European Monetary Union, Convergence and Sustainability

JEL-Keywords: International Monetary Arrangements and Institutions.
JEL-Classification: F33.

A country’s decision to join EMU depends on cost-benefit considerations. All benefits increase with the size of EMU. Costs are related to policy preferences.This paper explains the concept an optimal EMU.


A good and solid currency which inspires confidence will produce the following benefits to members:

  • Transaction cost savings through the single currency increase with the size of the market.
  • A larger currency area has financial advantages over a small zone. The overall effect will be better liquidity and price efficiency. Interest rates will structurally come down.
  • A large currency with deep financial markets will be more easily used in international transactions. Economies of scale will increase European companies’ competitiveness in the world market.
  • Removing exchange rate uncertainty will further reduce risk premia in real interest rates and lead to increased investment and growth. The larger the currency zone the greater the gains.


The cost of joining a monetary union can be short-term or long-term. Consequently, the evaluation of costs and benefits of EMU differs with respect to the prominance of short term policy objectives over the long term objectives.

  • The costs of abandoning the exchange rate instrument are short term. But in the long run, devaluation in response to a shock leads to inflation, higher interest rates and real wage resistence. Therefore the exchange rate instrument is inefficient in long run. Therefore, giving up the exchange rate is no cost in the long term, but a benefit.
  • In the long run, costs from joining a monetary union would only arise if the quality of the currency’s purchasing power would be insufficient to keep peoples trust to use the currency. Therefore, sustainable EMU requires maintaining price stability.
  • The convergence process over the last decade indicates that policy preferences have converged in favour of long term price stability. Inflation rates and interest rates have reached historical lows and the exchange rates have been stable for a sufficiently long period. Markets trust that the Euro will be a good and stable currency.

In conclusion, all countries must have an interest in making EMU a large currency area, as net benefits will rise with size.

The convergence criteria achieved according to the Maastricht treaty reflect a significant convergence of policy preferences for stability. This assures initial stability of the Monetary Union.

  • Given that the net benefits of EMU are in the long run dependent on the maintenance of a good and stable currency, it would be against each EMU-member’s own interest to behave in a manner inconsistent with long-term price stability.
  • Besides the economic advantages, membership in the Union also brings the benefit of being able to influence the preferences and decisions of other members. This «voice-option» is an additional incentive to join and stay in EMU.
  • Transitory shocks are not a threat to EMU’s sustainability, even if they cause temporary (short term) losses. For the short term gain of leaving the Union must be compared with the expected persistent future gains within the Union after the shock has disappeared.
  • The costs of leaving the Union are higher than the costs of joining. Not only would a country lose the advantage of a large currency, but since the Treaty on European Union makes no provision for retiring from EMU, re-imposing a national currency would imply a breach of the Treaty. Most likely, this would lead to a hostile environment, which may disrupt other benefits related to being part of the European Union.
  • As long as price stability is maintained, monetary and economic policies regain efficiency. This fact will also contribute to more economic growth, higher employment and an easier political environment for structural reforms.

In conclusion, the convergence path to EMU seems to have been a painful purgatory to a better life in EMU. Whether paradise is eternal remains to be seen.

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