EU Economics: How far is the Eurozone away from being an OCA?

There‘s no shortage of reasons these days for Euro-sceptics to argue against the UK joining the Euro zone and take on the Euro.

Data from Timetric.

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Sterling vs Euro exchange rate, daily from Timetric

Many would argue that by having your own currency and allowing sterling to depreciate has in fact boosted net exports at a time when all other components of aggregate demand have been muted during the downturn.

However, perhaps the strongest argument is that in order for a currency union to work, the proposed region needs to be an optimum currency area. and the Euro zone is still some way of achieving this status.

In order to be an OCA, amongst other things, the region must be prepared to use fiscal transfers to even out some of the regional economic imbalances within the European currency union, something until relatively recently, some countries have been reluctant to do.

Perhaps due to certain countries perceived fiscal profligacy and mismanagement over the years, the idea of bailing out the irresponsible by the more prudent has been a difficult idea to sell to tax-payers.

In order to join the Euro zone, prospective members must sign the so-called Stability and Growth Pact, whereby no member country is allowed to have budget deficits exceeding 3% of GDP, nor have public debt above 60% of GDP.

The chart below and found here, highlights 97 cases of deficits of EU members exceeding 3%.

According to the post, two-thirds of these breaches were not justified and went by unpunished thus damaging the credibility of the union. Meanwhile “debts and deficits grew unhindered” until the mismanagement was exposed and this second wave of the crisis unfolded.

In order for the Euro zone to function there needs to be some degree of fiscal integration and the article above looks at the establishment of the European Stability Mechanism and how it should be implemented in order to move a step closer to being an effective OCA. The BBC reported here on the decision to expand the same fund.