Here comes the euro

When it comes to the single European currency, British industry is in a quandary. Most opinion polls suggest that UK plc is split something like 55:45 for:against the euro. Large companies ? particularly since they are more likely to have overseas interests or shareholders ? are more likely to support the euro than smaller companies. Exporters tend to prefer the export price certainty that would come with sterling’s membership of the euro ? but not necessarily at the current exchange rate, please.

Very broadly, British industry seems likely to benefit from the euro ? but is far from enthusiastic about it. If anything, it feels the case for the euro is ‘not proven’ ? though the suspicion is probably that the euro ought to be a good thing as it eliminates currency risk.

Even FDs are uncertain of the benefits of euro membership. They certainly disagree with City analysts and fund managers. As we reported in April, a survey by Tempest Consultants showed that FDs think the main benefit from euro membership would come from share-price valuations. The analysts thought there would be an increase in sales.

Opinion polls demonstrate quite convincingly that the British public aren’t ready for the euro. Indeed, our own survey, which was conducted two years ago, showed that FDs regarded the euro as, on balance, ‘a good thing’ with regard to their companies and the UK economy as a whole ? but that they personally would vote against EMU membership.

The reason is not hard to fathom: the euro brings with it political baggage that most FDs would prefer to do without. There is little doubt that the euro is intended by the eurocrats as but the next step to an even more closely integrated European superstate.

Hence, another layer of quandary: the euro may be good for business, but the threatened burden of legislation and taxation would increase costs and reduce flexibility.

You don’t have to dig deep before hitting the politics surrounding EMU. Take, for instance, Chancellor of the Exchequer Gordon Brown’s ‘five conditions’ – the five tests which are spun as a scientific analysis of whether the time is right to join the euro:

  • Are business cycles and economic structures compatible, so that we could live comfortably with euro interest rates on a permanent basis?
  • If problems emerge, is there sufficient flexibility to deal with them?
  • Would UK EMU improve prospects for firms making long-term investments in the UK?
  • What impact would UK EMU have on the position of the UK’s financial services industry, particularly the City?s wholesale markets?
  • In summary, will joining EMU promote growth, stability and a lasting increase in jobs?

The ‘tests’ are perhaps more subjective than those who are unfamiliar with them might have expected. The condition on inward investment has always been the scariest question, as there has always been the spectre of foreign cash being redirected to the eurozone at Britain?s expense.

Whether it’s a case of foreign multinationals threatening to close up shop in the UK and take all their business onto the mainland, or simply a thinly veiled threat to redirect all new investment, such sabre-rattling has provoked howls of tabloid anguish. But the record so far is good: the UK remains the second most popular inward investment destination, after the US. Can Britain survive in perpetuity outside the eurozone? Compare and contrast Marks & Spencer’s protracted self-extrication from France, on the one hand, and Dutch C&A’s painless withdrawal from the UK, on the other.

This pair of examples says much about the relative merits, labour market flexibility and attraction as a destination for inward investment of the UK and the eurozone. Or, as Patrick Ponchon at Xerox Europe told us three years ago, ‘Why would anybody want to build a car plant in France?’

There is, moreover, a case to be made that Britain should not join the euro until the European Central Bank adopts the policy of transparency that has marked the Monetary Policy Committee at the Bank of England: published minutes would be a good start towards reforming the ‘economic structures’.

But Vicky Pryce, chief economist at KPMG says that the five tests ‘are not the barrier for entry at present in any serious way’. Rather, the real problem is that the exchange rate is working against us. ‘The real question is, at what level we enter,’ she says. ‘That is much more important than anything the five tests may say ? especially because, as we all know, they are open to interpretation.’ A number of organisations have proclaimed that the five tests have already been met, though Pryce thinks there is still ‘a bit of a way to go’.

The real tests
So, the seemingly scientific five tests are, in fact, highly politicised. No economic comfort is to be found therein. What is British industry to do? Increasingly, especially as the formal 1 January launch of ‘real’ euros gets closer and closer, the most attractive answer for many ? though not all ? British companies is to go into the euro anyway, using it as the de facto currency for big ticket sales or purchases (certainly B2B).

This lays off the currency risk to a customer or supplier, and is clearly a move that will be attractive to businesses with big exposure to eurozone costs or customers.

A recent survey by the Engineering Employers Federation (Committed to trade, cautious on the euro, March 2001), showed that barely one-in-five companies surveyed thought that Britain should join the euro by 2005; 14% said Britain should never join, or at least not before 2007. The vast bulk, 65%, opted for a ‘wait and see’ stance, or supported the euro in principle but without wanting to commit to a timetable for joining. Enthusiasm for the euro correlated with company size and involvement in European markets.

The engineers said that support for the euro would increase significantly if it were stronger against the pound ? or if measures were introduced to weaken the legislative powers of the European Commission. Moves towards tax harmonisation would weaken support.

Already using the euro
But the survey also found that 38% of UK engineering businesses are already invoicing trading partners in euros and 26% are making purchases in euros (the dollar is still the predominant currency). The motor industry ‘is moving towards becoming a euro-based one’ ? which has clearly already started to have an impact on other UK companies with a number of manufacturers requiring suppliers to price and invoice in euros. It adds: ‘With nearly three-quarters of those surveyed trading directly with the EU and a large proportion doing so indirectly through the supply chain, most companies are likely to be affected by the growing use of the euro. This will be boosted next year by the introduction of euro notes and coins and the abolition of the domestic currencies of the eurozone members.’

Sixty percent of EEF companies have tried to reduce currency risk by making purchases overseas. The second most popular tactic was to hedge (about 40%) while more than a third have invoiced in foreign currencies ? particularly those that operate in European markets.

Recent statistics from the DTI show that Europe is three times as big an export market as the US for UK companies, with more than 60% of exports heading for the continent, compared with less than 20% to the States.

Change over
A year from now, the process of euro conversion will be complete: francs, Deutschemarks et al will have disappeared from mainland Europe, leaving just a fistful of euros (plus decimal points and ‘cents’: something the Belgians and Italians will have to get used to). The completion of the process, which was formally agreed at Maastricht in 1991, will certainly bring about a shift in currency mindset on the continent. As KPMG’s Pryce says, ‘The euro has not been used extensively yet. The big push is expected to come when the old legacy currencies finally disappear and when the systems are able to put up with it, because lots of companies have just not got themselves ready to do all the translations.’

Some ? not least, former Tory leadership challenger John Redwood, interviewed in last month’s Financial Director ? argue that if British industry was enthusiastic about the euro, it could easily have adopted the ecu, the European currency unit. ‘You could issue debt in ecu, you could have an ecu bank account, you could send out invoices in ecu, you could settle your bills in ecus, you could trade in ecus,’ he says. ‘The only thing you can’t do is spend ecus to buy crisps in your local corner shop. But did businesses want to do it? Did they heck! I judge people by their actions.’

Despite the imminence of the change-over, many continental companies are still using their domestic currencies: they simply aren?t geared up for the euro ? yet. A recent survey by NOP for IBM showed that fewer than 20% of medium- and large-sized businesses in the four major eurozone countries have completed euro conversion programmes. Only 90% expect to have completed by the time euro notes and coins are introduced in January 2002. And only once eurozone businesses are fully euro-operational will it become a true currency.

By adopting the euro as an operating currency ? outsourcing much of the exchange-rate risk to suppliers ? companies that wish to do so will get at least some of the benefits of currency stability with none of the political baggage. Whether this obviates the need for sterling to enter EMU or is the thin end of the wedge, making formal membership inevitable, will be the source of many heated discussions.

This article first appeared in Financial Director magazine.

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