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Empirical Methods in International Trade

Essays in Honor of Mordechai Kreinin

Edited by Michael G. Plummer

Internationalization of the world economy has made trade a key factor in the growth potential of nearly every nation’s economy. Hence, economists have become increasingly interested in the determinants of international trade and competitiveness. Empirical Methods in International Trade captures the many aspects of this trend in globalization through practical techniques well-founded in economic theory. The authors, comprising some of the most influential applied international economists of their generation, use cutting-edge models to develop empirical approaches to critical aspects of economic interchange. These approaches are developed and explained carefully with the goal of making them accessible to a wide audience.
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Chapter 4: Why Does Optimal Currency Area Theory Fail to Predict Changes in Currency Areas? Evidence from Europe and Lessons for Asia

Richard Pomfret


Richard Pomfret The dominant theoretical framework for analysing currency domains has been the optimum currency area theory originating from Mundell (1961) and McKinnon (1963). Much of the applied literature on currency area formation has come from Europe, following steps towards monetary integration within the European Union (EU) since 1970. The appearance of euro banknotes in January 2002 was a highly visible sign of monetary union among EU members, and many commentators have drawn positive lessons from European monetary union for monetary integration in other parts of the world. Yet the process of currency union in Europe has not fitted in with the predictions of optimal currency area (OCA) theory. One of the few empirical studies using OCA theory to identify the most likely candidates for currency union (Kreinin and Heller, 1974, p. 137) concluded that among the OECD countries Italy, Sweden and Switzerland should be keenest to abandon their national currencies. From the post-euro perspective, a score of one out of three raises questions about the success of OCA theory in explaining changes in actual currency areas. This chapter argues that the European experience of the 1990s is richer than a simple story of the inevitability of monetary integration. In Eastern Europe the number of currencies proliferated between 1991 and 1993 with the dissolution of the Yugoslav, Czechoslovak and Soviet currency areas, so that Europe had more independent currencies in 2002 than it did in 1991. The two main sections of the chapter analyse the experiences of the European Union...

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