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Reviewing adjustment dynamics in EMU: from overheating to overcooling

Author

Listed:
  • Servaas Deroose
  • Sven Langedijk
  • Werner Roeger

Abstract

This paper analyses how adjustment dynamics, in an environment with some degree of price and wage rigidity, may create and strengthen asymmetric developments in a monetary union. It presents a simple illustrative model of adjustment dynamics that reproduces quite nicely actual developments in the first years of EMU. The model is used to analyse adjustments to two types of shocksrelative competitiveness shifts and demand disturbances. It is shown that the interaction between real exchange rate adjustment and real interest rate developments may contribute to periods of overheating and overcooling during which output might be for a number of years either above or below potential.Furthermore, the paper looks at the circumstances in which smooth adjustment to shocks can be expected and, on the other hand, when a cycle with greater amplitude is more likely. Finally, the paper examines policy options that could improve the functioning of EMU. The analysis provides another strong argument for pressing ahead with reforms that increase flexibility in labour and product markets and further integrate the economies of the euro area.

Suggested Citation

  • Servaas Deroose & Sven Langedijk & Werner Roeger, 2004. "Reviewing adjustment dynamics in EMU: from overheating to overcooling," European Economy - Economic Papers 2008 - 2015 198, Directorate General Economic and Financial Affairs (DG ECFIN), European Commission.
  • Handle: RePEc:euf:ecopap:0198
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    References listed on IDEAS

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    Cited by:

    1. Kleczka, Mitja, 2015. "Monetary Policy, Fiscal Policy, and Secular Stagnation at the Zero Lower Bound. A View on the Eurozone," MPRA Paper 67228, University Library of Munich, Germany.
    2. Michael D. Bordo & Lars Jonung & Agnieszka Markiewicz, 2013. "A Fiscal Union for the Euro: Some Lessons from History ," CESifo Economic Studies, CESifo, vol. 59(3), pages 449-488, September.
    3. Catherine Mathieu & Henri Sterdyniak, 2010. "European Debt Crisis and Fiscal Exit Strategies," Sciences Po publications 2010-11, Sciences Po.
    4. Ivo J.M. Arnold & Jan J.G. Lemmen, 2008. "Inflation Expectations and Inflation Uncertainty in the Eurozone: Evidence from Survey Data," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 144(2), pages 325-346, July.
    5. Catherine Mathieu & Henri Sterdyniak, 2007. "How to Deal With Economic Divergences in EMU?," European Journal of Economics and Economic Policies: Intervention, Edward Elgar Publishing, vol. 4(2), pages 281-307.
    6. Catherine Mathieu & Henri Sterdyniak, 2014. "Redemption?," Revue de l'OFCE, Presses de Sciences-Po, pages 51-91.
    7. Catherine Mathieu & Henri Sterdyniak, 2007. "Comment expliquer les disparités économiques dans l'UEM ?," Revue de l'OFCE, Presses de Sciences-Po, pages 315-352.
    8. Traistaru-Siedschlag, Iulia, 2007. "Macroeconomic Adjustment in Ireland under the EMU," Quarterly Economic Commentary: Special Articles, Economic and Social Research Institute (ESRI), vol. 2007(1-Spring), pages 78-92.
    9. Ulrich Fritsche & Camille Logeay & Kirsten Lommatzsch & Katja Rietzler & Sabine Stephan & Rudolf Zwiener unter Mitarb. von Cansel Kiziltepe & Christian Proano-Acosta, 2005. "Auswirkungen von länderspezifischen Differenzen in der Lohn-, Preisniveau- und Produktivitätsentwicklung auf Wachstum und Beschäftigung in den Ländern des Euroraums: Endbericht ; Forschungsprojekt im ," DIW Berlin: Politikberatung kompakt, DIW Berlin, German Institute for Economic Research, volume 8, number pbk8.
    10. Catherine Mathieu & Henri Sterdyniak, 2014. "In search of a better governance in the euro area," Sciences Po publications info:hdl:2441/63g6fe7kgp8, Sciences Po.
    11. Patrick Honohan & Anthony J. Leddin, 2006. "Ireland in EMU - More Shocks, Less Insulation?," The Economic and Social Review, Economic and Social Studies, vol. 37(2), pages 263-294.
    12. Andrzej Toroj, 2009. "Macroeconomic adjustment and heterogeneity in the euro area," NBP Working Papers 54, Narodowy Bank Polski, Economic Research Department.
    13. repec:dau:papers:123456789/12010 is not listed on IDEAS
    14. repec:dau:papers:123456789/5515 is not listed on IDEAS
    15. Staehr, Karsten & Vermeulen, Robert, 2016. "How competitiveness shocks affect macroeconomic performance across euro area countries," Working Paper Series 1940, European Central Bank.
    16. Ernst, Ekkehard & Gong, Gang & Semmler, Willi & Bukeviciute, Lina, 2006. "Quantifying the impact of structural reforms," Working Paper Series 666, European Central Bank.
    17. Arnold, Ivo J.M. & Soederhuizen, Beau, 2016. "Internal or external devaluation? What does the EC Consumer Survey tell us about macroeconomic adjustment in the Euro area?," Journal of International Money and Finance, Elsevier, vol. 64(C), pages 88-103.
    18. Zsolt Darvas & György Szapáry, 2008. "Euro Area Enlargement and Euro Adoption Strategies," European Economy - Economic Papers 2008 - 2015 304, Directorate General Economic and Financial Affairs (DG ECFIN), European Commission.
    19. Marko Lah & Tjaša Redek & Andrej Sušjan, 2008. "The Changing Role of the Labour Market within the EMU: the Case of Slovenia," Transition Studies Review, Springer;Central Eastern European University Network (CEEUN), pages 375-387.
    20. Christian Proaño Acosta, 2007. "Inflation Differentials and Business Cycle Fluctuations in the European Monetary Union," IMK Working Paper 05-2007, IMK at the Hans Boeckler Foundation, Macroeconomic Policy Institute.
    21. Dennis Bonam & Gavin Goy, 2017. "Home biased expectations and macroeconomic imbalances in a monetary union," DNB Working Papers 556, Netherlands Central Bank, Research Department.
    22. Afflatet, Nicolas, 2014. "European Monetary Policy in the Heterogeneous Currency Area and the Open Question of Convergence," EconStor Preprints 93382, ZBW - German National Library of Economics.
    23. Constantinos Alexiou, 2011. "“When the Bough Breaks” Making Sense of the Greek Economic ‘Waterloo’," International Journal of Economics and Financial Issues, Econjournals, vol. 1(3), pages 123-132, September.
    24. Barrett, Alan & Bergin, Adele & FitzGerald, John & Traistaru-Siedschlag, Iulia, 2006. "Economic Assessment of the Euro Area: Forecasts and Policy Analysis, Autumn Report 2006," Research Series, Economic and Social Research Institute (ESRI), number sustat22.
    25. Catherine Mathieu & Henri Sterdyniak, 2011. "Finances publiques, sorties de crise…," Sciences Po publications info:hdl:2441/5l6uh8ogmqi, Sciences Po.

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