Working Paper: CEPR ID: DP646
Authors: Tamim Bayoumi; Barry Eichengreen
Abstract: Recent proposals for enlarging the European Community to include the EFTA countries raise the question of whether the new members should participate in a European Monetary Union. In part, the issue hinges on the incidence of aggregate supply and demand disturbances. We use data on prices and output and a VAR decomposition to analyse this issue empirically, grouping economies according to the magnitude of the disturbances, their cross-country correlation, and speeds of response. We distinguish an EC `core' (Germany and its immediate neighbours) and an EC periphery (UK and the Southern European members of the Community). Austria, Sweden and Switzerland display more similarity to the EC core than do Finland, Iceland and Norway. This suggests that the case for EMU participation is stronger for Austria, Sweden and Switzerland than for the other EFTA countries.
Keywords: EMU; EC enlargement; EFTA
JEL Codes: F3
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| supply shocks to the EC core (F41) | smaller disturbances (C62) |
| supply shocks to the EC core (F41) | more correlated across countries (O57) |
| supply shocks to the EC periphery (F41) | larger disturbances (E32) |
| supply shocks to the EC periphery (F41) | lower correlations with the core (C10) |
| EFTA countries (F15) | behaviors more similar to the EC core (D51) |
| Finland, Iceland, and Norway (F39) | larger disturbances (E32) |
| Finland, Iceland, and Norway (F39) | lower correlations with the core (C10) |
| asymmetric disturbances (D59) | different policy responses (F68) |
| symmetric disturbances (C62) | common policy response suffices (F68) |