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The Estimated Effects of the Euro on Trade: Why Are They Below Historical Effects of Monetary Unions Among Smaller Countries?

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  • Jeffrey A. Frankel

Abstract

Andy Rose (2000), followed by many others, has used the gravity model of bilateral trade on a large data set to estimate the trade effects of monetary unions among small countries. The finding has been large estimates: Trade among members seems to double or triple, that is, to increase by 100-200%. After the advent of EMU in 1999, Micco, Ordoñez and Stein and others used the gravity model on a much smaller data set to estimate the effects of the euro on trade among its members. The estimates tend to be statistically significant, but far smaller in magnitude: on the order of 10-20% during the first four years. What explains the discrepancy? This paper seeks to address two questions. First, do the effects on intra-euroland trade that were estimated in the euro's first four years hold up in the second four years? The answer is yes. Second, and more complicated, what is the reason for the big discrepancy vis-à-vis other currency unions? We investigate three prominent possible explanations for the gap between 15% and 200%. First, lags. The euro is still very young. Second, size. The European countries are much bigger on average than most of those who had formed currency unions in the past. Third, endogeneity of the decision to adopt an institutional currency link. Perhaps the high correlations estimated in earlier studies were spurious, an artifact of reverse causality. Contrary to expectations, we find no evidence that any of these factors explains a substantial share of the gap, let alone all of it.

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  • Jeffrey A. Frankel, 2008. "The Estimated Effects of the Euro on Trade: Why Are They Below Historical Effects of Monetary Unions Among Smaller Countries?," NBER Working Papers 14542, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:14542
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    Cited by:

    1. Tomáš Havránek, 2010. "Rose effect and the euro: is the magic gone?," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 146(2), pages 241-261, June.
    2. Tomáš Havránek, 2009. "Rose Effect and the Euro: The Magic is Gone," Working Papers IES 2009/20, Charles University Prague, Faculty of Social Sciences, Institute of Economic Studies, revised Aug 2009.
    3. Christian Saint-Étienne, 2010. "Le futur de l’euro," Revue d'Économie Financière, Programme National Persée, vol. 97(2), pages 185-207.
    4. Santana-Gallego, María & Ledesma-Rodríguez, Francisco J. & Pérez-Rodríguez, Jorge V., 2016. "International trade and tourism flows: An extension of the gravity model," Economic Modelling, Elsevier, vol. 52(PB), pages 1026-1033.
    5. Ball, Laurence, 2010. "The Performance of Alternative Monetary Regimes," Handbook of Monetary Economics,in: Benjamin M. Friedman & Michael Woodford (ed.), Handbook of Monetary Economics, edition 1, volume 3, chapter 23, pages 1303-1343 Elsevier.
    6. Fritz Breuss, 2009. "Ten Years of EMU – Achievements, Drawbacks and Challenges," WIFO Monatsberichte (monthly reports), WIFO, vol. 82(1), pages 61-84, January.
    7. Wong, Kin-Ming & Chong, Terence Tai-Leung, 2016. "Does monetary policy matter for trade?," International Economics, Elsevier, vol. 147(C), pages 107-125.
    8. Antoine Berthou & Hélène Ehrhart, 2017. "Trade networks and colonial trade spillovers," Review of International Economics, Wiley Blackwell, vol. 25(4), pages 891-923, September.
    9. Fritz Breuss, 2009. "Ten Years of EMU – Achievements, Weaknesses, Challenges," Austrian Economic Quarterly, WIFO, vol. 14(1), pages 49-72, April.
    10. Atish R. Ghosh & Mahvash S Qureshi & Charalambos G Tsangarides, 2014. "Friedman Redux; External Adjustment and Exchange Rate Flexibility," IMF Working Papers 14/146, International Monetary Fund.
    11. Popov, Vladimir, 2010. "To devalue or not to devalue? How East European countries responded to the outflow of capital in 1997-99 and in 2008-09," MPRA Paper 28112, University Library of Munich, Germany.
    12. Martina Cecioni, 2010. "External trade and monetary policy in a currency area," Temi di discussione (Economic working papers) 738, Bank of Italy, Economic Research and International Relations Area.
    13. Buongiorno, Joseph, 2015. "Monetary union and forest products trade – The case of the euro," Journal of Forest Economics, Elsevier, vol. 21(4), pages 238-249.
    14. Jayjit Roy, 2014. "On the robustness of the trade-inducing effects of trade agreements and currency unions," Empirical Economics, Springer, vol. 47(1), pages 253-304, August.
    15. Mahvash S Qureshi & Charalambos G Tsangarides, 2010. "The Empirics of Exchange Rate Regimes and Trade; Words vs. Deeds," IMF Working Papers 10/48, International Monetary Fund.
    16. Alexandra Hudson & Bas Straathof, 2010. "The Declining Impact of Exchange Rate Volatility on Trade," De Economist, Springer, vol. 158(4), pages 361-372, November.
    17. Martínez-Zarzoso, Inmaculada, 2017. "The Euro and the CFA Franc: Evidence of sectoral trade effects," Center for European, Governance and Economic Development Research Discussion Papers 311, University of Goettingen, Department of Economics.

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    JEL classification:

    • F01 - International Economics - - General - - - Global Outlook
    • F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions
    • F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance

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