EURO MATTERS - Money makes the world go around
The pressure to join the European Monetary Union is being felt throughout Europe, but what will happen if the UK continues to opt out of the currency?
The imminent arrival of European Monetary Union (EMU) heralds theroughout Europe, but what will happen if the UK continues to opt out of the currency? most significant and controversial period of monetary development in the world in decades.
Some financial analysts say the single European currency, the Euro, may even unseat the US dollar as the world's pre-eminent currency. This means businesses Europe-wide must prepare to tackle the issues sur- rounding EMU.
The timetable for EMU is divided into three phases. Phase A kicked off on 1 January with the launch of EMU. This is the beginning of the convergence period, during which member states hoping to participate in the single currency must meet certain economic conditions designed to bring the economies of the participating member states into line.
Phase B, which is the beginning of the transitional period from individual currencies to the Euro, will start on 1 January 1999.
Exchange rates between the currencies of participating member states will be fixed at a yet-to-be determined rate, and participating national currencies will no longer be listed on the foreign exchange markets. The Euro will replace the European Currency Unit (ECU) on a 1:1 basis and will, until the end of Phase C (which will probably run until 1 July 2002), co-exist with national currencies of participating member states.
During this period, changes likely to occur include: payment systems operating in Euros; wholesale markets like interbank, money, foreign exchange and capital operating in Euros; new issues of tradable public debt will be denominated in Euros; banks will draw up customer account statements in both the Euro and the national currency and offer certain Euro products; dual pricing of goods and services will be gradually introduced; wages and salaries will be paid in Euros; and public administration, like taxation and social security payments, will be carried out in Euros. Tills, cash dispensers and payment terminals will all be re-programmed.
Phase C will begin on 1 January 2002 and will stretch until about 1 July 2002. During this stage, Euro notes and coins will be introduced as the sole legal tender for participating member states with national currencies being phased out over a period of six months.
But as the deadlines approach, the business community is far from ready to tackle the introduction of the single European currency, according to a recent report which surveyed finance directors at 301 European companies. The survey results reveal that although 93 per cent of finance directors believe their country will join EMU, just 20 per cent have estimated the cost of adapting to EMU, while only eight per cent have allocated a budget for dealing with the change.
The introduction of EMU raises a number of legal issues which businesses will be forced to take in hand. One concern is that EMU should not affect continuity of contracts - it should not give rise to claims that contracts have been frustrated because the currency specified in the contract has been abolished.
In legal speak, under UK law, one party to a contract may unilaterally treat its obligations under that contract as at an end where the doctrine of frustration applies, that is, if an event makes further performance of the contract impossible or radically different from that contemplated when the contract was entered into.
But it would be difficult for a party to argue that substitution of a national currency would frustrate many contracts, particularly where such contracts were entered into at a time when it was foreseeable that a single currency would be introduced.
Proposed European Council reg- ulations make it clear that apart from any agreement which the parties may have entered into, the introduction of the Euro will not alter the terms of a legal contract, discharge or excuse performance of any such contract, or give any party to such contract the right unilaterally to alter or terminate it.
During Phase B, references in contracts to amounts denominated in member state currencies will be unaffected and will remain valid. Amounts due will be payable either in Euros or in national currency.
As from 1 January 2002 - Phase C - all references to national currencies of participating member states will automatically be construed as references to the equivalent amount in Euros.
References made in contracts to official European Currency Units will, as from 1 January 1999, automatically be construed as references to the Euro. The conversion rate will be 1:1.
Where a contract refers to ECU without specifying that it is the official ECU, those references will be presumed in the absence of evidence to the contrary to be references to the official ECU.
Although the UK is in a different position from other European countries in that it is not, because of its opt-out, legally bound to join the single currency, clearly EMU is of great importance to the business community in the UK as a whole, and as such will remain high on the agenda of the new government.
In terms of continuity of contracts, a directly effective EU regulation could ensure that contracts between individuals and companies resident in EU member states are not the subject of frustration claims by either party. It is not clear however, how such regulations could deal with a contract between a resident of a non-participating member state and a resident of a participating member state. And such a law cannot affect a contract involving a resident of a non EU member state, for example, in the case of a lending agreement between a Japanese bank and a German borrower.
As matters stand, it is far from clear how these problems are to be resolved.
It is thought that third- party country lenders and sellers are already lobbying for the right to elect for payment and repayment in a non-EU currency. But what will happen to long-standing arrangements for payment in sterling, for example? Is the lender to be obliged to accept Euros at a rate fixed by the community?
The uncertainty surrounding the issue raises the question of what businesses should be doing now to stay ahead of the game. The course of action depends on the type of business being run and the extent to which a business trades with, or has operations in, other Euro-pean countries.
Major financial institutions, or a company involved in foreign trade, will need to be prepared to operate in Euros whether the UK is in or out.
If the UK is out, this means dealing in the Euro like any other foreign currency. The Bank of England is working with numerous other banks in the financial community to ensure that the necessary preparatory work is agreed and undertaken. The Bank of England is also preparing its own systems to ready them to handle the Euro.
The UK has opted not to join the first wave but it can still opt in at a later stage. There will be a year before the start of Phase B, then for three more years to 2002 there will be no compulsion to use the Euro, though businesses will be able to do so if they wish. And businesses will need to take account of what their trading partners do.
If the UK opts out of EMU, businesses will still need to cope with the Euro as a foreign currency from 1 January 1999, just as they now deal with contracts and transactions denominated in dollars, deutschmarks or yen. Clearly, this has implications for banking and other financial arrangements for all businesses which trade in Europe.
If the UK decides to join EMU after January 1999, the exchange rates between participating countries would be replaced by fixed conversion.
On 1 January 1999, the Euro would become a currency in its own right and would start being used in the banking system alongside other national currencies.
National currencies would become units of the Euro just as, say, pence are units of the pound now. This would mean there would no longer be exchange rate changes against the currencies in the monetary union. But the Euro, and sterling as a unit of the Euro, would still fluctuate against the dollar and other non-EMU currencies, including European currencies not in the monetary union.
From 1 January 1999, there will be a single short-term interest rate for all members of the monetary union set by the European Central Bank (ECB). If the UK joins, this would mean that the general level of UK interest rates would no longer be set by the Bank of England. Governors of the participating national centre banks and officials of the ECB would meet as the ECB Governing Council and set the rate. There could still be differences between rates on different countries' securities, reflecting mainly credit risk.
There will be no need for businesses to begin using the Euro immediately, or indeed until Euro notes and coins are introduced around 2002. Some businesses may wish to use Euro banking facilities earlier than that, but most, especially those trading mainly in the UK, will have no need to. The basic principle in the three-year period before the notes are introduced is not to prohibit the Euro's use, but not to compel it either.
Businesses can decide whether to price goods or services in Euros or sterling or both, according to customer requirements, although specific requirements could be introduced. If a business is exporting to the Continent and finds its customers prefer quotes and prices in Euros, it will be easy to make the conversion, just as it is now simple to calculate prices in francs or deutschmarks. The difference will be that there will be no foreign exchange risk to hedge.
If a business is in the retail market in the UK, their customers are unlikely to want prices in Euros until they have the new currency in their hands, that is around the beginning of 2002.
As a general principle, the existing borrowing facilities that businesses hold from banks will simply convert into Euro liabilities at the relevant date, but loan agreements should be checked to ensure this.
The question of whether or not banks will charge commission for converting EMU currencies and Euros into sterling after 1 January 1999 has been raised.
The Bank of England will not charge the commercial banks for this service, and it is not expected to make significant charges to their customers.
But the issue has yet to be thrashed out, and it will be for individual commercial banks to decide.
Another issue is whether businesses will have to renegotiate all of their contracts, or whether a law will be passed stipulating that they will continue as Euro contracts.
At the request of European governments, draft regulations are currently being negotiated by the European Council setting out the legal framework for the introduction of the Euro. The first, which is virtually agreed and subject to some domestic Parliamentary procedures, could come into force quite soon. It covers continuity in respect of national currency and basket ECU contracts and financial instruments, and rounding - that is to how many decimal points a conversion should be rounded. The second will establish the precise manner in which the Euro is introduced under the law to secure legally enforceable equivalence between it and the national currencies it replaces.
Even though the UK has opted not to join the first wave of participants on 1 January 1999, it is not precluded from joining at some other stage of Phase B. Therefore, businesses should not defer their preparations for entry into EMU.
However, the main impact will be on those directly involved with financial markets. The Euro will be like any other foreign currency. It will be the currency for a sizeable part of Europe, but not all of Europe. There will be Euro payment systems to which individual banks will have access.
The UK's membership of the single market is not in doubt, so there will be no question of its exclusion from deals due to its failure to enter EMU in the first wave. The Treaty of Rome does not make any distinction between members of EMU and other EU countries with respect to the functioning of the single market. Protectionist measures taken to exclude an EU country would therefore be illegal, as well as being against the best interests of the members of the union themselves.
Joanna Bowring is a solicitor at Dibb Lupton Alsop.