Economics 110
Class 5
The European Union
1. First, finish any of the important material from the notes for Class 4 on Social Democracy
2. History of the European Union
a. Marshall Plan --- led to the creation of the OEEC
b. European Coal and Steel Community (1951) -- a common market in coal and steel
c. 1955 The Treaty of Rome established the EEC (became a full common market only in
1993)
1. Free Trade Area
2. Customs Union
3. Common Market
4. Economic Union
d. Britain was not an original member. It led a rival organization, the EFTA. Britain became
a member of the EEC in 1969.
e. Other new members – se notes (12 members by the early 1990s)
f. Single European Act of 1987 created the move to a full common market by 1993.
g. Social Charter (1989) – create consistent labor laws.
1. protect labor unions right to collective bargain
2. workers given rights to be on company boards (al a Germany) and to have a say in
company decisions
3. workers given rights to move anywhere within the community
4. equal rights for men and women including comparable worth
h. Maastricht Treaty (1991) --- decisions to be made at the lowest level of government that
can effectively handle them
1. Main political question: how much authority to go to the European Union level and
how much to stay at the nation level (similar to the American battle over states rights)
i. Expansion -- 25 total members now with two more to be admitted next year.
1. Population and land area are greater than the United States
2. GDP about the same as the United States
3. Gains from enhanced trade:
1. Explain gains from specialization due to comparative advantage --- use the lawyersecretary example first.
2. Explain the gains from economies of scale (and define this)
3. Gains from enhanced competition
4. expected to increase production within the community by 4.5%, create an additional 2
million jobs, and reduce inflation rates.
4. Winners and Losers from Opening Trade
a. winners are those who produce the goods for which the country has a comparative
advantage
b. losers are those who produce the goods for which the country has a comparative
disadvantage
c. In many of the countries, winners are those who produce capital intensive products, like
German automobiles. In the richer of the countries, winners are also those who produce
technology intensive products, like computer software. The comparative advantage is
different in the different countries.
d. Losers in most of the countries include farmers and workers in textiles/apparel
5. The Single Currency
a. 1979: The European Monetary System --- fixed exchange rates + intervention (explain)
b. 1990: move to more closely coordinate monetary policies (to reduce the need for
intervention) 1992: Britain and Italy left the system.
c. 1994: Maastricht criteria (conditions on Page 5 of my chapter)
d. 1999: 11 countries met the criteria (sort of) and were admitted to the monetary union. In
2001, Greece joined. No Britain, Sweden, or Denmark.
1. created a new money, the Euro. At first, it was just a unit of account.
2. In 2002, the Euro became a medium of exchange in the 12 countries
e. Benefits:
1. eliminates the need for currency conversion (frees workers and machines for other
tasks)
2. eliminates exchange rate uncertainty --- should make trade easier and therefore bring all
the benefits of trade mentioned earlier
3. eliminates the need for international reserves to use for intervention
4. makes the Euro an important world currency --- increases the importance of the
European economies
f. Problems
1. eliminates the use of exchange rate adjustment as a way of dealing with economic
Problems (explain with example from the chapter). This forces some areas to adjust by
accepting more unemployment. How much unemployment there is depends on how
mobile the workers are. They are not very mobile in Europe.
2. requirement that each country have a budget deficit no more than 3% of GDP –
eliminates the use of fiscal policy as a toll for stabilization.
6. Institutions of the European Union (Handout)
a. European Commission is the main bureaucracy, the executive. It implements the policies
and manages the budget. The commissioners are sent by the member nations but are to
work independently of their own governments. Most are permanent officials.
b. The Council of Ministers is the decision making body. It is composed of ministers of each
member country. For voting requirement, see page 3 of my Chapter. For matters relating to
free movement of workers, taxation, and workers’ rights, voting must be unanimous. It can
issue regulations and directives that are binding on all citizens within the EU.
c. Committee of Permanent Representatives --- composed of the ambassadors of the
member states. It prepares the work of the council and serves as a link between the council
and the member state governments.
d. European Council --- is composed of the heads of government. It meets twice a year and
sets broad guidelines for policy, especially in areas of prime importance.
e. European Parliament --- now 732 members representing over 100 political parties. It is
more of a symbolic group, although its decision powers have grown some over time. It
does approve the budget. It is not a legislative body like the US Congress. But it does
make proposals to the Commission and does supervise the Commission.
f. Court of Justice --- 13 (?) judges appointed by the member states. It interprets the
agreements when there are disputes. Its decisions are binding.
g. Economic and Social Committee --- composed of representatives of trade unions and
professional bodies to advise the Commission.
h. European Central Bank – modeled on the Bundesbank and the Federal Reserve to be
independent of political pressures. The Board and the President are appointed for nonrenewable 8 year terms (c.f. the Federal Reserve). In reality, there has been considerable
political pressure.
i. attempt to create a European Constitution --- rejected by France and NL in 2005.
7. The Common Agricultural Policy
a. raise price within the EU to assure a certain level of farm income --- takes 45% of the EU
budget --- high price floors (explain) and output restrictions
1. excess production is stored and often exported at low prices
b. winners are the agricultural countries – Greece, Ireland, Spain, France, and Denmark. All
the rest are losers. It moves money from relatively poor urban consumers to richer farmers.
c. as a result, Europe has some of the most expensive food in the world
d. wins the support of the poorer nations and thus helps keep the EU together
8. European Unemployment
a. still 7.6% as of 2001
b. most collective bargaining is done at the industry level not at the plant or enterprise level as
is more common in the United States
c. The high degree of social protection reduces the cost of losing a job. As a result, job search
is less pressured --- a higher reservation wage (explain)
1. In France (Sweden), a married person with two children receives 88% (90% in Sweden
until 1993, now 75%) of take home pay when first unemployed and still 83% by the 60th
month.
d. The social protection is financed by high payroll taxes. This drives up the costs of labor
and acts as a deterrent to hiring more workers
1. In France, the combined payroll tax on the lowest paid, least skilled worker was 62% of
wages (40% by the employer, 22% by the worker). As a result, real costs of unskilled
labor are 40% higher in France than in the United States. (See Kennett Page 274)
e. The labor market in Europe is fragmented by regional, national, cultural, and linguistic
differences.
f. The growth rate of the European economies has been slow (average 1.4%). All of that
growth is accounted for by increases in total factor productivity (due to technical progress
and innovation) and to substituting capital for labor. Thus, growth has an anti-employment
bias.
g. Unemployment threatens social cohesion.