Exchange Rate Uncertainty and the Microeconomic Benefits of Emu
Stockholm School of Economics Working Paper Series in Economics and Finance No. 127
Posted: 16 Jan 1997
Date Written: September 1996
This paper attempts to review the argument that EMU leads to benefits from lower exchange rate uncertainty. Two questions are addressed. First, there is the microeconomic question of how exchange rate uncertainty affects firms. Second, there is the macroeconomic question of how EMU affects uncertainty. Most of the paper is devoted to the first question. For instance, we study correlations between exchange rates on the one hand and stock prices and output prices on the other. The following facts speak against the idea that EMU will be beneficial for Swedish firms: firms can adjust to exchange rate uncertainty, for instance by pricing-to-market; exchange rate changes may work as "automatic stabilizers;" there is no strong empirical evidence that exchange rate uncertainty hampers trade, investment or growth; and important Swedish trading partners, like the U.S., the U.K. and Denmark, are not likely to participate in the monetary union in the near future. For EMU speak the facts that exchange rate uncertainty stems from policy uncertainty, which may be lower inside EMU; that EMU may lower protectionist pressures; and, in particular, that it is very hard for firms to hedge against total economic exchange rate risk (as opposed to mere transaction risk).
JEL Classification: F20, F33
Suggested Citation: Suggested Citation