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Lane EMU 2006 - Journal of Economic Perspectives-Volume 20...

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The Real Effects of European Monetary Union Philip R. Lane E uropean monetary union only began in 1999, so it is far too early to make any conclusive judgments about its long-term effects on the economies of member countries. Nonetheless, much can be learned from the initial years of this remarkable monetary experiment. This paper will first review some differences in the macroeconomic perfor- mance of the individual member countries since the creation of the euro in 1999 and ask whether a single currency has acted to amplify or moderate the sources of heterogeneity. There have been surprisingly persistent differences in national inflation rates within the euro area, such that the common monetary policy has not suited all member countries at all times, and the impact of currency union on the behavior of national business cycles (plus the appropriate national policy response) has been a key feature of the debate over European monetary union. The next section asks how European monetary union has influenced the degree of economic union among the member countries. The monetary union has contributed to greater cross-border trade in finance and goods, delivering effi- ciency gains from market integration. Over a sustained period of time, a more integrated European economy will also become better-suited to a single currency. We then turn to considering the role of national fiscal policies when countries have formed a monetary union. Finally, balancing these issues and concerns, we turn to the ongoing political viability of the European monetary union. This article is not intended to be a comprehensive survey of the already voluminous literature on the real effects of European monetary union. The reader in delving deeper should begin with the wide-ranging studies contained in HM Treasury (2003), the y Philip R. Lane is Professor of International Macroeconomics, and Director, Institute for International Integration Studies, both at Trinity College, Dublin, Ireland. He is also a Research Fellow, Center for Economic Policy Research, London, United Kingdom. His email address is [email protected] . Journal of Economic Perspectives—Volume 20, Number 4—Fall 2006—Pages 47–66
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work of Baldwin, Bertola, and Seabright (2003), and the papers commissioned for the 2005 conference on European monetary union organized by the European Central Bank, which are available at http://www.ecb.int/events/conferences/ html/emu.en.html . Does One Size Fit All? To ensure a sufficient degree of monetary convergence among member coun- tries, the 1992 Maastricht Treaty required that a country could join the euro area only if it had an inflation rate no higher than 1.5 percentage points above the three best-performing member states and a nominal long-term interest rate no more than 2 percentage points above the three best-performing member states. In addition, in recognition of the dangers posed by fiscal instability for monetary policy, these rules were reinforced with further rules that annual budget deficits could be no
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