Answer THREE questions. Each question carries EQUAL weight.

UNIVERSITY OF EAST ANGLIA School of Economics Main Series UG Examination 2017-18 EUROPEAN ECONOMY ECO-5006B Time allowed: 2 hours Answer THREE questions. Each question carries EQUAL weight. Notes are not permitted in this examination. Do not turn over until you are told to do so by the Invigilator. ECO-5006B Module Contact: Dr Liliana Harding, ECO Copyright of the University of East Anglia Version 1

Page 2 1 Provide a critical evaluation of expected Brexit effects estimated in the economic literature. Reflect on any further examples of EU trade agreements and economic integration around the world that can inform our understanding of how significant it is to have a 'trade deal' with neighbouring economies. 2 The term Fortress Europe is sometimes used to indicate the potential difficulties faced by non-member countries wishing to trade with the highly integrated EU. How can theory account for the ambiguous effects of preferential trade, and what further challenges arise for a non-eu country wishing to trade its goods and services under the conditions of the Single European Market? 3 How significant is the freedom of movement of labour for the good functioning of a common market? And for a successful monetary union? Reflect on underlying theories of factor mobility and monetary union to support your answer. 4 Illustrate the welfare effects of partial collusion in a BE-COMP framework. To what extent is EU regulation able to restrict collusive behaviour of companies, and what is the rationale for having a supra-national competition policy in Europe? 5 What is the difference between a monetary and a fiscal union? Evaluate whether the eurocrisis reinforced or undermined the need for a fiscal union in the EMU (European Monetary Union). 6 Discuss the ways in which economic integration has shaped the economy of an EU member country of your choice. To what extent could any developments identified for this EU member state have taken place without it being a full member of the Union? END OF PAPER ECO-5006B Version 1

ECO-5006B European Economy: Exam Feedback Below are the summative module results for the European Economy in 2017-18, taken by second year students in ECO and NBS. ECO-5006B Module Results Exam MEAN Exam MEDIAN 63.1 67 EXAM STDEV 12.58 OVERALL Module Mean 2017-18 66.91 Overall reflections on the exam Students had to answer three out of a total of six set questions. These built on material covered in the module lectures and textbooks and were reinforced by seminar work and students research on topics related to individual European economies. We provide brief comments on overall performance for each question and add our suggestions to what a pertinent answer might have been expected to contain, for each. Note that the module reflects on a dynamic European economy and each year the questions also test the ability of students to reflect on real developments in European economic integration or disintegration. Therefore, students are expected to be familiar with the standard

Page 2 economic theories, as well as critically assessing their relevance to specific issues affecting to the European economy. Set Questions and answer keys 1 Provide a critical evaluation of expected Brexit effects estimated in the economic literature. Reflect on any further examples of EU trade agreements and economic integration around the world that can inform our understanding of how significant it is to have a 'trade deal' with neighbouring economies. Overall performance: This question was answered by 42% of the students sitting the exam and the average mark for this question is the highest. ANSWER KEY and suggestions: The question gave students an opportunity to reflect on current issues and critically assess the estimated effects of Brexit. They could also draw on a variety of topics covered in the module, including theory, which was used by many despite the question being explicit about the need to discuss estimated effects of Brexit. As such, drawing on the empirical literature discussed in the module lectures and seminars would have been the best approach. Students could make good use here of their seminar presentations on four alternative articles, including, for example Sampson (2017) which goes specifically through the Economics of Disintegration and surveys the literature on economic effects of Brexit. Essentially, the literature reports an expected per capita loss for the UK of between 1 and 10 per cent of GDP from Brexit, with further effects on other EU member states depending on the amount these trade with the UK or their proximity to the UK market. We note that the effects of Brexit depend on the form of the expected trade relationships post EU membership for the UK. These range from: a continued membership of the single market (EEA or Norway style) with lowest negative effects, followed by a comprehensive free trade agreement (Canada style) with moderate losses; and finally, where no new agreement is reached, trade under the WTO mostfavoured nation (MFN) terms with this incurring the highest expected losses from Brexit. Students could explain how the MFN principle and existing preferential EU trade agreements operate, with reference to the external EU trade policy. Examples in this direction, and the WTO multilateral trade liberalisation system were covered in lecture 2 and could directly inform the answer to the second part of the set question.

Page 3 All seminar presentation articles which students prepared in weeks 5 or 7 did touch on Brexit related topics and effects, as did lectures on the single market and growth, where references were made to the Brexit options for the UK. We were drawing on examples from Emerson et al (2016) and the HM Treasury (2016) projection of long term effects of Brexit and their critical evaluation by Dhingra et al (2016). Seminar presentations were summarising further findings on UK growth effects related to integration and disintegration based on Crafts (2016), which would be useful to identify here for excellent answers. Ultimately, the Brexit effects to be discussed would relate to effects of Brexit on trade, budgetary transfers, FDI, migration (and even, potentially, refugee flows as they might have featured in the voting motivation for Brexit), labour markets, productivity, regional or sectorial effects, or effects on different socio-economic groups. Related aspects were also covered in seminar presentations based on Becker et al (2017) and Dustmann et al (2017). Though students are not specifically asked to make links to these papers, it would be a great practice to critically reflect on what you have learnt from researching these papers on the module. In practice very few students made any such links in the exam answer, if at all. In terms of what triggers the Brexit effects, there should be mention of factors such as trade barriers, tariff and non-tariff barriers and regulations and specific effects on services trade; along with the effects of reducing labour migration, increasing uncertainty for investments. Potential issues of trade diversion, should new free trade agreements be signed with distant trade partners instead of nearby trade partners in the EU can also be invoked. Whatever the approach or main references, students should have attempted to give an overview of options for the UK upon Brexit. These could be summarised as in the table below introduced in lecture 1 and reviewed in lecture 2. Note for example the option of a customs union, or EEA-style single market arrangements recently considered in the Brexit negotiations. Introduction of recent debates would show awareness of what economic disintegration might imply, beyond the received models and estimates and can add marks for excellent answers.

Page 4 Some alternatives for Brexit models and their effects were also provided as in the summary below, and discussed in lecture 4. They can be used to illustrate the economic effects of Brexit, even though we do not expect students to memorise specific numbers. Last but not least, unilateral liberalisation effects can also be reviewed, as emphasised by the Economists for Brexits.

Page 5 The reality of most answers was much closer to using mainly formal models than the above discussion. Yet pertinent reflections to the effects of Brexit have been attempted in light of some theories (e.g. on growth), ultimately allowing for a good overall mark. 2 The term Fortress Europe is sometimes used to indicate the potential difficulties faced by non-member countries wishing to trade with the highly integrated EU. How can theory account for the ambiguous effects of preferential trade, and what further challenges arise for a non-eu country wishing to trade its goods and services under the conditions of the Single European Market? Overall performance: This question was answered by 48% of the students sitting the exam and the average mark for this question was in line with the overall average. ANSWER KEY and suggestions: Essentially, the question wants us to acknowledge what theory concludes

Page 6 about preferential trade and its welfare effects. Hence, the model of preferential trade liberalisation with a customs union can be invoked. The latter indicates an ambiguous effect of preferential trade liberalisation (the Viner ambiguity), depending on the trade creation and trade diversion occurring when preferences are extended to members of a free trade agreement or trade bloc. Such effects could result in a welfare loss for members of a preferential trade agreement, while restricting entry to nonmember countries goods. This is also why advocates of unilateral trade liberalisation believe that the UK might be better off upon leaving the EU, which restricts access to its markets for non-eu members. At the same time, with tariff barriers at a low level nowadays under general WTO rules, it might not matter for a non-eu member if it remains outside the bloc, as long as the main concern is indeed restrictions to trade via tariffs. What should weigh more heavily nowadays in a decision to join a preferential agreement with the EU is the issue of non-tariff barriers, and in particular regulatory barriers that the trade bloc keeps in place relative to non-eu members. This is especially relevant for a country such as the UK, whose exports are mainly in the services sector, and for which it remains essential to keep its so-called passporting rights allowing us to provide services freely across the EU. Also, any restrictions for the UK to trade with its immediate EU members in favour of distant trade partners can mean disruption of what is essentially trade governed by the gravity mode. We can also talk about trade diversion away from a single market with which the UK now trades very heavily. Conceivably, students would use here a diagram, showing the Viner ambiguity. In this case, the details of the diagram would be discussed with accuracy. It is also not enough to talk about the trade creation effect with members of the trade bloc, that is, the welfare effect of trade liberalisation in its simpler form. That was the subject of earlier modules on the course, and here we want to extend the reasoning to take into account the effects of preferential trade and the significance of non-free trade area members. While informative, the effects of trade liberalisation would not be sufficient in this answer for a high mark. A good answer would also acknowledge the significance of non-tariff barriers, which are now eliminated between member states in the EU single market. An overview of how the single market operates and the variety of trade barriers it eliminates along with the freedom of movement of capital, people and services is also possible for a good answer, and even if no preferential trade diagram has been provided and discussed in detail. Unfortunately, very few answers noted the significance of the single market arrangements or non-tariff barriers. 3 How significant is the freedom of movement of labour for the good functioning of a common market? And for a successful monetary union? Reflect on underlying

Page 7 theories of factor mobility and monetary union to support your answer. Overall performance: This question was answered by 68% of the students, making it the most frequently answered question. The average mark for this question is in line with the overall average. ANSWER KEY and suggestions: There is one essential model here that can be presented and analysed in detail, and that is the welfare effect of migration in a two-country model with freedom of movement. That has been presented in lecture 5, part 2. Students needed to go through this in a good answer, as well as provide a brief discussion on the significance and intensity of free movement of labour in Europe. A contrast with the refugee mobility or the Schengen area is possible, but NOT expected here. Indeed, most answers closely followed the details of the model and emphasised just that theoretical framework in their answer, albeit at a good standard. The second part of the question indicates specifically that we wish to touch on another aspect of freedom of movement of labour, as linked to the operation of the monetary union in Europe. Essentially, labour mobility, along with capital mobility and flexible labour markets might be a desirable mechanism that allows for OCA conditions to be met, permitting for automatic adjustments in the case of an asymmetric shock. Students can but do not need to add here the diagram representing the effects of asymmetric shocks in monetary unions. However, we need to acknowledge that this is a slow adjustment mechanism. While there is some evidence that labour mobility did help adjustments after the eurozone crisis, it is not a reliable and certainly not a fast-acting mechanism. Evidence on mobility in Europe, along with any barriers to labour mobility in the EU would be also of interest, without too many details being expected. Also, a reflection of the significance of migration in the Brexit context can be provided, but that should be in the context of economic analysis, or perhaps in the context of findings of the seminar presentation based on Becker et al (2017). 4 Illustrate the welfare effects of partial collusion in a BE-COMP framework. To what extent is EU regulation able to restrict collusive behaviour of companies, and what is the rationale for having a supra-national competition policy in Europe? Overall performance: This question was answered by 34% of the students, making it the least frequently answered question. The average mark for this question is in line with the overall average. ANSWER KEY and suggestions: This question wishes essentially for students to present and analyse in detail the analytical framework in lecture 6 observing the welfare effect of collusion

Page 8 in a BE-COMP framework, where free trade needs to be also acknowledged. Students answering this question had to show a good command of the model, and its explanation of outcomes. They should also note that by increasing the scale of the market, there are new opportunities arising for companies to collude, in a quest to consolidate their competitive position. As such, an authority observing anti-competitive practices at supra-national level is asked for. A good answer here needs to also justify the different dimensions of the EU competition policy, and acknowledge the regulations on collusive behaviour under Article 101 of the TFEU. An example of collusive behaviour of companies addressed by the EU is also expected for very good marks, and this can be the car batteries recycling cartel that we have introduced in class, or even better, another real case study that students have researched on their own. Unfortunately, very little engagement with case studies was proven even in some good answers. With respect to the supra-national dimension of competition policy, we seek an acknowledgement that EU competition policy is essentially linked to the single market. EU rulings are against any anti-competitive practices of undertakings (companies or even states) that distort fair, cross-border trade in the EU. The subsidiarity principle further applies, whereas national competition authorities are ruling in cases (including collusion) where there is no significant element of cross-border trade involved in anti-competitive practices observed at the level of member states. On the other hand, the EU competition policy has authority over company operations in the single market, indifferent whether these companies might be registered inside or outside of the EU. 5 What is the difference between a monetary and a fiscal union? Evaluate whether the eurocrisis reinforced or undermined the need for a fiscal union in the EMU (European Monetary Union). Overall performance: This question was answered by 50% of the students. The average mark for this question is slightly lower than the overall mark. ANSWER KEY and suggestions: As the question starts, here we have clear indication that this question is not just about monetary union or the Optimum Currency Area theory, but answers must reflect to what extent we need a fiscal union for the good operation of a monetary union. A straightforward approach would be to acknowledge first fiscal transfers as one of the theoretical conditions making it optimal to operate with one currency rather than a multitude of currencies. Yet, fiscal union is not necessary in order to have monetary union, as in the case of the

Page 9 EMU allowing for a variety of fiscal policies within the euro area. Still, full economic unions include both monetary policy unification, and fiscal policy unification, which implies budgetary transfers. In the absence of the latter, individual economies would need to contend with the negative consequences of asymmetric shocks without relying on budgetary transfers. Here a diagram on asymmetric shocks is indeed possible to use, along with the discussion of adjustment mechanisms in the case of an asymmetric shock occurring. Most students did this well. Next, the eurocrisis is a good example of a crisis fuelled by asymmetric shocks, in a monetary union where individual countries have lost their independent monetary policy tools. As such, we are talking about an incomplete monetary union, or a fixed exchange rate regime without a budgetary union. The theory for this is all provided in lecture 9, part one, illustrating as well how without a budgetary (or fiscal union) reliance on financial markets with a solvency shock might push us into bad equilibria and liquidity shocks. These shocks trigger further risks of increasing debt and a sovereign debt crisis, as in the case of the euro crisis. Potentially, a discussion of the eurocrisis is also welcome here. Further elements that can feature in a good answer would be a discussion of the Stability and Growth Pact and the new Fiscal Compact agreed in Europe, in order to limit the risk of sovereign debt and default during a currency crisis. What is essential here is to emphasise that the lack of a fiscal union has not allowed for automatic transfers once we are facing a severe asymmetric shock and risk of solvency crisis in the EMU. That makes a budgetary union a desirable step, if not an easy political solution. Students can also look into alternatives for fiscal union, including for example the issuing of Eurobonds, as well as into the intervention of the ECB in order to inject liquidity into the system, and avoid further financial crisis. The nature of this topic is more complex, yet quite a few students did approach the question and gave pertinent answers. This is a welcome development, as compared to earlier cohorts struggling with this topic. 6 Discuss the ways in which economic integration has shaped the economy of an EU member country of your choice. To what extent could any developments identified for this EU member state have taken place without it being a full member of the Union? Overall performance: This question was answered by 58% of the students. The average mark for this question is slightly lower than the overall mark. ANSWER KEY and suggestions:

Page 10 Here students would essentially reflect on their findings on how integration has shaped a European economy that they have researched towards their team reports. To address the second part of the question, or in a concluding section a critical note is also expected, considering whether the effects attributed here to integration might have taken place anyway, say, by increasing trade with partners outside of the EU. We could also consider stimulating productivity through specific national supply side measures instead of cross-border collaborations, regulations, trade and migration that raise productivity and growth. Please note that the country discussed in this paper COULD be as well a non- EU European country, such as Switzerland, as one team has done research in this respect during the current academic year. Moreover, a reflection on, say, Switzerland might nicely link into the second part of the question, as phrased here. Essentially, a good answer for this question would go beyond a simple description of a European economy that students might have researched. As this has not happened often in your answers, the mark is marginally lower for this question than in the case of the overall exam mark. A great answer would reflect on related topics in economic integration covered in the module and can consider for example: trade effects and trade partners in and outside the EU for the economy at hand; the way in which the country s trade might have changed through EU membership; the effects on competition and any changes in market structure during EU membership; the increase in labour migration upon enlargement of the European single market or the challenges of allocating refugees across EU economies; the effects of labour mobility in relieving asymmetric shocks within the monetary union; the challenges of the euro crisis posed to the economy; the conditions of a country s membership of the monetary union; the performance of the country s banking system; the intensity of capital flows, and foreign investments between European countries; the problem of fiscal discipline at home or abroad in the euro area; the implications of lack of competitiveness in a single currency area; the effects on and of social protection in the face of European integration; what Brexit and economic disintegration might mean for this economy, or what trade agreements and alternative forms of integration the economy might have or might have had with the EU or other partners outside the EU. Note that this list is not exhaustive, nor is there an expectation that students would be able to capture all such issues under exam conditions; but a reflective discussion on a sub-set of the above topics is the best way to approach this question. The reproduction of diagrams was not expected here nor enough, unless a clear connection is made between the artwork and the economy under discussion. While students are not penalised for having any diagram their

Page 11 answer to this question, they should not avoid reflecting on real economies by hiding behind the diagrams, as that might simply result here into an incomplete answer to the question. Some final thoughts We are advising you to read these answer keys with caution. The European economy is changing and so would the focus of the exam questions year on year, even if the underlying theory is essentially the same. Also, be aware that while the module might be similar to that in a previous year, the readings covered in seminars in particular would have often changed and findings on the EU economy, integration and disintegration are being updated. Finally, any order of lectures referred above might be altered across academic years as well.