The European Central Bank and European economies in global context

by: Nicole Brand

Contents  1

Appendix 8

I. Diary of Events of the European Central Bank 8

II. Annotated Bibliography 19

III. References 23

In January 1999 eleven countries of the European Union locked their foreign exchange rate to the Euro and committed themselves to annul their own currency in favour of the Euro in the year 2000 (Bradley S and Whittaker J, 2000, Industrial Relations Journal, 31, 4, 261). Of particular interest and complexity are the relationships between countries within the euro zone and other economies worldwide. The relationship between the European economies and the European Central Bank (ECB) and its consequences in global context is a central issue in this report. Therefore, the previous research about the ECB has concentrated on its influence towards European and other global economies. The members of the current euro zone are: France, Germany, Italy, Austria, Belgium, Finland, Greece, Luxembourg, the Netherlands, Portugal and Spain. Apart from this, Denmark, Sweden and the United Kingdom are members of the European Union, which have not adopted the euro yet. These three countries are European economies even when they play another role in global context because of their own currency: British Pound, Danish Krone and Swedish Krona. Accordingly, the remainder of this paper is divided into four sections, reasons for establishing the ECB and its objectives, how decisions of the ECB concerning the interest rate may influence economies worldwide, a briefly annotation of advantages and disadvantages for members of the euro zone and a conclusion including a short outlook.

The monetary policy is implemented by the European System of Central Banks (ESCB), insistence on the ECB and the national central banks of the member states. On the whole, the Treaty of the European Union defines the independence of the ECB and of the national central banks. The primary objective of the ECB is to ensure the price stability within the euro zone. Is this objective achieved there exist four subordinated objectives: “to define and implement the monetary policy, to conduct foreign exchange operations, to hold and manage the official foreign exchange reserves of the member states and to promote the smooth operation of payments system” (Howells P and Bain K, 2002, 475). As a “banker’s bank” central banks normally do not deal with the public. However, the banks, which deal directly with a central bank, pass the changes in the interest rate to their customers, the public (Rose P, 2003, 356). Central banks are always key financial institutions because they set the monetary framework within the financial and economic institutions are able to operate (Pilbeam K, 1998, 29). The ECB as an institution is the logical consequence for a consistent monetary policy in the whole euro area. If every single country in the euro zone creates its own monetary policy there would be many flows of money from one to another country by for example raising the interest rate in one country. This disequilibrium cannot be balanced by influencing the exchange rate because it is then the same in all countries of the euro zone. However, a monetary policy of one institution can always only be a policy for the average of the countries because in one country the situation might be completely different from another country within the euro area.

A very important factor of the reactions towards decisions of a central bank is the trust in its decisions. Nowadays, the trust in the ECB is very strong so its decisions normally have the effect they should have. Thus, the monetary policy of the ECB influences the European economies and other countries all over the world as well. However, this was not the case when the ECB was established because it was a new institution with no former experiences or reputation. So in that time the Euro felt dramatically versus the Dollar (Howells P and Bain K, 2002, 485). This situation has changed in the last years and the ECB has won the trust of the market participants from all over the world. How can the ECB then influence them? All began with the image of Germany as a low-inflation country and a strong monetary policy of the Deutsche Bundesbank (Howells P and Bain K, 2002, 472). This reputation is partly transferred to the ECB which also has its headquarter in Frankfurt am Main in Germany. In addition, the Euro as the currency of most of the European Union’s members is now seen as a competitive currency to the US-Dollar. Generally, the ECB is able to influence the economies with the level of minimum required reserve, open market operations and standing facilities (Ayuso J and Repullo R, 2000, 1). However, these three methods to establish the ECB’s monetary policy are not the topic of this report which focuses on consequences of decisions concerning the interest rate. Obviously, a change in interest rate influences the above mentioned methods as well.

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