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The Impact Of European Monetary Union

2107 words - 8 pages

I. Introduction
According to Lane (2006), the European Monetary Union (EMU) began on the year 1999. Following his line of analysis and reasoning, this paper shall seek to analyze the purported impacts of the said action in the light of their inflation rates and the proportion of their portfolio holdings allocated to the other members of the Euro-zone. Furthermore, the author of this paper shall look qualitatively in the current Asian context to examine the relevance of a monetary union in the continent. Further, this study is limited to the following European countries:
1. Belgium
2. Germany
3. Ireland
4. Greece
5. Spain
6. France
7. Italy
8. Luxembourg
9. Netherlands
10. Austria
11. Portugal
12. Finland

II. The Impact of the Maastricht Treaty to Inflation Rates (2008- 2013)

According to Lane, the Maastricht Treaty of 1992 was adopted to ensure a sufficient degree of monetary convergence among the members of the EMU (2006). According to Eurostat, the Maastricht Treaty is defined as follows:
“The convergence criteria, sometimes also called Maastricht criteria, are conditions that Member States of the European Union must fulfil to join in economic and monetary union and to use the euro as official currency” (http://epp.eurostat.ec.europa.eu/statistics_explained/index.php/Glossary:Maastricht_criteria)
The said criteria required the countries who want to use Euro as their official currency to meet the following criteria, among others (Lane, 2006):
1. Have an inflation rate no higher than 1. 5 percentage points than the three best performing members states a year before the inspection, and;
2. To limit their budget deficit to no more than 3% of their GDP, and to accumulate public debt not greater than the 60% of their GDP.

With that, the inflation differentials among the European nations decreased substantially (Lane, 2006). However, after this initial trend of reduction of inflation differentials, it can be observed in the Table 1 above that the inflation differentials have been relatively wide, as evidenced by Table 3 below.

To explain this phenomenon, Lane (2006) concluded that changes in bilateral real exchange rates can only take place through the differentials in inflation rates since by definition, nominal exchange rates are fixed. The innate differences of the countries involved in terms of the different factors of productions will lead into variations of productivity growth (Lane, 2006). Additionally, Honohan and Lane (2003) stated that such differentials are also needed because the countries begin with different price levels to converge towards a singular price level in the short run.

The large and persistent inflation rates differential, coupled with a common and fixed nominal interest rate among the member- countries translate into differences of real interest rates among the nations in question. Thus, countries with relatively higher medium term inflation enjoy lower real interest rates, stimulating demand. Since countries with...

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