Since the euro has been introduced as the common currency of the
European Monetary Union (EMU) exchange rate policy-making has not
been noticeably mentioned on the agenda of the European Central Bank
(ECB). This work examines and explains the development of the euro
since its introduction in 1999. A discussion of possible exchange rate
regimes, their impacts on domestic and international trade and living
standards, as well as a brief introduction on market intervention will put
forward a recommendation to the ECB for its future exchange rate policy.
Since most of the past currency crises emerged from monetary systems of
fixed exchange rates, empirical data suggests a non fixed external regime
to the EMU, even more since this allows a range of steering and
counteracting opportunities.
Following the Keynesian monetary theory, the forces of supply and
demand are not always sufficient to guarantee a stable and sound
economic environment for successful trade and growth. Therefore a free
floating system of exchange rates might not be the right way for the ECB
to follow its aim of price stability and competitiveness in a highly
integrated area as the EU.
We recommend employing an external managed floating system at a
reasonably high level of currency value, i.e. purchasing power, depending
on the situation of employment and export-import balance. The ECB
should carefully carry out market interventions, limited by international
exchange rate agreements, e.g. by the G-10 Nations summits.
Table of Contents
I. Executive summary
1. Introduction
2. Development of the euro since 1999
2.1 The path of the euro
2.2 Explanations of the weakness of the euro
3. Exchange rate policy-making in the EMU
3.1 Floating exchange rates
3.2 Managed floating exchange rates
3.3 Fixed Exchange rates
3.4 Fixed Rates with Bands
4. Keynes vs. Neoclassic – Market interventions
4.1 Options for market intervention
5. Recommendation for a future exchange rate policy
Objectives and Research Focus
This paper examines the development of the Euro since its inception in 1999 and evaluates various exchange rate regimes to determine a suitable policy framework for the European Central Bank (ECB) to maintain price stability and economic competitiveness.
- Analysis of the historical performance and depreciation of the Euro.
- Evaluation of different exchange rate regimes, including floating, managed floating, and fixed rates.
- Examination of Keynesian vs. Neoclassical approaches to market intervention.
- Assessment of the effectiveness of central bank interventions on monetary policy.
- Formulation of strategic recommendations for the ECB’s future exchange rate management.
Excerpt from the Book
2.2 Explanations of the weakness of the euro
How should these discrepancies be explained in economic terms?
• Firstly, some evidence suggests that the depreciation of the euro has at least partly been due to its being overvalued at the time of its introduction. But of course, there is no exact means of calculating equilibrium exchange rates, and the range of estimates that have been made for the euros value in dollar terms is very wide, from $1.26 to $0.87, though it should be said that the latter is based only on tradable goods and services. However, taking purchasing-power parity based on GDP as a best estimate, the OECD calculated this to suggest an exchange rate of €1 = $1.06 in 1999.
• Secondly, it was only to be expected that, in its early stages, the euro would not immediately attain the same acceptance as the deutschmark used to have when it was the dominant currency in the calculation base for the ECU. The fact that there is no national sovereign body to back up the European Central Bank (ECB) and that the bank first needed to build up its own policy-making credibility is likely to have influenced some market participants to exercise restraint with regard to investment in the euro zone. The lack of transparency in the ECB’s decision-making since it took office has not exactly helped to enhance this reputation.
• Thirdly, there may have been other economic reasons for the declining exchange rate which the estimating equation does not adequately take into consideration, such as the pronounced increase in the price of oil in the early part of the year 2000. In the first half of 2000, it reached the $30-per-barrel mark for the first time since the Gulf crisis in the early 1990s, and because petroleum bills are mainly settled in dollars, this has increased demand for the currency around the world. Exchange-rate models taking explicit account of the oil price as an explanatory variable do indeed show oil price increases exerting downward pressure on the euros exchange rate.
Summary of Chapters
I. Executive summary: Provides a brief overview of the Euro's development and outlines the paper's recommendation for an external managed floating system.
1. Introduction: Outlines the scope of the study, describing the path of the Euro and the intention to analyze exchange rate regimes.
2. Development of the euro since 1999: Analyzes the introduction of the Euro in 1999 and 2002 and identifies factors contributing to its early depreciation.
3. Exchange rate policy-making in the EMU: Compares various exchange rate regimes and discusses their implications for domestic economies and currency stability.
4. Keynes vs. Neoclassic – Market interventions: Contrasts different theoretical perspectives on market intervention and explores specific mechanisms available to the central bank.
5. Recommendation for a future exchange rate policy: Proposes that the ECB adopt a managed floating system to better address speculative volatility while maintaining price stability.
Keywords
Euro, European Central Bank, Exchange Rate Regimes, Managed Floating, Monetary Policy, Price Stability, Market Intervention, EMU, Currency Depreciation, Purchasing Power, Speculation, Inflation, Economic Integration, Financial Markets, Interest Rates.
Frequently Asked Questions
What is the primary focus of this research?
This paper focuses on the exchange rate policy of the European Central Bank (ECB) and the performance of the Euro since its introduction in 1999.
What are the central thematic fields covered in the text?
The text covers the historical development of the Euro, the mechanics of different exchange rate systems, the theoretical debate on market intervention, and policy recommendations for the ECB.
What is the main goal or research question of the work?
The main goal is to determine a suitable exchange rate regime for the ECB that balances price stability with economic growth in the highly integrated European market.
Which scientific methods are employed in this analysis?
The author employs a comparative analysis of macroeconomic theories, examines historical empirical data regarding currency fluctuations, and evaluates existing models of exchange rate management.
What specific topics are addressed in the main body?
The main body details the path of the Euro, discusses floating, managed, and fixed exchange rates, contrasts Keynesian and Neoclassical views on intervention, and explores the technical aspects of sterilized and unsterilized interventions.
Which keywords best characterize this work?
The work is characterized by terms such as Euro, ECB, Managed Floating, Monetary Policy, Price Stability, and Market Intervention.
How does the author explain the initial weakness of the Euro?
The author attributes the weakness to several factors: potential initial overvaluation, the lack of ECB policy-making credibility, and external economic pressures like rising oil prices.
Why does the paper recommend a managed floating system?
A managed floating system is recommended because it provides the flexibility to counteract significant currency devaluations or speculative attacks while maintaining a stable environment for trade.
- Quote paper
- Markus Bruetsch (Author), Mark Davis (Author), Alexander Dalhoff (Author), Sven Hansen (Author), 2003, Exchange Rate Policy Options of the European Central Bank, Munich, GRIN Verlag, https://www.grin.com/document/14848
