Mundell Revisited: A Simple Approach to the Costs and Benefits of a Single Currency Area

18 Pages Posted: 29 Sep 2003

See all articles by Stephen Ching

Stephen Ching

School of Economics and Finance, The University of Hong Kong

Michael B. Devereux

University of British Columbia (UBC) - Department of Economics; Centre for Economic Policy Research (CEPR)

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Abstract

The paper evaluates the costs and benefits of a single currency area within a unified framework. Conventionally, it is argued that a single currency area carries a welfare loss owing to the sacrifice of exchange rate adjustment in the presence of country-specific shocks. But in 1973 Mundell argued that a single currency area offers risk-sharing benefits when capital markets are limited in their ability to facilitate consumption insurance. The authors construct a simple model and compare a system of independent national currencies to a single currency area. The presence of country-specific shocks may either reduce or enhance the benefits of a single currency area, depending on the importance of exchange rate adjustment relative to risk-sharing. In a simple quantitative analysis, we find that either regime may dominate, although the utility differences between the two regimes are very small.

Suggested Citation

Ching, Stephen and Devereux, Michael B., Mundell Revisited: A Simple Approach to the Costs and Benefits of a Single Currency Area. Available at SSRN: https://ssrn.com/abstract=450974

Stephen Ching (Contact Author)

School of Economics and Finance, The University of Hong Kong ( email )

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Michael B. Devereux

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Centre for Economic Policy Research (CEPR)

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