International credit, financial integration and the Euro

Toporowski, Jan

doi:10.1093/cje/bet008

Abstract

Prospects for the European Monetary Union are inevitably affected by the theoretical presuppositions of the observer. The most common approach, the theory of optimal currency areas, postulates that traded goods are produced by labour and the exchange rate between ‘national’ currencies is the ratio of commodity wages, expressed in monetary units, in different countries. In this analysis the exchange rate and wages are substitutes for obtaining international ‘competitiveness’. Such a view is the basis for current reflections about the future of the euro and the reduction of its difficulties to relative wages rates in different countries of the eurozone. The theory has two important limitations. First, it takes no account of the import intensity of exports, which would require wage adjustments to reinforce exchange rate adjustments, so that wages and exchange rates are necessarily complementary parameters, rather than being substitutes for each other. Hence, exit from the eurozone as a means of closing trade deficits would require additional austerity. Even more importantly, it is a commodity money theory, in which imbalances are accommodated by accumulations of specie or fiat money. However, in a credit economy, banking systems absorb trade imbalances into their balance sheets. Moreover, financial integration means that banking systems throughout Europe are vulnerable to balance sheet risks from exchange rate depreciation in any country in Europe.

Journal Article Type	Article
Publication Date	Jan 1, 2013
Deposit Date	Sep 13, 2015
Journal	Cambridge Journal of Economics
Print ISSN	0309-166X
Electronic ISSN	1464-3545
Publisher	Oxford University Press
Peer Reviewed	Peer Reviewed
Volume	37
Issue	3
Pages	571-584
DOI	https://doi.org/10.1093/cje/bet008

International credit, financial integration and the Euro

Toporowski, Jan

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