European Currency Unit (ECU)

European Currency Unit (ECU)

What was the ECU?

The European Currency Unit (ECU) was an accounting currency used by the European Monetary System (EMS) from 1979 until it was replaced by the euro. It was not a physical currency but a unit of account used to set exchange-rate relationships, denominate financial instruments, and guide reserve and intervention policies among EMS members.

How it worked

• The ECU was a basket currency made up of member states’ currencies, weighted according to each country’s share of economic output.
• Its value provided a common reference for exchange rates and international transactions, allowing ECU-denominated securities to offer foreign-exchange diversification.
• The ECU replaced the earlier European Unit of Account when it was introduced on March 13, 1979.

Composition

The basket initially contained nine currencies and expanded to 12 by the late 1980s. At its fullest composition, the ECU included:
– Belgian franc, German mark, Danish krone, Spanish peseta, French franc, British pound, Greek drachma, Irish pound, Italian lira, Luxembourg franc, Dutch guilder, Portuguese escudo

Weights were adjusted periodically to reflect changes in relative economic size.

The Exchange Rate Mechanism (ERM)

Introduced alongside the ECU, the ERM aimed to limit exchange-rate variability among member currencies by defining banded parities around the ECU. Central banks intervened and adjusted monetary policy to keep rates within those bands. The ERM was a key step toward monetary convergence, providing a framework for stability prior to adoption of a single currency.

Challenges and exits

The EMS and ERM faced recurring tensions:
– National economies often followed Germany’s monetary stance because of the Deutsche Mark’s strength and the Bundesbank’s influence.
– Divergent economic cycles (for example, Britain vs. Germany) made uniform policy difficult.
– Speculative pressure and misalignment culminated in the UK’s exit from the ERM on Black Wednesday (1992), when sterling came under heavy attack and could no longer be defended within ERM bands.

Some members (notably the UK and Denmark) ultimately chose not to adopt the euro; others joined later.

Transition to the euro and legacy

• The name “euro” was adopted in 1995. The euro replaced the ECU as the accounting and then operational currency: a 1:1 conversion was applied when the euro was introduced for noncash electronic purposes in 1999. Euro banknotes and coins entered circulation in 2002.
• The ECU’s role as a common reference and convergence tool helped pave the way for the single currency and for deeper monetary integration in Europe.

Today the euro is the official currency of the majority of EU member states and ranks among the world’s largest and most traded currencies, reflecting the lasting institutional impact of the ECU and the EMS.