Question

6. “Currency union is a merger of the currencies of a number of countries to form a single currency such as the Euro zone.” a) Discuss three advantages of a currency union. b) Discuss two disadvantages of a currency union.

Answer 1

Currency Union is a group of countries sharing a single currency. There is a misunderstanding that currency unions are a product of globalization in the 20th century, but this is not true. We have existed since Roman times, but as a global financial system we have not yet been embraced. Although it has many benefits, the explanation is that it also has few drawbacks.

a. Advantages are

Transaction cost:-The most important advantage of converting to a single currency was eliminating the need for currency change. Savings are very high due to the reduction of transaction costs associated with the exchange currency, the taxes on countries that only have the bulk of exports to European counties. To reach economies of scale, the significant decrease in the price of production will be most beneficial to small businesses. "EMU leaders are projected to save as much as $30 billion a year by moving to the euro

Investment:-As there is low transaction cost there is large amount of investment because companies now this is one of the most important decreases in the cross border investment. As in France, foreign direct investment has risen from 12% to 18%, this has led to large cross-border investment. The disappearance of transaction costs and the introduction of the common currency will deepen and integrate the money market. The euro protects the major financial institutions, which in turn encourages potential investors to gain trust in various EU financial markets. The mix of the market provides different links to dilute the threat in the EMU.

Stability of the exchange rate (common currency):-Common currency provides a forum for judging the market link, "making price difference more apparent and helping to equalize it across borders. .In addition to removing the need for currency change, there is also a problem with exchange rate volatility. When the price fluctuates, it also affects the company's competitiveness and increases the risk, which in turn diminishes the country's net investment. It is therefore beneficial for a corporation to join a currency union in order to stabilize the situation. By a factor of three, having the same currency can improve trade.

b. Loss of sovereignty: –It means that countries that adopt the common currency should relinquish monetary policy to the entity which governs the union. As in the case of European Union, all 12 countries had to surrender their monetary rights to the European Central Bank and agree on monetary policies for the entire nation. During the crisis, the greatest disadvantages come when the situation in all the different countries is different and can not be treated in the same way. As in the case of a drastic increase in unemployment, the government's revenue will drop even taxes are not charged, so the government will have to increase the taxes that will lead to a further decline in interest rates during the crisis. So it's very difficult to be in a monetary union

The Monetary Union's other drawbacks are as follows, one of the greatest disadvantages is the language gap, which in turn leads to a decline in labor mobility. "Language in Europe is a huge barrier to labor mobility. This can lead to clusters of deeply depressed areas where people are unable to find work. The currency union countries often lose the ability to withstand external shocks. It has to do it on its own, so it's very hard to be rectified in today's time.