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Explore the arguments for and against adopting the Euro currency in the Czech Republic. This discussion covers issues such as economic growth, inflation differentials, Maastricht criteria, trade and financial openness, and more.
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Reflections on the Czech debate about pros and cons of single currency € Ministry of finance of the Czech Republic May 2006
Euro - culprit of poor growth performance in Eurozone ? Source: EU Growth Trends at the Economy-Wide and Industry Levels, European Commission, April 2006
Euro - culprit of poor growth performance in Eurozone ? • Heard-of arguments • Unfulfilled promises of pro-federalist politicians • Another rigidity to already rigid Union • Source of diverging economies • Counter-arguments • Productivity deceleration is a longer-term phenomenon • The issue already addressed in 2000 Lisbon Agenda • What alternative exchange rate arrangement for internal market? (wild fluctuations of floating rates?, managed realignments in EMS?)
Inflation differentials in Eurozone Source: Eurostat. Monthly values of yearly averages of harmonised index of consumer prices.
Adjustment without exchange rates Source:Ahearne, A., Pisani-Ferry, J.: The euro: only for the agile. Bruegel policy brief, February 2006.
Euro – potential source of inflation ? Price level (EU-25 = 100) GDP per capita (EU-25 = 100) Source: Centrum of economic studies VŠEM, Bulletin 07/2006
Euro – potential source of inflation ? • Supporting arguments • Loss of the exchange rate channel during the catching up process with the EU price level • Empirical evidence from some Baltic countries (Latvia approx. 7 %, Estonia 5 % inflation, but robust growth as well) • Caveats • Empirical evidence from Eurozone countries (Portugal, Greece, Ireland 2 – 3 %) • Price differentials mainly observed in non-tradable sector while tradable sector is exposed to sharp competitive pressures • Shrinking non-tradable sector and extending tradable sector • The closing of price gap through the exchange rate channel can continue until Eurozone accession (depends on the ERM-II) • More thorough analytical work still needed (extent of Balassa-Samuelson effect)
Critique of Maastricht criteria • Some technical parameters are outdated or questionable • Inflation - who are the outliers? • ERM-II narrow fluctuation band ± 2¼ % - potential for speculative attacks? • Will be the trend exchange rate appreciationtolerated • One-sided stress on nominal convergence and neglect of the OCA arguments • Missing prioritisation • Lack of credible reference values • Inconclusiveness of the OCA tests
Financial openness of the Czech economy • Absence of any capital controls (CR is integral part of the internal EU market) • EU is the major source of foreign direct investment • Dominant foreign ownership in the Czech banking sector (CSOB, CS, KB) High trade and financial openness growing weight of the „endogenousness“ OCA argument
Other OCA arguments • Low synchronisation of business cycles • Factors spoiling good correlation • Fast actual economic growth (5 - 6 %) • Monetary shake-up in 1997 and resulting recession • Higher frequency of asymmetric shocks • Very abstract econometric exercise • How many of them should by properly addressed by the exchange rate policy? Over-representation of car-producing industry? • Insufficient flexibility of labour market • The OCA is concerned with insufficient cross-border mobility (no major problem on the Czech side) • Flexibility of the Czech labour market is not worse than that of the EU