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The Advantages And Disadvantages Of An Optimum Currency Area

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An Optimum Currency Areas is characterized as a geographic region which would maximize its economic efficiency by adopting a single currency. The theory of Optimum Currency Areas attempts to determine such criteria that would indicate the necessary common features of a currency union countries in order to evaluate its attractiveness for potential new members. (Jurák, 2007) The Nobel Prize-winning Canadian economist Robert Mundell is famously cited for his exaltation of labor mobility as a precondition for optimal currency areas. The theory predicts that the benefits of a monetary union will outperform its cost only if the transfer of capital and labor is high between the countries joining the union. For example, if there is a crisis in one …show more content…

The advantages of a common currency are obvious, if hard to quantify: reduced transaction costs, elimination of currency risk, greater transparency and possibly greater competition because prices are easier to compare. (Krugman, 2012) The disadvantages of a single currency come from loss of flexibility. It’s not just that a currency area is limited to a one-size-fits-all monetary policy; even more important is the loss of a mechanism of adjustment. For it seemed to the creators of OCA, and continues to seem now, that changes in relative prices and wages are much more easily made via currency depreciation than renegotiating individual contracts. Iceland achieved a 25 percent fall in wages relative to the European core in one fell swoop, via a fall in the krona. Spain probably needs a comparable adjustment, but that adjustment, if it can happen at all, will require years of grinding wage deflation in the face of high unemployment. (Krugman, …show more content…

In the receiving countries, immigration would be expected to initially increase the labor supply without a corresponding rise in the capital stock. The level of GDP would increase, whilst the impact on employment and wages would be affected by the specific features of the individual labor markets. If labor markets are flexible, immigration is normally predicted to lead in the short run to lower wages and higher returns on capital, benefiting capital owners and reducing the welfare of those supplying labor inputs. (Francesca D'Auria, 2008) In addition, the moderation in wages should help in reducing inflationary pressures. In the presence of labor market rigidities, however, the increase in the labor force can lead to a temporary increase in the unemployment rate. Moreover, the overall effect of migration on wages and employment depends on the skill composition of the migrants and their degree of complementarity / substitutability with native workers. (Francesca D'Auria,

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