Maastricht and the Choice of Exchange Rate Regime in Transition Countries During the Run-Up to Emu

National Bank of Hungary Working Paper No. 2000/07; CEPS Working Documents No. 153

23 Pages Posted: 26 Dec 2000

Date Written: November 2000

Abstract

This paper raises some specific issues concerning the choice of exchange rate regime in transition countries during the run-up to EU/EMU membership. It argues that there is no "one-size-fits-all" exchange rate regime that accession countries should uniformly adopt. It also argues that the Maastricht criterion on inflation is inconsistent with the catching-up process because of the Balassa-Samuelson effect and that this inconsistency will encourage a "weighing-in" syndrome: like the boxer who refrains from eating for hours prior to the weigh-in only to consume a big meal once the weigh-in is over, the candidate country will maintain very tight monetary policy and resort to all sorts of techniques (freezing of administered prices, lowering of consumption taxes, etc.) to squeeze down inflation prior to accession only to shift back gears after it has joined the EMU. Indeed, the convergence of short-term interest rates to EMU levels that will come with accession will automatically mean a loosening of monetary policy after the country has become a member of the monetary union. That loosening will be reinforced if the country had previously allowed its exchange rate to appreciate against the euro. The result of this stop-go cycle is that the efficiency of economic management will suffer. It would be better to recognize the principle of the Balassa-Samuelson effect explicitly in the Maastricht criteria by giving more room for maneuver than the one provided by the present rule. The paper makes suggestions on how the Maastricht criterion on inflation could be adjusted and discusses their merits. It concludes that a reasonable compromise would be to define the permissible inflation deviation in reference to the average inflation rate of the euro zone, not the three EU members with the lowest inflation rate.

Keywords: exchange rate, transition economies, European Monetary Union, Maastricht criteria

JEL Classification: F31, F33, P24

Suggested Citation

Szapary, Gyorgy, Maastricht and the Choice of Exchange Rate Regime in Transition Countries During the Run-Up to Emu (November 2000). National Bank of Hungary Working Paper No. 2000/07; CEPS Working Documents No. 153, Available at SSRN: https://ssrn.com/abstract=254314 or http://dx.doi.org/10.2139/ssrn.254314

Gyorgy Szapary (Contact Author)

Magyar Nemzeti Bank ( email )

Szabadsag ter 8-9
Budapest, H-1850
Hungary

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