Is the ‘Euro Effect’ on Trade So Small After All? New Evidence Using Gravity Equations With Panel Cointegration Techniques

Abstract

In this paper we present new evidence on the aggregate effect of the euro on trade using data for 26 OECD countries for the period 1967–2008. We strive to fill the gaps present in the previous literature through a second-generation panel cointegration tests and estimators that account for both cross-section dependence in the data and discontinuities in the deterministic and the cointegrating vector in the time dimension. This approach allows us to put the adoption of the euro by EMU members in historical perspective. We argue that the creation of the EMU is best interpreted as a progression of policy changes. Once we control for all of them the euro effect decreases considerably but is still significant.

Keywords: Gravity Models, Trade, Panel Cointegration, Common Factors, Structural Breaks, Cross-Section Dependence

JEL Classification: C12, C22, F15, F10