“Financial Restructuring in the age of the Euro: Still a Battle of Systems”, extracts from chapter in The State of the European Union Vol.7. With US or against US? European Trends in American perspective. Ed by Nicholas Jabko, Craig Parsons, Oxford University Press, 2005.

On January 1, 2002, eleven countries in the EU adopted Euro-notes and coins for retail use, thereby taking the EU a step closer to business conditions in theUS. Yet implementing corporate strategies acrossEuropeis still heavily conditioned by different national jurisdictions, which have generated distinct institutional configurations. These configurations represent bundles of norms–freedom, efficiency, justice or security—and their distinctness resides in which predominates: in theUS, liberty; in theUK, utility; in France, justice, or inGermany, security. The particular mix of liberty, efficiency, justice or security arrived at over a lengthy period in any one jurisdiction also produces unintended consequences. These different mixes, with their intended and unintended consequences, were supposed to fade away, due to market competition between them or EU and global regulation over them. This has not occurred, as underlying differences between jurisdictions have not been eliminated , and competition in market and political arenas between corporations rooted in different member state jurisdictions remains a defining characteristic ofEurope. The “battle of the systems” within the EU is as lively as it ever was, if not livelier.

My theme is that one of the prime reasons for divergence in the style of trans-Atlantic relations from the past—notable not just over Iraq, but over the litany of differences regarding the environment, intellectual property rights, export subsidies, or GM foods—is the implicit convergence in policy priorities across the Atlantic resulting from the intra-European politics leading to monetary union, and the successful launch of the Euro. National calculations drove the EU to a single currency and a single capital market, and national calculations continue to prevail in the market for corporate assets after the Euro’s introduction.Europeis not converging on a single capitalism, but the many forms it takes are all subject to similar forces. There is convergence in the processes at work in the world and in Europe—the complex processes often summarised as “globalisation”—but there is continued divergence in the national structures which endure,  restructure and shape them.

The Euro is a prime example of active “globalisation”. It is a creation, an act of will by the participant states using Europe’s more traditional and also newer instruments of diplomatic statecraft. This makes the politics of before and after monetary union very different to what the politics of monetary or financial market politics would be in theUS. In theUSpolity, class or religious distinctions form the sociological bedrock of  pluralist politics in a federal system, much as they do in the domestic politics of European states. In the European polity, the salient feature is diplomacy, an updated version of which is the European Union. There were two prime sets of motives behind setting up monetary union, one being to stabilise the interdependent European economy operating in a multi-currency system, where the dollar and the DM called the shots; the other motivation was to prevent the emergence of a unitedGermanyas the unequivocal potential leader ofEurope. Class politics was present before and after the Euro’s creation, but in significantly different ways. Before monetary union, class politics was played out  in the highly developed welfare institutions of the European member states, interacting one with another through the price mechanism whose central components were interest and exchange rates.Germanyruled the roost, so that German macroeconomic preferences, being closely tailored toGermany’s micro-economic arrangements, took precedence over those of most other states in the EU and beyond. After monetary union, national politics continue to prevail but achieving near full employment in the Euro-area requires creating Europe-wide labour, product and service markets. National welfare states and a single currency and capital market are not necessarily antagonistic, but they are not comfortable bedfellows.  

Using Neil Fligstein’s terminology,[1] efficiency is socially constructed rather than constructed by markets, and monetary union—as a formidable promoter of efficiency in Euro-land markets—is eminently a social construct. The argument here is that French policy of embracing Germany in the European Union is only to be consummated through the adoption of policies heavily biased in a neo-liberal direction at the level of the Union in order to end the impasse created for the European economy by the co-existence of national mercantilist policies. In this often conflictual co-existence, Germany came to predominate through the DM, sustained by its powerfully integrated business system.[2] German unity–Chancellor Kohl, President Mitterrand, Commission President Delors feared–,  would consolidate German primacy, and the solution they reached—the creation of a European Central Bank along Bundesbank lines—definitely addressed their shared concern.[3] The DM is no more, andGermany is far from dominant in the EU. But this eminently political act to establish a single currency, and with it, a capital market denominated in Euros, creates a structure of incentives which points to an unravelling of significant features of national business systems—notably, national cross-shareholdings, clubby corporate governance arrangements,  patient bank finance, or protectionist national labour market practices.

Monetary union thus reinforces competitive pressures running through global markets, while reducing the EU’s collective vulnerability to global exchange rate shifts. By the same token,  monetary union deprives member states of the interest and exchange rate tools, and in addition, substitutes a national capital market  for a European capital market. Franceor Germanyare that much more like Texasor Californiain the US. But they also, like other member states, carry a long, national legacy. The interplay between national legacies and the new monetary and capital market regime is what “the battle of the systems” in updated form [4] is all about. But first some brief definitions.

 

National Financial Systems, Corporate Governance, and Models of Capitalism

There are at least two stories which may be told about how national financial systems emerge: one points to convergence over time on a standard, and the other to continued divergence. Financial arrangements observedly start in response to differing situations, but over time convergence is said to occur through market competition and institutional mimicry. The way that the capital-allocation process is configured reflects the interests of protagonists, and affects national economic performance as well as international and financial relationships. This is done through the process of control over corporations and organisations. All financial systems are active intermediaries between political and social structures and relationships, and corporations or organisations operating in some form of market arrangement. Corporate strategy is understood here as the link between the external capital market, populated by shareholders and financial institutions, and the internal allocation of corporate resources.[5] Convergence works through the market pressures on countries or corporations to adopt in a new standard the best practices observed in different situations. For corporations, it is the mix of European-type sensitivity to local conditions, together with Japanese national efficiency and US corporate capabilities to leverage the transfer of corporate know-how to international markets that will make the new composite standard for global champions.[6]

The divergent story holds that institutional arrangements start in response to differing situations, and carry on doing so. They are “path-dependent”, since their protagonists, even allowing for a changing composition over time, always have to make policy in an inherited situation.  As institutionalist economists point out, how the markets are structured, what values are embedded in the prevailing rules and which organisations develop within the range of prevailing incentives, makes all the difference to outcomes. [7]  Market structures have their own discrete histories, are permeated by the values which have been agreed or legislated on in particular political contexts, and yield different specialisations and efficiencies. The  diversity of states is duplicated in the diversity of corporate strategies issuing from different local conditions as they permeate international or global markets. Given the nature of oligopolistic competition among few corporations in a particular branch and the variety of states in world markets, such differing conditions provide diverse incentives affecting the strategies of firms.[8] Firms may go international, or even aspire to becoming citizens of the world. But their activities amount to the international operations of national firms.[9]

In Europe, these two perspectives are less distinct than may appear in that both provide an explanation  about where European capitalism is heading. In the convergent story, the emphasis is more on market emulation and institutional mimicry among member states and with the US, whereas the emphasis in the divergence story is more on EU aspirations to federal statehood overriding the individual states, to create a US of Europe; on EU efforts to legislate a European financial area, similar to prevailing conditions in the US; and on different national positions and structures. The US of Europe at the end of the EU federal line may or may not resemble the US of America, but whether it is different or similar it will assuredly differ from one or many of the existing national positions. These national positions and structures remain divergent, most evidently in the way that  distinct national capitalisms relate to human capital: not just the detailed mechanisms of the labour market, but also to training, labour participation, or social security systems. Labour market institutions are prime differentiators among member states.

With the adoption of the single currency and capital market, which of the national systems will prevail in the EU, or which mix of them will emerge predominant is one, if not the most controversial issue of European and national politics. Opinion polls regularly indicate very low confidence in large corporate managements; express fears that globalisation gives even more power to corporate managers; and record that the number one concern for EU publics is unemployment. Neo-liberal capitalism, particularly of the “Anglo-Saxon” variety, has next to no support. But that is the direction indicated by the processes of “globalisation”, that are strengthened by monetary union, the EU’s most significant policy to date.   Hence, the next section starts by presenting the evolution of some central features of  the Anglo-American shareholder and labour market system, because this is the dominant context within which the French state-centred financial and labour system, and the German bank-corporate consensual system have to adapt.

 

The Atlantic alliance and the EU member states.

The permanent context of repeated European efforts to fix currencies or to establish monetary union has been provided since the 1940s by theUSas the world’s banker. Equally permanent has been London’s ambition to re-establish a pre-eminent position in international finance. Growing financial interdependence betweenNew YorkandLondonprovided the medium through which ever more volatile funds in dollars and other currencies were switched across theAtlantic, helping to undermine the post-war-system of stable exchange rates. When oil producing states sought to recuperate the value of their dollar reserves by raising oil prices in 1974, surplus revenues from theGulf statesflowed into theLondoninterbank markets, where banks borrowed from each other in dollars and lent on to developing countries, notably inLatin America. Funds available for recycling also found there way on to theLondonandNew Yorkmarkets from the trade surplus countries of continentalEuropeand Asia-Pacific. Bouyed by North Sea oil production, theUKresumed its role as an exporter of capital when controls were raised in October 1979. Successive conservative governments thereafter shifted assets from public sector control to private ownership and the discipline of the capital markets, such that when  by 1997 Prime Minister Blair entered10Downing Street,UKcompanies in public ownership accounted for 2% gross domestic product (gdp) as against 12% in 1979.

Regulatory competition between London, New Yorkand Tokyospurred financial market reforms in the 1980s[10], opened the doors wide to foreign financial institutions, and prompted development of traded securities, futures and equities. In October 1986, the “Big Bang” in theLondon markets ended the separation of brokers and jobbers, and opened the markets to full participation by US or Japanese investment banks and European universal banks. Equity ownership became much more widely diffused. By 2002, theUK had a ratio of market capitalisation to gdp of   115 per cent. This was several times that of other large European countries (such asGermany’s 35 per cent,  andFrance’s 67 per cent) and second only to theUS (combiningNew York and Nasdaq) with 136 per cent. The major innovations of the Blair government were to complete conservative financial market reforms first by announcing the independence of the Bank of England, and then in 2001 to introduce a single all-powerful regulator over all financial markets in theUK. In the EU, up to 40 different authorities authorities sought to cover the same field of activities.Denmark andSweden, two “Eurosceptic” countries, went the UK-way.

Successive conservative governments also introduced statutory law to labour markets for the first time, strengthened management powers to hire and fire and reinforced labour market institutions. Corporate profits improved, and non-residential investment took off. Londonbecame the EU’s prime city of capital, and the “third leg” in the triad of world financial centres, together with New York, with  Tokyobeing seriously challenged by Hong Kong, which returned to Chinain 1997. Londonbecame the major market for world foreign exchange transactions, and the prime capital market for the EU, with 65% of world foreign equity turnover and 95% of EU equity turnover taking place in London. European institutions dominated equity trading, loan business and currency markets there. Other European financial centres, such as Frankfurt, Parisand Milan, have a similar relationship to Londonas cities such as Boston, San Franciscoand Chicagohave to  New York—the difference being that Europe’s financial hub in Londonis located outside the Euro-area. Londonas the capital for many of Europe’s most important wholesale financial markets is increasing its importance as a global financial centre.[11]

The London markets are notably different to Parisand Frankfurt. Whereas London remained the central market for the sterling area into the 1970s, in Germany, and then in France, financial systems were hitched more closely to state industrial policy. The banking acts of 1934 and 1941 in both countries served as the foundation for legislation in the post-war decades that protected national financial markets, allowed for bank financing of reconstruction, and later of corporate expansion. Insurance markets were even more protected, with both French and German law making it a criminal offense for insurance policies to be sourced abroad until these measures were reversed by the EU’s Court of Justice (ECJ) in 1986. Both German and French financial market structures were domestic, primarily funding national corporations. In London, the dominant markets were—and are– wholesale,  servicing businesses from all over the world. In the USas in the UK, managerial hierarchies came to run large, publicly-quoted and diversified corporations, taking their sources of external financing from the capital market, which in turn oblige chief executive officers to pay paramount attention to shareholder interests as represented by the managers of financial institutions. British corporations are obliged to earn high rates of return in order to retain the loyalty of investors on whom they remained dependent for future capital. Maintaining the corporations’ share price was the main aim, for fear that a reduced dividend could have serious consequences in terms of a lower share price and a predatory takeover. That encouraged investment in diverse territories so that share prices could be sustained, despite downturns in one or other market. By 2003, the UK’s outward stock of foreign direct investment was near equivalent to the outward stock of Germanyand Francecombined.[12]

The revival of shareholder capitalism in both theUKand theUSdrew on a legal tradition, which regards a company as a private entity, set up by investors for their own benefit who in turn hire managers to conduct business. Managers keep constant track of input costs, such as labour, raw materials or capital, and  seek the most efficient use of state-of-the-art technologies or organisational practices to produce goods or services that provide value for the consumer at attractive prices. Government’s major task is to provide the regulatory and legal structure within which open capital markets may function, and to supply a safety net for the unemployed, the infirm or the old. Consumer and shareholder interests are assumed to be paramount. Domestic markets are deliberately kept open to foreign competitors and to inward investors. Government policy is predicated less on giving political advantage to national producers than on satisfying the demands of national shareholders and consumers. What the nationality of the shareholders may be is less important than the performance of the corporation. Corporate performance is best assured by diversifying the locations of its businesses so as to avoid downturns in any single national market.

There are manifold advantages in such a division of tasks between corporate managers and government officials. If financial agents consider that corporate managers are asleep at the switch, they may sell shares on shareholders’ behalf,  making the corporation vulnerable to takeover as predators bid to buy shares, sometimes with advice from investment banks, at a premium to the market. This market for corporate assets facilitates corporate mergers and restructurings, and is legitimated on the grounds of providing the most efficient set of incentives for all participants in the market to maximise wealth. Labour market legislation in particular has to be supportive, so that labour forces may be shrunk or shifted in task or location with the minimum of friction. The model also assumes that the government will not prove a light touch for corporate lobbies seeking to avoid restructuring or takeover through access to the public purse, as a less demanding source of funds. A shareholder-driven corporate economy, underpinned by a shareholder democracy, has the voting public participate in the performance of corporations and in the rewards.

Not surprisingly, the British government championed free financial services in the EU, with a careful eye to consolidating London’s status. It found allies in London-based financial institutions, the Commission, the European Court of Justice jurisprudence, and-initially-the Dutch, Luxemburg and German governments. Together with the Commission and the Court of Justice, the UKgovernment helped to elaborate  a policy doctrine, which aimed “to secure acceptance of the equivalence of national legislations rather than their replacement by European law”.[13] The major breakthrough came with the EU decision to move to freedom of capital movement, as one of the main conditions for the creation of the internal market, in that its achievement would assure “an optimal allocation of European savings.” The EU directive was adopted in June 1988, to be followed by directives on banking, insurance, and investment services. This latter proved most controversial of all, given the many national sensitivities involved. Disputes spilled over into policies covering mergers and acquisitions, competition law and social policy. As the EU legislative train slowed after 1993, it became apparent that key features of national financial systems remained in place.[14] Over a decade later, Commissioner Bolkestein, in charge of the Financial Services Action Plan, launched at the Lisbon EU summit in March 2000, to open up financial service markets, called on member states to implement and enforce the rules—including the 39 detailed directives of the FSAP—which they had struggled to agree upon.[15] The UK’s position ran on similar lines. [16] Legislating “at the EU level” meant little if member states kept to their old ways.

One persistent source of national differentiation lay in labour market policy, as evidenced in the graph showing quite divergent productivity and participation rates. These different rates are the expression of distinct labour market structures.

Insert graph here on Employment and productivity EU and US.

Consistent with the thrust of its domestic policy, Prime Minister Thatcher’s government championed a market-friendly social policy for the EU, presented in the proposal for an Action Programme for Employment and Growth. [17] The Programme, with Irish and Italian backing, stood in stark contrast to the Commission’s preferences for social protection. It was promptly scotched by an alliance between Commission President Delors and the early 1987 Belgium Presidency, which proposed a “plinth” of fundamental social rights, to accompany the move to the internal market. The matter then meandered through the EU institutions, becoming strongly impregnated with the preferences of the German and French Labour Ministries and trade unions. A general Social Charter was adopted by the European Council at Strasbourg in December 1989, and written into the Maastricht Treaty in a separate protocol where eleven states other than Britain agreed to adopt the EU’s Action Programme of 1989[18] by qualified majority voting on social policy. This programme served as the template of future EU legislation on social policy, adumbrated in the Maastricht Treaty of 1992, in the Employment Chapter of the Amsterdam treaty of 1997, and in subsequent agreements and initiatives. In 1997, the incoming Labour government agreed to sign up to EU social policy, in order to differentiate from the preceding Tory governments. But the honeymoon over labour policy did not last long.[19] By 2004, the UK’s Minister for Europe, Denis MacShane, would interpret continental intentions as sinister in intent. “There is a concerted effort by key players in Brussels—in the European Commission, in the Council of Ministers and the European Parliament—to take Britain in the direction of rigid labour markets”. The minister accused the EU of seeking to “punish” the UK for having a flexible labour market. [20]

Another source of differentiation was corporate governance structures. Anglo-American capital markets posed a threat through emulation and mimicry to continental institutions of national capitalism, but also opened tempting opportunities to facilitate corporate internationalisation strategies. In terms of legislative activity, continental member states in the late 1980s and early 1990s had little problem in fostering EU directives in financial services which held shareholder capitalism at bay, in favour of managerial prerogatives, which were formally justified in terms of their contribution to national welfare.  EU directives on banking and insurance, for instance, allowed bank-insurance tie-ups, opening the way in EU legislation to recognise national financial conglomerates. These conglomerates could access global capital markets, but –it was hoped—their managements would maintain control over French or German corporations. Yet the advantage of the Anglo-American financial market system of corporate governance is that it places competition between corporations before competition between states. Shareholders reward or punish corporations, and are indifferent to whether the reward or punishment is meted out to workers and managers in one country or another. As its opponents repeatedly pointed out, the distinctive feature of shareholder capitalism is that it is a-national.

 

Germany’s voyage from primacy to province.

The bank-based system of corporate control is  associated with Germany, where the rules of the game have traditionally enabled banks to take deposits, extend loans to firms and issue securities on capital markets in a tight relationship to clients. After unification in 1870 following Prussia’s military victory over Francein the war of 1870, German economic policy turned to protection against foreign competition, and to state promotion of cartels. In the 1920s, war reparations, inflation, and reconstruction kept German banking fragile, and interest rates high. National Socialism derived much of its ferocity from the promise to deliver Germanyfrom the tyranny of “cosmopolitan” finance, symbolised in Berlinas Germany’s financial metropolis. These echoes persisted into the 1990s. As Mr Kopper, the speaker for the Board of the Deutsche Bank, said in 1994, both communism and national-socialism saw the interest rate as a source of exploitation. “The systems collapse and the prejudices survive”.[21]

Germany’s banking system has been highly decentralised. The “big three” German private sector banks—Deutsche, Dresdner and Commerz, joined more recently by the HypoVereinsBank—have under 3% of savings deposits, and 16% of total assets. Public banking, which includes savings and communal banks, lend to local businesses and governments, and account for over 45% of banking activity. Their prime source of deposits are savings deposits, and they provide commercial bank, consultancy and market support for Germany’s small and medium-sized businesses. They benefit by local patronage and subsidy. Pensions are split between the pay-as-you-go public system, while tax deductible employer pension funds are available as a source of capital for corporate management. [22] Given the strong reliance for finance of Germany’s small, medium and large companies on internally generated sources of funds, and on borrowings, the equity market has remained narrow. Pension reserves amount to around 50% of all company capital of German firms.[23] Not surprisingly, the German system flourished best when pension payouts were relatively small, and when inflation and interest rates were low. From 1973 on, low interest rates were best assured through a freely floating exchange rate and with a trade sector in solid surplus. There was thus a very close association indeed inGermany between the macro-economic management of the currency, and the micro-economic management of firms.

If the bank system is decentralised, ownership inGermany is concentrated.

See Graph: Comparative concentration of share ownership. Insert Here.

Data from 1996 shows that the main private banks hold or manage shares—along with Allianz–of the 100 big firms, which accounted for up to 50% of the huge trade surplus which Germanyaccumulated over the DM’s lifespan.[24] The “big” banks, in other words, were part of a nexus of banks, insurance companies and industrial corporations that own each others’ shares and—with diminishing frequency– shared each others supervisory board seats. At the heart of this nexus lay Allianz and Munich Reinsurance, the two Munich insurance and re-insurance giants.[25] This cross-holdings of shares was a principal feature of German corporate governance, and was  aimed at cementing long-term relationships between firms. It is also enduring: in the years following German unity in 1990, despite increased German dependence on global financial markets, the concentration of share management and ownership remained largely unchanged.[26] In 2000, the 5% largest companies listed on the DeutscheBörse, centered inFrankfurt, –42 in number– accounted for 73.5% of total market capitalisation. How narrow is the role played by equity markets is illustrated by the fact that foreign listed stock corporations are about four times higher than the 750 German publicly traded companies.

Three prime advantages have often been cited in favour of this nexus of “bank power” –a recurrent theme in the politics of the FederalRepublic. One is to protect Germany’s listed corporations from takeover. The argument was most clearly laid out by Alfred Herrhausen, speaker for the Board of the Deutsche Bank(a few days before his assassination), in an address to the “prominenz” of German politics and business in October 1989. It would be inadvisable, he declared, for legislation to oblige banks to sell their stakes. “I can anticipate excited protests if banks sell our stakes in important German firms to foreigners on the grounds of the continuing and in principle welcome trend to the internationalisation and globalisation of the economy”. [27]

A second advantage is that the bank’s role in corporate governance inGermanyhelps to provide stable long term finance for German firms—large, medium, and small. Private limited companies in particular have expanded in number from 70,000 in 1970 to under 400,000 by 2000. These family-owned firms form the bed-rock of German business, being highly specialized on world export markets, tied in often as sub-contractors to the large corporations, and financed largely through retained earnings or borrowing from banks when the occasion requires. They are notably averse to public listing on the German stock exchange, for fear of diluting their owners’ control over the business. In particular, they are embedded in local policy networks, where local banks play a key mediating role between local politicians, firms, trade unions and trade associations. Their battle field resides in competition on product markets, as the national economy remains open to foreign suppliers. Because they have to satisfy the demands of their stakeholder constituency of workers, suppliers, clients and the local community, there is an incentive for firms to invite shareholders to patience and to reduce dependence on banks through strategies aimed at conquering market shares. The language of corporate conquest evinces mixed responses when heard by other Europeans.

A third advantage, it has often been argued, has been the role played by bankers as co-guardians of a stable, property-holding democracy which co-opted labour unions through their representatives’ acquired positions on works councils and on corporate supervisory boards. Yet in each recession, supervisory boards were charged with incompetence. Managers bore the brunt of German firms’  growing dependence on more volatile, and less predictable world markets. In the case of AEG in 1982, of Metallgesellschaft  in the winter of 1993, and of the Schneider construction group in April 1994, the impending disaster had not been monitored;  the banks were seen as ready to lend to large groups, regardless or unaware of the risk; supervisory boards were accused of operating as closed shops. There was also a marked propensity for senior managers to defend the status quo, and to lay the blame for failures not at on the financial system of corporate governance, but on personalities.

Starting in the 1970s, these German networks came under increasing pressure as German corporations began to internationalise, global financial markets became less predictable and EU policy on the internal market pushed for market opening measures. The disadvantages of “bank power” became evident to the “big banks” in the deep recession of 1979-1982. When the Bundesbank raised interest rates to counter inflationary conditions, firms with high debt exposures died like ninepins. As a result, the Bundesbank launched its programme in 1982 for “Finanzplatz Deutschland”, which proceeded at the lethargic pace permitted byGermany’s federal system, where stakeholders have multiple sources of access to participate in public policy. The result has been a stream of  Laws to Promote Financial Markets in 1989, 1996, and 1998, during which the German Stock Exchange was set up, along with a an efficient settlements system and a US-type Securities and Exchange Commission, while market opening arrangements agreed internationally and in the EU were introduced. Despite the boom in technology equities in the second half of the 1990s, and a novel public interest in shareholding, equity markets remained narrow. The shadow capital pool of corporate pension funds was also shrinking as payouts rose.

Furthermore, there is an inherent contradiction between the bank-industrial crossholding system, which requires open markets for exports and  for corporate assets in other countries, while at the same time curtailing foreign market access and ownership at home. The home market serves as launch pad for the conquest of foreign markets, and the domestic market may be protected by all manner of corporate practices. As a result, the financial system as a whole must be prepared to deal with the consequences of large trade surpluses, which flow from joint corporate interest in market shares. Domestic inflationary pressures have to be kept down through rapid recycling of funds earned from exports. This entails the building up of portfolio investments in other markets around the world, revaluations of the currency, and foreign direct investments to avoid the high costs of domestic production. This is national mercantilism’s Achilles heal. Corporations become detached from banks as their external sources of funds on world markets grow, while regulatory segmentation within the financial system breaks down as financial institutions compete across boundaries for new clients. Over time, and despite national legislation passed in 1975 to curtail share acquisitions in listed German corporations from falling into the hands of foreign (Mid-Eastern) owners, German corporate shares leaked their way onto global markets, and the risks to banks of industrial ownership edged upwards.[28].

One policy that would have cured the German economy of its propensity to run trade surpluses was a market-oriented reform of the German financial system, and the development of a highly liquid, transactions-based capital market in the manner of London.[29] A starting point would have been for the Bundesbank to have met the commercial banks’ demands and repatriate the EuroDM bond market (to which the banks surplus funds were recycled) by ending the tax disadvantages weighing on domestic bond business. This would have promoted a liquid secondary market, flanked by a short term money market. Dearer credit would encourage firms to move away from bank borrowing as the primary source of external funding, to the new issue of equities. An enlarged primary issue market for equities would in turn foster a demand for a secondary market for equities. National ownership would be diluted.Germany would become a major source of international capital, and move to a regular deficit on trade account. European integration would be accelerated.

As long as the DM ruled, financial market reforms fell shy of such radical change.[30] A constant theme of the Bundesbank was its hostility to fast money markets, and new financial instruments. Indeed, during the internal market negotiations of 1988 to 1993, the German delegation insisted on legislation to protect monetary policy by keeping a firewall between the domestic monetary market and short term capital flows.[31] This preference for stable domestic monetary and financial conditions helped to underwriteGermany’s growing structural predominance registered in the trade surpluses. The surpluses in turn became a perennial subject of European diplomacy from the mid-1960s on. Europe’s “great affair”, how to create an exchange rate or monetary system for a highly interdependent region of separate states, may be dated from then, lasting through to German unity, the Maastricht Treaty in 1992 and finally the achievement of a single currency in 1999.

By stating an “irreversible commitment” to substitute a European currency and central bank for the DM and the Bundesbank, the Maastricht Treaty circumvented inhibitions inGermanyabout abandoning the DM. But it was only in 1995, when the DM revalued sharply in response to the outflow of dollars from theMexicofinancial crash and from the yen after theKobeearthquake disaster, thatGermany’s business community was won over to Kohl’s policy of abandoning the DM. The DM spike prompted shouts of anguish from corporate managers, their workforces and their financial backers. Better to have the protection of a stable financial area within an European monetary union, the 1996 message of German business ran, than the constant volatility of the DM fully exposed to global financial markets. This was the moment when Kohl in effect won his battle for the hearts and minds of corporateGermanyto go ahead with theMaastrichtplan to introduce the Euro in the years 1999-2002. The single currency swept aside rearguard actions inFrankfurtto block the development of a money market, and German corporate equities and bonds—as for other member countries—were converted into Euro-denominated assets, exchangeable across a much wider territory than before and without incurring foreign exchange risk.

The process called “globalisation” was unleashed by German unity, and with it the cold war structure of two Germanies, twoEuropesand two great powers. The immediate impact was to incorporate within one interdependent global system all of the countries previously embedded in, or attached to the communist system. The collapse of the Soviet Union transformed the Eur-Asian continent, and accelerated the entry ofChinaandIndiato global markets. Most importantly, the world labour market was in effect widened to incorporate three billion potential workers, with unit labour costs anything up to 60 to 100 times lower than those prevailing in Europe, the US and Japan. Monetary union, which EU member states agreed in their majority had to accompany the move to liberalise capital movements, was part of this process. With all OECD countries adopting free capital movements, the global capital market took off, with a sharp rise in foreign direct  and portfolio investments to “emerging” markets. German outward investment, rising from a low rate, rose sharply, particularly to central-eastern Europe where wage rates were much lower, similar productivity rates could be achieved as inGermany, and profit contributions to capital enhanced. Delay in fundamentally altering labour market structures, and in developing a battery of policies to help the growth of new companies, meant that jobs were lost in manufacturing, but space was not opened up to widen activity in services and high-value added activities.

See Graph: Growth in Employment relative to growth in FDI.

In the mid-1990s, the forces at work, undermining the inherited German national business system, intensified.[32] Management in German corporations adapted the style and strategies associated with shareholder value,  while the German state withdrew from financing infrastructural sectors in response to EU directives on market opening combined with the rising costs of German unity. Deutsche Telekom went public in 1996, providing a boost to the capital market. Wealthier and older German savers joined in the boom for hi-tech stocks, equated with the Deutsche Börse’s opening  in 1997 of the Neuer Market, fashioned on theUS technology stock exchange Nasdaq. Legislation was also passed to encourage private funded pensions, with the funds managed by the banks. But when boom turned to bust in 2001, and Deutsche Telecom stocks plummeted, the equity market turned sour.  With investors learning time and again that they had been taken for a ride, the market was closed. Meanwhile,Germany’s big private banks had long since seen domestic business as  a declining proportion of their activities. As their global investment banking arms grew, they reduced their own shareholdings and developed a sharper shareholder-friendly policy with regard to the major listed corporations whose shares they continued to manage, and whose boards they continued to frequent. This externalisation ofGermany’s leading banks went along with the increased reliance on global funding to finance the cost of German unification, and with a sharp rise in equity funding as a proportion of corporate external borrowing.

Table: Comparative corporate sector liabilities: 1980-2000. Insert here.

When in 1999-2000 Vodafone, an upstart UK-based service provider, launched its successful hostile takeover bid of Mannesmann, 60% of its shares were circulating outside national territory. The battle symbolised the “battle of systems”. Here was a 109 year old, blue chip German company being taken over by an upstart Anglo-Saxon company, Vodafone AirTouch, which had only been in existence for 15 years. Only a handful of hostile takeovers had been launched inGermanyin the 1990s, and the last trans-national bid in 1990 of Pirelli forGermany’s tire manufacturer, Continental, had failed. But the signs that significant changes were underway in German corporate practice came in 1997, when the three “big banks” supported the hostile takeover between Krupp and Thyssen. Vodafone’s bid involved a straight share swop, giving unprecedented leverage to smaller shareholders; the bid took place with the concurrence of IG Metall; Deutsche Bank, Mannesmann’s “hausbank” did not play a lead role, nor did the government mobilise a constituency to oppose the bid, despite that fact that Vodafone was targeting only 10% of Mannesmann’s business, and announced intent to sell off the rest. Not least, Vodafone’s capital market valuation surpassed German corporate champions, like Siemens,  by a wide margin.

Vodafone’s successful bid evoked much heart searching among the prominenz of Deutschland AG. There were two diametrically opposed ways forward: one was to enforce shareholder value principles, and have high share prices as the main line of defence against takeover; the other was to reduce the exposure of companies to the share price through share buyback schemes. Prior to the bid, business and government had supported the EU Commission’s draft Thirteenth Directive on Company Law Concerning Takeover Bids put forward in 1996. The Corporate Sector Supervision and Transparency Act(Kon TraG) passed through parliament with barely any opposition, ending unequal voting rights, and makingGermany the first country inEurope to develop a one share, one vote rule. Following the Vodafone bid, the German government changed direction, and successfully mobilised support in the European Parliament against the EU draft directive. The German government then passed a law granting managers the right to fend off a hostile approach without consulting shareholders. Yet the government also introduced tax reforms, which came into practice in 2002, lowering the high taxes hitherto charged on the sale of share packages.

In October 2004, the EU introduced the European Company Statute, whereby companies operating in more than one member state had the option to chose under which country’s corporate law they could operate.[33] The draft had meandered by fits and starts through the EU’s complex and thickening institutional processes, but permanently was stalled by different national labour laws, particularly with regard to the presence of trade union representatives on boards. The Co-Determination law came onto the German statute book in 1976, against the wish of German business leaders. Subsequently, German management went along with the law, not least because it made trade union leaders de facto allies against foreign hostile takeovers. The Vodafone-Mannesman takeover showed that this condition no longer held, while German private banks had espoused many components of shareholder value ideas. The 2004 EU Company Statute thus met a more favourable response: it opened the option for German corporations to establish themselves inUK law, therebying side-tracking the co-determination rules and two-tier corporate board of German law and practice.

Global markets and EU legislation, with German government and active support from some German business, are slowly unravellingGermany’s national cross-shareholding nexus. What stretches ahead is a prolonged list of rearguard actions and last ditch fights. InGermany’s new Europe,Germanywould be a province in a Union, not a hegemonial power in aEuropeof states. The EU Commission has stated that regulation of takeover bids is a key element in achieving an integrated capital market in theUnionby 2005. YetGermany,FranceandSwedenlined up against the Commission’s proposal to ban multiple-voting rights that give holders of small stakes a disproportionate influence. AndGermanyboughtUKsupport to block an EU takeover regime with a deal to block a separate proposal to extend the rights of temporary workers.

 

France’s voyage from state to market.

France is the reference-point for the model of  top-down development through a state-led financial market system. [34]  In terms of precedence, though, the title should arguably be awarded to Italy or to Turkey. Typically, the state-led model of industrialisation featured as some “third way” between US capitalism and the Soviet system, and appealed to countries whose agriculture was backward, where small business enterprises predominated, larger corporations were few and far between and often foreign owned. In France, the Ministry of Finance regulated the capital market directly. Surplus funds of deposit taking institutions were taken-up by public-sector institutions which lent them to specific industries, such as housing, agriculture, nuclear energy, or regional investments.

The creation of a single currency requires the unravelling of national corporate structures and their transformation under the dual hammer of EU regulations and an EU-wide market. But the history of French debates about “the German model” from the 1960s to the introduction of the Euro indicated that the limits to French adaptability were traced by the changing contours of domestic politics. Indeed, the defining characteristic of this lengthy discussion aboutGermanythrough French eyes was its consistent framing in terms of national patterns of policy.Germanywas to be imitated because therebyFrancecould resist German competition better, orGermanywas not to be imitated becauseFrancecould only compete withGermanyon markets by developing its own sui generis capitalism.

There have been two discernible “German models” in French economic policy: one was centred on the banks, in putative imitation of German practice, and the other was centred on the state as the guarantor for national success. Finance Minister Debré’s bank reforms of 1966 enabled two investment banks to form federations of companies, accounting in the aggregate for 48% of industrial value added and 60% of exports.[35] An alternative programme to this French version of the “German model” had been forged with the signing in 1972 of a common programme between the communists, and the revived socialist party.[36] Following his electoral victory of May 1981, the new President Mitterrand opted for a 100% nationalisation of 36 private banks, two investment banks and 11 industrial conglomerates. This extended public sector accounted for one third of sales, one fifth employment and over half of industrial investments. State banking encompassed 90% of banking activity and employed 200 thousand people. This state-led “force de frappe”[37] was to foster investment, to promote new technologies; to reduce national dependence on foreign suppliers; and to encourage greater risk taking.State capital was to flow into a few publicly-owned groups, organised on Japanese keiretsu lines. But capital injections to industrial groups went on current expenditures.[38] The state paid heavy indemnities to the owners. State corporations had to borrow from state banks. Corporations threatened closure unless funds were made available.

The crescendo to the French political battle over nationalisation and privatisation, and over national protection or freer trade within a wider European context, was reached in 1983, when Mitterrand decided to keep the existing exchange rate arrangement, tying the franc to the DM. Financial market reforms, already in preparation, were accelerated. Unlike in Germany, the French state revolutionised its capital markets fast, introduced a Banking Act in July 1984, which provided a uniform set of prudential rules for all financial institutions, and all registered banks, mutuals and cooperatives. The Act centralised regulatory powers for all bank sectors, and initiated a revolution for banking in France. Banks could no longer count on automatic rediscounting at the Banque de France, while tighter regulations forced banks to raise their own capital, and to pay more attention to profits. Finance Minister Bérégovoy also moved forcefully to constitute a “unified capital market”,[39] and to push French corporate financing towards the model of Anglo-American financial markets.[40] The reforms entailed wholesale importation of U.S. methods to French conditions. In 1988, the six regional stock exchanges were merged with the Paris Bourse, and French law was adapted to accommodate mutual fund techniques developed by “les Anglo-Saxons“. But withdrawal of the Finance Ministry from refinancing banks meant thatFrance’s undercapitalised firms might fall into foreign ownership.

This did not prevent governments of both right and left from privatising state assets in three waves in 1986-88, again in 1993, and especially in the years 1997-2002, when the left government presided over even larger sales than its conservative predecessors. Market capitalisation of equities rose from 5.5% gdp in 1982 to 37% by 1993, and 63% by 2002. One result is thatFrancehas come to resemble theUK, more thanGermany, in terms of household sector assets, and in corporate sector liabilities: indeed, French corporate external financing is more reliant on equities than theUK. (See above Table on Comparative corporate liabilities)              

France is also much closer to the UK than to Germany in terms of the dispersion of equity ownership (see above, graph on comparative concentration of ownership). If we add to that the original intent of the 1984-86 government to introduce New York style capital markets to Paris, the creation of money market funds, or the opening in the 1990s of the Nouveau Marché for hi-tech stocks—also along Nasdaq lines–then the conclusion could well be drawn that, despite rhetoric to the contrary—or perhaps as an explanation of official rhetoric about “le capitalisme sauvage”—that France is more “Anglo-Saxon” than it would care to admit. Indeed, the internationalisation of French enterprises over the 1990s grew from a much lower base than theUK to reach about half the value of the overseas stock ofUK  investment. As can be seen in the graph above on the growth of employment relative to the growth of outward investment, what distinguishedFrance fromGermany was the speed with which French corporations internationalised, as well as the volume of jobs created by the French economy in the 1990s. If this foreign investment trend were to be sustained over the coming decade, it is not inconceivable that the French economy becomes as globalised as theUK albeit in its own specific way. The outlier with regard to equity finance is Germany, not the UK; the major difference between France and  the UK, lies in labour markets, where—with a similar population of 60 million each—the UK employees five million more than France.France’s un- and under-employment rate is just under 20% of the employable labour force.

 Here insert Table: Persons in employment in ‘000s.

                                   1992                     1997                     2003

Germany                      37,878                   37,208                 38,248

France                         22,742                  23,215                  24,934

Italy                             22,920                  22,215                  24,286

UK                              26,933                  28,104                  29,771

Source: Eurostat.

Francehas not been able to maximise the benefits of the deep capital market reforms, which preceded the Londonfinancial market reforms introduced by Chancellor Lawson in 1986.  Turnover in French shares moved to London, as did French financial institutions—not to Frankfurt.  The main reason for this is the lack of locally supplied liquidity to the market for reasons similar to those in Germany. Unlike “les Anglo-Saxons”,France lacks major pension funds or institutional investors. Social security is provided on a pay-as-you earn basis and the burden of financing additional welfare is allocated to employers and employees. Companies are not able to keep pension reserves as own funds, as inGermany. The reformers of 1984-88 had recognised the urgency of developing funded pensions. But they ran into resistance from managers, who disliked to lose existing prerogatives; trade unions which were opposed to losing their position as co-managers of social spending in the social security system; and political parties of left and right which, following Mitterrand, talked about equity markets as “Anglo-Saxon”.  When in 1996 the conservative government tried to spring reform of social security on the public without consultation, it retreated in the face of massive strikes. The left government of 1997-2002 then took to consultation with a vengeance as the smoothest way to introduce extensive privatisation, and to smuggle in reforms in the social security system. The reforms lower the strain on the public pension system by reducing the average pension and smuggling in the possibility of lengthening work lives. But they do not answer the need of theParis market for a local supply of funds.

The shortfall is made up by US, Irish, Dutch or UKinstitutional investors, who have over 40% of Paris’ market share. So when successive French governments privatised, they faced the prospect of previously nationally-owned industries being “dissolved in Europe”.[41] Here the “German model” served a purpose, but the tools were distinctly French. French diplomacy in Brussels secured legislation in EU directives, allowing bank-insurance tie-ups[42] to act as “a powerful and organised financial heart” of corporate ownership.[43] The savings banks—with 30% of total French deposits–capped by the Caisse des Dépots et Consignations (the CdC), –were available as a source of funds at the disposal of the Finance Ministry. The nationalised insurers¾AGF, GAN and UAP¾were regrouped into holding companies and took advantage of new legislation to buy participations in banks and industrial companies. Then, the senior ranks of the French state and business are dominated by the engineers and financiers who have made their way to the pinnacles of both public and private sectors: keeping senior corporate positions on the career circuit of the “grand corps d’état” is ever present as a consideration. Besides, the purpose of privatisation was not to divest the state of all shares, so much as to open up capital to the corporations as crucial to their becoming national champions, capable of entering alliances with foreign corporations from a position of strength. Equally, powers were there when needed to keep French corporations, like CreditLyonnais, the insurer GAN  or Alstom, on the French career circuit, and out of the hands of Deutsche Bank or Siemens.

Francehas thus been a market economy since the 1980s, while retaining some of the institutions and much of the spirit of Gallo-capitalism—the vision ofFranceas a plucky resistant determined to retain independence in the world as it is. Joining the world but proclaiming the French exception is a difficult balance to achieve. Gallo- capitalism in its ancient 1940s format seeks to allocate national resources for national purposes. But as markets open to foreign competition, government officials find themselves immersed in an ocean of corporate details, about which they know next to nothing. Foreign investors seek entry, and  bring access to technologies, management skills and foreign markets. Inward investors compete with national producers on their home markets, and this prompts national producers to retaliate by entering international markets by both trade and investment. As state capitalism’s corporations internationalise, so their tendency is to seek to loosen the ties that bind them to their home state.

Such was the fate of Jean-Marie Messier, who turned the water utility Compagnie Generale des Eaux into a $51 billion global telecommunications and media giant, Vivendi. Messier went on a six-year buying spree, costing over $17 billion to create a company that promised to be “the world’s preferred creator and provider of personalized information, entertainment and services to consumers anywhere”. Vivendi included the pay-TV company, Canal Plus, one of  France’s cultural powerhouses. This spree made Vivendi highly vulnerable to the meltdown in financial markets at the tail of the dotcom boom in March 2001, when Vivendi registered losses of 13.1 billion euros—the largest in French history. Messier’s financial strategy was simple enough: the water business—based on de facto local monopolies—supplied cash to the fast growth telecoms and media business; and Vivendi borrowed funds on the back of its equity, 43% of which was held by investment institutions, including Calpers, the Californian Public Employees Retirement Pension fund. The Bronfman family, also a shareholder, tried to stage a board revolt in May 2002, and the board—dominated by French institutions—squelched it.  But keeping “Anglo-Saxon” investors happy with a sliding share price was not sustainable. Messier sought to identify Vivendi with global markets, made his primary residence in New York, and talked aloud, saying that France’s “exception culturelle” was an outdated idea. This alienated the Parisian left bank, nationalist cultural establishment. Without friends inParis, and within a month, his career lay in ruins.France’s “cultural exception” policy  remains well in place as the heart of French rationale for a French-led Europe to resist theUS hyper-power. 

The EU: no longer a French garden.

Throughout the years from 1968 to 2001—from West German Finance Minister Strauss’ famous “Nein” to de Gaulle’s request for DM revaluation, recorded on the front page of the Bild Zeitung, through to the conversion of national currencies to Euros on the retail markets in December 2001—the prime thrust of French diplomacy was to prevent Germany’s emergence as Europe’s prime power, the preferred partner of the US in Europe, and managing a DM through the Bundesbank as the prime agent of Germany’s financial and corporate power nexus. The motive behind successive French administrations was to dilute or to dissolve the Bundesbank within a new European monetary regime, run on lines more compatible with the exigencies of the French economy.

Those exigencies could be summarised in two concerns of French public policy: the high and rising rates of unemployment recorded since the mid-1970s, and disquiet at Germany’s growing preponderance in Europe, since the DM began its ascent on the back of widening trade surpluses to replace sterling as the world’s second reserve currency after the dollar. Domestic considerations of equity and of political prudence counselled against tampering too much with state welfare provisions, while concerns about efficiency pointed to the promotion of  economic structures able to withstand competition on open European and world markets. The UKwas the obvious ally in helping to contain Germanyby promoting EU-wide legislation to dilute the German corporate nexus in the name of EU integration, but Germanywas the ally against the UKto protect France’s acquis sociaux.

The heart of the deal between Franceand Germanyover monetary union was for Germanyto agree to substitute the DM for the Euro, under the aegis of a European Central Bank designed along Bundesbank lines, in return for French and German agreement to defend, and to extend, les aquis sociaux, into the domain of EU policy. Maintenance of western Europe’s welfare policies was considered vital to ensure continued popular support for the internal market programme.[44] These considerations flowed together asGermany moved to unity in the course of 1989, leading to the signing of the Maastricht Treaty in 1991-92. The Franco-German alliance was cemented on a more futuristic note, when on April 19, 1990,  Kohl and Mitterrand issued their joint declaration on European monetary and political union. The declaration opened the way to the negotiations on European Union, that led to the signing of the Maastricht Treaty in winter 1991-92.  That Maastricht was above all a political deal to dilute German unity in a broader European Union is illustrated by Chancellor Kohl’s acceptance of an “irrevocable” commitment for monetary union by 1999. There was no going back.

Nonetheless, when monetary union was implemented in the years 1999-2002, its operations were fashioned by the difficulties which the Kohl governments in particular faced in selling an “irrevocable” commitment to the Bundesbank and the German people.

First, the Bundesbank’s deployed its structural power over the DM in financial markets to eject first the pound sterling and the lira in August 1992 from the exchange rate mechanism, and then had to come to terms with the French government to widen the exchange rate fluctuation bands to 15% either side of the central rates. The pound sterling has remained outside the exchange rate mechanism and is not a member of monetary union.

Second, German Finance Minister Waigel launched the idea of a “stability pact”, with the clear intent of preventingItaly’s re-entry: the assumption was thatItalywould not be sufficiently continent in fiscal matters to qualify for monetary union. Paradoxically, the greatest offenders against the stability pact since 2001 have beenFranceandGermany.

Third, over the decade German business became converted to monetary union as continued dollar unpredictability on global exchange markets threatened to undercut German export price competitiveness. World financial markets voted for the DM, thereby bringing the DM into the Euro about 20% over value, whileFranceentered way below its purchasing power parity to the DM. This only added to the burden on Germany inherited from Kohl’s decision to export West German welfare provisions to eastern Germany, costed at an indefinite transfer of resources from west to east amounting to 5-6% gnp per annum.

Monetary union as a neo-liberal engine.

But the fundamental paradox of monetary union is that the EU of the first decade of the millennium is stuck with a currency and capital market, backed by ECJ jurisprudence and global product markets, that create a structure of continental-wide incentives for market agents to operate as if the trend was irreversibly set towards a US-type market and business system. Because monetary union is irreversible, the states within the Euro-zone face further structural changes to adapt to the reality which they have willed, not least because monetary union is an engine of European federalist aspirations. Monetary union has tilted European markets significantly away from aEuropeof the states: at its most fundamental level, monetary union has eliminated national currencies and exchange rates among the participating countries. As a consequence, monetary union eliminates associated transaction costs, where payments are made between buyers and sellers in two or more currencies. This clearly reinforces the basic idea of a common market in goods and services and parallels the single market initiative to clean-up remaining market distortions.  Monetary union has at least four far-reaching consequences, each of which remain virtual and for the same reason: the reality of the EU is of a diverse and interdependent set of states, each with their own legacies.

First, monetary union has integrated national bond markets, and has begun to do the same for equities. For European financial institutions, the potential for growth in equity markets is huge, given the corporate consolidations, privatisations and business transfers which lie ahead.  No longer do companies issuing securities have to worry about various pockets of investors separated by foreign exchange risk, nor do investors have to worry about asset-allocations across currency-zones where they face not only the possibility of exchange-rate changes but also different  directions in economic policies and their subsequent impact on relative asset values. A unified capital market helps allocate capital more efficiently on an EU-wide basis, encourages savings and investment, and facilitates technological innovations, along with other determinants of economic growth. What investors in Euro-land do confront in their hunt for opportunities are inherited national impediments to an EU-wide “level playing field”. As the report on EU competitiveness, chaired by former Dutch Prime Minister Wim Kok, stated, one of the prime impediments to EU competitiveness is the low level of trade in services—representing only 20% of intra-EU trade, but 70% of economic activity. [45] The list of impediments is long, running from a cumbersome  system for trans-frontier settlement of commercial transactions, to national procurement policies, local insurance and pension markets, and different bankruptcy laws and accountancy practices.

Second, monetary union and the absence of national central banks means a single financial market in which all borrowers except the sovereign (the EU as a whole) compete on an even footing. The European Central Bank (ECB) can only purchase EU debt instruments in order to assure adequate growth of the money supply and, under such circumstances, only the EU as a whole can finance deficits by having its debt monetised (purchased and held by the central bank). Because the ECB is alone concerned with price stability, the ECB goal of a 2% ceiling for Euro-zone inflation represents a very high rate of interest for zero inflation rate Germany and a negative rate of interest for high growth, higher inflation Ireland. Combined with the post 2000 recession, and the over-valuation of the DM at the time of entry to the Euro—plus the continued burden on German taxpayers of integrating eastern Germany to their welfare system—Europe, and its largest economy, Germany, has been landed in a rigidity trap.[46] The result has been to send fiscal imbalances in the big Euro-land member states way past the 3% gdp mark, stipulated in the Stability and Growth Pact. National governments have had to accept that their debt issues are priced at market rates, rather than  as  sovereign instruments, purchasable by a national central bank. Their growing debt cannot be inflated away. But the member states have found ways out of the Pact’s straitjacket, from falsifying their accounts to tearing up the Pact. The history of the Pact indicates that member states, especiallyFrance andGermany, continue to make or break rules agreed on in the EU when it suits them. The implication is that the ECB, a technical institution isolated from political interference by treaty, remains vulnerable to a political takeover by elected officials, desperate to seek a way out of  the monetary straitjacket which has been made for them.

Third, monetary union has significant implications for industrial and labour market policies. In terms of industrial policy, governments are constrained in their ability to sustain uncompetitive industries through budgetary transfers, without incurring rising debt levels and taxpayers hostility to the ratcheting up of tax levels. Monetary union has deprived them of  the exchange rate tool. All this favours cut-backs in welfare provision, and the promotion of privatisation, and steps to promote a Europe-wide labour market, to run alongside the Europe-wide currency, capital and products markets.[47] The starting point, though, is that labour markets are national (see Graph above on labour productivity and labour market participation rates): only 1.5 % of the EU’s total labour force is employed in another member state. Several factors account for low intra-EU labour mobility: cultural and language barriers; non-transportability of welfare-state programmes; sizeable legal and financial impediments to establishing legal residency; often difficult and expensive housing markets; and citizenship restrictions on public sector employment.[48] Furthermore, these institutional and cultural differences explain why the range of people in employment relative to the total employable population stretches from 56% inItaly to 75% inDenmark. The official EU objective is to achieve a 70% participation rate of the employable labour force by 2010: on that basis un-and under-employment in the Euro-zone in 2003 amounted to 18.5%.  

Fourth, monetary union, complemented by effective competition policies  to ensure that monopolies or oligopolies are not established on a European scale, would help de-nationalise corporate strategies—if everything else were equal. This was the  lesson which The Economist proposed should be learnt from the total receipts in Europeof $675 billion from privatisation between 1990 and 2002.[49] Privatisation promised to create a broad share-holding public, with a stake in publicly listed corporations, regardless of nationality. This fosters competition between financial institutions for ever more demanding investors: companies which wish to benefit by a single, transparent market will have to propose the very best projects; shareholders will not be inclined to buy shares unless returns on their investment are attractive; managers will want to accentuate the drive for efficiency; lay offs will accelerate. Clearly, none of this is readily compatible with the fragility of shareholder culture inGermany, or the continued existence of national cross-shareholdings, trusts, poison pills or other vehicles designed to repel foreign invaders. Nor is it compatible with the perpetuation of national labour market protectionisms, the heart of which are the national welfare states.

 One conclusion is that the EU model is not sustainable, and that the EU has no viable alternative in view. [50] This is disputable for two reasons: the first is that monetary union was not primarily about economic considerations. Confusion over the complex motivations leading to the Euro has led many observers to over-emphasise the costs that would be incurred in creating a monetary union without intra-state labour mobility. It has prompted expectations that monetary union would lead member states to speed up liberalisation of their national markets in conformity with the thrust of EU policy. Monetary union would act as a neo-liberal engine to break-up national labour market protectionisms of all sorts. And it led to the conclusion that given the disparities in labour market institutions, monetary union amounted to a very high risk strategy.[51]  Indeed, it was. But the expected alternative, German hegemony, was rated an even higher risk by its prime protagonists. Monetary union was about preventing the emergence of Germany as the dominant power in Europe after the end of the cold war. It was an updating of the peace agreements between Germany and France, in particular, that has characterised their relations since 1945. Maastricht was a peace treaty, and “irreversible”. The economic and social costs were, and are the consequence.

Secondly, Maastricht put into place one money and capital market, which only one of the four big states of the EU was prepared for. That country is the UK, without doubt the most liberal of markets among major EU member states in the sense that foreign companies, banks, personnel or products have ready access to a market where the rhetoric, and to a great extent the reality of  policy is geared to benefiting the consumer. One reason for British public opinion being sceptical about the EU-project is that the British government in the 1980s implemented the liberal market reforms, without the aid of the EU institutions. Indeed, Prime Minister Thatcher’s major concern was that the EU would be used to re-introduce the rigidities in the UK economic structure, which her governments did so much to remove. Clearly, Thatcher’s concern is shared in the Blair Labour government, despite or because of their signing on to the EU’s social policy agenda. So the other reason why British public opinion is sceptical about Euro-land is that the major states are stuck on very high levels of un-and under-employment. They have not adapted their structures to the EU framework which Kohl, Mitterrand and Delors concocted to house Germany.

Monetary union represents a political revolution perpetrated by EU’s elites, who knew only too well that public aquiescence could not be won without pledging to preserve les acquis sociaux. The lie at the heart of the package is that monetary union is sold to publics as designed to protect national welfare fabrics against the supposed depredations of “Anglo-Saxon” capitalism. That means that the full implications of monetary union  cannot be sold readily by successive French and German governments. They have to introduce reforms by stealth, through sleight-of-hand, and step-by-step. The resulting stresses and strains, evident in slow growth, budget imbalances, cheating on the statistics, non-compliance, unemployment and above all in the ever wider gap between the EU’s language of “solidarity” and the sad realities of social exclusion in the EU, ensure that the UK public public remains sceptical to hostile about joining fully.  Here is one more element of the “battle of systems”, given that London has become the Euro area’s financial capital, while the UK remains outside the monetary union.

Where does this leave our story in the light of the editors’ six mechanisms for change in the EU?  Monetary union has addressed the French fear of Bundesbank hegemony as the Federal Reserve’s main counterpart within the EU, but has strengthened Britain’s position as the Euro-zone’s centre for global finance. The Euro, too, expresses an ambition, often voiced in France, for global leadership, as the alternative to the dollar, but strengthens already existent trends for corporations to widen their market horizons in order to defray the costs of technological innovations. It has, and no doubt will continue to stimulate the member states’ dispositions to fight for their national priorities, stimulated by incompatible national legacies: the incompatibilities of the UK’s established financial structure and labour market institutions, with the still extant national financial, corporate and labour market institutions of France and Germany, as well as the continued incompatibilities of French and German national legacies with the neo-liberal thrust  of  the Euro and the accompanying capital market. The “battle of the systems” continues in full swing, with each of the major states seeking to subvert the institutions of the other, either through market mechanisms or through EU legislation. 

There is no evident way out of this condition. The major continental states feature low Euro interest rates, bloated budgets, rigid labour markets in France, Germany and Italy and a high exchange rate. The UK’s Labour government has presided over higher interest rates, a consumer boom, and a low unemployment economy outside the Euro. It is a beneficiary of the labour market reforms introduced in the UK in the 1980s. Similar labour market reforms aiming to facilitate access to work were notoriously either not introduced in France or Italy, or only introduced slowly in 2002-2004 in Germany under “Agenda 2010” and at the risk of the government’s own support. Here is the Euro’s Achilles heal. The fundamental deficiency in implementing the Euro is that product, labour and financial markets have not been liberalised yet to the extent required in a monetary union, and for them to operate at optimum efficiency. And they have not been liberalised yet, because there is no consent for liberalisation in the major countries. The Euro was launched as a top-down project, with minimum democratic support; but it can only prosper if the ideological battle is won to ensure a bottom-up support for a liberal market society. There is no going back,….the immediate likelihood is not an early evolution to a liberal market society on the European continent, but an unstable and necessary temporary compromise between national social corporatism, generating major social tensions in France and Germany, and  global markets, of which the Euro, the Euro-capital market and the UK financial and corporate structures are constituent parts. The EU has entered,-unthinkingly or unwittingly remains a matter of taste—on uncharted waters.


[1] Neil Fligstein, The Architecture of Markets, Princeton, NJ, Princeton University Press, 2001. p.190

[2] The term ‘national business system’ has been coined by Richard Whitely to describe specific patterns of economic coordination and control in market economies. See Richard Whitley, Divergent Capitalisms : The Social Structuring and Change of Business Systems, Oxford University Press, 1999.

[3] There is a large literature on the theme of monetary union. Authors place different weight on contributing factors from the impact of global financial markets on intra-European exchange rates; domestic politics; interdependence within Europe; and Germany’s place in post-war Europe. My take on the story –that all these perspectives point to the pivotal role of Germany– is spelt out in my chapter with Marcello de Cecco, “The politics and diplomacy of monetary union: 1985-1991”, in ed. Jonathan Story,(1993)  The New Europe: Politics, Government and Economy since 1945, Oxford, Blackwell. See also  Loukas Tsoukalis, (1977), The Politics and Economics of European Monetary Integration, London, Allen and Unwin; Peter Ludlow, (1982) The Making of the European Monetary System, London, Butterworths; Haig Simonian, (1985)The Privileged Partnership: Franco-German Relations in the European Community, 1969-1984,Oxford University Press; Eric Aeschimann, Pascal Riche (1996) La Guerre de Sept Ans: Histoire secrète du franc fort 1989-1996, Paris, Calmann-Levy; Bernard Connolly, (1996) The Rotten Heart of Europe: The Dirty War for Europe’s Money, London, Farrar Straus & Giroux ; Dieter Balkhausen,.(1992) Gutes Geld und schlechte Politik, Düsseldorff, Capital; Michael Baun, “The Maastricht Treaty as High Politics: Germany, France and European Integration”, Political Science Quarterly, 110:4 (1995-6) pp.605-24; Charles Grant, Delors: Inside the House that Jacques Built, London, 1990; Kenneth  Dyson, (1994) Elusive Union: The Process of Economic and Monetary Union in Europe(London); Kenneth Dyson, Kevin Featherstone, (1999) The Road to Maastricht: Negotiating Economic and Monetary Union, Oxford University Press; Andrew Moravcsik, (1998) The Choice for Europe: Social Purpose and State Power from Messina to Maastricht, Cornell University Press, New York.

[4]. See Jonathan Story, Ingo Walter, (1997) Political Economy of Financial Integration in Europe: The Battle of the systems, The MIT Press, Cambridge, Massachusetts.

[5]. See Michael Porter, “Capital Disadvantage: America’s failing Capital Investment System”, Harvard Business Review, September-October 1992.

[6] Christopher A.Bartlett, Sumantra Ghoshal, (1989) Managing Across Borders: The Transnational Solution, Boston, Harvard Business School Press,.

[7]. Douglas C. North, et al (1991) Institutions, Institutional Change and Economic Performance, Political Economy of Institutions and Decisions, Cambridge University Press.p. 109

[8]. C.K.Prahalad, Yves Doz, (1987).The Multinational Mission: Balancing Local Demands and Global Vision,  New York, London, The Free Press,

[9]. Yao Su Hu, The International Operation of National Firms and Competitor Advantage, Henley Working Papers, HWP 9405; Lolus Pauly, L.W., Simon Reich,.”National Structures and Multinational Corporate Behaviour: Enduring Differences in the Age of Globalizatrion”, International Organisation, vol.51.no.1.Winter, 1997.

[10]. Adrian Hamilton, (1986)The Financial Revolution, London, London,  Adrian Hamilton,; Charles Goldfinger, (1986) La  Géofinance, Paris, Seuil.

[11] Financial Market Trends: Europe vs.US. October 2004. International Financial Services, London, http://www.ifsl.org.uk

[12] The following are the outward foreign direct investment stocks in $millions of: US-2,069,013; UK—1,128,584; Germany—622,499; France—643,398.  World Investment Report, 2004. The Shift Towards Services, United Nations. New York, Geneva, 2004.

[13] Statement of Robin Hutton, director of banking, insurance and financial institutions in the Commission, quoted in Financial Times, December 5,1977.

[14] According to Secretary General of the Banking Federation, Umberto Burani, the home country principle, –supposedly the centrepiece of the financial services programme– “has been introduced in no legislation.” “Interview avec Umberto Burani, Sécrétaire Generale de la Fédération Bancaire”, Europolitique No.1958, May 12, 1993.

[15]. Mr Frits Bolkestein, Member of the European Commission, in charge of the Internal Market, Taxation and Customs Future Directions for European Financial Integration Opening remarks at the conferenceon European Financial Integration : Progress and Prospects Palais d’Egmont, Brussels, 22nd June  2004 Europa Press Releases. http://europa.eu.int/rapid/press

[16]  HM Treasury, FSAP Report. After the EU FSAP: UK response to the reports of the four independent expert groups, September 2004. Crown Copyright. 2004.

[17] Chris Brewster,Paul Teague, European Community Social Policy: Its Impact on the UK,London, Institute of Personnel Management, 1989,pp.94-99. Résolution du Conseil du 22 décembre 1986 concernant un programme d’action pour la croissance de l’emploi(86/C 340/02).

[18] Europolitique.No.1553. January 10,1990. These measures dealt with “atypical work”, with a view to limiting labour market competition;working hours; work contracts; and an EC instrument for information, consultation and participation of workers in multinational corporations.

[19] At the Lisbon March 2000 summit, Blair berated his EU colleagues for holding to “the old social model”, rooted in the social legislation and welfare of the 1960s and 1970s.The Economist, “ Free to Bloom”, December 2, 2000.

[20] “EU ‘punishing’ UK over labour market”, Financial Times, November 30, 2004.

[21] ‘Kopper gesteht Arroganz’, Handelsblatt, June 15,1994.

[22] Mary O’Sullivan, (2000) Contests for Corporate Control: Corporate Governance and Economic Performance in the US and Germany, Oxford University Press, pp:262-3.

[23] Pension Funds for Europe, DB Research, Frankfurt a.M. 1999. p.7.

[24] Martin Höpner, Lothar Krempel, (2003) “The Politics of the German Company Network”, MPIfg Working Paper 03/9. Max Pklanck Institute for the Study of Societies.

[25] As  Wolgang Schieren, the head of Germany’s leading insurance firm, admitted, “Allianz is today a holding company, whose objective is to hold participations”. Interview with Wolfgang  Schieren, Die Zeit, September 12, 1991.

[26] DeutschesAktieninstitut e.V.(ed) 2001 : DAI-Factbook 2001, Frankfurt a.M.

[27] “Es Riecht nach Komplott und Konspiration”, Die Welt, October 27, 1989

[28] Jürgen Beyer, (1998), Deutschland AG a.D.: Deutsche Bank, Allianz und das Verflechtungszentrum grosser detuscher Unternehmen.MPIfG Working Paper 2002/4. Max Pklanck Institute for the Study of Societies.

[29] On the incompatibility between Bank of England and Bundesbank central banking with regard to financial markets, Bernard Connally, (1996)The Rotten Heart of Europe: The Dirty War for Europe’s Money, Farrar Straus & Giroux .

[30] See my ‘Finanzplatz Deutschland: National or European Response to Internationalisation?” German Politics,Vol.5,No.3, December 1996.pp.371-394.

[31]  This condition found expression in the Central Bank Governors’ deliberations on liberalisation of capital movements, and on the insider trading directive.Europolitique,No.1401.April, 30.1988, and  J.O.No L 334/30 18.11.1989..

[32] Jürgen Beyer, Martin Höpner, “The Disintegration of Organised Capitalism: German Corporate Governance in the 1990s”, West European Politics, 26 (4), October 2003. pp.179-198.

[33] See Rudiger vonRosen, The storm gathering over corporate Germany, Financial Times, September 29, 2004. 

[34]. John Zysman, Governments, Markets and Growth: Financial Systems and Policies of Industrial Change (Oxford: Martin Robertson, 1983).See also Vivien A.Schmidt, (1996) From State to Market? The Transformation of French Business and Government, New York and London, Cambridge University Press, and  “French capitalism transformed, yet still a third variety of capitalism”, Economy and Society, Volume 32, No.4 November 2003:526-554.

[35] François Bellon, (1980) Le Pouvoir Financier et l’Industrie en France, Paris: Seuil, p.74. See also François Morin, (1974) La Structure Financiere du Capitalisme Français, Paris: Calmann-Lévy ; (1977) La Banque et les Groupes Industriels à l’Heure des Nationalisations Paris, Calmann-Lévy.

[36] The new socialist secretary general told his party militants, in language redolent of the neo-socialist fascists of the 1930s that “the dominant phenomenon of capitalist concentration, money, enters everywhere and devours those whom it is supposed to assist”. Quoted in Catherine Nay, (1984) Le Rouge et le Noir: ou l’histoire d’une ambition, Paris, Grasset,.p. 322.

[37] “French industrial policy”, Financial Times, January 8,1982.

[38] First Report of the High Council of the Public Sector., cited in L’Année politique,economique,socialse et diplomatique, 1984. Paris,Editeur du Moniteur, 1985.p.492.

[39] Ministère de l’Economie, des Finances et du Budget, Le Livre Blanc sur la Réforme du Financement de l’Economie, March 1986

[40] Dov Zerah, (1993) Le Système Financier Français: Dix Ans de Mutations, Paris: Documentation Française,.

[41] The expression is that of Olivier Pastré, consultant to the Trésor: “Pastré: le reveil des ZINvestisseurs”, La Tribune de l’Expansion, September 7, 1992.

[42] “Commission Bancaire. Rapport 1993. “La bancassurance en France”, pp.197-164.

[43] “La logique du coeur financier”, Le Monde, October 8,1991.

[44]“Les orientations de la Commission des Communautés Européennes” Futuribles,March,1985.pp.3-18.

[45] Facing the Challenge: The Lisbon Strategy for Growth and Employment, Report from the High Level Group chaired by Wim Kok, Luxemburg, Office for Official Publications of the European Communities,  November 2004.

[46] See  Stephen J.Silva, “Is the Euro Working? The Euro and European Labour Markets”, Jnternational Public Policy, 24, 2, 147-168.

[47] Krueger, A.B.(2000) “From Bismark to Maastricht: The March to European Union and the Labor Compact”, NBER Working Paper, no.w7456, 18-20.

[48] Bertola.G.(2000) “Labour markets in the European Union”, ifo-Studien 46, 1, 99-122

[49] “Coming home to roost” The Economist, June 27, 2002.

[50] This is the conclusion of the Sapir Report. See  Jacques Pelkmans, Jean-Pierre Carey, Can Europe Deliver Growth? The Sapir Report and Beyond Centre for European Policy Studiesd, CEPS Policy Brief No.45, January 2004.

[51] Martin Feldstein, « EMU and International Conflict », Foreign Affairs,  November/ December 1997, Vol 76, Number 6; Rudiger Dornbusch, Euro Fantasies: Common Currency as Panacea,  September/October 1996, Volume 75, Number 5 .

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About Jonathan Story, Professor Emeritus, INSEAD

Jonathan Story is Emeritus Professor of International Political Economy at INSEAD. Prior to joining INSEAD in 1974, he worked in Brussels and Washington, where he obtained his PhD from Johns Hopkins School of Advanced International Studies. He has held the Marusi Chair of Global Business at Rensselaer Polytechnic Institute, and is currently Distinguished Visiting Professor at the Graduate Schoold of Business, Fordham University, New York. He is preparing a monograph on China’s impact on the world political economy, and another on a proposal for a contextual approach to business studies. He has a chapter forthcoming on the Euro crisis. His latest book is China UnCovered: What you need to know to do business in China, (FT/ Pearson’s, 2010) (www.chinauncovered.net) His previous books include “China: The Race to Market” (FT/Pearsons, 2003), The Frontiers of Fortune, (Pitman’s, 1999); and The Political Economy of Financial Integration in Europe : The Battle of the Systems,(MIT Press, 1998) on monetary union and financial markets in the EU, and co-authored with Ingo Walter of NYU. His books have been translated into French, Italian, German, Spanish, Chinese, Korean and Arabic. He is also a co-author in the Oxford Handbook on Business and Government(2010), and has contributed numerous chapters in books and articles in professional journals. He is a regular contributor to newspapers, and has been four times winner of the European Case Clearing House “Best Case of the Year” award. His latest cases detail hotel investments in Egypt and Argentina, as well as a women’s garment manufacturer in Sri Lanka and a Chinese auto parts producer. He teaches courses on international business and the global political economy. At the INSEAD campus, in Fontainebleau and Singapore, he has taught European and world politics, markets, and business in the MBA, and PhD programs. He has taught on INSEAD’s flagship Advanced Management Programme for the last three decades, as well as on other Executive Development and Company Specific courses. Jonathan Story works with governments, international organisations and multinational corporations. He is married with four children, and, now, thirteen grandchildren. Besides English, he is fluent in French, German, Spanish, Italian, reads Portuguese and is learning Russian. He has a bass voice, and gives concerts, including Afro-American spirituals, Russian folk, classical opera and oratorio.
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