The practical implications for UK businesses of the move to a single European currency
The introduction of a single currency will require many changes to business operations. To raise awareness of these issues - and gather feedback - the CBI and British Chambers of Commerce have this year undertaken a series of workshops around the UK, with the support of the Bank of England. In all, some 750 companies heard the message, that they must start planning now for EMU - with the interest generated prompting further events. This article outlines the key issues raised at the workshops.
The need for UK businesses to plan
The seminars were based on the premise that UK companies must start to prepare for the euro, bearing in mind that:
• so much political and economic capital has been invested in the project, that it is almost certain that at least a core of countries will go ahead on time
• if the project proves reasonably successful, it might prove difficult for the UK to remain outside indefinitely
• while the costs of preparing for an EMU that does not in the event go ahead could be significant, the cost of not preparing for an EMU which does go ahead could be far higher
• even if the UK does not participate in EMU, many UK businesses will be affected.
Given these facts, we have been advising companies to plan on the basis that EMU goes ahead on time, with UK participation at some point in the near future.
Financial and legal considerations
The issues that businesses need to consider fall into two types: operational changes that have to be made; and changes in commercial strategies that it in companies' interests to consider.
Starting with operational issues, the most obvious area of impact is on the finance department. If the UK joined at the outset, departments dealing with European currency exchange would find their operations simplified, in two stages. From 1999, currency risk would be removed for all transactions within the EMU zone; there would be no need to hedge against relevant currency fluctuations. Payments other than those in note and coin form could also be denominated in euros. But facilities to physically swap notes and coins would still be needed until 2002.
More generally, UK companies would need to decide at what point between 1999 and 2002 they started to offer, request and accept non-cash payments in euro. With the principle of "no compulsion, no prohibition", there would be no automatic legal requirement for suppliers to accept payment in euros until 2002, although bargaining power could well come into play.
By 2002, companies would need to be issuing debt and equity, and paying dividends, in euros rather than sterling - as well as presenting accounts in euro. The decision about when between 1999 and 2002 to make these moves would be up to companies themselves. But early payment of dividends in euros could be driven by peer pressure, if the euro quickly became the currency used by major corporates. And if governments moved early to quote their debt in euros, companies could be under pressure to make the same move.
Meanwhile, the European Commission has already proposed a legal framework. Once this has passed into law in the near future, firms should be in a position to review all their ongoing contracts. The key principle of the framework is contract continuity. Replacing European currencies with the euro would not as a general rule bring an ongoing contract to an end - unless both parties wished that to be the case. The euro would simply replace the original currency at whatever conversion rate is set.
There are two potential exceptions to this that companies need to be aware of. Contracts may have been drawn up with a specific clause stating that they would terminate in the event of EMU. And although the principle of contract continuity can be established within the EU, continuity of agreements contracted under the laws of non-EU countries may not be guaranteed - although it has been usual practice for such continuity to be enforced in jurisdictions worldwide, when individual currencies have been replaced.
A few UK companies have contracts denominated in the existing 'basket' ecu. From 1 January 1999, the ecu will simply be replaced by the euro at 1:1, the ecu then ceasing to be calculated - even though this might create unforeseen winners and losers.
Other operational issues
The need to change information technology is well known. If Britain is not a member, the euro will need to be put into systems in the same way as any new currency, though with the added wrinkle of replacing an old group of currencies. If the UK is an early member, systems will need to be rewritten extensively. This would apply to accounts, payments, payroll, sales, marketing and many other areas. The changes would have to be undertaken simultaneously with the rewrite needed in many (if not all) companies to deal with the millennium date change - leading to a genuine concern about skill shortages.
Within the field of IT, EMU could present a number of seemingly trivial points to be overcome. An example of this is the newly agreed symbol for the euro - which is unlikely to exist at present on any keyboard in the whole world, outside of the Commission's offices.
As well as making changes to IT software and systems, businesses will need to gear up to handle the new notes and coins themselves. The logistics of putting the new currency into circulation, and withdrawing sterling notes and coins, will need businesses' full involvement. Cash-handling machinery - tills, vending machines, cashpoints and so on - will have to be adapted or replaced. Retailers and bankers are likely to be in the front line in making these changes - although nearly every business will be affected somehow, for example if they have canteen-or vending machine facilities for staff.
The logistics of the changeover are complicated, and made more costly, by having two sets of notes and coins in circulation for up to six months. Competitive pressures - or even some directive - may force vendors to accept both currencies for a time. The possibility has also been floated of requiring vendors to display prices in old and new currency for a while, as part of the effort to educate consumers. And the 1 January date for introducing the new notes and coins - in the middle of the year's busiest trading period - would itself cause difficulties.
Businesses, and especially retailers, are concerned about these issues. But national governments should have discretion as to how exactly the currency changeover period is managed; the period of dual currency circulation could be shorter than six months. Our soundings suggest that this would please by far the majority of businesses. The Commission, meanwhile, is considering pulling forward the date for introducing the new notes and coins, away from the Christmas and New Year trading period. And if the UK chooses to join later, our own government could set a February date, as with the decimalisation of sterling in 1971.
Training will be crucial. Employees will need to be informed about the impact on their pay and pensions. And those dealing with customers will need to be able to explain new price lists, account balances and so on. This will prove vital to a smooth introduction of the new currency - and, from the company's point of view, to customer loyalty. Finally, the change heightens the need for vigilance against fraud and forgery.
As far as operational issues are concerned, there may be little for UK firms to do immediately except examine all contracts, ensure that the extent of systems modification needed has been identified, and have a plan of implementation ready to swing into operation once the position becomes clearer. But in addition, they should start to contemplate whether their commercial strategies should be altered.
The single currency can be seen as a further step in the direction of a true Europe-wide home market. Profitable opportunities to sell across borders will become more readily identifiable, less costly, and less risky. The result will be new competition, leading to greater equalisation of prices throughout the single currency zone.
UK companies would, in any case, need to re-jig their prices a little if the UK joined. An article currently priced at £9.99 would, converted at today's ecu rate, come out at around 6.93 euros - which is rather less eye catching! But with new forms of competition likely, a more fundamental review of pricing strategy would be advisable.
As well as pricing, companies would need to think about their wage-setting. On the one hand, there would be pressures tempting UK firms to raise wages. The euro will bring greater transparency, making wage differentials between countries more apparent. This could lead to pressure for pan-European bargaining and therefore pressure for equalisation of wages, even where productivity differentials made that unaffordable. In the case of more mobile workers, the possibility of staff moving to other countries to attain higher wages would need to be borne in mind.
But on the other hand, UK firms would need to be careful about conceding wage increases. Wage settlements in the UK have tended over the longer term to be above those in Germany. But these could in no way be justified by differences in productivity growth. The gradual decline in sterling's value against the mark, from 11 marks to the pound in the mid-1960s to less than three today, has prevented this from decimating British competitiveness, profitability, investment and jobs. But within the euro zone, devaluation against the other EU currencies would not be possible. To remain competitive, wage settlements simply could not be allowed to run ahead of those elsewhere.
However, UK participation in EMU would offer new opportunities as well as challenges. Companies currently only selling in the UK, particularly smaller businesses put off by currency risk, could wish to investigate the possibility of selling into other EU markets. Cross-border mergers, take-overs and joint ventures could also offer new opportunities for expansion.
For companies whose activities already straddle boundaries, the ending of exchange rate uncertainty would provide an opportunity to review the location of production. For example, some industrial companies might wish to concentrate their production in one particular location, in order to take advantage of economies of scale, while still selling into all their existing markets. Businesses will also wish to think about their sourcing, and distribution networks.
The single currency will also make it advantageous to review company financing. There will be a single official short-term interest rate across Europe. If all goes to plan this will be nearer the low rates seen today on the Continent than the relatively high rates seen in the UK. And if EMU proves to be a low inflation zone as intended, long-term interest rates will be low across the continent. If the UK takes part, financial intermediaries should no longer be deterred from offering UK residents - and businesses - long-term, fixed interest deals at reasonable rates. Indeed, there would probably be a whole range of new euro lending products to choose from.
And with the single currency, a euro-wide equity market will effectively emerge. Pension and other funds will be able to invest across a much wider range of shares without currency risk. The highest returns should be available in those countries where output per head is relatively low at present, and which therefore have the greatest scope for growth as productivity levels catch up. As EMU extends to a wider and wider range of countries, including eventually the nations of Eastern Europe, so the potential benefits of EMU to investors will increase.
This euro-wide equity market will give businesses a much wider range of funds from which to draw capital. If the UK takes part, UK institutions would naturally look to diversify by placing more funds on the Continent, but funds in Continental countries could well look to place capital in businesses based here.
What if the UK does not join?
These considerations would be less relevant if the UK stood aside. There would be no immediate need to change prices for UK sales, and sterling's ability to fall in the markets would be retained, cutting the direct link between high wage settlements and lost competitiveness. On the other hand, the opportunity to sell into new markets without currency risk, and to switch the location of production, sourcing and funding would be lost. Whether UK companies could find low, fixed-interest deals would depend very much on the newly-independent Bank of England building up its own anti-inflation credibility. But an EMU that did not include the UK would still affect UK business. At the operational level, the change from marks and francs into euros would affect every business dealing with companies on the Continent. Small suppliers to large German corporations might need to be able to charge and accept payment in euros from 1999, or risk losing business.
Exporters and importers would need to change their accounting and payments systems to deal with the euro, and know about the implications of the change for legal contracts mentioning francs and marks - and the ecu. Businesses that are part of a pan- European group could find themselves involved in fundamental changes, such as the move to account in euros throughout the group.
Nor would the need for strategic considerations be removed. There are perhaps three ways in which an EMU without the UK could pan out. A first scenario might envisage a relatively successful EMU, but with the UK economy and UK businesses also thriving, and the UK continuing to attract foreign direct investment. In this case, businesses might be able to carry on much as before. A second scenario might see EMU getting off to an inauspicious start, with Continental economies depressed. In this case UK business might have been best-served by UK non-participation - although they would still see a knock-on effect, due to trade links.
But it is quite possible to imagine a third scenario, in which EMU is successful and the UK is disadvantaged. After 1999, business between Germany and France, for example, will become easier. UK suppliers to those countries would have to work extra hard to retain their business. Further twists would be applied to the UK's ability to compete in Europe, if economies of scale from relocation within the euro zone were exploited to the full by Continental companies. Companies in the UK, and especially foreign direct investors, might in these circumstances think about relocating the Continent - with a knock-on effect for small, local suppliers. In addition, the differential between UK and other EU market interest rates could widen.
Recap by scenario and sector
Fortunately, not every business will need to consider all of the issues set out above, and nor will they all be relevant in all circumstances. This concluding section sets out the particular needs of companies by broad type, and by scenario.
Financial companies involved in currency exchange will see some exchange and accounting operations affected from 1999 - and more from 2002 - regardless of whether the UK joins. Contracts will also need to be reviewed. If the UK participates, foreign exchange activity will change more markedly, and new strategies will be needed to cope with the more complete nature of the single market in financial services. Retail banks will play a key role in putting new notes and coins into circulation, and in explaining to changes to customers.
Retailers will be virtually unaffected if the UK does not join EMU. If we do join, they will not really be affected until 2002 - but then significantly. Like the banks, they will help put the new notes and coins into circulation, and explain changes to customers. They will be most affected by the need to deal and price in two currencies for a while, and by the need to adapt cash-handling machinery. In terms of operational matters, other businesses selling only into the UK will be in a similar position to retailers, though if the UK joins, the need to deal with cash-handling and with the final consumer may be less burdensome. But if the UK participates, small companies not currently trading with other EU countries, but who could be regarded as in the 'tradables' sector, will need to review their commercial strategies in the face of new competition at home, and new opportunities to sell into the EU.
Finally, other businesses already exporting to Europe will also be affected even if the UK does not take part. IT and accounting processes relating to francs and marks would need to be adapted, and contracts reviewed. It is particularly important that small UK suppliers to large Continental customers are aware of what the euro's introduction will mean. If the UK does take part, the full range of operational and strategic issues would become relevant - many from 1999 if the UK is in at the outset.
With all these matters to consider, the CBI has been advising businesses to put in place now a single, cross-functional group of staff, charged with pulling together the various projects which may eventually prove necessary under the EMU topic umbrella. This group would also have to consider the question of co-ordinating activities with trading partners.
Our seminars have aimed mainly at raising awareness of the range of issues involved, rather than being able to provide solutions for particular problems. We may well have raised more questions than offered answers. But the main message put across has been a crucial one: that it is not too soon for each UK company to work out the implications for them of the different scenarios, so that when the clouds clear away and we see where EMU is going, British business is ready for action.
23 05 1997