benefits versus costs of adopting the euro for the uk an optimum currency area theory approach
TRANSCRIPT
Benefits versus costs of adopting the Euro for the UKAn Optimum Currency Area Theory
approach
Introduction Optimal Currency Area framework
Three economic criteria: 1. Labor Mobility
2. Production Diversification
3. Openness
Three political criteria: 1. Fiscal Transfers
2. Homogenous preferences
3. Commonality of destiny The Economist survey: 67% of macroeconomists – favor
joining EMU, 75 % of monetary economists – are against
Labor Mobility Importance of asymmetric shocks
Movement of labor from recessionary to expansionary countries
Irrelevance of exchange rates assuming perfect labor mobility
Labor Mobility Low movement of people in Europe as
compared to US ( language, culture, legal barriers )
UK vs. Continental Europe - Different market regulation philosophies( e.g. difficult lay offs in France )
Labor mobility across European countries is lower than the one within countries
Conclusion: Labor Mobility criterion- unfulfilled
Production Diversification Kenen : Exports and Production
diversified and of similar structure
Response to asymmetric shocks
Decreases in demand or supply of one product are leveled off by increases in the demand and
supply of another product
Production Diversification UK’s market – “sectoral liberalization” in
housing and retail – more diversified than Continental Europe
Major structural differences:UK -mortgage debt 57% of GDP > EU’s 33% in 1997 -short term debt & equity issuance UK – exporter of OIL ( e.g. high demand in Italy and
Germany) not sure for how long
Conclusion: Kenen criterion- unfulfilled
Openness McKinnon:countries trade heavily with
each other, then- monetary policy insignificant- prices adjust rapidly
Is UK heavily engaged in trade with the rest of the EU member states?
Core-periphery dichotomy
Openness UK’s ratio of exports and imports to GDP
towards the rest of the Euro zone UK periphery Benefit of joining: low exchange rate uncertainty Insurance from exchange rate fluctuations
Conclusion: McKinon criterion- unfulfilled
Fiscal Transfers Money is transferred to countries affected
from the asymmetric shocks theory of economic needs – money
allocated based on wealth not the impact of adverse shocks – UK would suffer
No fiscal transfer mechanism
Conclusion: Fiscal Transfers criterion- unfulfilled
Homogeneity of preferences
criterion countries must agree on the policies the
Central Bank will use
Germany – inflation averse, UK more tolerant
Gordon Brown – UK prefers flexibility
Conclusion: Homogeneity of preferences criterion criterion- unfulfilled
Commonality of destiny vs. nationalism
criterion willingness to sacrifice for fellow
members
EU – a union of nations – political quarrels
Jacque Chirac : “EU is not a United States of Europe but rather a Europe of United States”
Conclusion: Commonality of destiny vs. nationalism criterion- unfulfilled
CONCLUSION
UK’s current optimal choice is to continue to opt out
• However the costs of opting out should be re-evaluated on time to time basis