EMU Membership Research Articles

Policy complementarity: major fiscal and monetary announcements during the pandemic

ABSTRACT This paper evaluates the impact of major European fiscal and monetary policy announcements during the pandemic. Applying an event study methodology, we find that the fiscal-monetary policy-mix announcements are associated with more stable bond markets across the entire EU. Proof of positive spillover transmission, policy announcements tend to stabilize spreads even in CEE countries without EMU membership. The results indicate a high degree of complementarity between fiscal and monetary policy: well-timed fiscal policy announcements complemented ECB’s monetary programs, protecting sovereign bond market from risk aversion.

Konvergencija inflacije u novim EMU članicama

The European Central Bank is responsible for managing the common monetary policy for 19 countries that are geographically and economically very heterogeneous. The question is whether the common monetary policy suits all of them. We focused on countries that joined the Monetary union since 2007 (new members), to understand if they managed to "fit in". Those countries made impressive progress in macroeconomic and price stability, but is it enough to simply enjoy net benefits from EMU membership? After analyzing statistical characteristics of their inflation processes since 1997 (mean and median inflation, standard deviation and coefficient of variations), we wanted to understand if their inflation rates have converged towards EMU average inflation rate and if they tend to form a more homogeneous group of countries. We conducted a unit root test to statistically check the significance of the convergence process, and analyzed autocorrelation coefficients of inflation rates to assess the influence of the common monetary policy on the persistence of inflation. The results did not statistically confirm the existence of absolute convergence of inflation rates in New EMU members.

BULGARIA'S REAL CONVERGENCE IN THE CONTEXT OF POTENTIAL EMU MEMBERSHIP

Since the entry of Bulgaria into the European Union, the country's full membership in the Economic and Monetary Union has become one of the national economic policy goals. In the recent period Bulgaria fulfils all the nominal convergence criteria, except for the criterion on exchange rate stability as long as the country does not participate in the ERM II mechanism (although Bulgaria has a currency board arrangement in place since 1997 and the Bulgarian currency is pegged to the euro). Despite that, Bulgaria remains the EU member with the lowest level of GDP per capita and lowest productivity and income levels. In June 2018 the Bulgarian authorities submitted a letter of intent to the EU policy makers to join the ERM II mechanism and the banking union. In July 2020 the mutual agreement to include the Bulgarian lev in the ERM II mechanism and Bulgaria to join the banking union was achieved. In the context of the future full EMU membership it is important to assess the evolution and the state of Bulgaria's real convergence. This paper looks at the Bulgaria's real convergence, understood as the convergence of GDP per capita, labour productivity and convergence of price levels. We use the Beta and Sigma convergence methods and explore the convergence in the 1999-2018 period. We also compare Bulgaria's real convergence to the real convergence of other CEE countries that are EU members (Croatia, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Slovakia and Slovenia), part of which have already accepted the euro and the other part are still outside of the euroarea. We also try to explain the economic reasoning behind the EMU accession path of Bulgaria. The results of the survey show that Bulgaria lags behind in its convergence process from other CEE countries, but at the same time we believe that the benefits of the euroarea membership outweigh the possible negative consequences.

What Determines Fiscal Deficits in Europe? The Impact and Interaction of EMU Membership, Fiscal Rules, Fiscal Councils and Creative Accounting

AbstractWe search for drivers of fiscal deficits in Europe using a data panel containing annual data of 27 EU countries in the years 1991–2012. Our special focus is on the influence of fiscal rules as well as on fiscal councils, i. e. institutions that may help to reduce deficits and enforce fiscal rules by advising governments. We distinguish between internal fiscal rules and external rules that result from EMU membership. In addition, we consider the impact of “creative accounting”, i. e. measures that help to circumvent fiscal rules, which we approximate by so called stock-flow-adjustments. We especially analyze the interactive influence of the mentioned variables on the budget balance.

The New Eurozone Risk Morphology

Ten years into the global financial crisis, the euro area is struggling to get back on a path of stability and growth. Leaving aside international factors, many underlying reasons come from within and range from the EMU architectural incompleteness to the reluctance to address some key issues, starting from the ECB mandate and constraints. These reasons develop along two main risk backbones that define the Eurozone risk morphology: large and persistent competitive gaps, which contrast center and periphery, and systematic risk segregation, which hinders effective progress towards a fiscal union. The present paper explores these two risk backbones and measures them through economic and financial indicators that are closely related to each other. The critical values of these indicators highlight a matter of unsustainability of the EMU membership, as hinted by the rising Euro-skeptic debate. This has resulted in a confrontational attitude of most distressed countries with the European institutions, which in turn has been translated into higher sovereign risk premia as in the recent Italian experience. The recipe for these problems cannot be limited to a strengthened surveillance and stricter stability discipline of the financial sector: it must open to risk sharing in order to definitively defuse centrifugal forces, remove financial and commercial imbalances, and pave the way for a fiscal union with a federal budget, an unified debt market and a single finance minister.

Scandinavia: Towards the European Monetary Union?

The EU faces the most important structural crisis of its history, especially after the debt crisis of 2010 in the Euro Area, where the weaknesses of the European common currency were totally unveiled. The main purpose of this paper is to examine if the economies of Scandinavia are historically vulnerable and bound to the European economy (Euro Area). This would aid the further integration of the EU in the long run. Our analysis used the real effective exchange rates of Denmark, Norway, Sweden and Iceland, as a research instrument, by using the Error Correction Model (ECM) and the Asymmetric Dynamic Conditional Correlation GARCH model. Our empirical findings highly support that the economies of Denmark, Norway and Sweden are positively bound to the European economy. On the other hand, the economy of Iceland does not show integration with the European economy, despite its EEA membership. Furthermore, we found out that the currencies of Sweden, Norway and Denmark are more vulnerable to the market positive shock responses of the euro instead of negative shock responses. Finally, our study proposes that Sweden and Denmark might need to re-examine a possible EMU membership and Norway may reconsider a potential EU status. However, there are not enough evidence to provide a similar policy for Iceland.

Economic Costs and Benefits of EMU Membership from the Perspective of a Non-member

The result of the decision whether to join the European Monetary Union, an irreversible policy choice for several European Union members, presents potentially significant costs and benefits. With a focus on the largest EU economy outside of the euro, Sweden, this paper applies the novel synthetic control method of estimation to evaluate whether there are costs or benefits associated with EMU membership in terms of various aspects of economic performance and how these have developed from 1999 to 2015. Findings indicate that Sweden would have borne non-negligible costs from currency union membership, exemplified by around 10% lower productivity, exports, investment, and consumption, and 8% greater government expenditure and imports on a yearly basis since the introduction of the euro, leading to significant cumulative reductions in potential economic activity. The robust results suggest costs may be persisting and in some cases growing in magnitude.

Benefits of EMU Participation: Estimates Using the Synthetic Control Method

This paper investigates quantitatively the benefits from participation in the Economic and Monetary Union for individual Euro area countries. Using the synthetic control method, we estimate how real GDP per capita would have developed for the EMU member states, if those countries had not joined the EMU. The estimates show that most countries have profited from having the euro, though the crisis leads to negative effects of EMU membership. The PIGS countries, in particular, would have been better off if they had not been an EMU member during the crisis, however, Greece, Portugal and Spain experienced the largest benefits of EMU participation in the pre-crisis period.

Changes in Export Affinity after the Creation of the EMU

Abstract: The creation of the EMU in 1999 gave its original eleven members additional advantages for intra-EMU trade, relative to other members of the EU and the rest of the world. Other things being equal, this should have resulted in greater export affinity within the Euro Zone. This paper constructs export affinity indices for the intra-regional exports of the EMU, for its exports to the then other members of the EU, and to the countries that joined the EU during this period, for 1997, a full year before the Euro, and for 2007. These are used to see whether the net effect on export affinity are as expected, or whether other forces affecting the growth and direction of world exports led to different results. It was found that though there was clear export affinity within the EMU in both years examined, and, of course, tremendous growth in total exports to all regions, export affinity fell rather than rose between the two years. As far as special affinity is concerned, other factors affecting the development of world exports cancelled the advantages both of EMU membership and of new membership in the EU. Similar net results were found for bi-lateral export affinity indices of the original EMU members.

Did EMU membership cause the “Dutch disease” in the PIGS nations?

This paper analyzes the effect on the relatively poorer peripheral European nations of capital inflows resulting from entry into the EMU. A two-sector model of an open economy facilitates a study of the structural effects arising out of entry into the fraternity with the richer European core. It is observed that the vastly increased capital inflows to the so-called PIGS group of nations due to EMU entry did create conditions in the labor and goods markets, which are reminiscent of those observed when the Dutch disease, or deindustrialization phenomenon develops. The impact of EMU capital on the government sector was also studied. It is noted that for a non-deterioration of the government budget balance, a traded sector that is large relative to the nontraded sector will be required, as will be a large private nontraded sector relative to the government sector. The authenticity of these derived conditions for non-deterioration of the budget balance seems to be borne out by cross-country data on the PIGS nations.

Economic crisis in the European periphery: An assessment of EMU membership and home policy effects based on the Greek experience

In this paper we examine the evidence on the impacts on the Greece economy of enhanced transfer assistance from the EMU as well as that of the domestic policies of the Greek government. A simple macroeconomic model is constructed to incorporate the issues related to the formation of the economic and financial crisis in Greece, and to analyze the impacts of Greek government's domestic policies. The model's solution is employed to highlight the outcomes that we believe could be related to EMU membership and Greek government policies after assuming membership. Our finding is that intervention by the Greek government either worsened the harmful impacts of the transfers, or altered the outcomes in a deleterious fashion; the policies which were put in place were of a nature leading unavoidably to a severe economic crisis and eventual bankruptcy.

Do capital flows change domestic credit allocation?

Since the 1990s, domestic bank credit has been reallocated away from lending to non-financial business and toward households. An expanding literature discusses negative effects on growth and stability of this change in credit allocation. We research its drivers. We hypothesize that if foreign capital flows into economies with few investment opportunities, it may substitute for domestic bank lending to non-financial business, so that bank balance sheets become more dominated by household lending. In GMM estimations on data for 36 economies over 1990–2011, we find evidence consistent with this mechanism. Foreign capital inflows into the non-bank sector (but not into the bank sector) are associated with lower shares of business lending in domestic bank portfolios. The association is weaker in economies with more investment opportunities, whether proxied by investment shares, current account surpluses, or EMU membership. Our results highlight the importance of sectoral destination in determining the effects of capital flows.

Public Finance Systems for Coping with the Crises: Lessons from the Three Baltic States

Of all EU member states the three Baltic countries were hit the hardest by the economic crises in 2008–2010 but they recovered relatively quickly, with all three countries even being able to qualify for EMU membership (Estonia joined the Eurozone in 2011, Latvia in 2014 and Lithuania in 2015). The speed and determination with which the Baltic countries carried out austerity measures is often put forward as an example for other E(M)U member states. This paper critically assesses the validity of various models of austerity (expansionary fiscal contractions, internal devaluation and fiscal devaluation) when applied to the case of the Baltic States. It is argued that in the case of the Baltic countries more complex economic mechanisms were at play then these models suggest. In the paper specific attention is paid to the way fiscal consolidation was shaped in the three countries, and to the role of EU structural funding. The paper concludes with a discussion of the lessons that can be learned for other EU countries.

Determinants of budget deficits in Europe: The role and relations of fiscal rules, fiscal councils, creative accounting and the Euro

We analyze the determinants of the budget balance of 27 EU countries from 1991 to 2011 with a panel approach. Our focus is on the effectiveness of fiscal rules and fiscal councils as well as the impact of EMU membership and creative accounting, approximated by stock-flow-adjustments. We especially contribute to the literature by analyzing the joint influence of fiscal rules with fiscal councils and stock-flow-adjustments, measured by their interaction terms. We find a significant influence for fiscal rules and stock-flow-adjustments and as well as under crisis conditions for fiscal councils. Also the interaction variables display influence.

THE POLITICAL ECONOMY OF LITHUANIA’S MEMBERSHIP IN THE EUROPEAN UNION: EXPECTATIONS AND THE EXPERIENCE OF FIVEY EARS

The article dicusses the impact of European Union membership on the economy, poli­tics and policies of the new members states, in particular, Lithuania. It first presents the forecasts and arguments regarding the impact of EU enlargement that were di­cussed before the enlargement in 2004/2007. It draws on the work of European inte­gration literature stating that it was the approaching EU enlargement into the Central and Eastern Europe which caused the wave on theorizing the issue of enlargement which have been absent before. The main issue was to explain the reasons behind the EU decision to enlarge as well as the conditions for the effective application of EU norms into the acceeding countries. Most economic studies predicted that enlarge­ment will contribute to the economic growth of acceeding countries (although the transfer of regulatory norms in some cases could be considered to be suboptimal), and the EU as a whole. There have been more uncertainty regarding the impact of the enlargement on the functioning of the EU and the compliance of the new members with the EU norms. The second section evaluates the experience so far, by discussing the studies which have been made on the impact of EU and concludes that, the enlargement has been a positive sum game for the economies of new member states (as well the EU), increasing trade and investments flows and contributing to the catching up with the rest of the EU. Lithuania and other new member states have been among the fastest growing economies in Europe for the last decade. However, it argues that the impact of the EU membership is mediated by domestic policies of each member state, and that Lithuania has not attampted to strengthen the positive impulses coming from the EU accession, in particular by postponing the structural reforms in the country. The return of the primacy of the domestic agenda after the EU accession have not resulted in the completion of the reforms, and might be one of the reasons for the radical eco­nomic decline of 2009 and forecasted slow recovery. What regards the impact of enlargement on the quality of institutions, so far most evidence shows that new members have not changed radically the functioning of the EU, and the implementation of the EU norms has been better than expected, with Lithuania consistently being one of the leading countries in terms of transposi­tion of the internal market norms. This has been explained by the pre-accession habits of compliance as well as the institutional set up of European policy coordination in the accession countries. Comparatively good record of compliance also allows to maintain that EU is able to cope with the future enlargements as well. Finally, the article assesses the main European policy priorities in Lithuania, in particular the reasons for some failures (such as the failure to join the eurozone in 2007) and achievements (accession into Schengen area, acknowledgement of the importance of integrating the Baltic states into the energy market of the EU). It used the criteria of member state influance in the EU suggested by Helen Wallace to evalu­ate the record of Lithuania in advancing towards the implementation of two goals on the incomplete agenda of accession process (EMU and Schengen area membership) as well as the Eastern Neighborhood and Common Energy policies. It argues that most European policy failures have been due to the inconsistency and low credibil­ity of some domestic policies. The article concludes by providing venues for future research of European policy after the enlargement, in particular the areas of in the impact of enlargement on the functioning of the EU, the participation of the new member states in the policy process of the EU as well as the ability to upload their domestic preferences on the EU agenda.

Sustainability of Enlarging EMU: Towards Endogeneity of OCA Criteria or Asymmetry of Shocks?

The EMU membership necessitates only the fulfillment of Maastricht Convergence Criteria and the 'Endogeneity of OCA criteria' hypothesis seems to be the silent code both behind its sustainability and enlargement. However, asymmetric shocks and the asymmetric transmission of the monetary policy of ECB may jeopardize the sustainability of EMU. The econometric analysis of co-integration of long term interest rates also puts forward the asymmetries of business cycles between EMU members, 7 years after its launch. In case of an asymmetric shock, the lack of flexibility of labor markets and the level of economic integration in some EMU members are prone to pose serious problems. In terms of real convergence, the GDP per capita of EMU members is diverging rather than converging. The dispersion of growth rates and the loss of competitiveness of some EMU members are also serious threats. The enlargement of EMU seems to further aggregate the problem as it will make the ECB 's one monetary policy harder to fit to an enlarged all. The new EMU members will face a dilemma between nominal and real convergence due to their catching-up process. The EMU candidates are considered as small open economies, the problems of which would not even be felt in EMU, but the prospect EMU members will surely suffer at home in case of such asymmetries. The endogenity of OCA criteria might still slowly progress but asymmetric shocks will not wait for them to realize during the coming two or more decades. Thus, the new EU member states have to evaluate their economies also in terms of OCA criteria and real convergence and should be more cautios in their rush to EMU. In the euro zone, precautions should be taken for possible asymmetric shocks in terms of a sufficient federal budget and a system for fiscal transfers. Keywords: EMU, Endogeneity of OCA criteria, Asymmetric Shocks, Real Convergence, Co-integration

The evolution of economic convergence in the European Union

This paper investigates per capita real income convergence in the European Union (EU) within a non-linear latent factor framework. We establish a set of novel stylized facts on economic convergence between 1970 and 2010 in light of the institutional changes and macroeconomic adjustment processes undertaken over the last 40 years. Our findings suggest no overall income convergence in the EU, however, we identify convergence clubs using an iterative testing procedure. The clubs are formed mainly on the basis of geographic region, and clustering is not necessarily related to EMU membership. The empirical evidence suggests a clear separation between the new and old EU member states in the long run, and we observe a division along the South-East vs. North-West dimension since the 1990s.

Export stagnation and budget deficits in the peripheral EU nations with EMU membership

This paper presents a theoretical model of the economic and financial implications of EMU entry for the peripheral nations of the Euro area, the so-called PIGS nations. The model derived shows that EMU membership initiates huge capital inflows into the PIGS nations, driving up prices and wage costs. The rise in prices reduces international trade competitiveness, reducing net exports, while the rise in wage costs leads to greater government budget outlays, deteriorating the government budget. Without exchange rate adjustments, export stagnation, further exacerbated by the economic downturn in the Euro area as a whole, has been the price paid by the peripheral Euro nations. Examining the data for the recent decade suggests that the arguments against laying the blame for the economic and financial crises in the PIGS nations squarely on bad domestic policy-making and practices need to be taken seriously.

Unoffical Euroisation as a Push Factor Towards EMU Membership

Unofficial euroisation is explored in this paper as a push factor towards EMU membership. The paper investigates the presence of foreign currency alongside the domestic currency in the economy and its consequences regarding the conduct of monetary and exchange rate policy. Investigation of the euroisation phenomenon reveals that the level of euroisation in Croatia is the highest of all transition economies in Central and Eastern Europe. In addition, this study demonstrates a strong presence of sectoral currency mismatches in Croatia and warns about the associated exchange rate risks. In this environment the paper establishes a reduced effectiveness of monetary policy and the dangerous balance sheet effects that may arise from the depreciation of the domestic currency. Given the above conclusions the euro introduction in Croatia may be seen as a desirable option.

Impact of European Integration Process in Spain

This paper analyzes the effect of the European Economic and Monetary Union on export flows from a Spanish region (Castilla y Leon) to the EU-27 countries during the last years Applying static panel data estimation technique, this study finds that exporter and importer incomes, exporter population, distance, and a common land border are the main explanatory factors of exports from this Spanish region. Moreover, the EU membership of the importer country only caused positive and significant effects between 1994 and 1996, whereas the EMU membership reduced export flows from Castilla y Leon to the European countries during the whole period.