UK or the Eurozone: which common currency area can work for Northern Ireland after Brexit?

ABSTRACT

Brexit and the controversy concerning an Irish border makes the issue of whether Northern Ireland is a common currency area with the rest of UK or the Eurozone topical. We test the microeconomic foundations of a common currency area for Northern Ireland, UK, Great Britain and Northern Ireland in the Eurozone. We provide evidence that all areas meet the microeconomic criteria for a common currency area. Banking data suggest that lending in Northern Ireland is different from lending in the rest of the UK, raising doubt on whether or not the UK forms a common currency area including Northern Ireland.

KEYWORDS:

• Common currency areas
• microeconomic foundations
• Northern Ireland
• Brexit

JEL CLASSIFICATIONS:

• F02
• F55
• B21

Acknowledgements

The authors would like to thank three anonymous reviewers for helpful comments on an earlier version of this paper. The authors also wish to acknowledge the financial support of the University of South Alabama, USA, for this research.

Disclosure statement

No potential conflict of interest was reported by the author(s).

Correction Statement

This article has been corrected with minor changes. These changes do not impact the academic content of the article.

Notes

1 Details of the ‘vision for the UK’s future relationship with the EU and of a relationship based on friendly cooperation between sovereign equals’ may be found in the UK government’s policy framework document at, HM Government (2020).

2 See the policy debate and assessment of b-solutions provided in Medeiros, Rameirez, Dellagiacoma, and Brustia (2021).

3 The Protocol on Ireland/Northern Ireland, commonly abbreviated to the Northern Ireland Protocol, is a protocol to the Brexit withdrawal agreement that governs the unique customs and immigration issues at the border on the island of Ireland between the United Kingdom of Great Britain and Northern Ireland and the European Union, and on some aspects of trade in goods between Northern Ireland and the rest of the United Kingdom. Article 16 is a safeguarding mechanism within the Ireland/Northern Ireland Protocol, the arrangements agreed as part of the UK–EU Withdrawal Agreement to avoid a hard border on the island of Ireland. Article 16 allows either party to undertake unilateral safeguarding measures if the protocol leads to ‘serious economic, societal or environmental difficulties that are liable to persist, or to diversion of trade’. Article 16 sets the protocol on how the newly negotiated agreement can be made to work and is now part of international law. After four years, the UK is required to give Northern Ireland a vote on whether to or not continue with the new trade arrangements in place which allow lorries to deliver goods without having paperwork and goods checked when they cross the border from Northern Ireland into the Republic of Ireland.

4 ‘Bank of England | Banknotes | More About Banknotes | Banknote FAQs’. web.archive.org. 3 December 2011.

5 First and foremost, Northern Ireland banknotes are legal currency. Legal tender, however, is the only type of payment a creditor must accept if it is offered in return for a debt. The legal tender issue is fairly complex in the UK as the Northern Ireland banknotes are not "legal tender" anywhere (including Northern Ireland itself). Furthermore, Bank of England banknotes are only legal tender in England and Wales. In detail, Northern Ireland bank notes are not legal tender; only Bank of England notes are legal tender but only in England and Wales.

The term legal tender does not in itself govern the acceptability of banknotes in transactions. Whether or not notes have legal tender status, their acceptability as a means of payment is essentially a matter for agreement between the parties involved. Legal tender has a very narrow technical meaning in relation to the settlement of debt. If a debtor pays in legal tender the exact amount s/he owes under the terms of a contract, he has good defence in law if s/he is subsequently sued for non-payment of the debt. Please see the Bank of England fact sheet on ‘More about bank notes’ available this link for further information; https://web.archive.org/web/20111203051814/http://www.bankofengland.co.uk/banknotes/about/faqs.htm#16.

6 Seigniorage will of course exist for the region as a whole. The cost is in deciding how much seigniorage to seek and how to divide it up among the countries.

7 Feenstra (1986) shows that the liquidity costs and the utility of money approaches to modelling money demand are functionally equivalent.

8 Barnett (1980) originated the concept of an economic monetary aggregate.

9 This is a slightly different structure than that suggested in Swofford (2000) since if money is a single good rather than an aggregate, then the only way to see if money is treated differently is to see if all other goods are weakly separable from money. Data limitation makes us maintain money as a single elementary good in this case.

10 See Deaton and Muellbauer (1980) concerning aggregation over goods.

11 As Deaton and Muellbauer (1980) point out, aggregation over agents requires that the preferences of each agent be at least quasi-homothetic. Thus, quasi-homothetic representations of U() and V() are required for aggregation over agents. Quasi-homothetic preferences imply that each agent’s Engle curves are linear. While quasi-homothetic Engle curves are linear, they need not pass through the origin, as is the case for homothetic preferences.

12 The assumption of a representative agent is necessary unless micro or panel data exist.

13 A detailed discussion of these nonparametric tests is presented in Varian (1982, 1983).

14 Thus, in a multi-good situation a violation of GARP happens when for some xiRx^j, the condition xjSxi is true or a violation of GARP happens if xⁱ is shown to be revealed preferred to x^j but x^j is directly revealed preferred to xⁱ.

15 Available at http://www.bankofengland.co.uk/boeapps/iadb/.

16 CPIH is a new measure of consumer price inflation including a measure of owner-occupiers’ housing costs (OOH).

17 We retrieved house price indices for the UK and Northern Ireland from HM Land Registry at this site https://www.gov.uk/government/statistical-data-sets/uk-house-price-index-data-downloads-october-2022.

The data includes administrative and country level house price indices. We use the house price indices obtained for the UK and Northern Ireland for this analysis.

18 As discussed in our data section above, we assume CPIH for Northern Ireland is the same as that in the UK because Northern Ireland is part of the UK and no separate price index is computed for Northern Ireland. To check this assumption, we gathered housing price indices for both the UK and Northern Ireland and then multiply CPIH times the ratio of Northern Ireland housing prices to UK housing prices. Our new revealed preference results remain the same with this alternative measure of Northern Ireland prices.

19 A detailed discussion of the role of fiscal policies within a monetary union; a discussion on how independent national fiscal policies can be; and a detailed debate on whether or not a monetary union increases or reduces fiscal discipline, including any rules that may be used to restrict national fiscal policies, may be found in De Grauwe (2016, chapter 10).

20 The full Windsor Framework Agreement is available at https://www.gov.uk/official-documents The Windsor Framework, A New Way Forward CP806 ISBN 978-1-5286-3937-8 E02869175 02/23.

Additional information

Notes on contributors

Jane Binner

Jane Binner joined the Accounting and Finance Department at Birmingham Business School as Chair of Finance in 2013. Prior to this she worked as Head of the Accounting and Finance Division at Sheffield Management School and as Reader in Economics at Aston Business School for 7 years. Jane has a PhD, MSc, PGCE and BA Hons in Economics from the University of Leeds. She has worked with a number of stakeholder groups such as the Home Office, Experian, the Boots Group plc and Wright Patterson Airforce Base. Jane Binner brings expertise in analysing the strategic investment decisions of large enterprises through econometric modelling and has extensive academic and commercial experience. She has achieved international recognition for her work on the econometric performance of monetary aggregates and is world leading in her field of financial innovation in the construction of money. She is an INDI Fellow at the Institute for Nonlinear Dynamical Inference and has four books and over seventy publications in the area of Computational Finance and Economics.

Sajid M. Chaudhry

Sajid M. Chaudhry is a senior lecturer in finance at Aston Business School since 2018. Before joining Aston Business School, he was a lecturer in finance at Birmingham Business School and at School of Management, Swansea University. He holds a PhD in Banking and Finance from Maastricht University, The Netherlands. He is also an Associate Editor of the International Journal of Finance and Economics. His current research interests focus on banking and financial stability, bank taxation, green banking and finance and FinTech. He has published in a range of economics and finance journals including Journal of Economic Behaviour and Organisation, Energy Economics, Journal of International Money and Finance among others.

James L. Swofford

James L. Swofford is a professor of economics in the department of economics, finance and real estate at the University of South Alabama, in Mobile, Alabama. His research interests include economic monetary aggregates, revealed preference testing and microeconomic foundations of common currency areas. He has published over 30 academic papers on these and other topics. He holds a BA in economics and political science from the University of Richmond and earned his MA and PhD in economics from the University of Florida.

Meng Tong

Meng Tong currently works at the department of Social and Political Science, University of Chester and is an Associate Fellow of the Higher Education Academy (AFHEA) in Chester. Meng is teaching three undergraduate modules covering level 4 to level 6. His research spans the areas of in Spatial Economics, Development Economics, Economic Geography, Environmental Economics, Monetary Policy and Forecasting and Simulation.