The Euro
1. One could view the United States as a currency union of 50 states. Compare and
contrast the Eurozone and the United States in terms of the optimum currency area
(OCA) criteria.
2. After German reunication and the disintegration of Communist rule in Eastern
Europe, several countries sought to join the European Union (EU) and later the
Economic and Monetary Union (EMU). Why do you believe these countries were
eager to integrate with Western Europe? Do you think policy makers in these coun-
tries believe that OCA criteria are self-fulfilling? Explain.
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3. The Maastricht Treaty places strict requirements on government budgets and na-
tionaldebt.WhydoyouthinktheMaastrichtTreatycalledforscaldiscipline?Ifit
is the central bank that is responsible for maintaining the fixed exchange rate, then
why does fiscal discipline matter? How might this affect the gains or losses for joining
a currency union?
4. The following figure shows the hypothetical OCA criteria with the Eurozone for
selected countries. Assume that these are based solely on economic criteria—that is, without
reference to other political considerations. Refer to the diagram in responding to the
questions that follow.
Symmetry
of shocks
Market
integration
Denmark
Switzerland
United Kingdom
OCA
Turkey
Slovakia
Greece
Poland
Symmetry-Integration Diagram
a. Which of the countries satisfies the OCA criteria for joining a monetary union?
Solutions n Chapter 16 The Euro S-157
b. ComparePolandandtheUnitedKingdomintermsoftheOCAcriteriaregard–
ing market integration with the Eurozone. Discuss one possible source of differ-
ences in integration with the EU in the two countries.
c. ComparePolandandtheUnitedKingdomintermsoftheOCAcriteriaregard–
ing symmetric versus asymmetric shocks (relative to the Eurozone). Discuss one
possible source of differences in symmetry with the EU in the two countries.
Answer: Poland’sshocksaremoresymmetricwiththeEUthanaretheUnited
d. SupposethatpolicymakersinbothPolandandtheUnitedKingdomcareonly
about being able to use policy in response to shocks. Which is more likely to
seek membership in the EMU and why?
e. What did the ERM crises reveal about the preferences of the United Kingdom?
Why has the United Kingdom sought membership only in the EU without
seeking membership in the Eurozone? Consider other costs and benefits not in
the diagram, both economic and political.
Answer: The ERM crisis revealed that the loss of autonomous monetary policy
S-158 Solutions n Chapter 16 The Euro
f. WhatdidmembershipoftheEurozonerevealaboutthepreferencesofGreece?
Consider other costs and benefits not in the diagram, both economic and political.
5. Congressestablished the Federal Reserve System in 1914. Until then, the United
States did not have a national currency; Federal Reserve notes are still the paper
currency in circulation today. Earlier attempts at establishing a central bank were
opposed on the grounds that a central bank would give the federal government mo-
nopoly over money. This was a reflection of the historic debate between maintaining
states’rightsversusestablishingastrongcentralizedauthorityintheUnitedStates.
Thatis,thecreationoftheFedandanationalcurrencywouldmeanthatstateswould
no longer have the authority to control the money supply on a regional level. Discuss
thedebatebetweenstates’ rightsversuscentralizedauthorityinthecontextof the
EMU and the European Central Bank (ECB).
6. InrecentyearstherehavebeenreportsthatagroupofsixGulfcountries(Bahrain,
Kuwait, Oman, Qatar, Saudi Arabia, and United Arab Emirates) were considering
the introduction of a single currency. Currently, these countries use currencies that
are effectively pegged to the U.S. dollar. These countries rely heavily on oil exports
to the rest of the world, and political leaders in these countries are concerned about
diversifying trade. Based on this information, discuss the OCA criteria for this group
of countries. What are the greatest potential benefits? What are the potential costs?
Answer: The potential benefits arise from the elimination of uncertainty regarding the
7. BeforetakingofceasthenewFederalReservechairman,BenBernankeadvocated
for the adoption of an inflation target to promote price stability in the United States.
CompareandcontrasttheFedandtheECBintermsoftheircommitmenttoprice
stability and economic stability. Which central bank has more independence to pur-
sue price stability as a primary objective? Explain.
8. Why do countries with less independent central banks tend to have higher inflation
rates?Isitpossibleforthecentralbanktoincreaseoutputandreduceunemployment
inthelongrun?Inthelongrun,istheGermanmodelagoodone?Explainwhyor
why not.
9. Compare the Maastricht Treaty convergence criteria with the OCA criteria. How
are these convergence criteria related to the potential benefits and costs associated
withjoiningacurrencyunion?Ifyouwereapolicymakerinacountryseekingto
join the EMU, which criterion would you eliminate and why?