British banks face exclusion from Target system

The first concrete evidence that the UK's lukewarm attitude to European monetary union (EMU) is damaging British interests was revealed by a new report yesterday.

Despite strong Bank of England lobbying, the European Monetary Institute has left the way open for the exclusion of UK banks from full access to funds under the single currency through restrictions on Target, the planned payments system for euros.

In an exclusive interview with The Independent, Alexandre Lamfalussy, president of the EMI, said: "To be candid, if the UK stays out of EMU and does not participate at the beginning, a number of things will escape British influence."

The EMI said yesterday in a long-awaited report on monetary policy under the single currency that the decision to restrict access to Target for non-member countries would be left to its successor, the European Central Bank. The ECB will be composed only of member countries, and the French and Germans have made clear their absolute determination not to permit London-based banks equal access to euro funds from the new central bank if Britain does not join.

Mr Lamfalussy warned: "The ECB will have the technical possibility of not granting unlimited credit. If the UK is not there, you will have no voice in that."

In a statement the Bank of England noted only that the debate about non-member access to euro funds within the trading day had been left "unresolved".

So too was the question of whether the ECB will impose minimum reserve requirements on member banks, another proposal the Bank of England has steadfastly opposed.

Kenneth Clarke, the Chancellor, who was speaking in Japan yesterday, insisted that not joining EMU would not harm London's interests. "I don't think staying out of EMU poses any threat to the predominant position of the City of London," he said.

But City experts were concerned that the two obstacles had not been removed. "It is worrying that a key issue like the question of minimum reserves has not been resolved," said Michael Lewis at Deutsche Morgan Grenfell.

Tim Sweeney, director-general of the British Bankers' Association, said: "The imposition of reserve requirements is unnecessary for the efficient conduct of monetary policy and threatens to distort the market. In an open market, it will also siphon banking business out of the euro area."

However, the imposition of minimum reserve requirements would put UK banks at an advantage if Britain remained outside EMU. In other respects, yesterday's report was warmly welcomed by the Bank of England, which had clearly had an influence on its other conclusions.

Mr Lamfalussy said: "If I were judging from the way the Bank of England is participating, I would not have known the UK was not expecting to join EMU."

In particular, the report recommended the adoption of an explicit target for inflation or the money supply, saying that in practice the operation of monetary policy would be similar in either case. The public announcement of a specific target would be essential to assess the performance of the ECB, whose statute makes price stability its overriding responsibility.

The central bank, when it comes into existence during 1998, will set monetary policy by using open market operations to influence short-term interest rates. These operations will take the form of tenders in the market for "repos", agreements for the sale and repurchase of government securities.

Since the introduction last year of the gilts repo market, the Bank has fallen closer into line with continental central banks in its monetary techniques. The EMI report gives details, unanimously agreed, about how banks and other institutions can qualify to take part in the Euro repo market.

It also spells out the need for the ECB to have access to adequate statistics and make its own economic assessments and inflation forecasts.

The full interview with Alexandre Lamfalussy, president of the EMI, will be published on Monday.