978 to 1979,and from 1984 to 1985

— Associate Professor (C2), Universityof Mannheim in 1983

— Lecturer/Senior Lecturer, Depart-ment of Economics and Statistics, Uni-versity of Mannheim from 1974 to1983

— Lecturer, Institute of Public Econom-ics, University of Mu‹nster from 1972to 1974

Research Interests

— Fiscal policies— Taxation and resource allocation— Systems Competition

Education

— Habilitation and venia legendi in eco-nomics at the University of Mannheimin 1983

— Dr.rer.pol. at the University of Mann-heim in 1978

— Diplom Volkswirt at the University ofMu‹nster in 1972

Other Activities

— Supervisory Board, HVB Group sinceJanuary 2000

— Vice president of the InternationalInstitute of Public Finance since 2000

— Chairman of the Verein fu‹r Social-politik (German Economic Associa-tion) from 1997 to 2000

— Scientific Advisory Council of theInstitute for Advanced Studies, Viennasince 2002

— European Economic Advisory Groupat CESifo since 2001

— Northrhine-Westfalian Academy ofSciences since 2001


13 books with 22 editions in 6 languages(without edited books) andmore than 180published articles. More than 60 articleshave appeared in refereed scientific jour-nals— The New Systems Competition. Yrjo‹

Jahnsson Lectures, Basil Blackwell,Oxford, forthcoming 2002

— Jumpstart. The Economic Unificationof Germany. (With G. Sinn), MITPress: Cambridge, Mass. etc. 1992.(Second English edition 1993; Ger-man editions: Kaltstart, Mohr, Tu‹bin-gen 1991, 1992, and DTV, Munich,1993; Korean, French and Russian ed-itions 1994)

— Capital IncomeTaxation andResourceAllocation. North Holland, Amster-dam etc. 1987. (German edition: Ka-pitaleinkommensbesteuerung, Mohr,Tu‹bingen 1985)

— Economic Decisions under Uncer-tainty. North Holland, Amsterdametc. 1983. (German edition: O‹ kono-

Die Vortragenden

Speakers

307�

mische Entscheidungen bei Ungewi§-heit, Mohr, Tu‹bingen 1980, secondEnglish edition: Physica, Heidelberg1989)

Jean-Claude Trichet

Date of Birth

December 20, 1942Present Positions

— Governor of the Banque de Francesince 1993

— Member of the Governing Council ofthe European Central Bank

— Alternate governor for the Inter-national Monetary Fund

— Member of the Board of the Bank forInternational Settlements


— Various posts at theMinistryof Financein the General Inspectorate of Financeand later in the Treasury Department

— Secretary General of the Interministe-rial Committee for Improving Indus-trial Structures in 1976

— Adviser to the cabinet of the Ministerfor Economic Affairs (Rene« Monory)in 1978

— Adviser to the President of the Repub-lic (Valery-Giscard d�Estaing) in 1978

— Deputy head of Bilateral Affairs at theTreasuryDepartment from1981to1984

— Head of International Affairs at theTreasury Department

— Chairman of the Paris Club (sovereigndebt rescheduling) from 1985 to 1993

— Head of the Treasury Department in1987

— Censor of the General Council of theBanquedeFrance anddeputy governorof the IMF and the World Bank

— Chairman of the European MonetaryCommittee from 1992 to 1993

— Member of the board of the EuropeanMonetary Institute from 1994 to 1998

Education

— Inge«nieur Civil des Mines— Master�s in economics at the Institut

d�E«tudes Politiques de Paris

— E«cole Nationale d�Administration in1969

Other Activities

— Chairman of the Monetary PolicyCouncil of the Banque de France since1994

— Member of the Governing Council ofthe European Central Bank since 1998


Author of numerous publications and ar-ticles in the areas of monetary policy andeconomics


Date of Birth

November 11, 1952Present Positions

— Vice governor of the OesterreichischeNationalbank since September 1998

— Chief executive director of the Eco-nomics and Financial Markets Depart-ment since 1997


— EconomicsDepartment of theOester-reichische Nationalbank from 1975 to1980

— Financial Analysis and Policy TrainingProgram of the International Mone-tary Fund in 1980

— Economic policy advisor to the Min-ister of Finance from 1981 to 1984

— Member of the Supervisory Board ofO‹ sterreichische La‹nderbank AG from1981 to 1984

— Deputy head of the Economics Divi-sion of the Oesterreichische National-bank from 1985 to 1986

— Comptroller general at the Oester-reichische Nationalbank from 1986to 1992

— Director of the Area Corporate Plan-ning and Management at the Oester-reichische Nationalbank from 1992 to1997

Research Interests

— Financial supervision— Monetary economics

Die Vortragenden

Speakers

308 �

Education

— Graduated with honors from the Uni-versity of Vienna with a master�s de-gree in economics and social sciences

— Doctorate of economics and social sci-ences in 1981

Other Activities

— Member of the Council for the Foun-dationofFachhochschulen (specializedinstitutions of higher education) inAustria

— Member of the International RelationsCommittee and the Banking Super-vision Committee of the ECB

— Memberof theEconomicandFinancialCommittee

— Chair of the Banking Advisory Com-mittee


Author of numerous publications and ar-ticles in the areas of monetary policy andeconomics— Completing Transition: The Main

Challenges. (Edited with L. Wolfe,and P. Mooslechner), Berlin/Heidel-berg, 2001

Axel A. Weber

Date of Birth


— Professor for International Economicsat the University of Cologne

— Member of the German Council ofEconomic Experts

— Member of the Research AdvisoryBoard of the Deutsche Bundesbank


— Director of the Center for FinancialStudies in Frankfurt/Main from1998 to 2002

— Professor for Monetary Economicsat the Frankfurt�s Johann WolfgangGoethe University from 1998 to2002

— Professor for Economic Theory atthe University of Bonn from 1994to 1998

Research Interests

— International finance— Monetary economics— Central bankingEducation

— Diploma in economics (DiplomVolks-wirt) from theUniversity of Konstanz,Germany

— Doctorate in economics from the Uni-versity of Siegen

— University teaching qualification(Habilitation) from the University ofSiegen in 1994

Other Activities

— Research fellow of the Centre forEconomic Policy Research in London

— Council member of the Socie«te« Uni-versitaire Europe«enne de RecherchesFinancie«res

— Memberof theGeldtheoretischerAus-schuss of the Verein fu‹r Socialpolitik

— Referee for substantial economic jour-nals


— Reputation and Credibility in theEuropean Monetary System. In: Eco-nomic Policy 12, 1991

— The Role of Policymakers� Reputationin the EMSDisinflations:AnEmpiricalEvaluation. In: European EconomicReview 36, 1992

— Long Run Neutrality and the Lucas-Critique: Empirical Evidence forthe United States and Europe. In:Carnegie Rochester Conference Ser-ies on Public Policy 41, 1994

— Germany Before and After Unifica-tion: The Determinants of BusinessCycles and Long-Term Growth. In:Economic Modelling 13, 1996

— Sources of Purchasing Power Dispar-ity Between the G3-Economies. In:Journal of Japanese and InternationalEconomics

Die Vortragenden

Speakers

309�

Arnout H.E.M. WellinkDate of Birth


— President of De Nederlandsche BankN.V. since July 1, 1997

— Executive director of De Nederland-sche Bank N.V. since January 1, 1982


— Leyden University (teaching assistantandstaffmember, teachingeconomics;from 1965 to 1970)

— Ministry of Finance— Staff member from 1970 to 1975— Head of Directorate General for

Financial and Economic Policyfrom 1975 to 1977

— Treasurer general from1977 to1981Education

— Studied Dutch law at Leyden Univer-sity

— Ph.D. in Economics from the Uni-versity of Rotterdam in 1975

Other Activities

— Chairman Board of Directors of theBank for International Settlements,Basle

— President Bank for International Set-tlements, Basle

— Member Group of Ten Governors,Basle

— Governor International MonetaryFund, Washington

— Member Governing Council and Gen-eral Council of the European CentralBank, Frankfurt


Author of numerous publications andarticles in the areas of monetary policyand economics

Stefan K. Zapotocky

Date of Birth

December 3, 1952Present Position

— Member of the Executive Board ofWiener Bo‹rse AG, Joint CEO, since2000


— ErsteO‹ sterreichische Spar-Casse-Bank— Assistant to the Head of Personnel

from 1976 to 1980— Head of Strategic Planning from

1980 to 1985— Head of the New Issues Depart-

ment from 1985 to 1988— Securities Division/New Issues at

O‹ sterreichische La‹nderbank AG asof 1988

— Managing director of LB-CapitalMarkets as of 1989

— Senior generalmanager andheadof theSecurities Division and Asset Manage-ment Division at Bank Austria Aktien-gesellschaft as of 1991

Research Interests

— Stock exchanges, Austrian capitalmarket

Education

— Awardeddegree in engineering (math-ematics for economics and planning)from the Vienna Technical Universityin 1975

— Awarded doctorate in 1981Former Activities

— Chairman of the Supervisory Board:Capital Invest, and Asset ManagementGesellschaft

— Memberof theManagingBoard:Notar&Treuhandbank, and Bank AustriaKunstforum

— Member of the Supervisory Board:Immotrust Anlagen Aktiengesell-schaft, Ringturm Kapitalanlagegesell-schaft m.b.H., BA-IndustrieholdingGesellschaft m.b.H., and Union Ver-sicherungs-AG

— Lecturer at the Vienna University ofManagementandBusinessAdministra-tion


— Portfolio Management. In: Bank-archiv, 63, 1987

— Aktienemission. In: Bankarchiv, 65,1988

Die Vortragenden

Speakers

310 �

Publisher and editor:Oesterreichische NationalbankOtto-Wagner-Platz 3, A 1090 Vienna

Editor in chief:Wolfdietrich Grau, Secretariat of the Governing Board and Public Relations

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Published and produced at:Otto-Wagner-Platz 3, A 1090 Vienna

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Internet:http://www.oenb.at

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311�

Documents

and Integration in EMU Competition of Regions und ... · 30. Volkswirtschaftliche Tagung 2002/30 th Economics Conference 2002 √ Oesterreichische Nationalbank 30.Volkswirtschaftliche