Price and monetary convergence in currency unions: The franc and rand zones

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Theory suggests that a currency union will impose significant macroeconomic disciplines on its members. The law of one price, for example, should lead to convergence of price levels, at least for what may be regarded as tradeable goods. Likewise arbitrage would imply convergence of interest rates. This paper looks at the two main surviving currency unions, the franc and rand zones in Africa, to see whether and to what extent these generally accepted propositions find confirmation in the data. Each of the African currency unions has a dominant or ‘core’ member, France in the case of the franc zone and the Republic of South Africa (RSA) in the case of the rand zone. Our focus is on the small members in the ‘periphery’ and for them there is the additional presumption that inflation and interest rates will be imported from the core. Despite some rather wide short-run divergences, and although convergence is slow, we find that, in the long-run, consumer price inflation is largely determined in the core. The limited evidence available suggests that uncontrolled interest rates also converge to core country levels (JEL F31).