General Overview of the UK Economy

The United Kingdom (UK) enjoys the fifth largest economy in the world with a GDP (Gross Domestic Product) of over $2.3 trillion (2006). The economy is characterized by flexible consumption, expanding output and low levels of unemployment. The strong housing market, which is currently experiencing its peaks, has greatly contributed to the strength of the consumer consumption.

The manufacturing sector represents only a small portion of the GDP. The UK economy is typically characterized as being service oriented. Additionally, the United Kingdom is famous with its extremely well-developed capital market system. This has resulted in the banking and finance sectors largest contribution to the GDP.

The UK is one of the largest producers and exporters of natural gas in Europe, despite its service orientation. As a result a big portion of the country’s GDP is contributed by this industry. Thus, a potential increase in the prices of energy will have a positive effect on the UK’s oil exporters.

However, the UK is experiencing a trade deficit on its balance of trade statement, since it imports a large number of goods. Approximately 50% of the import and export activities of the UK are done with the EU, which makes the latter UK’s biggest trade partner. However, the trade relationships with the US should not be overlooked.

On the focus of attention is whether the UK should adopt the Euro or not. In order to do so the UK should meet the following tests:

• The citizens of UK should not be bothered by the interest rates of the euro. In order to make that possible there must be a sustainable convergence in economic structures and business cycles between the UK and the Economic and Monetary Union (EMU) members.
• Creation of investment encouraging environment that will attract FDI.
• Preserving of the competitive power of the financial services industry of the UK.
• Flexibility to deal with the subsequent economic change.
• Positive impact on the stability and growth in employment in the UK.

Why the Euro Should Not Be Adopted by the UK

One of the major reasons that opponents of the Euro adoption have pointed is that there are examples coming from the past that such currency unions have collapsed. Additionally, the resulting connectivity of the countries that use the Euro will lead to changes in the economic conditions of other countries when one of the EMU members experiences negative changes in its economy.

Opponents of the Euro adoption are also reluctant toward the idea of transferring domestic monetary authority to the ECB (European Central Bank).

The lack of monetary flexibility will require greater flexibility in the labor and housing markets, which is not viewed as a positive consequence by many experts. Additionally, large transaction costs will be incurred in order to adjust to the new currency.

Finally, the UK government doesn’t meet the idea of adopting the Euro very enthusiastically, because it has managed to set macroeconomics policies that have led the UK to its way of becoming one of the leading economies in the world.

Why the Euro Should Be Adopted by the UK

The adoption of the Euro will lead to reduced uncertainty regarding exchange rates. Additionally, it will reduce the transaction costs or risks that UK businesses incur.

It is believed that long-term interest rates will be potentially reduced and economic growth will be stimulated under the governance of the ECB. Proponents of the Euro point out that there will be higher price transparency. Additionally, greater capital allocation efficiency will be achieved through the integration of the national financial markets operating within the EU.

Another argument in support of the Euro adoption states that this currency represents the second of importance (after the USD) reserve currency.