European Monetary Integration and The Euro Crisis

Question 1

Definition of Optimal Currency Area

Answer 1

An OCA is a geographic region that benefits from having only one currency

Question 2

What are the benefits of sharing a single currency

Answer 2

1. extent to which they trade
2. the degree of labor mobility
3. the similarity of economic shocks they experience
4. the scope to which cross-regional fiscal transfers are possible

Question 3

Why go for an OCA

Answer 3

1. flexible exchange rates show high volatility

2. A system with fixed interest rates is vulnerable for speculative attacks

Question 4

What are the aims for EMU?

Answer 4

1. end exchange rate volatility
2. support liberalization financial markets
3. increase competitiveness
4. increase investments and growth
5. increase political integration

Question 5

What were immediate effect of EMU?

Answer 5

1. Lower transaction costs
2. Reduced exchange rate volatility
3. Greater price transparency

Question 6

Short-term to medium effect of EMU?

Answer 6

1. Potential to increase trade
2. Potential to increase investment
3. Changes to the mechanisms for economic adjustments

Question 7

Long-term effect of EMU?

Answer 7

Competition -> Specialization & concentration

Question 8

Largest costs of EMU?

Answer 8

Countries lost their monetary policy autonomy meaning countries stay under the same policy with same interest rates

Question 9

Result of same interest rates?

Answer 9

“one size fits all problem”

Question 10

“one size fits all problem”

Answer 10

The south experiences benefits from the low interest rates whereas the north could do with a higher interest rate since the housing market is exploding

Question 11

What about regional shocks and EMU?

Answer 11

Devaluation of currency no longer possible!

1. labor mobility
2. flexible wages and prices
3. redistributive fiscal policy

Question 12

Explain the first stages of the EMU

Answer 12

Everything was perfect. High economic converge. Underlying problems however ->

1. South benefited from lower interest rates, but failed to incorporate structural informs
2. North invested in housing bubble, and failed to invest in productive capital

Question 13

Economic converge

Answer 13

Poorer economies per capita incomes will tend to grow at faster rate than richer economies

Question 14

Five connected crises of euro crisis?

Answer 14

1. Bond crisis
2. Solvency crisis
3. Competitiveness crisis
4. Governance crisis
5. Banking crisis

Question 15

Explain bond and solvency crisis

Answer 15

Huge policy shift from preferential treatment to private sector involvement.

Sudden shift from risk-free view to view of Maastricht has led to liquidity problems in bond markets

Question 16

How is eurozone sovereign debt defined?

Answer 16

1. Treaty of Maastricht -> assumes it should be considered as foreign debt since default risk is still active.
2. Banking regulation -> Assumed its a risk-free debt since its in a domestic currency and currency risk is not involved

Question 17

Effect of bond crisis

Answer 17

Sovereign had to decide to go bankrupt or save their banks / economy

Question 18

Defining the competitive crisis

Answer 18

Lack of competitiveness, and lacking the ability to restore it through depreciation of their national currency. Slow reform proces.

Question 19

Defining the governance crisis

Answer 19

The pace of democratic decision making differs from pace in financial markets

Lack of:

1. fiscal discipline
2. effective banking supervision
3. institution that can act as last resort