Sterling - in the euro bloc?

Is sterling already part of the euro zone? I ask because two measures suggest it is. First the annualized volatility of the £-€ rate in the last 52 weeks has been very low. Second, the correlation between the £-$ rate and €-$ rate has been high. Our chart shows that both are close to levels not seen since sterling was in the ERM.
This suggests the market regards sterling not so much as an independent currency, but as a part of the euro bloc.
This in turn means one of the arguments for staying out of the euro - that it's useful to have an independent currency to insulate ourselves from country-specific economic shocks - is losing its force; the FX market does not anticipate such shocks.
Other arguments for staying out are also weakening. The strong recovery in the euro zone suggests we might not be shackling ourselves to a declining economy. And with euro zone interest rates rising, entry to the euro would not necessarily lead to an inflationary boom as UK rates fell to European levels.
Logically, therefore, the case for us joining the euro is stronger now than it was a few years ago.
Which raises the question. Why are we not hearing the case being made with more force than a few years ago?
It couldn't be that the argument for entry was never really based upon economics, could it?

Comments

[Dander]

On the contrary, this data means that the case for joining the euro has declined. A big - perhaps the big - argument for joining a single currency bloc is that it would encourage greater capital investment. Think Peugeot sourcing most of its parts in euros and having to cope with a wayward £-€ exchange rate.

But if we have de facto currency stability - and without having to pay the price of (sometimes) inappropriate interest rates - then the UK can free-ride off other countries' committments and sacrifices.

PS - does anyone else think that an intriguing possible fate for the UK might have been to oppose the Iraq war and join the euro on the wave of anti-Americanism/pro-European value stuff that would probably have ensued?

[Alex]

err...yes?

[Shuggy]

Hmmm - getting a sore head trying to dredge up the economics here, so be gentle with me. The basic argument for the single-currency has something to do with the idea that the benefits it brings in terms of investment and trade-creation outweigh the losses in monetary flexibility that surrendering one's own national currency implies? This is reinforced with the point that it is in any event the markets that determine long-term interest rates.

Given that it is the uncertainty of currency volatility in relation to the euro-zone that is supposed to be detrimental to investment and damaging to exporters to the euro-zone, doesn't the recent convergence you outline above *weaken* the case for joining the euro? Anyway, aren't these arguments a bit short-termist? The long-run arguments for joining the euro remain the same. But don't the economic histories in recent years of Argentina and Germany (and by extension all members of the ERM at that time) demonstrate that being locked into an inappropriate monetary policy remains a serious impediment to economic welfare? The problem of the euro-zone's capacity to absorb asymetric economic shocks remains. A single fiscal policy would help perhaps (?) but this is where it becomes political in a way that centralising monetary policy really doesn't. And this is why maybe that it is perhaps appropriate after all that the arguments over the euro should primary be political?

[dsquared]

[This in turn means one of the arguments for staying out of the euro - that it's useful to have an independent currency to insulate ourselves from country-specific economic shocks - is losing its force; the FX market does not anticipate such shocks.]

Or possibly that there just don't happen to have been any such shocks? Currency pairs often get correlated for a while, until they don't. I'd be very very very cautious about even putting on a trade based on a 52 week correlation coefficient, let alone making any broader conclusions.

[chris]

D2 - I draw a slightly stronger inference from the data - that not only have there been no big asymmetric shocks, but also that the markets don't anticipate any.
Dander - there's no free ride in sterling's stability. Quite the opposite. It means we're paying the costs of a single currency - transaction charges - without the benefit, of having the exchange rate act as a shock absorber.
I should clarify. I'm not saying this is a case for joining the euro - I don't think we should. I'm merely saying that if you supported joining the euro a few years ago, yould should support doing so even more strongly today.

[Paulie]

Shuggy;

"maybe that it is ...appropriate ... that the arguments over the euro should primary be political?"

I've been trying to grasp Chris's pro-direct democracy arguments, and my current (probably faulty) take on them is that individuals - in this case, politicians - make decisions on the wrong grounds.

Therefore, a policy that emerges from a calibrated process will always be better than one that is made by human beings with our relatively poor vantage point.

And - if this is the case, he has a point. I'm fairly pro-Euro, and I know that my position is based upon fairly crude geo-politics rather than any fantastic insight into the economic arguments.

I also know that a lot of the people that I overhear arguing both sides of this argument do so with little more by way of qualifications than I have.

Either way, the Euro coins are a lot nicer aren't they?

[Shuggy]

"Either way, the Euro coins are a lot nicer aren't they?"

But the notes are crap. Are we doing an aesthetic defence of the Euro here? This is nothing if not original. ;-)

[Paulie]

My judgement is always questionable. My taste is never so.

I refer you to our previous exchange on the subject of John Martyn. He's down there with 'the Stones' I think?

Ian Rankin was on Desert Island Discs earlier - I doubt if I'll be able to read another Rebus novel now. As Morrisey once said, you can despise someone for something you find in their record collection.

[Dander]

The best thing about the euro coins is that one side of them is always reserved for national emblems. So whenever you're in, say, Spain and you see a euro coin with somebody other than Cervantes/Juan Carlos on it, you know that it got there because some tourist or business traveller brought it over.

Someone should do a PhD on what you can infer about trade flows from the number of Mozart, harp or Queen Beatrix coins chinking around Greek or Belgian pockets.

For the really curious, it's all here:
http://homepage.univie.ac.at/horst.prillinger/blog/stories/2002/11/14/euroCoinOverview.html