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Euro-Scorecard
Subject European Monetary Union
Topic International Finance
Key Words Currency Union, Exchange Rates, Economic Growth
News Story

The euro, which was first introduced on January 1, 1999 at $1.17, has fallen to approximately $.90 in recent weeks. The weakness of the euro has kindled fears of higher inflation and has led some to question whether the European Monetary Union (EMU) was a worthwhile undertaking. These transitory economic troubles may mask the significant accomplishments of the EMU - economic stability and convergence.

When the Maastricht Treaty was signed in 1992, creating the European Monetary Union, it laid out criteria for macroeconomic stability, such as budget deficits, debt and inflation levels. The goals of the EMU were to establish economic stability partly through currency discipline, stabile exchange rates, common money and financial markets, regional cooperation and economic convergence. Prior to the introduction of the euro, the record of the EMU countries concerning fiscal discipline, inflation, and budget deficits was quite disparate. After the establishment of the monetary union, the governments of these countries faced budget constraints that required them to make difficult choices. The tradeoffs they faced were to cut government spending and/or reduce the money supply. If they failed to make the correct choices, deficits or inflation would rise and their membership in the EMU would be threatened.

Two other important economic benefits are economic growth and economic convergence. The establishment of a common currency created a need for more integrated financial markets. Integrated financial markets and a common currency are both very attractive to foreign investors. EMU countries experience similar economic conditions providing less incentive for money to jump from country to country in pursuit of the "hot" currency. The EMU has fostered economic growth by encouraging economic cooperation rather than destructive competition. There is no longer any reason for member countries to engage in protectionist policies or trade rivalry. With common markets, member countries have an incentive to adopt better and more uniform business practices.

Perhaps the best measure of the success of the EMU is the number of countries that have and are attempting to copy EMU practices and policies. Both Latin America and Asia are looking to establish monetary unions.

(Updated September 1, 2000)

Questions

1. What is an economic union?
2. When the Maastricht Treaty was signed, many people felt that an economic union was not possible given domestic political pressures and long-standing rivalry between some of the countries. What are some of the advantages to joining an economic union? What are some possible disadvantages?
3. Given all of the positive benefits that have resulted from the EMU, why has the value of the euro declined? Is this something that the EMU should worry about?

Source Martin Hüfner, "Spinning off euro success," The Financial Times, August 15, 2000.

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