THE THEORY OF OPTIMUM CURRENCY AREAS A LITERATURE REVIEW BROZ

A history of thought on economic integration. The fourth section highlights the reasons for the virtual abandonment of academic research in the field during most of the s and s. Under fixed exchange rate regime and in the absence of capital controls, a high level of reserves is required to deal with speculative capital flows. Special Papers in International Economics, No. Theory of Optimum Currency Areas:

Neumeyer delves deeper into the role of political authorities by differentiating between the economic and non-economic political shocks. We also discuss factors that led to the renewal of interest in the theory in the early s, and the current state of knowl- edge related to the theory of OCA is also narrated. American Economic Review, 80 3 , — Economic, political, and institutional prerequisites for monetary union among the members of the Gulf Cooperation Council. The third section addresses the foundations of this theory through the contributions of Mundell , McKinnon and Kenen

the theory of optimum currency areas a literature review broz

Also, he identifies other criteria to con- sider, such as differences in inflation rates and wage increases among the countries forming the common currency area that result from different social preferences. The implication is that the presence of endogeneity lessens the literaturee of country-specific monetary policies and reduces the cost of giving up a nationally tailored mon- etary policy.

Thus, highly diversified economies are better candidates for currency areas than less diversified economies. Similar argument is presented by Giersch and De Grauwe A theory of optimum currency areas.

The theory of optimum currency areas : a literature review

However, the argument still remains valid when currencies are organised at the regional level. It was their rejection of brroz paradigm of fixed exchange rates regime that set them apart from Mundell. Formation of a common currency area will be more costly among coun- tries that have different inflation rate preferences.

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Also, the more open an economy, the smaller it is likely to be in terms of optimuk GDP McKinnon, Third, if two countries with flexible nominal exchange rates, and hence independent monetary policies, face distur- bances in such a way that the policies responding to such disturbances depress economic activity in one region in both countries and at the same time stimulate economic activity in the other region in both countries, there exists an argument for forming two currency areas, one consisting of the depressed regions of the two countries and the other consisting of the stimulated regions of both the countries Kawai, Recent advancements in the area using dynamic general equilibrium analysis shows that the revival of interest in the theory of OCA reflects devel- opments in a literature that has little to do with the subject of OCAs itself.

In the two-period general equilibrium model of Helpman and Razina floating exchange rate regime dominates over a fixed exchange rate regime, since the latter reduces the number optkmum assets in the economy.

American Economic Review, 91 2— Ingram listed the integration of financial markets among the revview of monetary union. CESifo Economic Studies, 49 1— This implies that in such an environment, the loss of monetary policy is a huge cost on an economy.

the theory of optimum currency areas a literature review broz

American Economic Review, 88 1— A Currwncy Review”, Privredna kretanja i ekonomska politikavol. However, the theory did not suffer complete stagnation during these two decades. In the latter case, there exists a large body of literature deriving from the Kollmann and Obstfeld and Rogoff open economy extensions of the new Keynesian model.

literayure Exchange rates as nominal anchors. It also served a good answer to what will later become a debate on two definitions of economic convergence between Krugmanon the one hand, and the European Commission ECon the other hand. His paper analysed the effects of shocks to particular export products i. John Wiley and Sons, Inc. The result of this process is higher nominal wages and higher inflation, with same real litearture as before. Part of the reason is its popularity being reflected in the real world developments.

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The Theory of Optimum Currency Areas: A Literature Review

The second sec- tion provides the background in which the OCA theory originated. A country that stays outside the monetary union will have to deal with large asymmetric shocks that arise from the instability broa international capital flows.

Hence, just like centralised union mar- kets, these markets may also not have an incentive to ask for excessive wage increases. The main aim was to identify the conditions which, if satisfied, diminished the case for flexible exchange rate regime.

the theory of optimum currency areas a literature review broz

Weltwirtschaftliches Archiv, 11— Stabilization and reform in Eastern Europe: This leads to a paradox. The case for flexible exchange rates. Tower and Willet focus on the factors that influence the relative costs and benefits of flexible and fixed exchange rates for each individual country, while Vaubel believes real exchange rate to be a comprehensive criterion of forming OCA than the traditional criteria of labour mobility, diversification and openness. Subsequent literature in this area introduces various rigidities and imperfections into the modelling of currency unions.