EUROPEAN COMMUNITY
Enlargement and Policy Coordination

The European Community (EC) has recently grown in numbers, with the addition first of Greece, then of Portugal and Spain. Because the effects of enlargement are of obvious interest to economists as well as to policy makers, CEPR organized a workshop on 10 November 1985 in order to explore new directions for research into the effects of Community enlargement.

Christopher Bliss (Nuffield College, Oxford and CEPR) opened the discussion by outlining ways in which the Centre could usefully promote research in this important area, building on the existing strengths of the Centre and avoiding duplication of research being undertaken elsewhere. CEPR could play a natural role in bringing together economists who had not previously specialised in EC studies to provide a general perspective on the issues, with economists from the new member countries, who have detailed knowledge of the adjustment problems facing their countries. Economic interdependence would increase with greater labour migration and liberalization of capital markets within an enlarged Community. This would give added urgency to the analysis of policy coordination problems, which is a major area of CEPR research.

Paul Krugman (Massachusetts Institute of Technology) then presented a paper entitled 'Labour Mobility and Policy Interdependence, or The Macroeconomics of Bread and Chocolate'. Krugman noted that although the EC could be viewed merely as a series of agreements on microeconomic issues such as trade, factor mobility and agriculture, some degree of macroeconomic and financial harmony is necessary for the Community to function well. There are clearly strong economic linkages between regions within the Community; Krugman's paper focussed on the role played by labour mobility in these linkages. There was a need, Krugman emphasised, for thorough quantitative research into European labour mobility and the institutional framework in which it operates. His own paper, however, was limited to a more stylized model of macroeconomic interdependence.

In Krugman's model there are two regions, North and South (the latter recognisable as the Mediterranean region of the Community). Each government sets its macroeconomic policies in the light of both inflation and unemployment. The North is obliged to take account of the unemployment problems of the South, however: the South's labour is mobile and a certain proportion of its unemployment is exported to the rest of the Community (i.e. the North). This 'spillover' or externality creates a situation in which policy coordination may be beneficial. Krugman briefly developed some of the implications of this approach for the Community institutions, particularly exchange rate coordination within the European Monetary System. His analysis suggested that there would be an incentive for the North to adopt excessively deflationary policies, because it could export part of its unemployment, while the policies of the South would be overly inflationary.

Following the presentation of the Krugman paper, Richard Portes (CEPR and Birkbeck) raised the problems of empirical work on labour mobility within the Community. This prompted a wide- ranging discussion concerning both labour and capital mobility and whether this was the right focus for research. Gerry Arsenis (MP and former Minister of National Economy in the Greek government) argued strongly that any analysis must take into account differences in the policy objectives of the members of the enlarged Community.

The meeting continued with a discussion of the experiences of individual countries. Jorge de Macedo (Princeton University, New University of Lisbon and CEPR) briefly summarized two papers: the first by himself, Cristina Corado (New University of Lisbon) and Manuel Porto (University of Coimbra) on 'Inferences for the Sequencing of Trade Liberalization Episodes in Portugal'; the second by William Branson (Princeton University and CEPR), entitled 'Portugal's Entry into the European Communities: Challenges and Opportunities'. De Macedo emphasized that, although efforts had been made over the last forty years to liberalize trade, Portugese capital markets remained highly protected. This protection was clearly demonstrated by a 'competitiveness index', based on the user cost of capital in Portugal relative to that in its major trading partners.

Commenting on this work, Jose Vinals (Stanford University and Bank of Spain) noted that Spain has retained a relatively high degree of trade protection but has recently liberalized its capital markets. Studies of the impact of Community enlargement on these two countries must take into account this difference in structure, Vinals concluded. Alasdair Smith (University of Sussex and CEPR) described his CEPR research project involving computable general equilibrium (CGE) models of the European economy. CGE models which incorporated the economies of the new member countries could serve as the basis for research into the effects of enlargement.

Differences in economic structure within the EC had important implications for policy formation, stressed Louka Katseli (Centre of Planning and Economic Research, Athens, and CEPR). But divergent policies also reflected differences in policy-makers' preferences. Greece, for example, stresses economic development and growth and is less concerned with inflation than other EC countries.

Workshop participants agreed that CEPR research in this area would be worthwhile. Country studies on Greece, Portugal and Spain should be carried out. These should be integrated within a common framework, which would emphasize questions of labour migration, liberalization of capital markets, and problems of policy coordination within an enlarged EEC.