Description
The Maastricht inflation criterion has influenced the choice of disinflation strategies of
prospective euro area member countries. Some historically high-inflation countries chose the fiat
disinflation strategy of “low inflation now, reforms later,” bringing inflation down quickly. Their
inflation rates increased immediately after their euro applications were assessed positively and stayed
significantly higher than inflation in France and Germany, two historically low-inflation countries.
The inflation differentials reflect both structural rigidities inherited from the past and higher inflation
expectations stemming from the chosen disinflation strategy. This paper seeks to address these issues.
Journal of Financial Economic Policy
Inflation convergence in the euro area: just another gimmick?
Aleš Bulí#J aromír Hurník
Article information:
To cite this document:
Aleš Bulí#J aromír Hurník, (2009),"Inflation convergence in the euro area: just another gimmick?", J ournal
of Financial Economic Policy, Vol. 1 Iss 4 pp. 355 - 369
Permanent link to this document:http://dx.doi.org/10.1108/17576380911050070
Downloaded on: 24 January 2016, At: 21:37 (PT)
References: this document contains references to 30 other documents.
To copy this document: [email protected]
The fulltext of this document has been downloaded 324 times since 2009*
Users who downloaded this article also downloaded:
Vivek Moorthy, Shrikant Kolhar, (2011),"Rising food inflation and India's monetary policy", Indian Growth
and Development Review, Vol. 4 Iss 1 pp. 73-94http://dx.doi.org/10.1108/17538251111125016
Helder Ferreira de Mendonça, (2009),"Output-inflation and unemployment-inflation trade-offs under
inflation targeting: Evidence from Brazil", J ournal of Economic Studies, Vol. 36 Iss 1 pp. 66-82 http://
dx.doi.org/10.1108/01443580910923803
Girijasankar Mallik, Anis Chowdhury, (2011),"Effect of inflation uncertainty, output uncertainty and oil
price on inflation and growth in Australia", J ournal of Economic Studies, Vol. 38 Iss 4 pp. 414-429 http://
dx.doi.org/10.1108/01443581111160879
Access to this document was granted through an Emerald subscription provided by emerald-srm:115632 []
For Authors
If you would like to write for this, or any other Emerald publication, then please use our Emerald for
Authors service information about how to choose which publication to write for and submission guidelines
are available for all. Please visit www.emeraldinsight.com/authors for more information.
About Emerald www.emeraldinsight.com
Emerald is a global publisher linking research and practice to the benefit of society. The company
manages a portfolio of more than 290 journals and over 2,350 books and book series volumes, as well as
providing an extensive range of online products and additional customer resources and services.
Emerald is both COUNTER 4 and TRANSFER compliant. The organization is a partner of the Committee
on Publication Ethics (COPE) and also works with Portico and the LOCKSS initiative for digital archive
preservation.
*Related content and download information correct at time of download.
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
In?ation convergence in the euro
area: just another gimmick?
Ales? Bul? ´r?
International Monetary Fund, Washington, DC, USA, and
Jarom? ´r Hurn? ´k
Czech National Bank, Praha, Czech Republic
Abstract
Purpose – The Maastricht in?ation criterion has in?uenced the choice of disin?ation strategies of
prospective euro area member countries. Some historically high-in?ation countries chose the ?at
disin?ation strategy of “low in?ation now, reforms later,” bringing in?ation down quickly. Their
in?ation rates increased immediately after their euro applications were assessed positively and stayed
signi?cantly higher than in?ation in France and Germany, two historically low-in?ation countries.
The in?ation differentials re?ect both structural rigidities inherited from the past and higher in?ation
expectations stemming from the chosen disin?ation strategy. This paper seeks to address these issues.
Design/methodology/approach – The paper highlights the in?ation consequences of the choice of
compliance policies with the Maastricht in?ation criterion. To this end, the paper estimates costs of
future disin?ations in six high-in?ation countries for which well-established stylized facts are held.
Findings – The Maastricht in?ation criterion has been an in?uential nominal rule. While it swayed
the public stance toward low in?ation, it biased the choice of the disin?ation strategy toward ?at
measures. In?ation in these countries declined only temporarily, giving these countries a pronounced
V-shaped pattern of in?ation. These countries tended to opt for “low in?ation now, reforms later”
approach, which yielded low in?ation quickly at the cost of postponing long-term structural reforms.
While the ERM II process can be made relatively painless by ?at measures, such a strategy results in
inef?cient transmission mechanisms and costly disin?ations.
Originality/value – The paper highlights the long-run in?ation consequences of the choice of
compliance policies with the Maastricht in?ation criterion. While in?ation was low prior to the euro
and stayed low afterward in in?ation-averse countries, a V-shaped in?ation path in high-in?ation
countries is seen. The countries that expect to bene?t the most from a fast adoption of the euro are
likely to opt for ?at-driven compliance. The choice of compliance policies has consequences for future
disin?ations – monetary transmission distortions and inef?ciencies of ?at policies increase the cost of
future disin?ations and will complicate ECB policymaking for years to come.
Keywords In?ation, Economic convergence, Euro, European Union
Paper type Research paper
I. Introduction
The Maastricht in?ation criterion-in?ationof no more thanone-and-a-half percent above
the average in?ation rate of the three European Union (EU) member states with the most
stable prices-affects the choice of policy strategies to meet the criterion. Countries that
The current issue and full text archive of this journal is available at
www.emeraldinsight.com/1757-6385.htm
JEL classi?cation – E31, E32, E42, F33
The authors are thankful for comments from A. Carare, L. Christiano, M. C
?
iha´k,
E. Detragiache, M. Hampl, V. Koen, L. Lipschitz, M. Mandel, O. Schneider, and R. Vaubel,
M. Tierney, and an anonymous referee; they also bene?ted from discussion at the Conference on
Political Economy of International Organizations at Monte Verita` and at seminars at the Czech
National Bank and the International Monetary Fund. Batoul Rida provided research assistance.
In?ation
convergence in
the euro area
355
Journal of Financial Economic Policy
Vol. 1 No. 4, 2009
pp. 355-369
qEmerald Group Publishing Limited
1757-6385
DOI 10.1108/17576380911050070
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
expect to bene?t the most froma fast adoption of the euro are likely to opt for ?at-driven
compliance. Moreover, a tight in?ation criterion motivates the authorities to pursue
policies of short-term demand stabilization or price and indirect tax interventions at the
expense of long-term structural reforms that would create a low-in?ation environment.
Examples of the former are a wage freeze or a temporary cut in indirect taxes,
while examples the latter are labor- and product-market liberalization. The choice of
compliance policies has consequences for future disin?ations – monetary transmission
distortions and inef?ciencies of ?at policies increase the cost of future disin?ations and
will complicate European Central Bank (ECB) policymaking for years to come.
While in?ation was low prior to the euro and stayed low afterward in traditionally
in?ation-averse countries such as Germany, France, or The Netherlands, we see a
V-shaped in?ation path in traditionally high-in?ation countries, such as Ireland, Italy,
Portugal, Spain, Greece, Slovenia, Cyprus, Malta, and Slovakia. The V-shaped path –
with the trough around the time when the European Commission was to decide on the
country’s euro application – appears similar in all sample countries despite the fact
that they adopted the euro at different points of time (1999, 2001, 2007, 2008, and 2009).
The paper highlights the in?ation consequences of the choice of compliance policies
with the Maastricht in?ation criterion. To this end, we estimate costs of future
disin?ations in six high-in?ation countries for which we have well-established stylized
facts. The results suggest that the countries that choose the ?at disin?ation strategy of
“low in?ation now, reforms later” have had modest short-term costs of disin?ation,
mostly attributable to “borrowed credibility” from the ECB, however, their long-term
costs have been high, re?ecting structural rigidities inherited from the past. In contrast,
reformist countries bene?t from ?exible markets and forward-looking agents, both of
which push long-run disin?ation costs down. While product and labor market reforms
would not by itself secure lower national in?ation rates, they would make ?at pre-euro
disin?ations less attractive. We also argue that future euro area applicants would
bene?t from a criterion that makes the choice of a ?at disin?ation strategy less likely,
either by calculating the criterion over the business cycle or by lengthening the
evaluation period to better assess in?ation sustainability.
This paper is organized as follows. First, we outline the pattern of in?ation in
selected euro area countries around the adoption of the euro and the choice of
disin?ation policies. Second, we compute hypothetical output losses from disin?ation
policies. Finally, we discuss the policy implications of the Maastricht criterion for the
conduct of monetary policy in the member states and by the ECB.
II. Disin?ation and the Maastricht in?ation criterion
The concept of the new European monetary order was simple. Once exchange rates
were stabilized and in?ation rates converged, the former would be irrevocably ?xed
and the latter would be controlled by pan-European monetary policy of the ECB
(Wyplosz, 1997). The plan was to motivate national central banks to bring in?ation in
line with low-in?ation countries and it was to be supported on the institutional side by
the European Monetary Union framework, including the ?nance ministers working
group. Prior developments showed that time-inconsistent policies fueled by distorted
labor markets, tax systems prone to in?ation bias, and other structural impediments
make it dif?cult to ensure a low-in?ation environment in Europe. This failure can be
seen also as the result of non-cooperation between the monetary and ?scal authorities.
JFEP
1,4
356
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Thus, to encourage the individual countries to undertake fundamental economic
reforms prior to joining the adoption of the euro, the EU imposed various entry
conditions jointly known as the Maastricht convergence criteria, see Article 109( j) of
the Maastricht Treaty (EU, 1992). The in?ation criterion reads:
[. . .] the achievement of a high degree of price stability; this will be apparent from a rate of
in?ation which is close to that of, at most, the three best performing Member States in terms
of price stability.
A. In?ation developments around the adoption of the euro
All historically high-in?ation countries were able to lower the national rate of in?ation
to or below the Maastricht criterion rate at the time of the euro application, but a
number of them did not sustain such rates much beyond the month when the euro
application was accepted. This result was predicted by Buiter (2004), who argued that
the Maastricht criterion would serve as a “purgatory” with no impact on long-term
in?ation development. While in?ation in Germany, France, The Netherlands and a few
other low-in?ation countries was low prior to the euro and stayed low afterward, we
see the V-shaped in?ation path in the traditionally high-in?ation countries, such as
Ireland, Italy, Portugal, Spain, Greece, Slovenia, Cyprus, Malta, and Slovakia,
(see Figure 1)[1]. In?ation rates of the nine high-in?ation countries – expressed here as
Figure 1.
Average in?ation
differential in nine
high-in?ation countries
Notes: Sample average of national inflation differentials vis-à-vis France and Germany; all national
series are centered on the month of the adoption of the euro, t(0), that is, January 1999 for Italy,
Ireland, Portugal, and Spain; January 2001 for Greece; January 2007 for Slovenia; January 2008 for
Cyprus and Malta; and January 2009 for Slovakia. The post-adoption average is therefore
unbalanced: we have only 33, 21, and 9 post-adoption observations for Slovenia, Cyprus and Malta,
and Slovakia, respectively
Source: Eurostat; authors' calculations
-1
0
1
2
3
4
–1
0
1
2
3
4
t(–36) t(–24) t(–12) t(0) t(12) t(24) t(36)
European
commission
assesses euro
applications, t(–9)
Countries introduce the
euro as legal tender, t(0)
Countries enter
ERM II,t(-30)
Mean
One standard
deviation
(12-month rolling)
In?ation
convergence in
the euro area
357
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
a differential vis-a` -vis in?ation in Germany and France to take out the global price
shocks – were fairly similar in all countries despite the fact that they adopted the euro
at different points of time and at different phases of the global business cycle (Figure 2).
The general pattern is as follows: three years before the eventual date of the euro
introduction and before the countries in question entered the ERM II regime (the lightly
shaded area in Figure 1) the national average annual rates of in?ation were some
2-4 percentage points above the relevant Maastricht criterion rate. Upon entering the
ERM II, the average national rates of in?ation declined quickly to the Maastricht criterion
rate, bottoming out at about nine months prior to the euro introduction, t(29), or precisely
at the time the European Commission was to decide on whether the country’s euro
application was to be accepted or rejected. Interestingly, 1-year – ahead in?ation
expectations were higher than those of France and Germany by some 1-2 percentage points
(bars in Figure 2)[2]. Clearly, the market analysts surveyed by consensus forecast did not
believe that in?ation will stay at the level of the two largest euro area countries thereafter.
After the application to join the euro area was accepted in mid-year, in?ation
accelerated sharply in all countries. On average, by January of the next year and at the
time of the formal introduction the euro notes, in?ation in the sample countries was
higher by about 1 percentage point than in?ation in France and Germany. The
differential increased to 1.6 and 2.0 percentage points in 12 and 24 months after the
introduction, respectively.
The temporary, ?at downward pressures on in?ation were relaxed immediately
after the successful euro application and the in?ation rates in the sample countries
started to diverge (Bul? ´r? and Hurn? ´k, 2008) and their persistence increased (Stavrev,
2007). Needless to say, we fail to observe the V-shaped pattern of in?ation either in EU
countries that have yet to apply for the euro (Denmark, Sweden, and the UK) or the
remaining, low-in?ation euro area countries. In other words, the impetus of the
Maastricht in?ation criterion seemed to be binding only in the run-up to the euro, but
not thereafter. Why is in?ation low in some countries and high in other, despite the
pan-European monetary stance of the ECB? In?ation differs across countries for four
main reasons and only some of these factors can be affected by monetary policy actions
(Angeloni and Ehrmann, 2004; Mody and Ohnsorge, 2007; and Bul? ´r? and Hurn? ´k, 2008).
First, the ECB’s control over the aggregate demand ?uctuations explains a substantial
part of in?ation ?uctuations as economies with output above its potential experience
price pressures. Of course, economic overheating and high in?ation in any given euro
area country matter for ECB’s decision making only to the extent of the country’s
weight in the euro area harmonized index of consumer prices (HICP). Most sample
countries are too small to make a sizable impact: while the cumulative weight of the
nine countries is exactly 40 percent, after excluding Italy and Spain, the weight of the
remaining seven countries is less than 9 percent[3].
The following factors are not under the control of the ECB. Second, the average price
level and the level of economic development have been closely correlated. When the
exchange rate is ?xed and as the relatively poorer countries’ incomes converge toward
those of relatively richer countries, the price levels will be brought in line predominantly
through faster in?ation in the poorer countries (the so-called “convergence” in?ation)
and to a lesser degree through faster productivity in the nontradable sector that would
limit the impact on the price level (the Balassa-Samuelson effect). This component of
in?ation divergence is unavoidable andmay explain a big part of in?ation developments
JFEP
1,4
358
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Figure 2.
In?ation and in?ation
expectations around the
adoption of the euro
Notes: National inflation rate minus the mean of average inflation rates in France and
Germany; inflation is measured monthly year-on-year. Inflation expectations are
one-year-ahead for end-period annual inflation; for example, December 1998 vintage of
consensus forecast for end-1999 inflation. All series are centered on the month of the adoption
of the euro, t(0), that is, January 1999 for Italy, Ireland, Portugal, and Spain; January 2001 for
Greece; January 2007 for Slovenia; January 2008 for Cyprus and Malta; and January 2009 for
Slovakia. consensus forecast data are not collected for Malta. GDP is measured as 2001-2007
average GDP per capita in percent of the EU-25 average
Source: Eurostat(actual inflation) and consensus forecast(expected inflation)
-2
0
2
4
6
8
Italy
(t(0) = 1999)
GDP = 104%
Ireland
(t(0) = 1999)
GDP = 136%
-2
0
2
4
6
8
Portugal
(t(0) = 1999)
GDP = 76%
-2
0
2
4
6
8
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
Spain
(t(0) = 1999)
GDP = 98%
Greece
(t(0) = 2001)
GDP = 81%
-2
0
2
4
6
8
Slovenia
(t(0) = 2007)
GDP = 78%
–2
0
2
4
6
8
Cyprus
(t(0) = 2008)
GDP = 83%
-2
0
2
4
6
8
-2
0
2
4
6
8
-2
0
2
4
6
8
Malta
(t(0) = 2008)
GDP = 70%
-2
0
2
4
6
8
Slovakia
(t(0) = 2009)
GDP = 54%
In?ation
convergence in
the euro area
359
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
in the fast-growing countries like Greece or Ireland that have had correspondingly high,
fundamentals-driven appreciation of the real exchange rate. The contribution of this
factor does not explain faster in?ation in all countries, however, as purchasing parity
gross domestic product (GDP) per capita of Italy and Spain has been above or equal to
the EU average during 2001-2007 (Figure 2). Third, the EU countries with more
protected and regulated product or labor markets have had higher average in?ation
rates than those with less protected markets. Higher markups in the protected markets
in Greece or Italy increased these countries’ unit labor cost, appreciating real exchange
rates above and beyond the fundamentals-driven real exchange rates, and damaging
competitiveness on their economies. Fourth, the domestic authorities have exercised
control over administered prices and indirect taxes, thus affecting consumer price
in?ation. It appears that it is the last reason that explains a big part of in?ation
developments in high-in?ation countries.
On balance, it would be na? ¨ve to believe that any amount of market liberalization
could offset fully the economic boom that resulted from the euro-related convergence
process (lower risk premia, gains from trade, and so on), but such liberalization would
have limited the damage.
B. Taking stock of the authorities’ disin?ation choice
The ERM II countries – in particular those heavily managing their currencies – cannot
control the “convergence” in?ation and may be unwilling to proceed with structural
reforms, but they may impose temporary tight macroeconomic policies to widen the
output gap, limit the growth of administered prices, or forego an increase in indirect
taxes. The Maastricht criterion increased aversion to in?ation (Cecchetti and Ehrmann,
1999; Goldberg and Klein, 2005), however, it failed to stimulate the euro area countries’
structural reforms as these remained slow and insuf?cient (Ahearne and Pisani-Ferry,
2006). The Lisbon strategy, the development plan for the EU, set out by the European
Council in Lisbon in March 2000, and the prominent role played by structural reforms
within this framework, failed to complement the thrust of the macroeconomic
Maastricht criteria (Pisani-Ferry and Sapir, 2006).
It has been long argued that a part of pre-euro in?ation stabilization in high-in?ation
countries was a window dressing exercise to cover the structural sources of in?ation
through ?at measures such as monetary tightening and administrative gimmicks. The
national authorities have been aware that they can disin?ate permanently through
credible monetary policy and market-oriented reforms, both of which would lower
in?ation expectations; temporarily through short-term, ?at measures; or through
a combination of both. With regard to permanently reducing in?ationary pressures, the
authorities would have to establish a low-in?ation, competitive environment and embed
low-in?ation expectations. As for reducing in?ation by ?at, the authorities would have
to bring about ad hoc changes in regulated prices and indirect taxes, forge a temporary
consensus of price and wage moderation, or engineer a sharp demand contraction to
bring in?ation down along a short-run Phillips curve. Domestic political economy in
either reform-averse countries or countries with a backlog of structural reforms
obviously favored ?at measures, which affect in?ation with a shorter lag than reforms
and entail smaller output losses. Virtually all euro area members engaged in some sort of
?scal or accounting gimmickry in their rush to the euro (Koen and van den Noord, 2005;
Balassone et al., 2007).
JFEP
1,4
360
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
In?ation gimmicks have been less publicized than ?scal gimmicks, but they were no
less frequent. For example, the Irish Government was advised to “reduce the headline
rate of in?ation by reducing indirect taxes” (Beggs, 2000) and trade unions
recommended “a moratorium on administrative prices” to keep in?ation below
2 percent (European Trade Union Confederation, 2006). Indirect tax cuts in Greece
lowered in?ation by up to 1 percentage point in the reference period, assuming a full
pass-through to consumer prices (ECB, 2000). In Latvia, the International Monetary
Fund (IMF, 2005) criticized the authorities for “freezing administered prices.”
In Slovakia, the IMF reported that 2007 in?ation decelerated owing to “decreases in
regulated prices [. . .] under pressure from the government” (IMF, 2007; Fitch, 2007).
In?ation was brought down also by the “brute force” of demand compression.
The pre-euro output gap in our sample countries was highly negative, averaging
almost 22 percent of GDP in the three years prior to the euro application (calculation
using the AMECO database of production function-based potential GDP). The output
cost of pre-euro demand contractions was justi?ed by their temporary nature as
compared to the permanent bene?ts of the euro area membership. At least one central
bank signaled well in advance its willingness to keep output below its potential in the
run-up to and during ERM II (Slovak National Bank, 2005).
The optimal choice of disin?ation tools – reforms or ?at – depends on the relative
cost of reforms and bene?ts of euro area membership, conditional on meeting the
in?ation target. If the country puts enough weight on the near-term bene?ts of
membership, the authorities are likely to choose the ?at measures in order to enter as
quickly as possible, while garnering maximum political support (Ozkan et al., 2004).
Under such conditions long-term structural reforms are much less attractive, because
they are likely to push the euro area membership far off into the future. If, however, the
country assigns less weight to the immediate bene?ts of the euro, then the authorities
are likely to deliver low in?ation by running independent monetary policy, additional
structural reform measures, and fewer ?at measures. The country would then enter
the euro area at a later date, but with a healthier economy and low, sustainable in?ation.
The main bene?ts of immediate euro area membership are mostly external,
providing:
.
access to the euro area’s highest rating, which seems to virtually eliminate
transfer and convertibility risk and the risk of balance of payments crises;
.
a shelter from external monetary shocks and currency crises;
.
reduction of foreign currency related credit risks in banking systems; and
.
faster GDP growth owing to lower transaction costs, increased investment, trade
and capital ?ows, and lower capital costs.
The potential costs of euro adoption are also concentrated on the external and ?scal side:
.
the loss of monetary and exchange rate policy ?exibility to deal with asymmetric
shocks;
.
higher in?ation related to loss of nominal exchange rate ?exibility during a
period of income convergence;
.
risks to macroeconomic imbalances from excessive capital in?ows; and
.
a loss of the ability to in?ate away the domestic-currency debt.
In?ation
convergence in
the euro area
361
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
It has been observed that the countries to gain the most from a fast euro adoption are
those with weak external positions and comparatively strong ?scal positions, such as
the Baltic States, Bulgaria, and Romania (Fitch, 2007).
The choice of disin?ation strategy also depends on whether the in?ation criterion is
“tight” or “soft.” A tight criterion will at the margin push the authorities toward either
?at measures (or gimmicks), as the chance of meeting such a target would be limited
without aggressive steps. In contrast, a soft in?ation criterion should, other things
being equal, push the authorities toward adopting reform measures as the chance of
meeting such a target would be suf?ciently high even without ?at actions. Thus, it
does not seem surprising that when the Maastricht reference in?ation rate was very
low, as in the last ten years, countries resorted to ?at measures and gimmicks. This
discussion would be of interest to economic historians only but for the fact that these
strategies predetermine in?ation performance in the euro area.
III. How costly can disin?ation be and why?
The initial choice of the reform- or-?at disin?ation mix has long-term consequences
and in this section, we will attempt to quantify these costs. Structural rigidities,
solidi?ed by the use of the ?at measures, translate into a ?atter Phillips curve, making
the monetary policy transmission mechanism less ef?cient and future disin?ations
more costly. While the ?at-measure strategy may appear optimal in the short-term, the
longer-term failure to create a low-in?ation environment is likely to push the rate of
in?ation up over time. One possible method way of assessing the cost of future
disin?ation is by calibrating a new – Keynesian monetary model to ?t the stylized
facts of the economy in question and shocking the model economy with a change in the
in?ation objective. From these simulations, we obtain an estimate of the output gap
resulting from tightening of the monetary policy stance toward the new in?ation
objective – that would have been consistent with 1 percentage point disin?ation.
While the exact numerical results of our simulations need not be taken literally, they
enable us to evaluate the long-term costs of disin?ation across individual countries and
link these costs to past policy choices. On one hand, our estimates are conditional on
the past structure of the economy and historically observed agents’ response to shocks.
Of course, there is no a priori reason why the sample economies and agents’ responses
should not change following either the ERM II transition or euro adoption (Ciccarelli
and Rebucci, 2006). On the other hand, the past-structure scenario is attractive
providing the natural benchmark against which scenarios of changing policy
environment would compare. Thus, we probably overestimate the output losses in
countries that have reformed or in which the public has become more forward-looking.
A. The model
We capture the link between structural reforms and the monetary transmission
mechanism in a simple model based on Walsh (2003). This framework has been
employed widely in the past 20 years despite some limitations, such as the use of
relationships that are dif?cult to test empirically (for example, the uncovered interest
parity). The model consists of ?ve equations that represent aggregate demand,
aggregate supply, the uncovered interest rate parity condition, term structure, and the
policy-reaction function (see the Appendix and, for further detail, Bul? ´r? and Hurn? ´k,
2006). The aggregate spending relationship links the deviations of log output, the
JFEP
1,4
362
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
long-term real interest rate, and the real exchange rate from their steady-state levels.
The aggregate supply equation, or the Phillips curve, captures the relationship
between in?ation, in?ation expectations, import price in?ation, and the output gap.
Agents base their in?ation expectations on a weighted average of forward-looking and
past rates of in?ation. The medium-term real exchange rate path is calibrated and the
short-term relationship with the world is captured through the uncovered interest rate
parity condition that relates the behavior of domestic and foreign interest rates and the
nominal exchange rate, while allowing for persistence. The model is closed by a policy
reaction function, whereby the monetary authority responds to the level of expected
in?ation, the deviations of expected in?ation from a target, and the output gap, while
taking into account the previous-period policy stance.
Other things being equal, disin?ation requires output below potential and the
in?ation sensitivity to the output gap is determined by the slope of the Phillips curve.
However, disin?ation is less painful if the agents are forward-looking, thus
incorporating the credible disin?ation announcement into their expectations or if the
exchange rate is less persistent.
B. Calibration
The choice of countries is based on their in?ation history. We simulate disin?ations in
a number of euro area countries with historically high-in?ation rates: Greece, Ireland,
Italy, Spain, Slovakia, and Slovenia (for data problems, we omit the other three
countries in our sample). The country-speci?c models are calibrated following the
methodology outlined in Berg et al. (2006), basing the parameters on:
.
economic principles;
.
available econometric and anecdotal evidence; and
.
the sensible behavior of the whole model.
To ensure comparability of individual countries, we assume that the weights of
in?ation and output stabilization in the policy rule are the same for all countries and
equal to 1/2 (as in Taylor, 1993), while the policy persistence parameter is country
speci?c. In other words, we try to strike a balance between comparability of treatment
and capturing country-speci?c characteristics.
First, we replicate the structural model Phillips curve estimates summarized in
Rumler (2007) and other recent national central bank, ECB, and IMF publications
(for complete calibration references and country-speci?c coef?cients see Bul? ´r? and
Hurn? ´k, 2006). Second, we set the remaining parameters to mimic the well-known
features of the individual economies, drawing either on the impulse response functions
from the published central banks models or structural VARs. The estimates of impulse
response functions are useful for designing the dynamic properties of individual
calibrations. They help us to replicate, for example, the strong exchange rate channel in
Hungary, stability of the real exchange rate in Slovenia, or a “two-peak” response of
in?ation to an interest rate shock reported in Poland. The stress is on replicating the
selected qualitative characteristics of the economies in question rather than on
statistical tests of historic goodness of ?t. The resulting parameterization of the basic
model exempli?es the impact of past policy choices. Reform laggards, such as Italy,
tend to have a ?atter Phillips curve; more reform-oriented countries seem to bene?t
from the forward-looking behavior of economic agents (Ireland); and so on.
In?ation
convergence in
the euro area
363
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
C. Simulations
In our simulations a new and credible in?ation objective – that is lower by 1 percentage
point than the prevailing rate is announced, while letting the authorities choose a
disin?ation path consistent with the lowest possible output costs, given its reaction
function. The authorities care about in?ation only, ignoring ?scal developments or other
macroeconomic and social indicators not encompassed in the policy rule. Following
Cecchetti and Ehrmann (1999), we cumulate the associated output gap both over the
three-year horizon and full, ten-year simulation horizon (Table I).
Estimated output losses differ substantially both across countries and across
simulation horizons, re?ecting the country-speci?c transmission mechanisms. In some
counties disin?ation costs are mostly one-off, in others disin?ation appears to have
longer-term growth consequences. First, in the three-year horizon, disin?ation does
not seem very costly in Greece and Ireland, whereas the costs appear much higher in
Italy and Slovakia. Second, in the long run, output losses seem relatively low in
Greece, Ireland, and Slovakia, whereas they appear much higher in Italy, Spain, and
Slovenia. In other words, Italy and Spain require tighter monetary policy than Ireland
or Slovakia to bring about the output gap required for the given decline in in?ation.
The magnitude of output losses re?ects mostly the structural characteristics of the
individual euro area states as these differ substantially in the observed persistence of
their economies and in expectations formation. Greece’s IS and Phillips curves are not
persistent, however, the ?nancial markets seem mostly backward looking. Ireland’s
in?ation reacts quickly and forcefully, mostly through the exchange rate channel.
Although output is not much affected by interest rates, the gap-to-in?ation nexus is
comparatively strong. Italy appears to have a highly persistent economy with a ?at
Phillips curve. Spain seems to be a highly persistent economy, but the estimates of the
Phillips curve are steeper than that of Italy. Both Slovenia and Slovakia exhibit mostly
backward-looking behavior in the ?nancial markets and such persistency is only
partially compensated by the Phillips curve, the steepness of which is below the sample
average. Slovenia’s Phillips curve is somewhat steeper than that of Slovakia,
diminishing the short-run cost of disin?ation.
Our results for the euro area countries, notably Italy, Spain, and Slovenia, seem
consistent with the choice of “low in?ation now, reforms later.” On one hand, their
short-term costs of disin?ation are relatively modest, mainly because of “borrowed
credibility” from the ECB. On the other hand, their long-term costs are high, re?ecting
structural rigidities inherited from the past. In their rush to the euro, these countries set
aside reforms that would ultimately have left their economies more ?exible and
better prepared for future disin?ations. In contrast, the economies of Greece, Ireland,
Cumulative output gap Greece Ireland Italy Spain Slovakia Slovenia
12-quarter 21/10 21/10 21/2 21/4 23/4 21/3
Full-horizon 23/4 21/2 23 1/2 21 3/4 23/4 21 1/3
Note: In percent of GDP
Source: Authors’ simulations
Table I.
Output losses following
a 100-basis point
disin?ation
JFEP
1,4
364
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
and Slovakia seem more ?exible – presumably as a result of past reforms and
disin?ations ought to be relatively painless.
IV. Policy implications of the Maastricht criterion
EU member countries have been aware that long-run reforms are politically costly,
especially if they require consent of political groups, while ?at measures are virtually
costless in terms of foregone output or domestic political capital. The choice between
reform and ?at disin?ation strategies is affected also by the de?nition of the criterion.
A tight de?nition of the criterion – the three best performers, who are often economies
with negative output gaps tilts the euro-applying countries toward the ?at-measure
strategy as the chance of meeting a tight target may seem limited without aggressive
administrative measures. The ?at strategy has been particularly attractive to countries
that are to bene?t immediately from the euro, either through lower borrowing costs
(Greece and Italy), reduced current account vulnerability (the Baltic States), or from the
ECB’s low-in?ation credibility (Italy and Hungary).
The choice of whether to reform or not affects both future in?ation and the cost of
future disin?ations. Regulated markets with high markups and unit labor costs
generate substantial in?ationary impulses (Papademos, 2007) and economies with
such nominal rigidities tend to have less ef?cient monetary transmission mechanisms
requiring larger and longer-lasting output gaps to extinguish in?ation. In contrast,
liberalization of labor and product markets would spur productivity growth in the
nontradable sector and thus arrest the nontradable and overall in?ation. While
nonreformers may succeed in lowering in?ation temporarily, by failing to address the
underlying cost-push impulses they will make future disin?ations more costly. Still,
from the domestic perspective, it may be better to opt for the ?at measures if the
domestic political stalemate precludes the reforms – at least the ECB credibility will
make agents more forward-looking and monetary policy transmission more ef?cient.
Greece provides a good example of a much improved transmission mechanism despite
only modest reforms and mostly ?at-driven disin?ation (Chionis and Leon, 2006).
Looking ahead, a further ?at-driven rush toward low in?ation in order to satisfy the
Maastricht in?ation criterion is likely to be costly both for the new member states and
the ECB. The long-term risks for the new member states are identical to those faced by
the high-in?ation old member states – stalled reforms, in?exible economies, and loss
of competitiveness as in?ation accelerates following the adoption of the euro and the
real exchange rate appreciates above and beyond the fundamentals-driven trend
appreciation (Blanchard, 2007). The long-term impact on the ECB is costly as well. The
more, the euro area applicants choose the ?at measures, postponing structural reforms
and varying the euro area transmission mechanism, the more adverse impact this will
have on ECB decision making. Using the above results, to keep in?ation low Italy
would require much tighter monetary stance than, say Ireland or Slovakia. We draw
two policy lessons from the past experience. First, a tight Maastricht in?ation criterion
provides incentives for ?at measures. It would seem preferable to either exclude the
countries with negative output gaps, or to calculate the reference Maastricht rate over
the full length of the business cycle. This should be a feasible change – the estimates of
the output gap are published regularly by the EU. Second, the short, 12-month testing
period during the ERM II period may further stimulate the use the ?at strategy.
In?ation
convergence in
the euro area
365
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
A longer testing period, covering the full business cycle of the applicant country, would
seem more appropriate.
V. Conclusions
The Maastricht in?ation criterion has been an in?uential nominal rule for the past
15 years. While it swayed the public stance toward low in?ation, it biased the choice of
the disin?ation strategy toward ?at measures, in particular in high-in?ation countries
that have a lot to gain from the euro. In?ation in these countries declined only
temporarily, giving these countries a pronounced V-shaped pattern of in?ation. These
countries tended to opt for “low in?ation now, reforms later” approach, which yielded
low in?ation quickly at the cost of postponing long-term structural reforms. While the
Maastricht in?ation criteria can be ful?lled relatively painlessly by ?at measures, such
a strategy results in inef?cient transmission mechanisms and costly disin?ations,
complicating future ECB decision making.
The paper documents the link between the choice of disin?ation strategies and costs
of future disin?ation. Disin?ation appears costly in reform laggards with
backward-looking expectations, while it appears less costly in reformist countries
with forward-looking agents. The differences stem from the slope of the national
Phillips curves, the expectations formation, and the persistence of output, in?ation, and
exchange rate. Countries that choose the ?at disin?ation strategy of “low in?ation now,
reforms later” have modest short-term costs of disin?ation, mostly attributable to
“borrowed credibility” from the ECB. But their long-term costs are high, re?ecting
structural rigidities inherited from the past and limited productivity gains in the
nontradable sector. In contrast, reformist countries bene?t from ?exible markets and
forward-looking agents, both of which push disin?ation cost down. Thus, we argue
that the member countries bene?t from a criterion that would make to the choice of a
?at disin?ation less likely.
Notes
1. We observe the V-shaped pattern also in Lithuania that missed the criterion by a mere
0.1 – percentage point in 2006 – the country’s application was rejected primarily on
sustainability grounds. With the bene?t of the hindsight, this seems like a good decision:
in?ation in Lithuania accelerated to more than 11 percent at end 2008.
2. We use the December vintage of consensus forecast surveying in?ation predictions for the
end-period of the following year.
3. See the ECB’s HICP available at: www.ecb.int/stats/prices/hicp/html/hicp_economic_
activities_inw_2009.en.html
References
Ahearne, A. and Pisani-Ferry, J. (2006), “The euro: only for the Agile”, Bruegel Policy Brief,
Bruegel, Brussels, available at: www.bruegel.org/doc_pdf_291
Angeloni, I. and Ehrmann, M. (2004), “Euro area in?ation differentials”, ECB Working
Paper 388, European Central Bank, Frankfurt, available at: www.ecb.int/pub/pdf/scpwps/
ecbwp388.pdf
Balassone, F., Franco, D. and Zotteri, S. (2007), “The reliability of EMU ?scal indicators: risks
and safeguards”, Temi di discussione No. 633, Banca d’Italia, Rome, available at: www.
bancaditalia.it/pubblicazioni/econo/temidi/td07/td633_07/en_td633
JFEP
1,4
366
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Beggs, J. (2000), “ECB looks to Irish Government to tackle in?ation”, Allied Irish Banks Global
Treasury Economic Research, Allied Irish Banks, Dublin, available at: www.johnbeggs.
com/jb/comment.asp?0404200033
Berg, A., Karam, P. and Laxton, D. (2006), “A practical model-based approach to monetary policy
analysis – overview”, IMF Working Paper 06/81, International Monetary Fund,
Washington, DC, available at: www.imf.org/external/pubs/ft/wp/2006/wp0681.pdf
Blanchard, O. (2007), “Adjustment within the euro. The dif?cult case of Portugal”, Portuguese
Economic Journal, Vol. 6, pp. 1-21.
Buiter, W.H. (2004), “To purgatory and beyond: when and how should the accession countries
from Central and Eastern Europe become full members of EMU?”, CEPR Discussion
Paper 4342, Centre for Economic Policy Research, London.
Bul? ´r?, A. and Hurn? ´k, J. (2006), “The Maastricht in?ation criterion: how unpleasant is
purgatory?”, IMF Working Paper 06/154, International Monetary Fund, Washington, DC,
available at: www.imf.org/external/pubs/ft/wp/2006/wp06154.pdf
Bul? ´r?, A. and Hurn? ´k, J. (2008), “Why has in?ation in the European Union stopped converging?”,
Journal of Policy Modeling, Vol. 30 No. 2, pp. 341-7.
Cecchetti, S. and Ehrmann, M. (1999), “Does in?ation targeting increase output volatility?
An international comparison of policymakers’ preferences and outcomes”, NBER Working
Paper Series No. 7426, National Bureau of Economic Research, Cambridge, MA.
Chionis, D.P. and Leon, C.A. (2006), “Interest rate transmission in Greece: did EMU cause
a structural break?”, Journal of Policy Modeling, Vol. 28, pp. 453-66.
Ciccarelli, M. and Rebucci, A. (2006), “Has the transmission mechanism of European monetary
policy changed in the run-up to EMU?”, European Economic Review, Vol. 50, pp. 737-76.
ECB (2000), Convergence Report 2000, European Central Bank, Frankfurt, available at: www.
ecb.int/pub/pdf/conrep/cr2000en.pdf
EU (1992), “The Maastricht treaty: provisions amending the treaty establishing the European
economic community with a view to establishing the European community”, available at:
www.eurotreaties.com/maastrichtec.pdf
European Trade Union Confederation (2006), “ETUC calls on euro area ?nance ministers to end
the ‘cycle of madness’ so as to protect the recovery in the European economy”, Economic,
Monetary and Fiscal Policies press release, European Trade Union Confederation,
Brussels, March 12, available at: www.etuc.org/a/2180
Fitch (2007), EMU Convergence Report – Sovereigns, Fitch Ratings, New York, NY, available at:
www.?tch.fr/pdf/rapports/sup_rap_6.pdf
Goldberg, L.S. and Klein, M.W. (2005), “Establishing credibility: evolving perceptions of the
European Central Bank”, NBER Working Paper, Vol. 11792, NBER, Cambridge, MA.
IMF (2005), Aide-Me´moire, IMF Staff Visit to the Republic of Latvia, November 30-December 2,
2005, International Monetary Fund, Washington, DC, available at: www.imf.org/external/
np/ms/2005/120205a.htm
IMF (2007), Slovak Republic: 2007 Article IV Consultation – Staff Report, International Monetary
Fund, Washington, DC, available at: www.imf.org/external/pubs/ft/scr/2007/cr07226.pdf
Koen, V. and van den Noord, P. (2005), “Fiscal Gimmickry in Europe: one-off measures and
creative accounting”, Economics Department Working Papers, No. 417, OECD, Paris,
available at: www.olis.oecd.org/olis/2005doc.nsf/linkto/eco-wkp(2005)4.
Mody, A. and Ohnsorge, F. (2007), “Can domestic policies in?uence in?ation?”, IMF Working
Paper 07/257, International Monetary Fund, Washington, DC, available at: www.imf.org/
external/pubs/ft/wp/2007/wp07257.pdf
In?ation
convergence in
the euro area
367
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Ozkan, F.G., Sibert, A. and Sutherland, A. (2004), “Monetary union and the Maastricht in?ation
criterion: the accession countries”, Economics of Transition, Vol. 12, pp. 635-52, available
at: www.blackwell-synergy.com/doi/pdf/10.1111/j.0967-0750.2004.00197.x
Papademos, L. (2007), “In?ation and competitiveness divergences in the euro area countries:
causes, consequences and policy responses”, paper presented at the Conference The ECB
and its Watchers IX, Frankfurt, September, available at: www.ecb.int/press/key/date/
2007/html/sp070907_2.pdf
Pisani-Ferry, J. and Sapir, A. (2006), “Last exit to Lisbon”, Bruegel Policy Brief, Breugel, Brussels,
available at: www.bruegel.org/1422
Rumler, F. (2007), “Estimates of the open economy new Keynesian Phillips curve for euro area
countries”, Open Economies Review, Vol. 18, September, pp. 427-51.
Slovak National Bank (2005), Medium-Term Forecast, Slovak National Bank, Bratislava,
available at: www.nbs.sk/MPOL/PREDIK/2005-2A.PDF
Stavrev, E. (2007), “Growth and in?ation dispersions in EMU: reasons, the role of adjustment
channels, and policy implications”, IMF Working Paper 07/167, International Monetary
Fund, Washington, DC, available at: www.imf.org/external/pubs/ft/wp/2007/wp07167.pdf
Taylor, J.B. (1993), “Discretion versus policy rules in practice”, Carnegie-Rochester Conference
Series on Public Policy, Vol. 39, December, pp. 195-220.
Walsh, C. (2003), Monetary Economics: Theory and Policy, MIT Press, Cambridge, MA.
Wyplosz, C. (1997), “EMU: why and how it might happen”, Journal of Economic Perspectives,
Vol. 11, Fall, pp. 3-21.
Appendix. The model
The model used in our simulations is as follows:
y
t
¼ a
1
y
t21
2a
2
r
t21
þ a
3
q
t21
þ u
t
ðA1Þ
p
t
¼ b
1
ðb
2
p
t21
þ ð1 2b
2
ÞE
t
p
tþ1
Þ þ ð1 2b
1
Þp
imp
t21
þgy
t21
þh
t
ðA2Þ
p
imp
t
¼ m
1
p
imp
t21
þ ð1 2m
1
Þðp
*
t21
þDs
t21
Þ ðA3Þ
E
t
p
tþ1
¼ e
1
p
e
tþ1
þ ð1 2e
1
Þp
t21
ðA4Þ
Ds
tþ1
¼ c
1
Ds
t
þ ð1 2c
1
Þðir
t
2ir
*
t
2prem
t
Þ þ n
t
ðA5Þ
i
t
¼ d
1
i
t21
þ ð1 2d
1
Þðp
e
tþ1
þ d
2
ðp
e
tþ1
2p
T
Þ þ d
3
y
t
Þ þ 1
t
ðA6Þ
ir
t
¼ f
1
ir
t21
þ ð1 2f
1
Þ
i
t
þ i
tþ1
þ i
tþ2
þ i
tþ3
4
ðA7Þ
r
t
¼ ir
t
2E
t
p
tþ1
ðA8Þ
q
t
¼ q
t21
þ
Ds
t
þ p
*
t
2p
t
4
ðA9Þ
where equations (A1)-(A9) represent aggregate demand, aggregate supply, import price formation,
in?ation expectations formation, uncovered interest rate parity, policy reaction function, interest
rate term structure, Fisher equation, and real exchange rate formation, respectively. Table AI
de?nes the model variables. For the country-speci?c calibrations see Bul? ´r? and Hurn? ´k (2006).
JFEP
1,4
368
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Corresponding author
Ales? Bul? ´r? can be contacted at: [email protected]
y
t
The deviation of the log output from its steady state level
r
t
The deviation of the long-term real interest rate from its steady state level
q
t
The deviation of the real exchange rate from its steady state level
p
t
In?ation, quarter-to-quarter change of the price level
E
t
p
tþ1
In?ation expectations
p
e
tþ1
Model consistent in?ation expectations
p
imp
t
The rate of growth of import prices
D
St
The change in the nominal exchange rate
i
t
The short-term (three-month) nominal interest rate is the policy rate
ir
t
The long-term nominal interest rate
p
*
t
Foreign in?ation
ir
*
t
The foreign long-term nominal interest rate
Table AI.
Model variables
In?ation
convergence in
the euro area
369
To purchase reprints of this article please e-mail: [email protected]
Or visit our web site for further details: www.emeraldinsight.com/reprints
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
This article has been cited by:
1. Katerina Smídková, Jan Babecky, Ales Bulir. 2010. Sustainable Real Exchange Rates in the New Eu
Member States: What Did the Great Recession Change?. IMF Working Papers 10, 1. [CrossRef]
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
doc_975937118.pdf
The Maastricht inflation criterion has influenced the choice of disinflation strategies of
prospective euro area member countries. Some historically high-inflation countries chose the fiat
disinflation strategy of “low inflation now, reforms later,” bringing inflation down quickly. Their
inflation rates increased immediately after their euro applications were assessed positively and stayed
significantly higher than inflation in France and Germany, two historically low-inflation countries.
The inflation differentials reflect both structural rigidities inherited from the past and higher inflation
expectations stemming from the chosen disinflation strategy. This paper seeks to address these issues.
Journal of Financial Economic Policy
Inflation convergence in the euro area: just another gimmick?
Aleš Bulí#J aromír Hurník
Article information:
To cite this document:
Aleš Bulí#J aromír Hurník, (2009),"Inflation convergence in the euro area: just another gimmick?", J ournal
of Financial Economic Policy, Vol. 1 Iss 4 pp. 355 - 369
Permanent link to this document:http://dx.doi.org/10.1108/17576380911050070
Downloaded on: 24 January 2016, At: 21:37 (PT)
References: this document contains references to 30 other documents.
To copy this document: [email protected]
The fulltext of this document has been downloaded 324 times since 2009*
Users who downloaded this article also downloaded:
Vivek Moorthy, Shrikant Kolhar, (2011),"Rising food inflation and India's monetary policy", Indian Growth
and Development Review, Vol. 4 Iss 1 pp. 73-94http://dx.doi.org/10.1108/17538251111125016
Helder Ferreira de Mendonça, (2009),"Output-inflation and unemployment-inflation trade-offs under
inflation targeting: Evidence from Brazil", J ournal of Economic Studies, Vol. 36 Iss 1 pp. 66-82 http://
dx.doi.org/10.1108/01443580910923803
Girijasankar Mallik, Anis Chowdhury, (2011),"Effect of inflation uncertainty, output uncertainty and oil
price on inflation and growth in Australia", J ournal of Economic Studies, Vol. 38 Iss 4 pp. 414-429 http://
dx.doi.org/10.1108/01443581111160879
Access to this document was granted through an Emerald subscription provided by emerald-srm:115632 []
For Authors
If you would like to write for this, or any other Emerald publication, then please use our Emerald for
Authors service information about how to choose which publication to write for and submission guidelines
are available for all. Please visit www.emeraldinsight.com/authors for more information.
About Emerald www.emeraldinsight.com
Emerald is a global publisher linking research and practice to the benefit of society. The company
manages a portfolio of more than 290 journals and over 2,350 books and book series volumes, as well as
providing an extensive range of online products and additional customer resources and services.
Emerald is both COUNTER 4 and TRANSFER compliant. The organization is a partner of the Committee
on Publication Ethics (COPE) and also works with Portico and the LOCKSS initiative for digital archive
preservation.
*Related content and download information correct at time of download.
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
In?ation convergence in the euro
area: just another gimmick?
Ales? Bul? ´r?
International Monetary Fund, Washington, DC, USA, and
Jarom? ´r Hurn? ´k
Czech National Bank, Praha, Czech Republic
Abstract
Purpose – The Maastricht in?ation criterion has in?uenced the choice of disin?ation strategies of
prospective euro area member countries. Some historically high-in?ation countries chose the ?at
disin?ation strategy of “low in?ation now, reforms later,” bringing in?ation down quickly. Their
in?ation rates increased immediately after their euro applications were assessed positively and stayed
signi?cantly higher than in?ation in France and Germany, two historically low-in?ation countries.
The in?ation differentials re?ect both structural rigidities inherited from the past and higher in?ation
expectations stemming from the chosen disin?ation strategy. This paper seeks to address these issues.
Design/methodology/approach – The paper highlights the in?ation consequences of the choice of
compliance policies with the Maastricht in?ation criterion. To this end, the paper estimates costs of
future disin?ations in six high-in?ation countries for which well-established stylized facts are held.
Findings – The Maastricht in?ation criterion has been an in?uential nominal rule. While it swayed
the public stance toward low in?ation, it biased the choice of the disin?ation strategy toward ?at
measures. In?ation in these countries declined only temporarily, giving these countries a pronounced
V-shaped pattern of in?ation. These countries tended to opt for “low in?ation now, reforms later”
approach, which yielded low in?ation quickly at the cost of postponing long-term structural reforms.
While the ERM II process can be made relatively painless by ?at measures, such a strategy results in
inef?cient transmission mechanisms and costly disin?ations.
Originality/value – The paper highlights the long-run in?ation consequences of the choice of
compliance policies with the Maastricht in?ation criterion. While in?ation was low prior to the euro
and stayed low afterward in in?ation-averse countries, a V-shaped in?ation path in high-in?ation
countries is seen. The countries that expect to bene?t the most from a fast adoption of the euro are
likely to opt for ?at-driven compliance. The choice of compliance policies has consequences for future
disin?ations – monetary transmission distortions and inef?ciencies of ?at policies increase the cost of
future disin?ations and will complicate ECB policymaking for years to come.
Keywords In?ation, Economic convergence, Euro, European Union
Paper type Research paper
I. Introduction
The Maastricht in?ation criterion-in?ationof no more thanone-and-a-half percent above
the average in?ation rate of the three European Union (EU) member states with the most
stable prices-affects the choice of policy strategies to meet the criterion. Countries that
The current issue and full text archive of this journal is available at
www.emeraldinsight.com/1757-6385.htm
JEL classi?cation – E31, E32, E42, F33
The authors are thankful for comments from A. Carare, L. Christiano, M. C
?
iha´k,
E. Detragiache, M. Hampl, V. Koen, L. Lipschitz, M. Mandel, O. Schneider, and R. Vaubel,
M. Tierney, and an anonymous referee; they also bene?ted from discussion at the Conference on
Political Economy of International Organizations at Monte Verita` and at seminars at the Czech
National Bank and the International Monetary Fund. Batoul Rida provided research assistance.
In?ation
convergence in
the euro area
355
Journal of Financial Economic Policy
Vol. 1 No. 4, 2009
pp. 355-369
qEmerald Group Publishing Limited
1757-6385
DOI 10.1108/17576380911050070
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
expect to bene?t the most froma fast adoption of the euro are likely to opt for ?at-driven
compliance. Moreover, a tight in?ation criterion motivates the authorities to pursue
policies of short-term demand stabilization or price and indirect tax interventions at the
expense of long-term structural reforms that would create a low-in?ation environment.
Examples of the former are a wage freeze or a temporary cut in indirect taxes,
while examples the latter are labor- and product-market liberalization. The choice of
compliance policies has consequences for future disin?ations – monetary transmission
distortions and inef?ciencies of ?at policies increase the cost of future disin?ations and
will complicate European Central Bank (ECB) policymaking for years to come.
While in?ation was low prior to the euro and stayed low afterward in traditionally
in?ation-averse countries such as Germany, France, or The Netherlands, we see a
V-shaped in?ation path in traditionally high-in?ation countries, such as Ireland, Italy,
Portugal, Spain, Greece, Slovenia, Cyprus, Malta, and Slovakia. The V-shaped path –
with the trough around the time when the European Commission was to decide on the
country’s euro application – appears similar in all sample countries despite the fact
that they adopted the euro at different points of time (1999, 2001, 2007, 2008, and 2009).
The paper highlights the in?ation consequences of the choice of compliance policies
with the Maastricht in?ation criterion. To this end, we estimate costs of future
disin?ations in six high-in?ation countries for which we have well-established stylized
facts. The results suggest that the countries that choose the ?at disin?ation strategy of
“low in?ation now, reforms later” have had modest short-term costs of disin?ation,
mostly attributable to “borrowed credibility” from the ECB, however, their long-term
costs have been high, re?ecting structural rigidities inherited from the past. In contrast,
reformist countries bene?t from ?exible markets and forward-looking agents, both of
which push long-run disin?ation costs down. While product and labor market reforms
would not by itself secure lower national in?ation rates, they would make ?at pre-euro
disin?ations less attractive. We also argue that future euro area applicants would
bene?t from a criterion that makes the choice of a ?at disin?ation strategy less likely,
either by calculating the criterion over the business cycle or by lengthening the
evaluation period to better assess in?ation sustainability.
This paper is organized as follows. First, we outline the pattern of in?ation in
selected euro area countries around the adoption of the euro and the choice of
disin?ation policies. Second, we compute hypothetical output losses from disin?ation
policies. Finally, we discuss the policy implications of the Maastricht criterion for the
conduct of monetary policy in the member states and by the ECB.
II. Disin?ation and the Maastricht in?ation criterion
The concept of the new European monetary order was simple. Once exchange rates
were stabilized and in?ation rates converged, the former would be irrevocably ?xed
and the latter would be controlled by pan-European monetary policy of the ECB
(Wyplosz, 1997). The plan was to motivate national central banks to bring in?ation in
line with low-in?ation countries and it was to be supported on the institutional side by
the European Monetary Union framework, including the ?nance ministers working
group. Prior developments showed that time-inconsistent policies fueled by distorted
labor markets, tax systems prone to in?ation bias, and other structural impediments
make it dif?cult to ensure a low-in?ation environment in Europe. This failure can be
seen also as the result of non-cooperation between the monetary and ?scal authorities.
JFEP
1,4
356
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Thus, to encourage the individual countries to undertake fundamental economic
reforms prior to joining the adoption of the euro, the EU imposed various entry
conditions jointly known as the Maastricht convergence criteria, see Article 109( j) of
the Maastricht Treaty (EU, 1992). The in?ation criterion reads:
[. . .] the achievement of a high degree of price stability; this will be apparent from a rate of
in?ation which is close to that of, at most, the three best performing Member States in terms
of price stability.
A. In?ation developments around the adoption of the euro
All historically high-in?ation countries were able to lower the national rate of in?ation
to or below the Maastricht criterion rate at the time of the euro application, but a
number of them did not sustain such rates much beyond the month when the euro
application was accepted. This result was predicted by Buiter (2004), who argued that
the Maastricht criterion would serve as a “purgatory” with no impact on long-term
in?ation development. While in?ation in Germany, France, The Netherlands and a few
other low-in?ation countries was low prior to the euro and stayed low afterward, we
see the V-shaped in?ation path in the traditionally high-in?ation countries, such as
Ireland, Italy, Portugal, Spain, Greece, Slovenia, Cyprus, Malta, and Slovakia,
(see Figure 1)[1]. In?ation rates of the nine high-in?ation countries – expressed here as
Figure 1.
Average in?ation
differential in nine
high-in?ation countries
Notes: Sample average of national inflation differentials vis-à-vis France and Germany; all national
series are centered on the month of the adoption of the euro, t(0), that is, January 1999 for Italy,
Ireland, Portugal, and Spain; January 2001 for Greece; January 2007 for Slovenia; January 2008 for
Cyprus and Malta; and January 2009 for Slovakia. The post-adoption average is therefore
unbalanced: we have only 33, 21, and 9 post-adoption observations for Slovenia, Cyprus and Malta,
and Slovakia, respectively
Source: Eurostat; authors' calculations
-1
0
1
2
3
4
–1
0
1
2
3
4
t(–36) t(–24) t(–12) t(0) t(12) t(24) t(36)
European
commission
assesses euro
applications, t(–9)
Countries introduce the
euro as legal tender, t(0)
Countries enter
ERM II,t(-30)
Mean
One standard
deviation
(12-month rolling)
In?ation
convergence in
the euro area
357
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
a differential vis-a` -vis in?ation in Germany and France to take out the global price
shocks – were fairly similar in all countries despite the fact that they adopted the euro
at different points of time and at different phases of the global business cycle (Figure 2).
The general pattern is as follows: three years before the eventual date of the euro
introduction and before the countries in question entered the ERM II regime (the lightly
shaded area in Figure 1) the national average annual rates of in?ation were some
2-4 percentage points above the relevant Maastricht criterion rate. Upon entering the
ERM II, the average national rates of in?ation declined quickly to the Maastricht criterion
rate, bottoming out at about nine months prior to the euro introduction, t(29), or precisely
at the time the European Commission was to decide on whether the country’s euro
application was to be accepted or rejected. Interestingly, 1-year – ahead in?ation
expectations were higher than those of France and Germany by some 1-2 percentage points
(bars in Figure 2)[2]. Clearly, the market analysts surveyed by consensus forecast did not
believe that in?ation will stay at the level of the two largest euro area countries thereafter.
After the application to join the euro area was accepted in mid-year, in?ation
accelerated sharply in all countries. On average, by January of the next year and at the
time of the formal introduction the euro notes, in?ation in the sample countries was
higher by about 1 percentage point than in?ation in France and Germany. The
differential increased to 1.6 and 2.0 percentage points in 12 and 24 months after the
introduction, respectively.
The temporary, ?at downward pressures on in?ation were relaxed immediately
after the successful euro application and the in?ation rates in the sample countries
started to diverge (Bul? ´r? and Hurn? ´k, 2008) and their persistence increased (Stavrev,
2007). Needless to say, we fail to observe the V-shaped pattern of in?ation either in EU
countries that have yet to apply for the euro (Denmark, Sweden, and the UK) or the
remaining, low-in?ation euro area countries. In other words, the impetus of the
Maastricht in?ation criterion seemed to be binding only in the run-up to the euro, but
not thereafter. Why is in?ation low in some countries and high in other, despite the
pan-European monetary stance of the ECB? In?ation differs across countries for four
main reasons and only some of these factors can be affected by monetary policy actions
(Angeloni and Ehrmann, 2004; Mody and Ohnsorge, 2007; and Bul? ´r? and Hurn? ´k, 2008).
First, the ECB’s control over the aggregate demand ?uctuations explains a substantial
part of in?ation ?uctuations as economies with output above its potential experience
price pressures. Of course, economic overheating and high in?ation in any given euro
area country matter for ECB’s decision making only to the extent of the country’s
weight in the euro area harmonized index of consumer prices (HICP). Most sample
countries are too small to make a sizable impact: while the cumulative weight of the
nine countries is exactly 40 percent, after excluding Italy and Spain, the weight of the
remaining seven countries is less than 9 percent[3].
The following factors are not under the control of the ECB. Second, the average price
level and the level of economic development have been closely correlated. When the
exchange rate is ?xed and as the relatively poorer countries’ incomes converge toward
those of relatively richer countries, the price levels will be brought in line predominantly
through faster in?ation in the poorer countries (the so-called “convergence” in?ation)
and to a lesser degree through faster productivity in the nontradable sector that would
limit the impact on the price level (the Balassa-Samuelson effect). This component of
in?ation divergence is unavoidable andmay explain a big part of in?ation developments
JFEP
1,4
358
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Figure 2.
In?ation and in?ation
expectations around the
adoption of the euro
Notes: National inflation rate minus the mean of average inflation rates in France and
Germany; inflation is measured monthly year-on-year. Inflation expectations are
one-year-ahead for end-period annual inflation; for example, December 1998 vintage of
consensus forecast for end-1999 inflation. All series are centered on the month of the adoption
of the euro, t(0), that is, January 1999 for Italy, Ireland, Portugal, and Spain; January 2001 for
Greece; January 2007 for Slovenia; January 2008 for Cyprus and Malta; and January 2009 for
Slovakia. consensus forecast data are not collected for Malta. GDP is measured as 2001-2007
average GDP per capita in percent of the EU-25 average
Source: Eurostat(actual inflation) and consensus forecast(expected inflation)
-2
0
2
4
6
8
Italy
(t(0) = 1999)
GDP = 104%
Ireland
(t(0) = 1999)
GDP = 136%
-2
0
2
4
6
8
Portugal
(t(0) = 1999)
GDP = 76%
-2
0
2
4
6
8
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
t(–36) t(–18) t(0) t(18) t(36)
Spain
(t(0) = 1999)
GDP = 98%
Greece
(t(0) = 2001)
GDP = 81%
-2
0
2
4
6
8
Slovenia
(t(0) = 2007)
GDP = 78%
–2
0
2
4
6
8
Cyprus
(t(0) = 2008)
GDP = 83%
-2
0
2
4
6
8
-2
0
2
4
6
8
-2
0
2
4
6
8
Malta
(t(0) = 2008)
GDP = 70%
-2
0
2
4
6
8
Slovakia
(t(0) = 2009)
GDP = 54%
In?ation
convergence in
the euro area
359
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
in the fast-growing countries like Greece or Ireland that have had correspondingly high,
fundamentals-driven appreciation of the real exchange rate. The contribution of this
factor does not explain faster in?ation in all countries, however, as purchasing parity
gross domestic product (GDP) per capita of Italy and Spain has been above or equal to
the EU average during 2001-2007 (Figure 2). Third, the EU countries with more
protected and regulated product or labor markets have had higher average in?ation
rates than those with less protected markets. Higher markups in the protected markets
in Greece or Italy increased these countries’ unit labor cost, appreciating real exchange
rates above and beyond the fundamentals-driven real exchange rates, and damaging
competitiveness on their economies. Fourth, the domestic authorities have exercised
control over administered prices and indirect taxes, thus affecting consumer price
in?ation. It appears that it is the last reason that explains a big part of in?ation
developments in high-in?ation countries.
On balance, it would be na? ¨ve to believe that any amount of market liberalization
could offset fully the economic boom that resulted from the euro-related convergence
process (lower risk premia, gains from trade, and so on), but such liberalization would
have limited the damage.
B. Taking stock of the authorities’ disin?ation choice
The ERM II countries – in particular those heavily managing their currencies – cannot
control the “convergence” in?ation and may be unwilling to proceed with structural
reforms, but they may impose temporary tight macroeconomic policies to widen the
output gap, limit the growth of administered prices, or forego an increase in indirect
taxes. The Maastricht criterion increased aversion to in?ation (Cecchetti and Ehrmann,
1999; Goldberg and Klein, 2005), however, it failed to stimulate the euro area countries’
structural reforms as these remained slow and insuf?cient (Ahearne and Pisani-Ferry,
2006). The Lisbon strategy, the development plan for the EU, set out by the European
Council in Lisbon in March 2000, and the prominent role played by structural reforms
within this framework, failed to complement the thrust of the macroeconomic
Maastricht criteria (Pisani-Ferry and Sapir, 2006).
It has been long argued that a part of pre-euro in?ation stabilization in high-in?ation
countries was a window dressing exercise to cover the structural sources of in?ation
through ?at measures such as monetary tightening and administrative gimmicks. The
national authorities have been aware that they can disin?ate permanently through
credible monetary policy and market-oriented reforms, both of which would lower
in?ation expectations; temporarily through short-term, ?at measures; or through
a combination of both. With regard to permanently reducing in?ationary pressures, the
authorities would have to establish a low-in?ation, competitive environment and embed
low-in?ation expectations. As for reducing in?ation by ?at, the authorities would have
to bring about ad hoc changes in regulated prices and indirect taxes, forge a temporary
consensus of price and wage moderation, or engineer a sharp demand contraction to
bring in?ation down along a short-run Phillips curve. Domestic political economy in
either reform-averse countries or countries with a backlog of structural reforms
obviously favored ?at measures, which affect in?ation with a shorter lag than reforms
and entail smaller output losses. Virtually all euro area members engaged in some sort of
?scal or accounting gimmickry in their rush to the euro (Koen and van den Noord, 2005;
Balassone et al., 2007).
JFEP
1,4
360
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
In?ation gimmicks have been less publicized than ?scal gimmicks, but they were no
less frequent. For example, the Irish Government was advised to “reduce the headline
rate of in?ation by reducing indirect taxes” (Beggs, 2000) and trade unions
recommended “a moratorium on administrative prices” to keep in?ation below
2 percent (European Trade Union Confederation, 2006). Indirect tax cuts in Greece
lowered in?ation by up to 1 percentage point in the reference period, assuming a full
pass-through to consumer prices (ECB, 2000). In Latvia, the International Monetary
Fund (IMF, 2005) criticized the authorities for “freezing administered prices.”
In Slovakia, the IMF reported that 2007 in?ation decelerated owing to “decreases in
regulated prices [. . .] under pressure from the government” (IMF, 2007; Fitch, 2007).
In?ation was brought down also by the “brute force” of demand compression.
The pre-euro output gap in our sample countries was highly negative, averaging
almost 22 percent of GDP in the three years prior to the euro application (calculation
using the AMECO database of production function-based potential GDP). The output
cost of pre-euro demand contractions was justi?ed by their temporary nature as
compared to the permanent bene?ts of the euro area membership. At least one central
bank signaled well in advance its willingness to keep output below its potential in the
run-up to and during ERM II (Slovak National Bank, 2005).
The optimal choice of disin?ation tools – reforms or ?at – depends on the relative
cost of reforms and bene?ts of euro area membership, conditional on meeting the
in?ation target. If the country puts enough weight on the near-term bene?ts of
membership, the authorities are likely to choose the ?at measures in order to enter as
quickly as possible, while garnering maximum political support (Ozkan et al., 2004).
Under such conditions long-term structural reforms are much less attractive, because
they are likely to push the euro area membership far off into the future. If, however, the
country assigns less weight to the immediate bene?ts of the euro, then the authorities
are likely to deliver low in?ation by running independent monetary policy, additional
structural reform measures, and fewer ?at measures. The country would then enter
the euro area at a later date, but with a healthier economy and low, sustainable in?ation.
The main bene?ts of immediate euro area membership are mostly external,
providing:
.
access to the euro area’s highest rating, which seems to virtually eliminate
transfer and convertibility risk and the risk of balance of payments crises;
.
a shelter from external monetary shocks and currency crises;
.
reduction of foreign currency related credit risks in banking systems; and
.
faster GDP growth owing to lower transaction costs, increased investment, trade
and capital ?ows, and lower capital costs.
The potential costs of euro adoption are also concentrated on the external and ?scal side:
.
the loss of monetary and exchange rate policy ?exibility to deal with asymmetric
shocks;
.
higher in?ation related to loss of nominal exchange rate ?exibility during a
period of income convergence;
.
risks to macroeconomic imbalances from excessive capital in?ows; and
.
a loss of the ability to in?ate away the domestic-currency debt.
In?ation
convergence in
the euro area
361
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
It has been observed that the countries to gain the most from a fast euro adoption are
those with weak external positions and comparatively strong ?scal positions, such as
the Baltic States, Bulgaria, and Romania (Fitch, 2007).
The choice of disin?ation strategy also depends on whether the in?ation criterion is
“tight” or “soft.” A tight criterion will at the margin push the authorities toward either
?at measures (or gimmicks), as the chance of meeting such a target would be limited
without aggressive steps. In contrast, a soft in?ation criterion should, other things
being equal, push the authorities toward adopting reform measures as the chance of
meeting such a target would be suf?ciently high even without ?at actions. Thus, it
does not seem surprising that when the Maastricht reference in?ation rate was very
low, as in the last ten years, countries resorted to ?at measures and gimmicks. This
discussion would be of interest to economic historians only but for the fact that these
strategies predetermine in?ation performance in the euro area.
III. How costly can disin?ation be and why?
The initial choice of the reform- or-?at disin?ation mix has long-term consequences
and in this section, we will attempt to quantify these costs. Structural rigidities,
solidi?ed by the use of the ?at measures, translate into a ?atter Phillips curve, making
the monetary policy transmission mechanism less ef?cient and future disin?ations
more costly. While the ?at-measure strategy may appear optimal in the short-term, the
longer-term failure to create a low-in?ation environment is likely to push the rate of
in?ation up over time. One possible method way of assessing the cost of future
disin?ation is by calibrating a new – Keynesian monetary model to ?t the stylized
facts of the economy in question and shocking the model economy with a change in the
in?ation objective. From these simulations, we obtain an estimate of the output gap
resulting from tightening of the monetary policy stance toward the new in?ation
objective – that would have been consistent with 1 percentage point disin?ation.
While the exact numerical results of our simulations need not be taken literally, they
enable us to evaluate the long-term costs of disin?ation across individual countries and
link these costs to past policy choices. On one hand, our estimates are conditional on
the past structure of the economy and historically observed agents’ response to shocks.
Of course, there is no a priori reason why the sample economies and agents’ responses
should not change following either the ERM II transition or euro adoption (Ciccarelli
and Rebucci, 2006). On the other hand, the past-structure scenario is attractive
providing the natural benchmark against which scenarios of changing policy
environment would compare. Thus, we probably overestimate the output losses in
countries that have reformed or in which the public has become more forward-looking.
A. The model
We capture the link between structural reforms and the monetary transmission
mechanism in a simple model based on Walsh (2003). This framework has been
employed widely in the past 20 years despite some limitations, such as the use of
relationships that are dif?cult to test empirically (for example, the uncovered interest
parity). The model consists of ?ve equations that represent aggregate demand,
aggregate supply, the uncovered interest rate parity condition, term structure, and the
policy-reaction function (see the Appendix and, for further detail, Bul? ´r? and Hurn? ´k,
2006). The aggregate spending relationship links the deviations of log output, the
JFEP
1,4
362
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
long-term real interest rate, and the real exchange rate from their steady-state levels.
The aggregate supply equation, or the Phillips curve, captures the relationship
between in?ation, in?ation expectations, import price in?ation, and the output gap.
Agents base their in?ation expectations on a weighted average of forward-looking and
past rates of in?ation. The medium-term real exchange rate path is calibrated and the
short-term relationship with the world is captured through the uncovered interest rate
parity condition that relates the behavior of domestic and foreign interest rates and the
nominal exchange rate, while allowing for persistence. The model is closed by a policy
reaction function, whereby the monetary authority responds to the level of expected
in?ation, the deviations of expected in?ation from a target, and the output gap, while
taking into account the previous-period policy stance.
Other things being equal, disin?ation requires output below potential and the
in?ation sensitivity to the output gap is determined by the slope of the Phillips curve.
However, disin?ation is less painful if the agents are forward-looking, thus
incorporating the credible disin?ation announcement into their expectations or if the
exchange rate is less persistent.
B. Calibration
The choice of countries is based on their in?ation history. We simulate disin?ations in
a number of euro area countries with historically high-in?ation rates: Greece, Ireland,
Italy, Spain, Slovakia, and Slovenia (for data problems, we omit the other three
countries in our sample). The country-speci?c models are calibrated following the
methodology outlined in Berg et al. (2006), basing the parameters on:
.
economic principles;
.
available econometric and anecdotal evidence; and
.
the sensible behavior of the whole model.
To ensure comparability of individual countries, we assume that the weights of
in?ation and output stabilization in the policy rule are the same for all countries and
equal to 1/2 (as in Taylor, 1993), while the policy persistence parameter is country
speci?c. In other words, we try to strike a balance between comparability of treatment
and capturing country-speci?c characteristics.
First, we replicate the structural model Phillips curve estimates summarized in
Rumler (2007) and other recent national central bank, ECB, and IMF publications
(for complete calibration references and country-speci?c coef?cients see Bul? ´r? and
Hurn? ´k, 2006). Second, we set the remaining parameters to mimic the well-known
features of the individual economies, drawing either on the impulse response functions
from the published central banks models or structural VARs. The estimates of impulse
response functions are useful for designing the dynamic properties of individual
calibrations. They help us to replicate, for example, the strong exchange rate channel in
Hungary, stability of the real exchange rate in Slovenia, or a “two-peak” response of
in?ation to an interest rate shock reported in Poland. The stress is on replicating the
selected qualitative characteristics of the economies in question rather than on
statistical tests of historic goodness of ?t. The resulting parameterization of the basic
model exempli?es the impact of past policy choices. Reform laggards, such as Italy,
tend to have a ?atter Phillips curve; more reform-oriented countries seem to bene?t
from the forward-looking behavior of economic agents (Ireland); and so on.
In?ation
convergence in
the euro area
363
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
C. Simulations
In our simulations a new and credible in?ation objective – that is lower by 1 percentage
point than the prevailing rate is announced, while letting the authorities choose a
disin?ation path consistent with the lowest possible output costs, given its reaction
function. The authorities care about in?ation only, ignoring ?scal developments or other
macroeconomic and social indicators not encompassed in the policy rule. Following
Cecchetti and Ehrmann (1999), we cumulate the associated output gap both over the
three-year horizon and full, ten-year simulation horizon (Table I).
Estimated output losses differ substantially both across countries and across
simulation horizons, re?ecting the country-speci?c transmission mechanisms. In some
counties disin?ation costs are mostly one-off, in others disin?ation appears to have
longer-term growth consequences. First, in the three-year horizon, disin?ation does
not seem very costly in Greece and Ireland, whereas the costs appear much higher in
Italy and Slovakia. Second, in the long run, output losses seem relatively low in
Greece, Ireland, and Slovakia, whereas they appear much higher in Italy, Spain, and
Slovenia. In other words, Italy and Spain require tighter monetary policy than Ireland
or Slovakia to bring about the output gap required for the given decline in in?ation.
The magnitude of output losses re?ects mostly the structural characteristics of the
individual euro area states as these differ substantially in the observed persistence of
their economies and in expectations formation. Greece’s IS and Phillips curves are not
persistent, however, the ?nancial markets seem mostly backward looking. Ireland’s
in?ation reacts quickly and forcefully, mostly through the exchange rate channel.
Although output is not much affected by interest rates, the gap-to-in?ation nexus is
comparatively strong. Italy appears to have a highly persistent economy with a ?at
Phillips curve. Spain seems to be a highly persistent economy, but the estimates of the
Phillips curve are steeper than that of Italy. Both Slovenia and Slovakia exhibit mostly
backward-looking behavior in the ?nancial markets and such persistency is only
partially compensated by the Phillips curve, the steepness of which is below the sample
average. Slovenia’s Phillips curve is somewhat steeper than that of Slovakia,
diminishing the short-run cost of disin?ation.
Our results for the euro area countries, notably Italy, Spain, and Slovenia, seem
consistent with the choice of “low in?ation now, reforms later.” On one hand, their
short-term costs of disin?ation are relatively modest, mainly because of “borrowed
credibility” from the ECB. On the other hand, their long-term costs are high, re?ecting
structural rigidities inherited from the past. In their rush to the euro, these countries set
aside reforms that would ultimately have left their economies more ?exible and
better prepared for future disin?ations. In contrast, the economies of Greece, Ireland,
Cumulative output gap Greece Ireland Italy Spain Slovakia Slovenia
12-quarter 21/10 21/10 21/2 21/4 23/4 21/3
Full-horizon 23/4 21/2 23 1/2 21 3/4 23/4 21 1/3
Note: In percent of GDP
Source: Authors’ simulations
Table I.
Output losses following
a 100-basis point
disin?ation
JFEP
1,4
364
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
and Slovakia seem more ?exible – presumably as a result of past reforms and
disin?ations ought to be relatively painless.
IV. Policy implications of the Maastricht criterion
EU member countries have been aware that long-run reforms are politically costly,
especially if they require consent of political groups, while ?at measures are virtually
costless in terms of foregone output or domestic political capital. The choice between
reform and ?at disin?ation strategies is affected also by the de?nition of the criterion.
A tight de?nition of the criterion – the three best performers, who are often economies
with negative output gaps tilts the euro-applying countries toward the ?at-measure
strategy as the chance of meeting a tight target may seem limited without aggressive
administrative measures. The ?at strategy has been particularly attractive to countries
that are to bene?t immediately from the euro, either through lower borrowing costs
(Greece and Italy), reduced current account vulnerability (the Baltic States), or from the
ECB’s low-in?ation credibility (Italy and Hungary).
The choice of whether to reform or not affects both future in?ation and the cost of
future disin?ations. Regulated markets with high markups and unit labor costs
generate substantial in?ationary impulses (Papademos, 2007) and economies with
such nominal rigidities tend to have less ef?cient monetary transmission mechanisms
requiring larger and longer-lasting output gaps to extinguish in?ation. In contrast,
liberalization of labor and product markets would spur productivity growth in the
nontradable sector and thus arrest the nontradable and overall in?ation. While
nonreformers may succeed in lowering in?ation temporarily, by failing to address the
underlying cost-push impulses they will make future disin?ations more costly. Still,
from the domestic perspective, it may be better to opt for the ?at measures if the
domestic political stalemate precludes the reforms – at least the ECB credibility will
make agents more forward-looking and monetary policy transmission more ef?cient.
Greece provides a good example of a much improved transmission mechanism despite
only modest reforms and mostly ?at-driven disin?ation (Chionis and Leon, 2006).
Looking ahead, a further ?at-driven rush toward low in?ation in order to satisfy the
Maastricht in?ation criterion is likely to be costly both for the new member states and
the ECB. The long-term risks for the new member states are identical to those faced by
the high-in?ation old member states – stalled reforms, in?exible economies, and loss
of competitiveness as in?ation accelerates following the adoption of the euro and the
real exchange rate appreciates above and beyond the fundamentals-driven trend
appreciation (Blanchard, 2007). The long-term impact on the ECB is costly as well. The
more, the euro area applicants choose the ?at measures, postponing structural reforms
and varying the euro area transmission mechanism, the more adverse impact this will
have on ECB decision making. Using the above results, to keep in?ation low Italy
would require much tighter monetary stance than, say Ireland or Slovakia. We draw
two policy lessons from the past experience. First, a tight Maastricht in?ation criterion
provides incentives for ?at measures. It would seem preferable to either exclude the
countries with negative output gaps, or to calculate the reference Maastricht rate over
the full length of the business cycle. This should be a feasible change – the estimates of
the output gap are published regularly by the EU. Second, the short, 12-month testing
period during the ERM II period may further stimulate the use the ?at strategy.
In?ation
convergence in
the euro area
365
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
A longer testing period, covering the full business cycle of the applicant country, would
seem more appropriate.
V. Conclusions
The Maastricht in?ation criterion has been an in?uential nominal rule for the past
15 years. While it swayed the public stance toward low in?ation, it biased the choice of
the disin?ation strategy toward ?at measures, in particular in high-in?ation countries
that have a lot to gain from the euro. In?ation in these countries declined only
temporarily, giving these countries a pronounced V-shaped pattern of in?ation. These
countries tended to opt for “low in?ation now, reforms later” approach, which yielded
low in?ation quickly at the cost of postponing long-term structural reforms. While the
Maastricht in?ation criteria can be ful?lled relatively painlessly by ?at measures, such
a strategy results in inef?cient transmission mechanisms and costly disin?ations,
complicating future ECB decision making.
The paper documents the link between the choice of disin?ation strategies and costs
of future disin?ation. Disin?ation appears costly in reform laggards with
backward-looking expectations, while it appears less costly in reformist countries
with forward-looking agents. The differences stem from the slope of the national
Phillips curves, the expectations formation, and the persistence of output, in?ation, and
exchange rate. Countries that choose the ?at disin?ation strategy of “low in?ation now,
reforms later” have modest short-term costs of disin?ation, mostly attributable to
“borrowed credibility” from the ECB. But their long-term costs are high, re?ecting
structural rigidities inherited from the past and limited productivity gains in the
nontradable sector. In contrast, reformist countries bene?t from ?exible markets and
forward-looking agents, both of which push disin?ation cost down. Thus, we argue
that the member countries bene?t from a criterion that would make to the choice of a
?at disin?ation less likely.
Notes
1. We observe the V-shaped pattern also in Lithuania that missed the criterion by a mere
0.1 – percentage point in 2006 – the country’s application was rejected primarily on
sustainability grounds. With the bene?t of the hindsight, this seems like a good decision:
in?ation in Lithuania accelerated to more than 11 percent at end 2008.
2. We use the December vintage of consensus forecast surveying in?ation predictions for the
end-period of the following year.
3. See the ECB’s HICP available at: www.ecb.int/stats/prices/hicp/html/hicp_economic_
activities_inw_2009.en.html
References
Ahearne, A. and Pisani-Ferry, J. (2006), “The euro: only for the Agile”, Bruegel Policy Brief,
Bruegel, Brussels, available at: www.bruegel.org/doc_pdf_291
Angeloni, I. and Ehrmann, M. (2004), “Euro area in?ation differentials”, ECB Working
Paper 388, European Central Bank, Frankfurt, available at: www.ecb.int/pub/pdf/scpwps/
ecbwp388.pdf
Balassone, F., Franco, D. and Zotteri, S. (2007), “The reliability of EMU ?scal indicators: risks
and safeguards”, Temi di discussione No. 633, Banca d’Italia, Rome, available at: www.
bancaditalia.it/pubblicazioni/econo/temidi/td07/td633_07/en_td633
JFEP
1,4
366
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Beggs, J. (2000), “ECB looks to Irish Government to tackle in?ation”, Allied Irish Banks Global
Treasury Economic Research, Allied Irish Banks, Dublin, available at: www.johnbeggs.
com/jb/comment.asp?0404200033
Berg, A., Karam, P. and Laxton, D. (2006), “A practical model-based approach to monetary policy
analysis – overview”, IMF Working Paper 06/81, International Monetary Fund,
Washington, DC, available at: www.imf.org/external/pubs/ft/wp/2006/wp0681.pdf
Blanchard, O. (2007), “Adjustment within the euro. The dif?cult case of Portugal”, Portuguese
Economic Journal, Vol. 6, pp. 1-21.
Buiter, W.H. (2004), “To purgatory and beyond: when and how should the accession countries
from Central and Eastern Europe become full members of EMU?”, CEPR Discussion
Paper 4342, Centre for Economic Policy Research, London.
Bul? ´r?, A. and Hurn? ´k, J. (2006), “The Maastricht in?ation criterion: how unpleasant is
purgatory?”, IMF Working Paper 06/154, International Monetary Fund, Washington, DC,
available at: www.imf.org/external/pubs/ft/wp/2006/wp06154.pdf
Bul? ´r?, A. and Hurn? ´k, J. (2008), “Why has in?ation in the European Union stopped converging?”,
Journal of Policy Modeling, Vol. 30 No. 2, pp. 341-7.
Cecchetti, S. and Ehrmann, M. (1999), “Does in?ation targeting increase output volatility?
An international comparison of policymakers’ preferences and outcomes”, NBER Working
Paper Series No. 7426, National Bureau of Economic Research, Cambridge, MA.
Chionis, D.P. and Leon, C.A. (2006), “Interest rate transmission in Greece: did EMU cause
a structural break?”, Journal of Policy Modeling, Vol. 28, pp. 453-66.
Ciccarelli, M. and Rebucci, A. (2006), “Has the transmission mechanism of European monetary
policy changed in the run-up to EMU?”, European Economic Review, Vol. 50, pp. 737-76.
ECB (2000), Convergence Report 2000, European Central Bank, Frankfurt, available at: www.
ecb.int/pub/pdf/conrep/cr2000en.pdf
EU (1992), “The Maastricht treaty: provisions amending the treaty establishing the European
economic community with a view to establishing the European community”, available at:
www.eurotreaties.com/maastrichtec.pdf
European Trade Union Confederation (2006), “ETUC calls on euro area ?nance ministers to end
the ‘cycle of madness’ so as to protect the recovery in the European economy”, Economic,
Monetary and Fiscal Policies press release, European Trade Union Confederation,
Brussels, March 12, available at: www.etuc.org/a/2180
Fitch (2007), EMU Convergence Report – Sovereigns, Fitch Ratings, New York, NY, available at:
www.?tch.fr/pdf/rapports/sup_rap_6.pdf
Goldberg, L.S. and Klein, M.W. (2005), “Establishing credibility: evolving perceptions of the
European Central Bank”, NBER Working Paper, Vol. 11792, NBER, Cambridge, MA.
IMF (2005), Aide-Me´moire, IMF Staff Visit to the Republic of Latvia, November 30-December 2,
2005, International Monetary Fund, Washington, DC, available at: www.imf.org/external/
np/ms/2005/120205a.htm
IMF (2007), Slovak Republic: 2007 Article IV Consultation – Staff Report, International Monetary
Fund, Washington, DC, available at: www.imf.org/external/pubs/ft/scr/2007/cr07226.pdf
Koen, V. and van den Noord, P. (2005), “Fiscal Gimmickry in Europe: one-off measures and
creative accounting”, Economics Department Working Papers, No. 417, OECD, Paris,
available at: www.olis.oecd.org/olis/2005doc.nsf/linkto/eco-wkp(2005)4.
Mody, A. and Ohnsorge, F. (2007), “Can domestic policies in?uence in?ation?”, IMF Working
Paper 07/257, International Monetary Fund, Washington, DC, available at: www.imf.org/
external/pubs/ft/wp/2007/wp07257.pdf
In?ation
convergence in
the euro area
367
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Ozkan, F.G., Sibert, A. and Sutherland, A. (2004), “Monetary union and the Maastricht in?ation
criterion: the accession countries”, Economics of Transition, Vol. 12, pp. 635-52, available
at: www.blackwell-synergy.com/doi/pdf/10.1111/j.0967-0750.2004.00197.x
Papademos, L. (2007), “In?ation and competitiveness divergences in the euro area countries:
causes, consequences and policy responses”, paper presented at the Conference The ECB
and its Watchers IX, Frankfurt, September, available at: www.ecb.int/press/key/date/
2007/html/sp070907_2.pdf
Pisani-Ferry, J. and Sapir, A. (2006), “Last exit to Lisbon”, Bruegel Policy Brief, Breugel, Brussels,
available at: www.bruegel.org/1422
Rumler, F. (2007), “Estimates of the open economy new Keynesian Phillips curve for euro area
countries”, Open Economies Review, Vol. 18, September, pp. 427-51.
Slovak National Bank (2005), Medium-Term Forecast, Slovak National Bank, Bratislava,
available at: www.nbs.sk/MPOL/PREDIK/2005-2A.PDF
Stavrev, E. (2007), “Growth and in?ation dispersions in EMU: reasons, the role of adjustment
channels, and policy implications”, IMF Working Paper 07/167, International Monetary
Fund, Washington, DC, available at: www.imf.org/external/pubs/ft/wp/2007/wp07167.pdf
Taylor, J.B. (1993), “Discretion versus policy rules in practice”, Carnegie-Rochester Conference
Series on Public Policy, Vol. 39, December, pp. 195-220.
Walsh, C. (2003), Monetary Economics: Theory and Policy, MIT Press, Cambridge, MA.
Wyplosz, C. (1997), “EMU: why and how it might happen”, Journal of Economic Perspectives,
Vol. 11, Fall, pp. 3-21.
Appendix. The model
The model used in our simulations is as follows:
y
t
¼ a
1
y
t21
2a
2
r
t21
þ a
3
q
t21
þ u
t
ðA1Þ
p
t
¼ b
1
ðb
2
p
t21
þ ð1 2b
2
ÞE
t
p
tþ1
Þ þ ð1 2b
1
Þp
imp
t21
þgy
t21
þh
t
ðA2Þ
p
imp
t
¼ m
1
p
imp
t21
þ ð1 2m
1
Þðp
*
t21
þDs
t21
Þ ðA3Þ
E
t
p
tþ1
¼ e
1
p
e
tþ1
þ ð1 2e
1
Þp
t21
ðA4Þ
Ds
tþ1
¼ c
1
Ds
t
þ ð1 2c
1
Þðir
t
2ir
*
t
2prem
t
Þ þ n
t
ðA5Þ
i
t
¼ d
1
i
t21
þ ð1 2d
1
Þðp
e
tþ1
þ d
2
ðp
e
tþ1
2p
T
Þ þ d
3
y
t
Þ þ 1
t
ðA6Þ
ir
t
¼ f
1
ir
t21
þ ð1 2f
1
Þ
i
t
þ i
tþ1
þ i
tþ2
þ i
tþ3
4
ðA7Þ
r
t
¼ ir
t
2E
t
p
tþ1
ðA8Þ
q
t
¼ q
t21
þ
Ds
t
þ p
*
t
2p
t
4
ðA9Þ
where equations (A1)-(A9) represent aggregate demand, aggregate supply, import price formation,
in?ation expectations formation, uncovered interest rate parity, policy reaction function, interest
rate term structure, Fisher equation, and real exchange rate formation, respectively. Table AI
de?nes the model variables. For the country-speci?c calibrations see Bul? ´r? and Hurn? ´k (2006).
JFEP
1,4
368
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Corresponding author
Ales? Bul? ´r? can be contacted at: [email protected]
y
t
The deviation of the log output from its steady state level
r
t
The deviation of the long-term real interest rate from its steady state level
q
t
The deviation of the real exchange rate from its steady state level
p
t
In?ation, quarter-to-quarter change of the price level
E
t
p
tþ1
In?ation expectations
p
e
tþ1
Model consistent in?ation expectations
p
imp
t
The rate of growth of import prices
D
St
The change in the nominal exchange rate
i
t
The short-term (three-month) nominal interest rate is the policy rate
ir
t
The long-term nominal interest rate
p
*
t
Foreign in?ation
ir
*
t
The foreign long-term nominal interest rate
Table AI.
Model variables
In?ation
convergence in
the euro area
369
To purchase reprints of this article please e-mail: [email protected]
Or visit our web site for further details: www.emeraldinsight.com/reprints
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
This article has been cited by:
1. Katerina Smídková, Jan Babecky, Ales Bulir. 2010. Sustainable Real Exchange Rates in the New Eu
Member States: What Did the Great Recession Change?. IMF Working Papers 10, 1. [CrossRef]
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
1
:
3
7
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
doc_975937118.pdf