What it means
The ECU was created in 1979 as part of the European Monetary System, an arrangement that tried to keep member currencies stable against each other. It was not a coin or banknote that people could spend.
Instead, it worked like a measuring stick whose value was calculated from a fixed amount of each member currency. Each currency in the basket had a weight that reflected the size of that country's economy and trade.
If one currency rose, the ECU rose slightly, but the effect was diluted by the others. This made the ECU more stable than any single national currency.
Governments used the ECU to monitor how far each currency strayed from agreed limits. Private markets also found it useful.
Companies and governments issued ECU bonds, which allowed borrowers to raise money in a unit that spread currency risk across several countries. When the euro was introduced, the ECU basket was converted into euros at a rate of one euro for one ECU.
The name changed, but the continuity in value helped contracts and bonds written in ECU to carry over smoothly. The euro therefore can be seen as the successor to the ECU.
For modern finance, the ECU is an example of a basket currency, a unit whose value is based on several currencies. The International Monetary Fund's Special Drawing Right works on a similar principle.
Basket approaches are still used where a single currency would give too much weight to one economy. You will mostly meet the ECU in historic bond data, older contracts and economic history.
If you need to convert an old ECU figure, use the one-to-one rate for the euro. Beyond that, the unit is no longer in use.
In practice
Real-world examples.
Example
A multinational company in the 1990s issues a bond denominated in ECU. Investors like the diversification, and the borrower avoids depending on a single currency. The interest and principal are paid in the equivalent amount of one of the member currencies.
Example
A European government agency records its budget transactions in ECU. The unit makes it easier to compare amounts across member states. Officials use it in reports so that readers do not have to convert from several national currencies.
Example
A bond trader holds an ECU-denominated security that matures after the euro is launched. The holding is converted to euros at one euro per ECU, with no loss of value from the change in name. The trader's system needs only a simple update to relabel the position.
Formula
Calculation
Value of 1 ECU = sum of (amount of each currency in the basket x value of that currency)
Worked example: here is a simplified, illustrative basket, not the official amounts. Suppose 1 ECU contained 0.8 German marks, 1.5 French francs and 0.2 British pounds, with dollar values of $0.60 per mark, $0.20 per franc and $1.60 per pound.
Step 1: Marks = 0.8 x $0.60 = $0.48.
Step 2: Francs = 1.5 x $0.20 = $0.30.
Step 3: Pounds = 0.2 x $1.60 = $0.32.
Adding them gives 1 ECU = $0.48 + $0.30 + $0.32 = $1.10. If the mark rose to $0.70 while the others stayed the same, the marks component would become $0.56 and the ECU would rise to $1.18, an increase of only 7.3%, because the other currencies held steady.Case study
Seen in the real world.
Brenner Engineering is a fictional company that sold industrial equipment to customers in many European countries in the 1990s. Its invoices were in a mix of local currencies, and currency swings regularly squeezed profit margins.
The finance director began quoting some contracts in ECU, which gave customers a stable price and spread the risk across several currencies. Revenue became more predictable, although the company still needed to convert the receipts into its home currency. The finance director tracked the gap between the ECU price and the local price each month to make sure customers were treated fairly.
In this illustrative case, the euro replaced the ECU on 1 January 1999 and the contracts carried on without disruption. The company later found that most of its currency issues disappeared as more of its customers adopted the euro.
Watch out
Common mistakes.
- Thinking the ECU was a physical currency, when it was a unit of account based on a basket.
- Assuming the ECU still exists, when it was replaced by the euro in 1999.
- Believing that the ECU's value was fixed, when it moved with the currencies in the basket.
Questions
People also ask.
What replaced the ECU?
The euro replaced it at a rate of one euro for one ECU on 1 January 1999.
Why was a basket used?
A basket reduces the effect of swings in any one currency, which makes the unit more stable. The same idea is used today in some international reserve assets.
Is the ECU the same as the euro?
No. The euro is the successor currency, but the ECU was only a unit of account before the euro launched.
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