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Flashcards in Lesson 12 Deck (17):

What are the four reasons why the EU countries moved to create a monetary union and a common currency:

A single currency would remove the threat of speculative attacks on particular national currencies which had become more of a problem for the EMS after the elimination of capital controls in the late 1980s.

A single currency would increase economic integration and boost trade within the EU by removing the possibility of currency realignments and eliminating the costs of currency conversions.

Some thought that the existing EMS had given Germany’s Bundesbank too much control over European monetary policy; a European central bank would be more responsive to the interests of other EU members.

A single currency, it was believed, would increase European political stability and political unity.


What are the 4 conditions which countries had to meet before admission to the eurozone

1. a maximum inflation rate of 1.5 percent above the average of the three lowest national inflation rates among EU members;
2. maintenance of stable exchange rates within the EMS;
3. a public-sector deficit no higher than 3 percent of GDP;
4. a public debt no higher than 60 percent of GDP.


Stability and Growth Pact (SGP)

aimed at strengthening the enforcement of the 3 percent budget deficit rule.


European System of Central Banks (ESCB)

consisting of the European Central Bank (ECB) in Frankfurt plus the 19 national central banks of eurozone countries.

Monetary policy decisions are centrally made at meetings of the ECB’s governing council. According to its charter, the primary objective of the ECB is to “maintain price stability” in the euro area. The ECB operates with more independence than most central banks: it is not accountable to any national government or, indeed, to any EU body, elected or otherwise.


optimum currency area

a geographic area in which there is a net economic gain from sharing a single currency.

The existence of national currencies such as the Canadian dollar, the Mexican peso or the British pound, might suggest that the boundaries of optimum currency areas coincide with national boundaries.

But Mundell’s theory of optimum currency areas implies that such a coincidence may lack economic justification: an optimum currency area can be larger (or smaller) than a single national state.


Benefits of Joining the EuroZone

elimination of costs of conversion of its national currency into euros and vice versa;

elimination of exchange rate uncertainty ‒ unpredictable fluctuations in the national currency price of the euro;

simplification of economic calculations involving transactions with members of the eurozone and a more predictable basis for decision making.


monetary efficiency gain

The benefits of joining the EuroZone quantified and combined to yield a measure of the aggregate benefits


Upward Sloping GG Curve

In general, the higher the degree of economic integration between the outside country and the eurozone, the larger monetary efficiency gain to the outside country from joining the eurozone.


Costs of Joining the EuroZone

the loss of the ability to use an independent monetary policy to help stabilize domestic output and employment, and the loss of the automatic stabilization of output and employment through currency appreciations and depreciations associated with a floating exchange rate.


economic stability loss

The cost of joining the EuroZone quantified and combined to yield an aggregate measure of the economic cost of joining the eurozone


Downward Sloping LL Curve

In general, the higher the degree of economic integration between the outside country and members of the currency union, the smaller will be the economic stability loss to the outside country from joining the currency union.


doom loop

as bank bailouts added to government fiscal problems, while those problems threatened the financial health of domestic banks. Markets reacted to the doom loop by driving up interest rates on both public and private borrowings, which only compounded the problem.


Outright Monetary Transactions (OMT)

The ECB would buy government bonds of eurozone countries to prevent further increases in interest rates on those bonds. As yet, the ECB has not employed the OMT program, but bond yields in periphery countries have fallen sharply in the wake of Draghi’s dramatic announcement.


What more needs to be done to secure the future of the eurozone?

First, European labour markets have to be become more flexible and labour mobility needs to increase in order to reduce Europe’s stubbornly high levels of unemployment.

Second, there is general agreement that banking safeguards need to be strengthened through creation of a eurozone banking union which must include both a eurozone-wide deposit insurance scheme and a truly effective supranational mechanism for dealing with bank failure.


In the years leading up to the global financial crisis of 2007-09 the countries of the eurozone periphery (Greece, Ireland, Italy, Portugal and Spain) experienced ________ (higher/lower) inflation than in Germany, lower __________(nominal/real) interest rates than in Germany, and real ___________(appreciation /depreciation) in relation to Germany and their other eurozone trading partners.

higher; real; appreciation


Denmark is a member of the EU but not a member of the eurozone. While Denmark retains it own national currency (the krone), it also maintains a fixed exchange rate between the krone and the euro. The fact that it already has a fixed exchange rate with the euro means that if Denmark were to give up the krone and join the eurozone it would enjoy

a monetary efficiency gain which is positive but smaller than would have been the case if the krone had been floating against the euro


The EU responded to the eurozone crisis by

providing loans to Greece, Ireland and Portugal in cooperation with the IMF