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Financial and Monetary Integration in the New Europe

Convergence Between the EU and Central and Eastern Europe

Edited by David G. Dickinson and Andrew W. Mullineux

Potential new entrants to the European Union from Central and Eastern European countries face many challenges to achieve financial convergence with the existing EU nations. Using detailed case studies from Bulgaria, the Czech Republic, Latvia, Lithuania and Poland and analysis of cross country data from these regions, Financial and Monetary Integration in the New Europe looks at the key issues for applicant countries as they negotiate the terms of their membership in the European Union. Of major concern to these countries is the financial sector and its implications for economic growth and the conduct of macroeconomic policy. The book examines, in particular, monetary and exchange rate policies, banking regulation and financial market efficiency. The overall impact of building a market driven financial system on economic development is also explored.
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Chapter 4: The link between FEER and fiscal policy in a transitional period: the case of the Czech economy

Convergence Between the EU and Central and Eastern Europe

Katerina Smidkova


ÿ Katerina Sm’dkov‡* ÿ INTRODUCTION In 1996, the Czech Republic had already been through four successful years of transition. The Czech transitional strategy was based on rapid trade and financial liberalization, the voucher privatization scheme and a stabilization programme for which a pegged exchange rate provided a nominal anchor with the support of a balanced budget. During 1993Ð96, these transitional steps led to relatively low inflation, the increasing role of the private sector, economic growth and rapid financial market development. As a consequence of these characteristics, the Czech Republic has experienced the benefits as well as the costs of capital inflow when foreign investors started showing interest in its emerging financial market. Similar to other countries in this group, the Czech economy was hit by currency turbulence1 after a period of inflows that was followed by a reversal in capital flows. In 1997, the koruna exchange rate regime was abolished, and the koruna was allowed to float. The sustainability of the exchange rate regime became a topical issue, and the question had arisen whether there was a problem of exchange rate mismanagement. The basic macro indicators give a general overview of the situation. Table 4.1 shows that the countryÕs inflation and growth records were satisfactory. Specifically, in 1994Ð96 after shocks from both the price liberalization as well as CzechoslovakiaÕs separation had been absorbed, the growth rate was high, and inflation was reduced to one-digit levels. However, inflation remained higher than in the countries whose currencies served as basket...

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