Politics and Economics in the History of the European Union

Alan Milward

• Publisher: Routledge
• Year: 2005
• Print ISBN:
  9780415653893
• eBook ISBN:
  9781134331062
• Topic: Business
• Subtopic: Business General
• Index: Business

The Graz-Schumpeter annual lectures have grown in reputation over the years with impressive figures from academia such as Ian Steedman, J. Stanley Metcalfe and Duncan K. Foley contributing their own impressive series of lectures. The books produced as a result of these lectures are no less impressive and this latest volume from Alan Milward is a typically authoritative read.

1 Economics and politics in the decision to join the European Union

The most successful aspect of post-war Europe’s integration, the one that gives it genuine power and leverage in the world, which by its commercial power and attraction binds to the European Union (EU) most of the European states which are not members of it, is the common market. Excluding the value of the cross-border trade within the common market from the calculation, that is to say by assuming the EU to be one nation for trading purposes, it accounted in 2001 for 19.5 per cent of the total value of the world’s exports and for 19.0 per cent of the world’s imports. Were it one nation, it would be the world’s greatest exporter. On the same basis the USA accounted in the same year for 15.7 per cent of world exports and 23.7 per cent of world imports.¹

Even in citing that figure we are at once brought face to face with the fact that, no matter how mighty the economic weight of the European Union in commercial negotiations, it is not one nation. Although within the common market there are no tariffs, there remain other barriers and controls of various kinds on cross-border trade. Agricultural trade within and beyond the EU remains, in particular, tightly governed by the regulations of the Common Agricultural Policy (CAP) of the EU and within the Union is subject to frontier ‘levies’, whose purpose is to equalise foodstuff prices and to provide revenue for the administration of the Community. The difference between them and tariffs is more one of constitutional implication than of economic effect. Because its founding charter, the Treaty of Rome (1956), decrees that it is the European Commission, the European Community’s executive, which shall conduct trade negotiations with other states, the Union comes much closer to acting like a single nation, at least in appearances, in international trade than in any other aspect of its activities. The reality, however, is that its component states closely supervise any action on the part of the Union’s own trade negotiators. While it is statistically logical not to count as EU exports national exports to another country within the Union’s boundaries, when they are reckoned as exports France, Germany, Italy and the United Kingdom are each numbered among the world’s six biggest traders. That fact alone gives some measure of the magnitude of the common market’s commercial leverage. It also makes the point that so huge a value and volume of cross-border trade within the common market cannot sensibly be separated from the structure and pattern of its trade with the external world. If we include trade between member-states of the EU in the calculation, counting it as a part of foreign trade, the EU was responsible in 2001 for 24.03 per cent of the value of all world exports.

In the purely political sphere, by contrast, the European Union has only a fleeting and rarely united world presence. It repeatedly fails to achieve agreement on common foreign policy objectives. When it does agree, the agreement is usually limited to platitudinous statements with which it is difficult to disagree but which are frequently equally difficult to act on. It cannot by itself defend its member-states if they are attacked by a greater power, for it effectively has only independent national armed forces to call on, most of them inadequate for the common task, should they, indeed, deem it a common task. Those states which joined in 2004 might often disagree with such elements of a common foreign policy as the EU of 2003 could occasionally tack together. Outside the commercial realm other aspects of economic policy remain often divisive. This is even the case for monetary and fiscal policy in spite of the monetary union. Neither France nor Germany intend in 2004 to abide by the rules for monetary policy which they themselves laid down and it may well be that they are wiser to honour in the breach the agreement on which they insisted rather than in the understanding.

It is true that the EU has succeeded in laying down political principles for new member-states, principally to ensure that democratic government endures, although some older member-states do not seem to apply these quite so strictly to themselves. The citizens of the European Union of fifteen states as it stood in 2003 see nevertheless its political machinery as distant from them, hard to comprehend, and insufficiently democratic. The European Parliament is elected by so small a percentage of the voters, and one which has diminished in every European election since the first, that it is hard to make a convincing case that its powers vis-à-vis the executive should be increased. The national populations, when questioned, vary between expressing only a weak allegiance to the Union or showing a substantial measure of distaste for it.² To be against dictatorship is a long way from perfecting democracy. Accepting that the majestic and mostly virtuous optimism of the political project to unite Europe in a common democracy has its own appeal, it is nevertheless tempting to conclude at first glance that the answer to the question posed by this chapter is that it must be the common market which causes states to seek membership of the European Union, because all other aspects of the Union are so frail.

There is a substantial body of economic theory which lends support to that answer and even goes beyond it in implying that the economic pressures imposed by a customs union on neighbouring countries will eventually lead to the expansion of the union by their absorption. At the time when post-Second World War opinion in the United States government was swinging, as a result of the Cold War and of the Marshall Plan, in favour of a customs union in western Europe and even contemplating this as a step towards some form of European political union in the distant future, Jacob Viner published a work which initiated theoretical analysis of the effects of customs unions and which remains an important point of reference.³

Viner divided the effects of the formation of a customs union into what he called ‘trade creation’ and ‘trade diversion’. Trade creation he defined as the net addition to the previously existing value of a country’s foreign trade ascribable to the reduction of barriers to trade as a result of its entry into a customs union. Trade diversion he defined as an increase of trade with other members of the customs union at the expense of a reduction of trade between the customs union and countries outside its boundaries. An increase in the absolute value of trade caused by trade creation would generate a net gain in welfare, derived, for example, from the substitution of lower cost material inputs into production or of other final cost reductions due to the removal of tariffs. Trade diversion implied the opposite effect. The preferment of inputs from within the customs union, whether for reasons of contiguity, implicit preferences, closer business connections, or the fact that some national tariffs might have to be adjusted upwards to achieve a common tariff, might mean in some cases that an increase in intra-trade within the union reached at the expense of non-union trade partners would lead to a reduction in total welfare.

With the notable exception of Greece in 1981 the expansion of the European common market has been through its absorption of closely neighbouring, in many cases contiguous, countries. The outcome has been that the imports of its member-states from each other have risen from 35 per cent of their total value to 60 per cent on the eve of its expansion in 2004 to include the former Soviet bloc states (Tables 1.1 and 1.2)

Viner pointed out that free traders and protectionists alike thought that customs unions in general supported their cause. Gillingham in his recent partisan history of post-war European integration, proclaiming the European Economic Community (EEC) as a massive step on the road to a free trade world which has brought great benefits, is at the same time unsparing of the protectionism on which its strength depended before the 1980s.⁴ Viner argued that a customs union did have certain inbuilt protectionist advantages. The value of the common market’s internal trade is greater now than that of its external trade, even after what Gillingham regards as fifteen years of the spread of ‘free trade’ beyond its frontier. EU states’ imports from inside the Union have grown as a percentage of total EU imports internal and external, so that they now constitute well over a half. There is one clear cause of this trend: the physical area of the common market has expanded. Although the share of intra-trade imports in total imports occasionally shrank due to recession, as in the first year of the United Kingdom’s membership, the overall trend has been that the greater the physical territory of the common market, the greater its level of self-sufficiency. It should be noted, however, that in the 1970s and early 1980s imports from outside the common market competed successfully with equivalent goods traded inside the market. It was mainly to Japan and the USA that the EC was losing ground in its own market, a situation reversed in the late 1980s and afterwards.

Table 1.1 Expansion of the EC/EU

Table 1.2 Intra-common market imports as a proportion of total imports (%)

Because of restraints on labour mobility imposed by national welfare systems, by national subsidisation of agriculture (one of the policy purposes of which was to slow down the movement of labour out of agriculture), by linguistic and cultural differences between the national labour forces, and because, also, for much of the time of the lack of any unified capital market, the protectionist possibilities of a customs union, so Viner argued, as well as the possibilities of economic growth derived from scale economies, would in reality be more limited than theory predicted. Unaltered before the late 1980s, these realities did indeed mean that any comparisons between the USA and the EC revealed the common market not to have the advantages of a single, unified national market.⁵ As it has acquired rather more of those advantages, so has its capacity to compete on its own territory with American and Japanese goods improved.

Most of the hypotheses which Viner used to build customs union theory depended on the tariff arrangements of any particular customs union, something which he readily acknowledged. For him the devil was in the detail. The lower the average level of the common tariff of the customs union compared to the averaged level of the national tariffs of its component states before the creation of the customs union, the nearer, he hypothesised, the customs union would be to obtaining the potential gains to welfare which could theoretically be expected from its formation. The detail, however, can be hard to determine. Whether the Common External Tariff (CET) of the common market was at first lower or higher than the average of the previous national tariffs of its constituent states was a matter of dispute. The United Kingdom appealed against its acceptance by the General Agreement on Trade and Tariffs (GATT) on the grounds that GATT rules forbade the formation of any customs union whose tariff was an increase on the average of the previously existing tariffs. The United States, for political reasons, rammed the change through GATT irrespective of the evidence that it may indeed have been a breach of the rules.

It was also the case, Viner hypothesised, that the greater the degree of competition between producers of high-cost products in the constituent states, the more was a customs union likely to generate some of the welfare gains of free trade. There was, however, he argued, also a countervailing tendency to this possibility; a customs union could move more quickly towards free trade with the external world the wider were the variations in unit costs of production in similar protected industries within its constituent states, because of the greater economies to be derived from internal trade within the union. By extension this implied that the gains to welfare would be greater the higher the tariffs protecting markets outside the union. By further extension, the greater the gains through increased sales of those same industries, the greater also the gain through a reduction in imports of the same products from outside the union.

These were hypotheses of possible outcomes from the formation of a customs union, strengthening the argument which Viner advanced more generally that a customs union had ample scope to seek gains to welfare both through protection and through free trade. In this argument ‘protection’ and ‘free trade’ were the two extreme points of a line, too extreme to be attainable by an institution which must by its nature be a complicated political compromise. Like Platonic ideals they could, however, serve as guides to action on earth. For a large economy, such as the United Kingdom, disposed by its previous experience to move towards ‘free trade’ as the better source of welfare gains, joining a customs union might well be a sub-optimal choice. Such it was, indeed, considered by the United Kingdom in the 1950s, as it was at the same time by the German Federal Republic’s Minister of the Economy, Ludwig Erhard. In both cases the judgement was primarily economic although for both countries primary economic considerations led to political considerations which could be decisive in the other direction, as they were in the German case and as they became in 1961 in the British case.

From May 1960 the common market had a rival which proclaimed itself nearer to the ‘free trade’ point by its name, the European Free Trade Association (EFTA). Of EFTA, a British-inspired creation, Erhard took a favourable view, because he thought the gains which would accrue to Germany from a common market, within which France would have a long list of gains to be realised through cleaving closer to the protectionist point, would be less in total value than those from a joint venture with Britain towards the free trade point. He was prone to overestimating the propensities of Scandinavian countries to lean in the free trade direction and the ability of the United Kingdom to sustain the same course. In any case, because EFTA was created to pursue tariff and trade control bargaining with the common market, the difference in the nature of the two institutions had little significance for their respective tariff levels. EFTA’s task was to track the common market’s tariff projectory, a challenge which did not embarrass the EEC. The common market remained distinguished by its common economic policies, the Common Agricultural Policy, the Common Commercial Policy and Competition Policy, whose purposes were to equilibrate trading conditions within the market and to protect where necessary, but its external tariffs were on balance lower than those of many EFTA members on non-EFTA goods. It seemed to confirm Viner’s view that it was able to realise the advantages both of trade liberalisation and of protectionism.

For small economies Viner implied that the most valid reason for joining either the common market or EFTA would be an economic one, access to a larger market within which they would reap the rewards from specialisation in niche products without fearing too severe an initial competition from outsiders. The situation for a smaller economy was, he implied, one in which it was probable that it would make more gains to welfare through membership than a larger economy. Experience in EFTA seems to bear this out. Five member-states saw the value of their exports within EFTA grow by far more than the average of all member-states over the years 1959–67 and for two others the figure was only a little below the average. The remaining member-state, the only large economy in EFTA, the United Kingdom, saw its exports grow over the same period by 92.0 per cent when the average for the whole association was 131.3 per cent.⁶ Over the period 1959–63 British exports declined from 31.8 per cent of intra-EFTA exports to 26.4 per cent. All other countries increased their share.⁷

Considering therefore the answer to our question as it emerged from Viner’s treatment of it, theory and practice seemed to offer one explanation for smaller economies to seek membership in some form of tariff union. The allocation of new trade to the headings of trade creation and trade diversion is, though, an imprecise procedure and the measurement of gains to trade is not without weaknesses in the historical perspective. Various methods of measuring ‘new’ trade have been tried. The two most frequently used techniques may be called the ‘fixed shares’ method and the ‘extrapolation’ method. The ‘fixed shares’ method would be to compare trade shares within the common market at given dates, before and after accession, with trade shares on other markets. A rise in intra-common market trade would be attributed to tariff preferences in any case where it was not matched by an increase in the share of imports from the common market by the outside market. The concept of the outside market as uninfluenced by, even independent from, the common market is, however, historically dubious. In the first twenty years of the common market, at the least, the growing share of exports by other member-states to Germany was partly dependent for its dimensions on Germany’s exports to non-member-states. The extrapolation method extrapolates from a matrix of trade in a given year to compare the result with the actual trade flows in a later year. It is more difficult by this procedure to say what proportion of the difference between the real figures and the extrapolation is due to trade diversion, but as a method it has the advantage of using actual historical data as a comparator and it avoids the dubious idea of an inside world, the common market, and an outside world whose behaviour patterns are not influenced by each other.

The EFTA secretariat ventured into statistical efforts to separate trade creation, new trade, from trade diversion. Its efforts suggest that the poorest of its member-states, Portugal, did benefit from trade creation. It was, however, on particularly privileged terms in EFTA. About half of its imports from EFTA fell under an agreement, Annex G of the Stockholm Convention which created EFTA. For all the products in Annex G Portugal was allowed to reduce tariffs more slowly than the other member-states and even to create new tariffs to protect infant industries. Full tariff reduction within the rule for other EFTA members applied to only about one-third of Portuguese imports from them. Of the commodity groups which the secretariat was able to study, the growth of Portuguese exports within EFTA was only markedly characterised by trade creation in the case of textiles. This was probably not unconnected with the spread in the 1950s of non-tariff barriers to textile imports into European countries and the USA, from which Portuguese t...

Table of contents

• Cover Page
• The Graz Schumpeter Lectures
• Title Page
• Copyright Page
• Illustrations
• Preface
• Abbreviations
• 1: Economics and politics in the decision to join the European Union
• 2: Denmark, Ireland and the political economy of industrialisation
• 3: Europe’s Africa
• Notes