Life on the outside: economic conditions and prospects outside euroland[‘Do domestic firms benefit from foreign direct investment? Evidence from Venezuela’]

Life on the outsideThe European economic and monetary union (EMU) is now over 4 years old. In this paper we assess whether monetary union has begun to have significant economic effects by comparing countries in EMU with the EU countries outside. We focus principally on trade creation between EMU member countries, using a methodology that controls for the fact that the decision to join the monetary union was not random but was more likely to be taken by countries whose prospects of trading with other EMU members were already high. We find that the trade effects of monetary union are significant. We estimate that had the UK been inside EMU the sum of its imports and exports could have been substantially greater. For comparative purposes, we also make preliminary estimates of the effect of monetary union on three other dimensions of economic performance: foreign direct investment, the development of financial markets and overall macroeconomic performance, though we recognize that our ability to control for other factors is more limited in respect of these other indicators. The evidence suggests that inward investment in the countries outside would have been greater had they joined EMU, but that the impact of this on GDP would be no more than 0.3% of GDP per annum for the UK and less than that for the other ‘outs’. Financial market activity shows no clear sign of having been affected by EMU, and London’s position as Europe’s financial centre remains, as yet, largely unchallenged. On standard measures of aggregate performance – inflation, unemployment and output – no clear pattern of EMU effects has yet emerged.— David Barr, Francis Breedon and David Miles