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The European Community and the world economy.

The European Community and the World Economy

FROM TIME TO TIME events occur that fundamentally alter the balance of the economic, political and military power of the world and impart a new direction and different momentum to the process of development and growth (or decline) of the world economy. Such events may occur suddenly or appear almost imperceptibly, only gradually to gain strength and exert their full influence. For example, the discovery of the new trading route from Europe to the East in the fifteenth century, together with political developments in the rich, proud and intensely independent Italian city states, moved the center of gravity from Italy and the Mediterranean to the West and North West Europe. The Declaration of Independence of the U.S. created a new political and social order based on Jeffersonian philosophy, which was the center of a new political entity whose appearance altered the course of world events. Finally, the French and Russian Revolutions are in the same group, their consequences have extended far and wide in every respect and are with us today.

Such events are a result of a complex interaction of a large number of factors, including technological change, social and legal arrangements as well as political climate and the general institutional framework that results. In the ultimate analysis, their effects can be seen in proper perspective only after a number of years. They are reflected in the emergence of powerful or influential states or groupings and a decline of others -- events that exert a decisive impact on the course of world history.

Undoubtedly the creation and growth of the European Community (which originally was termed European Economic Community, changing its official title in 1978) is in the same group of events. It falls into this category because, as is now clear, the European Community is emerging as one of the three main economic and military groupings in the world. The other two groupings are North America (comprising the United States and Canada) and the Pacific Rim grouping based on Japan. These three groups manage the world economy, are responsible for the balance of military and political power, and in effect are the basic propelling force behind the process of world growth and development. The transformation of the European Community in the past thirty years provides illuminating insight into the interaction between economic and political factions and is an outstanding example of political economy at work in its widest sense.



The European Community was conceived originally by its founding fathers as a political entity designed above all to prevent the occurrence of wars among the European nations with its bloodshed, loss of life and physical destruction. The remarkable growth of the Community and its emergence as an increasingly cohesive and economically and politically important grouping benefited from the Cold War and the existence of the Iron Curtain after World War II, the military umbrella extended by the U.S. involving the presence of U.S. forces in Western Europe, and a propitious world economic climate until the early 1970s. This climate reflected: (1) favorable terms of trade linked to a fall in the prices of primary products and oil; (2) a very rapid improvement in productivity because of an educated and skilled labor force using technological advances developed in the preceding fifteen years or so in the U.S.; and (3) a favorable social climate as well as the gains from the liberalization of trade both worldwide and even more so in the Community.

These advantages were neither expected nor foreseen by the original founding fathers. After the failure to create a European Defense Community in 1951, they wished to use an economic path to increase interdependence among the Western European countries to the point where it became irreversible and will require the consummation arrangements were created in the 1950s. The European Economic Community was established under the Rome Treaty signed in 1956 by six countries (Germany, France, Italy, Belgium, the Netherlands and Luxembourg) and became effective January 1, 1958. The European Atomic Energy Community was established at the same time as the European Economic Community. While the scope of the European Coal and Steel Community and the European Atomic Energy Community were restricted to coal and steel industries and nuclear industries, respectively, the European Economic Community covered all aspects of economic, social and political activity.

The wide scope and ambitious aims of the Community are reflected in a complex structure of Community institutions, which has four main pillars. These are Council, Commission, Parliament and Court. The Council, made up of foreign ministers of member states, acts as a legislative body, has the duty of coordinating economic and general policies, and has the power to make decisions and to delegate to the Commission the implementation of legislation. The Commission, composed of seventeen members appointed for four years, is an independent body responsible only to the Parliament. Its duties are to ensure that the provisions of the Rome Treaty are complied with, to make recommendations to the Council and to implement the rules. The European Parliament has the power to scrutinize legislation and acts as a consultative body. The Court resolves differences of views on various legislative measures.

The structure has not been rigid but has been and continues to be adapted to new demands both as a result of judgments of the Court and formal amendments to the Rome Treaty, as indicated by the recently adopted Single European Act of 1985. This Act replaced the rule of unanimity applicable to the decisions of the Council by a rule of a weighted majority, subject to certain exceptions, and placed more powers in the hands of the European Parliament.

Looked at in a longer perspective, the structure of the European Community is unique in that its characteristics were absent in the evolution of other economic and political groupings. Not surprisingly, it is now clear that Europe is following an entirely new path and in the process of doing so is creating a grouping that will certainly be different from others.



The intercontinental between major changes and upheavals in the world economy and the advance of the Community to more coherent groupings is reflected in the three stages of the develoment of the Community now completed and the fourth stage, which has just started.

First Stage

The first stage covered the period from inception to the early 1970s. From the economic point of view this was a period of extraordinary rapid growth, appreciably higher than in the U.S. but lower than in Japan. The annual rates of growth were 5.5 percent for the Community, 4.5 percent for the U.S. and 11.0 percent for Japan.

International trade grew at annual rates of 10.5, 7.0 and 15.0 percent, respectively. Inflation remained low. This indeed was a "golden era," more golden in Continental Europe and above all in the European Community than for the U.S., but less so than in Japan. The primary aim of the Community in this period was the creation of a customs union and a well-functioning common agricultural policy. The aim of full customs union involved complete abolition of internal tariffs and quantitative restrictions, except in agriculture. The establishment of a common external tariff was achieved in 1968, sooner than originally planned. It must also be said that the common agricultural policy assumed its basically protective character during this period. Its cost and rigid structure, originally intended to help the transition of agricultural economies into industrial ones, caused problems. These problems were recognized in the second half of the 1960s, as reflected in the Mansholt Proposal produced at the request of the Council in 1966. However, as with many of the proposals that followed later, it did not prove successful.

Notwithstanding the fact that the Community during that period comprised only the six original members, the advance in other areas, economic, political and social, was very modest indeed. Nevertheless, in 1967, the three separate communities, Coal and Steel, Nuclear and the Economic Community, were merged. The financing by members was changed in 1970 from fixed contributions by members to be used for specific purposes to providing the Community with its own resources. These resources were derived from import duties and then in 1977 from assigning a small percentage of value added tax receipts of member countries. It must be stressed that the total size of the Community's budget is very small. It amounts to less than 1 percent of members' GNP, with the bulk of it originally spent on agriculture (this proportion has now declined to slightly over three-fifths). Work also was started during this period to remove obstacles to internal transport, but the results were very meager indeed.

In a global context, all members of the Community were on a gold-backed dollar standard as embodied in the Bretton Woods Agreement. This agreement imposed the same strict rules on all EEC members as on other countries, the implementation of which was supervised by the IMF with the U.S. dominating the scene. Defense and foreign policy were to a large extent determined within the context of the Western Alliance and NATO, based on the existence and domination of the world scene of the two super powers, the U.S. and the U.S.S.R. External economic policies, including aid to developing countries, as well as to a considerable degree internal macro- and microeconomic policies, were influenced by cooperation with the groupings of industrial nations in the Organization of European Economic Cooperation (OEEC). This group changed its name in 1961 to the Organization for Economic Cooperation and Development (OECD), when it also extended its membership to Japan and other industrial nations. Finally, internally this was the period of a "Europe des Parties," involving the unanimity rule in the Council and little surrender of national sovereignty, except in the areas where this was imposed on the Community by global arrangements.

The economic success in those years did lead the Community to try to embark on the path towards monetary integration. To this end a report was commissioned in 1969 to map out the steps to achieve this objective. The Werner Report produced in 1970 outlined a detailed ten-year program made up of three stages. However, it was never implemented because of the world recession of 1973-75, the first oil shock of 1973, the collapse of world monetary arrangements and the great inflation of the 1970s.

Second Stage

These events form the background of the second phase of the Community's development covering virtually all the decade of the 1970s. Apart from the admission of three new members in 1972 (the U.K., Denmark and the Republic of Ireland), no significant progress was made during these years in either domestic or external policy, except for the creation of a European Council.

Although heads of governments did meet from time to time prior to 1974 to discuss issues relating to the Community and other questions of common interest, it was only in that year that these gatherings became institutionalized. The meetings gradually assumed increasing importance, as did the summit meetings of heads of governments of major industrial countries. It should be stressed that the European Council has no legal status under the Treaty of Rome. However, here, rather than in the Council of Ministers' meetings, issues of outstanding importance and sensitivity are settled. For example, such issues included in the past the British budgetary problem, finally settled at the 1984 European Summit, and the decision to go ahead with stage one of the Delors Report on European Monetary Unification at the 1989 Summit.

In internal matters, discussions started in 1970 on industrial policy, and in 1975 the European Regional Development Fund was set up. Its size was small (original allocation for 1975-77 amounted only to ECUs 960 million) and the distribution in initial years was on the basis of quotas. Also the Community was given power to borrow for nuclear power, extended later to other purposes.

On the whole this period was one of rather modest advance, mainly because of dramatic changes in the world economic climate associated with the emergence of OPEC, then exceptionally strong financial turbulence, and above all raid inflation that required the primary attention of all member countries.

Third Stage

The third stage began with the establishment of the European Monetary System, decided upon at the December 1978 meeting of the European Council. This system can be said to have ended in July 1989, when the European Summit agreed to start on the path of creating European monetary union. The three main features of this stage were: (1) a successful working and evolution of the exchange rate mechanism of the European Monetary System; (2) the replacement of the rule of unanimity as regards the decisions of the Council of Ministers by weighted majority rule; and (3) launching the Single European Market program designed to eliminate all existing barriers inhibiting the free movement not only of goods but also of services, capital and labor among member countries. Together with these basic steps, appreciable progress was made in this period in resolving some weaknesses in agricultural policy, putting into effect a fisheries policy, pushing further internal liberalization of transport and sharpening the competition and industrial policy, i.e., regional and special industrial rehabilitation policy.

It is now generally conceded that the exchange rate mechanism (ERM) of the EMS proved to be an outstanding success in providing a zone of relative exchange rate stability at a time when world financial turbulence continued unabated. However, diagnoses of the causes of such stability are far from uniform. The ERM is in effect a quasi-adjustable peg system centered on the Deutsche Mark. Under it the frequency and the size of change in external values of participants' currencies decreased strikingly. The process of consultation and cooperation before such changes are made improved enormously. Such adjustments are now considered joint decisions. Above all, the members are now determined to link their monetary plicies, i.e., interest rates and exchange rate policies, to those of Germany and to realign domestic policies accordingly.

In the political area the Single European Act, which came into effect in July 1987, marked an important step forward. It amended the Rome Treaty by replacing the rule of unanimity in the Council by a qualified majority, except in matters of taxation, some environmental problems, and certain border controls. The removal of the right of veto has introduced a new dimension into the Community and widened the scope of its operation.

The third main step during the third stage was the introduction of a detailed program with a specific timetable ending in 1992 for the removal of all existing barriers inhibiting free movement of goods, services, capital and labor among members. The White Paper produced by the Commission and accepted by the Council contains 279 proposals aiming at abolishing physical, technical and fiscal barriers. Physical barriers to movement of goods are eliminated by the introduction of a single customs document to serve as an export declaration, transit and import document. At the same time a common tariff nomenclature is to be adopted. Public procurement will be open to all firms in member countries and will extend to previously protected areas of energy, transport, water supply and telecommunications. Technical obstacles will be overcome by introducing common technical standards relating to pharmaceutical goods, chemicals, emission controls on cars and lorries and food regulations, and there will be common safety requirements and standards for industrial machinery and liberalization of air and road transport.

Free movement of labor will be facilitated by mutual recognition of education and vocational qualifications.

With respect to free flow of capital and of financial services, all restrictions on capital movements are to be removed by 1992 except in Greece and Portugal, who have been given a further three years. An ambitious program is being set in motion to liberalize all types of financial activity. This program is based on two basic principles: mutual recognition of authorization to conduct such business together with the recognition of a single banking or other financial business license and the application of the rules of conduct of business of the host country.

In addition to significant advance in the three areas mentioned, important progress during the third stage also was achieved: (1) in agriculture, where an agreement finally was reached in 1985 that spending in this field must not rise faster than Commission income; (2) in fisheries policy, where negotiations first started in 1966 and were concluded in 1983; (3) in competition policy and industrial policy, covering both regional support and a consistent approach towards problem industries such as ship building; and finally (4) in integrating road transport.


Looking back at the thirty-five years or so from the inception of the Community until the July 1989 Madrid Summit, the Community undoubtedly has made momentous advances in raising economic interdependence among the member states and in moving towards joint action in a number of other areas, including political and social policies. The dream of the founding fathers is gradually being realized of creating voluntary interdependence among member countries and then irreversible political changes through economic integration leading to political unifications. It is true that during this thirty-five-year period the advance was helped by a favorable economic world climate and specific world political conditions, but this must not detract from the achievement and the vision and energy of those responsible for the stewardship of the Community.

The increasing economic integration is reflected in the fact that by now nearly 65 percent of the Community's trades represents intratrade, compared with less than 40 percent in 1958. This trend has been accompanied by rapid progress in industrial and commercial interpenetration, resulting in the emergence of European companies. Partly because of the benefits so engendered, the European Community now accounts for some 35 percent of total output of all industrial countries, for 38 percent of world trade, provides some $35 billion in the form of aid to other countries and is a net provider of capital to the rest of the world on a significant scale.

In the political and social areas of the Community, with its quasi-adjustable peg system, the European Monetary arrangement has now become one of the pivotal points of the world's monetary arrangements. The Community has a common commercial policy against the rest of world, which is increasingly beginning to cover other elements of external economic policy. It is slowly integrating social and regional policy and now also appears to be moving towards common foreign policy. Accompanying these developments is the increasing influence the Community is exercising in world affairs. Accompanying this are important shifts in the institutional structure, involving the increasing role played not only by the institutions set up by the Rome Treaty, as exemplified by the role of the decisions of the European Court, but also the increasing influence exercised by the European Parliament.

In spite of apparent frictions and difficulties in resolving some of the problems -- inevitable in the process of creating a regional grouping -- the Community's achievements are real, creditable and compatible with its becoming one of the central points in the world economy.


The ending of the first phase and the beginning of the second phase of its evolution was marked by the publication and acceptance of the Werner Report on Monetary Unification in 1970. The ending of the third phase and the beginning of the fourth stage of the Community's evolution can be traced to the July 1989 Madrid meeting of the European Council, which was devoted almost entirely to the deliberations and acceptance of the Delors Committee Report on Monetary Union commissioned by the Council two years earlier.

How long this phase will last is impossible to say, but it appears that the decade of the 1990s is likely to cover this next advance. The main feature during this phase probably will be further advance in the area of monetary integration, the completion of the 1992 Single Program and additional measures necessary to make it work smoothly and efficiently, further extension in the scope and powers of the Commission in the areas where it is already operating by virtue of the Rome Treaty, and further fundamental changes in external, environmental and foreign policies necessary to respond to changes in the world political and economic climate.

The Council has now agreed to proceed with stage one of the Delors Committee Report aiming at full membership in the exchange rate merchanism and the voluntary acceptance of the discipline it carries. This would imply increasing importance of central decisionmaking, particularly in relation to the external value of the Deutsche Mark and therefore other currencies participating in these arrangements.

The impact of the 1992 program has already been analyzed in a number of studies, among which the most detailed and authoritative is the Cecchini Report estimating the cost of not completing the market. In short, in macroeconomic terms it states that the rate of growth of the Community during the five to six years following 1992 is likely to be 1 to 1-1/4 percent faster than it otherwise would have been, will result in the creation of 2 to 5 million additional jobs, is likely to improve governmental receipts by 2.2 percent of GDP, and can be expected to improve external accounts by about 1 percent. These estimates may well be one the low side, especially if restructuring in the financial area moves ahead at full speed, stability of currency prevails, and confidence and certainty associated with the movement towards irrevocable currencies are generally accepted.

The extension and expansion of the scope of the 1992 program is likely to follow in areas where existing measures require further supplementation and where the Rome Treaty has given the Commission independent powers. In the area of company legislation, competition, regional and social policies, further advances will be made.

Overshadowing these internal changes, however, will be changes in the world political and economic climate that will require the Community to speed up its progress, take the initiative, and play leading roles in the World Community. What appears to be occurring now is that the confrontation between the two super powers seems to be giving way to some sort of rapprochement between them. Associated with this is a gradual reappraisal of the security matters involving changes in the U.S. military involvement in Europe and other parts of the world and a filling of that vacuum by the European Community. The Community is also rethinking its financial and other policies towards Eastern Europe and indeed is acting on behalf of all industrial countries in channeling aid to Poland and Hungary. It is rethinking its relations with the Pacific Basin countries and is changing its attitude and playing a different part in the development of the North Sea dialogue. In the immediate future it will have to resolve the problem of the relationship with the EFTA countries and decide how to deal with matters of trade, aid, human rights and security matters in the wider world forum.

These changes, together with increasing industrial integration, pose a challenge inherent in the changes in the world economy, to which Europe so far has successfully managed to respond.
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Author:Rybczynski, T.M.
Publication:Business Economics
Date:Oct 1, 1989
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