The Road to a Viable Euro Zone and the Preconditions for Becoming a More Optimal Currency Region

Abstract

Since the early 1950s European integration has been shaped by political, economic and monetary forces. Although political integration provided the initial impulse for a European community, since the Treaty of Rome in 1957 the authorities have chosen instead a process of functional integration (i.e. pursuing economic and financial integration in various incremental and feasible steps). As a result of the Treaty of Maastricht (1992) the creation of the EU as a single market with ‘four freedoms’, and ultimately the formation of the EMU, are the final stages in this integration process, backed by coordination of national economic policies and harmonization of relevant domestic laws to avoid protectionism. However, the start of the euro sovereign debt crisis, hereinafter referred to as the euro crisis, has raised the question of whether the EMU is an optimal currency area (OCA), whereby the optimal size of the currency area is one that maximizes the benefits from having a single currency relative its costs. Since the start of the EMU there has been an economic consensus that the EMU was not actually an OCA, even though the euro may foster some incentives for bringing its members closer together. Nevertheless, the EMU is likely to move towards becoming an OCA over time because the convergence of the individual economies within the euro area is likely to increase as common laws and policies are adopted, the single market deepens and and any remaining trade barriers gradually disappear.