Prime Minister Cameron is determined to change the relationship between the UK and the EU. If the Conservative party wins the May 2015 general election, he promised he will renegotiate membership terms and offer an ‘in or out’ referendum by the end of 2017 (Copsey and Naughton 2014). Life after the EU is a real option for the UK and an unfamiliar one for the EU, considering that no member has ever left. Economic history can throw valuable new light on the current re-examination of the rationale for membership.
This column argues that a fundamental yet relatively unappreciated feature of the relationship between Britain and the EU is a structural break. The ratio of UK’s per capita GDP to the EU founding members’ declined steadily from 1945 until 1972 but was relatively stable between 1973 and 2010. Such prominent structural break (and to the best of our knowledge one not previously detected and analysed) suggests substantial benefits from EU membership especially considering that, by sponsoring an overpowered integration model, Britain joined too late, at a bad moment in time, and at an avoidably larger cost.
In purely economic terms, WWII was remarkable both by the extent of destruction and the speed of recovery. Economic historians normally refer to the period from 1950 to 1973 as the Golden Age of European economic growth. Reconstruction and catch-up with pre-war levels were broadly completed by 1950, so other factors were at play. Temin (2002) convincingly argues that structural change (labour shifts out of agriculture) was a leading factor.
The UK was one of the few European economies that grew during WWII. According to Maddison data, in 1945 GDP per capita in the UK was about 90% larger than the average for the six founding members of the EU. Economic historians offer a detailed understanding of British relative economic decline that started circa 1870. Yet, such long-term perspective often discounts the WWII period as an outlier and downplays European integration (even the direct trade liberalisation gains and benefits from increased competition) as an important factor, albeit more recent, of this process (Crafts 2012.)
Sometimes all roads lead to Rome
The Marshall Plan aid required European countries to coordinate. The crucial 1947 conference revealed many areas of agreement but one of discord. The French favoured a customs union, the English a free trade area. The differences are substantial: customs unions entail deeper integration, they require a “huge political step” (Sapir 2011.) Also worth noting is that “the United States supported the idea of a customs union in 1947, and continue to give backing to French schemes for West European regional organizations.” (George 1994, p. 18.)
In 1950, the British Labour government declined to join the Schuman Plan’s European Coal and Steel Community (Dell 1995). With the EU6 catching-up almost finished, by 1950 the difference in per capita GDP between the UK and EU6 was 28%. Seven years later, when the Treaty of Rome was signed, it stood at 15% (Figure 1).4 There were notable failures and successes amidst. The main failures were the proposals for a political and a defence union. Rome was the major success. The Treaty added an atomic energy community and an economic community (EEC) to the coal and steel community. The British Conservative government declined to participate but in 1960 unveiled an organisation embodying rival ideals, the European Free Trade Area (EFTA.)
Figure 1. Percentage difference between the UK’s GDP per capita and EU founding members’ (EU6) and EU5 (excludes Luxembourg) between 1950 and 2011
Data source: Penn World Tables 8.0.
Stockholm and two vetoes
The 1960 Stockholm Treaty launched EFTA.5 Tellingly, in July 1961, the UK opened membership negotiations with the European Communities. In 1961 the difference in per capita GDP between UK and EU6 reached 10%. After long and difficult, yet somewhat successful, negotiations, De Gaulle vetoed the British application in 1963.
This was the time when perception about the economic role of the Commonwealth started to turn. As an export market it was less competitive, less sophisticated, and less demanding than markets in developed countries. Further, EFTA’s performance from the outset was clearly inferior to that of the EC (Aitken 1973, Bayoumi and Eichengreen 1997).
The 1964 election returned the Labour party to power after thirteen years in opposition. Harold Wilson made another attempt at preserving the Commonwealth option. It failed: in 1967 Britain applied for membership for a second time (Tatham 2009.) Again, De Gaulle vetoed. The difference in per capita GDP between the UK and the EU6 average was 6% in 1967.
De Gaulle’s presidency was a victim of the 1968 student protests. One of Pompidou’s first foreign policy actions was to encourage the UK to apply for membership for the third time (Young 1998). Pompidou is also credited with establishing a system of individual country contributions to the Community budget. He did so before (i.e. without) the British. When the UK applied in 1969, per capita GDP was 2% below the EU6 average.
Finally in, but at what cost?
Among all UK Prime Ministers, Heath was the staunchest supporter of European integration. In 1973 when the UK joined, the Common Agricultural Policy was in place and so was a system to fund the Community (earmarking revenues from levies on food imports and the common external tariff on industrial goods as EC’s resources.) This would potentially disadvantage Britain because it imported relatively more from non-EC countries. When the UK joined in 1973, per capita GDP was 7% smaller than the EU6 average.
The special relationship with the US, the Commonwealth, and the belief that purely economic integration (FTA) would be superior to deeper, politico-economic alternatives are often among the reasons for the delay in British membership. Special relation or not, the US was a resolute supporter of European integration from the outset. With the independence of India, the Suez crisis, and African decolonisation, Commonwealth links tapered (Darwin 2009, Garavini 2012). Applying for EC membership one year after the creation of EFTA reveals which alternative was perceived as superior.
Today, advocates of Britain leaving the EU parade two economic alternatives, one based on the Commonwealth and another on bilateral free trade treaties. As shown above, these did not work as well, so it is unclear why they would now be superior to EU membership (Campos et al. 2014).
Structural change may well be a more satisfactory explanation for Golden Age growth and catch-up with the US than EU membership. Yet, a stark structural break marked the trajectory of the per capita GDP ratio of Britain to the EU6. For this alone, EU membership is an explanation that deserves more careful examination.
Why did Britain join the European project?
Why did Britain join? For various reasons. Because De Gaulle left, the Commonwealth could not compete, Heath defeated Wilson, the free trade area integration model sunk. But above all, Britain joined because joining the European project was perceived to be a way to stop its relative economic decline. In 1950, UK’s per capita GDP was almost a third larger than the EU6 average; in 1973, it was about 10% below; it has been comparatively stable ever since. On this basis, joining the EU worked – it helped to halt Britain’s relative economic decline vis-à-vis the EU6.
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1 We detect a structural break for the two series in Figure 1 around year 1969 using various tests (e.g., Chow, Bai-Perron, and Zivot-Andrews) and conventional levels of statistical significance.
2 For international comparisons, the Penn World Tables (PWT) is considered the superior data source. However, it starts in 1950. Data from Maddison goes back much further, so we use his estimate for 1945. Note that the behaviour of the UK-EU6 ratio of per capita GDPs between 1950 and 2010 is unsurprisingly similar in these two data sources and that, differently from PWT, the Maddison data set does not include Luxembourg.
3 The ECSC created a set of institutions to coordinate and integrate coal and steel production among the EU6: a “High Authority to monitor compliance with the terms of the agreement, a Common Assembly of parliamentarians to hold the High Authority accountable, and a Community Court to adjudicate disputes between the High Authority and member states” (Eichengreen 2008.)
4 Because Luxembourg was not such a significant financial centre before the 1980s, Figure 1 shows two series, one for the ratio of the UK per capita GDP to the EU6 and the other to the EU5 (EU6 excluding Luxembourg.) Despite broad similarities, without Luxembourg the decline is steeper before the 1973 and flatter afterwards.
5 EFTA founding members were the UK, Austria, Norway, Sweden, Denmark, Switzerland, and Portugal. These were often referred to as the Outer Seven so as to contrast with the Communities’ Inner Six.
6 Euro scepticism was then influential in both the Conservative and Labour parties. During the 1961 parliamentary debate, Harold Wilson said famously on record : “if there has to be a choice we are not entitled to sell our friends and kinsmen down the river for a problematical and marginal advantage in selling washing machines in Dusseldorf” (Gowland and Turner 1999). Young (1998) argues that euro scepticism still resonates within the Conservative party, while for Labour it loses steam in the 1990s.
7 1973 also inaugurates a volatile period with the collapse of the Bretton Woods system and the first oil shock.
8 Notice that this has important implications for constructing counterfactuals because of the difficulty in finding pre-entry trajectories comparable to the UK’s (Campos et al. 2014)
This article is published in collaboration with VoxEU. Publication does not imply endorsement of views by the World Economic Forum.
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Authors: Nauro F. Campos is a Professor of Economics and Finance, Brunel University. Fabrizio Coricelli is a Professor of economics at Paris School of Economics, Université Paris.
Image: A huge euro logo is pictured next to the headquarters of the European Central Bank (ECB) before the bank’s monthly news conference in Frankfurt August 7, 2014. REUTERS.