Deck 20: Common Currency Areas and European Monetary Union

Question 1

Initially, the European Union consisted of which six countries?

A)Belgium, France, Germany, Luxembourg, the Netherlands and the UK.
B)Belgium, Denmark, France, Germany, Italy, and Luxembourg.
C)Belgium, France, Germany, Italy, the Netherlands and Spain.
D)Belgium, France, Germany, Italy, Luxembourg and the Netherlands.

Answer 1

Belgium, France, Germany, Italy, Luxembourg and the Netherlands.

Question 2

The people who lost their jobs working on currency transactions when the euro came into being represented a significant cost of adopting the euro.

Answer 2

False

Question 3

Which of the following does NOT illustrate the benefit of reduced exchange rate variability that comes with the adoption of a single currency?

A)An Austrian carpet retailer that had previously limited its imports of Belgian carpets because of the uncertainty of the future value of the Belgian franc now imports more Belgian carpet.
B)A Spanish bank that had previously not had a subsidiary in Italy because of the unpredictability of the future value of the Italian lira now buys an Italian bank.
C)A German bakery company that had previously paid its bank in order to buy French francs forward to pay for imports of French wheat no longer incurs the cost of engaging in forward foreign exchange contracts.
D)An Italian company that had not previously imported Dutch flowers because there was little demand for them now begins to import flowers from the Netherlands and promote them heavily.

Answer 3

An Italian company that had not previously imported Dutch flowers because there was little demand for them now begins to import flowers from the Netherlands and promote them heavily.

Question 4

There is a high degree of flexibility in real wages and a highly mobile labour force in most EU countries.

Question 5

The free rider problem that arises in a currency union is that a member government that borrows heavily may not be obliged to pay as high a rate of interest on its borrowing as it would if it were not a member of the currency union, while the other governments of the currency union find the financial markets require them to pay higher interest on their borrowing because of the high borrowing of one of their neighbours.

Question 6

Some of the criteria for deciding whether a group of economies constitute an optimum currency area are probably endogenous.

Question 7

Which one of these benefits of a single currency is NOT correctly explained?

A)Using a single currency reduces price discrimination because companies will be obliged by law to charge the same prices for their goods in the different countries of the currency union.
B)None of the benefits of a single currency described in these answers is incorrectly explained.
C)Using a single currency reduces transaction costs involved in trade between members of a common currency area, and the resources that are no longer employed in working on currency transactions can be used more productively to produce other goods and services.
D)Using a single currency eliminates exchange rate variability for companies trading with other members of the common currency area, and so companies may engage in more of this trade, and they can also eliminate the cost of entering into forward foreign exchange contracts with banks.

Question 8

All members of the EU belong to the common currency area.

Question 9

Since the European EMU was established, the degree of capital market integration among EMU member countries has increased substantially at both the level of the wholesale financial markets and the level of the retail financial markets.

Question 10

If two countries, A and B, have separate currencies and there is a shift in consumer preferences away from the goods of country A and towards those of country B, then

A)there will be an increase in inflation in country A.
B)the foreign exchange value of country A's currency is likely to rise, thus making country A's goods relatively more expensive and worsening the reduction in aggregate demand in country A.
C)the foreign exchange value of country A's currency is likely to fall, thus making country A's goods relatively cheaper and offsetting the reduction in aggregate demand in country A.
D)there will be a fall in aggregate demand in country B.

Question 11

Which of the following countries is not a member of the EMU?

A)Ireland.
B)Germany.
C)United Kingdom.
D)Belgium.

Question 12

The major cost to the UK of joining the euro would be the loss of the freedom for the country to set its own monetary policy and the loss of the possibility of needed adjustments in the UK economy being achieved through changes in the foreign exchange value of the UK currency.

Question 13

Eurozone countries in breach of the excessive deficit criterion could be subject to a fine of up to 1% of their GDP under the Stability and Growth Pact.

Question 14

In the context of the Single European Market project, the single European Currency was seen as a final step towards completing the single market.

Question 15

Which of the following best illustrates the elimination of transaction costs that result from the adoption of the euro as the single European currency?

A)When a German company imports French wine it no longer needs to use a bank in completing the transaction.
B)When a German company makes purchasing plans that involve importing French wine it knows exactly what the cost will be in terms of its own currency.
C)When a German company imports French wine it no longer has to pay a tariff on the wine.
D)When a German company imports French wine it no longer has to pay a charge for converting German currency into French currency.

Question 16

Because international capital flows are so huge, currency pegs such as the Exchange Rate Mechanism are always vulnerable to speculative attacks.

Question 17

Which one of the following is rightly considered a cost of a single currency?

A)The loss of the freedom for countries joining the single currency to set their own fiscal policies.
B)The loss of the freedom for countries joining the single currency to set their own monetary policies.
C)Higher unemployment.
D)The loss of jobs involved in currency transactions.
E)Higher inflation.

Question 18

Which of the following was not a goal of the EU in passing the 1986 Single European Act to complete the Single European Market?

A)The approximation of relevant laws, regulations and administrative provisions between member states.
B)A common, EU-wide competition policy, administered by the European Commission.
C)A common, EU-wide agricultural policy.
D)The free movement of goods, services, labour and capital between EU member states.
E)A system of common external tariffs implemented against countries that are not members of the EU.

Question 19

Before the EMU was established, most EU member countries participated in a regional bloc called the

A)European Common Currency Area.
B)Exchange Rate Model.
C)European Monetary Union.
D)Exchange Rate Mechanism.
E)European Union Mechanism.

Question 20

EMU stands for

A)economic and monetary union.
B)European monetary union.
C)euro monetary union.
D)All of the above.

Question 21

Which one of the following is not an argument in support of the UK joining the EMU?

A)None of these arguments - they are all arguments in support of the UK joining the EMU.
B)The characteristics of the UK housing market make UK consumers' expenditure very sensitive to changes in interest rates.
C)The UK risks exclusion from the Euroland capital market with damaging consequences for the City of London.
D)The UK needs to be a member of the EMU in order to continue to attract such a large share of foreign direct investment in EU countries.
E)The UK would benefit from increased trade with the eurozone countries, boosting GDP.

Question 22

A high degree of real wage flexibility will tend to reduce the costs to a country of joining a currency union because

A)all of the reasons given in these answers are correct.
B)real wages fall rapidly in a recession, and the economy moves quickly back to long run equilibrium, so limiting the duration of the recession even when exchange rate adjustment is not possible.
C)workers will move from a country in which aggregate demand falls to other countries of the currency union, and so unemployment remains lower than it otherwise would.
D)real wages fall, and so offset the inflationary effect of switching from the old currency to the new common currency.

Question 23

Going back to when France and Germany had separate currencies, if there was a shift in demand away from French goods and towards German goods, then

A)there would be an increase in the rate of inflation in France.
B)there would be an increase in unemployment in Germany.
C)the foreign exchange value of the French franc would fall, thus making French goods relatively cheaper, leading to an increase in aggregate demand for France's output that would offset the initial reduction in aggregate demand.
D)the foreign exchange value of the French franc would rise, thus making French goods relatively more expensive and so leading to an reduction in aggregate demand for France's output that would worsen the initial reduction in aggregate demand.

Question 24

Which of the following is a problem for fiscal policy in a currency union?

A)The central bank controls interest rates on long term bonds issued by the governments of the member countries of the currency union.
B)Governments of the member countries of the currency union may run large budget deficits and so crowd out private investment.
C)Governments of the member countries of the currency union may run large budget deficits, and so impose costs on other countries by pushing up interest rates on the bonds these countries' governments issue.
D)It is difficult to raise enough tax revenue to pay for the operation of the currency union.
E)Governments of the member countries of the currency union may run large budget deficits, and so force taxes to be increased across all countries of the currency union.

Question 25

Which one of the following is not a characteristic that reduces the cost of a single currency?

A)Synchronized economic cycles in the countries of the common currency area.
B)A high degree of capital mobility among the countries of the common currency area.
C)A low degree of labour mobility among the countries of the common currency area.
D)A high degree of real wage flexibility.

Question 26

If a government issues an excessive amount of debt then

A)it doesn't matter because the national debt need never be paid back.
B)the financial markets will perceive that the risk of the government concerned defaulting on its loans has risen, and will demand a higher rate of interest to lend to that government.
C)the financial markets will perceive an increased opportunity for profit and reduce the rate of interest demanded to lend to that government.
D)other governments are likely to do the same.

Question 27

A symmetric demand shock is one that

A)will be reversed after a time.
B)affects both workers' wages and profits.
C)both the working population and the non-working population.
D)affects all countries in a currency union.

Question 28

Which of the following could NOT be described as an asymmetric macroeconomic shock?

A)A hurricane that disrupts economic activity in one country only.
B)An epidemic of an animal disease in a country that significantly reduces the country's agricultural output.
C)A sudden and substantial rise in prices on the world oil market.
D)A sudden and substantial fall in the worldwide demand for French wine.

Question 29

What is fiscal federalism?

A)A fiscal system for a group of countries in which fiscal policy is set in a treaty signed by all the countries.
B)A fiscal system for a group of countries in which government budget deficits are strictly limited.
C)A fiscal system for a group of countries involving a common fiscal budget and a system of taxes and fiscal transfers across countries.
D)A fiscal system in which fiscal policy is jointly determined by local and national politicians.
E)A fiscal system for a group of countries in which fiscal policy is set by the central bank.

Question 30

If two countries, A and B, are members of a currency union and there is a shift in consumer preferences away from the goods of country A and towards those of country B, then which one of the following would help to offset the effect of the resulting changes in aggregate demand in A and B on inflation and unemployment in the two countries?

A)A high degree of labour mobility between the two countries.
B)An increase in government spending in country A.
C)A depreciation in the foreign exchange value of the common currency.
D)A low degree of capital mobility between the two countries.
E)A cut in taxes in both countries.

Question 31

If a government issues an excessive amount of debt then

A)it doesn't matter because the national debt need never be paid back.
B)the financial markets will perceive that the risk of the government concerned defaulting on its loans has risen, and will demand a higher rate of interest to lend to that government.
C)the financial markets will perceive an increased opportunity for profit and reduce the rate of interest demanded to lend to that government.
D)other governments are likely to do the same.

Question 32

Fiscal federalism can be argued to be important in a common currency area because

A)it is likely that some member countries of the common currency area will have larger populations than others.
B)fiscal policy is needed to stabilize the economy of any of the member countries of the common currency area if and when a member country is affected by an asymmetric macroeconomic shock.
C)fiscal policy is a controversial issue.
D)central banks cannot be given responsibility for fiscal policy.

Question 33

Which of the following is an asymmetric shock.

A)World oil prices rise substantially.
B)The unions in all the EU countries get together and strike over demands for better pensions.
C)Consumer tastes across Europe change.
D)Floods disrupting economic activity in one country.

Question 34

Which of the following is a problem for monetary policy in a currency union?

A)Money supply is more difficult to control in a currency union.
B)The inflation unemployment trade-off is more unstable in a currency union.
C)All of these answers describe problems for monetary policy in a currency union.
D)The interest rate may be higher than is appropriate for economic conditions in some countries while it's lower than is appropriate in some others - monetary policy must be "one size fits all".
E)Monetary policy will affect the economy with a longer time lag in a large currency union than in a single country.

Question 35

To try to overcome the free rider problem, the members of EMU signed the

A)Stability and Growth Pact.
B)European Solidarity Pact.
C)Exchange Rate Mechanism Pact.
D)Responsibility and Growth Pact.
E)Fiscal Stability Pact.

Question 36

Now that France and Germany use a common currency, if there is a shift in demand away from French goods and towards German goods, then

A)employment is likely to rise in Germany but will fall in France.
B)unemployment will rise in Germany and inflation is likely to rise in France.
C)there will be no macroeconomic effects.
D)the central bank will reduce the interest rate for the common currency.

Question 37

How does the eurozone compare with the USA as a possible optimal currency area (OCA)?

A)The eurozone has a higher degree of labour mobility than the USA, and labour law is much less restrictive in the eurozone than in the USA.On these measures, the eurozone is more likely to be an OCA than is the USA.
B)The eurozone has a lower degree of labour mobility than the USA, and labour law is much more restrictive in the eurozone than in the USA.On these measures, the eurozone is less likely to be an OCA than is the USA.
C)The eurozone has a higher degree of labour mobility than the USA, but labour law is much more restrictive in the eurozone than in the USA.On these measures, it is hard to judge whether the eurozone is more or less likely to be an OCA than is the USA.
D)The eurozone has a lower degree of labour mobility than the USA, but labour law is much less restrictive in the eurozone than in the USA.On these measures, it is hard to judge whether the eurozone is more or less likely to be an OCA than is the USA.

Question 38

Which of the following is a problem for monetary policy in a currency union?

A)Monetary policy will affect the economy with a longer lag than would be the case without the currency union.
B)A "one size fits all" monetary policy may lead to interest rates being too high for some economies in the union, while being too low for others.
C)Money supply is more difficult to control in a currency union than in an individual country.
D)There is more than one central bank.

Question 39

Within a currency union, the financial markets will

A)tend to expect the member governments to support one of their number that is having difficulty in order to avoid seeing that government default on its debt.
B)tend to expect the member governments to remove from the union one of their number that defaults on its debt.
C)no longer be needed to lend to governments.
D)be much better regulated.

Question 40

Which one of the following is a characteristic that increases the benefit of a single currency?

A)A high degree of trade integration among the countries of the common currency area.
B)A high degree of political cooperation among the countries of the common currency area.
C)A common defence policy among the countries of the common currency area.
D)A similar climate in the countries of the common currency area.

Question 41

Which of the following states are classified as the BRICS?

A)Belgium, Romania, Iceland, Canada, Sweden
B)Brazil, Russia, India, China, South Africa
C)Britain, Rwanda, Ireland, Cuba, Singapore
D)Bahrain, Reunion, Iran, Cameroon, Switzerland

Question 42

Explain the difference between cyclical and structural deficit.

Question 43

The fiscal compact, to deal with problems arising from the debt crises, came in being in

A)January 2009.
B)January 2010.
C)January 2012.
D)January 2013.

Question 44

Explain how the Greek debt crises threatened to cause a split in the eurozone.

Question 45

Why was it important that the Stability and Growth Pact should allow eurozone member countries to run modest budget deficits?

A)With no scope for using an independent monetary policy, it is vital that eurozone members should be permitted to run budget deficits sufficient to allow for the operation of automatic fiscal stabilizers.
B)To facilitate free trade, it's important that eurozone members should not be unduly restricted in their use of fiscal policy.
C)While stability is provided by monetary union, growth requires that countries run budget deficits.
D)All of a, b and c are correct.

Question 46

To what extent is the eurozone an optimal currency area (OCA)?

Question 47

List the criteria that an optimal currency area (OCA) must satisfy.

Question 48

A structural deficit is one where

A)imports are greater than exports.
B)government spending and income is disrupted by the deviations in the 'normal' economic cycle.
C)a government's deficit is not dependent on movements in the economic cycle.
D)All of the above.

Question 49

The Stability and Growth Pact set a limit on EMU member governments' budget deficits of

A)1% of GDP.
B)2% of GDP.
C)3% of GDP.
D)3% of government spending.

Question 50

Which one of the following statements is true of the way that the BRICS have impacted upon international governance?

A)They have now become permanent members of the United Nations Security Council.
B)They are all now members of the G20.
C)The BRICS have managed in some instances to act together to strengthen their position vis-â-vis traditionally powerful states such as the US
D)None of the above.

Question 51

What is fiscal federalism?

Question 52

South Africa's economy and population are smaller than that of Nigeria.Why then, is it included as one of the BRICS?

A)It has a powerful military able to project power regionally.
B)It has a close economic relationship with China, which has huge financial interests in the country in fields such as mining, banking and infrastructure projects.
C)It is heavily involved in the peacekeeping operations in Africa.
D)It is a nuclear weapon state.

Question 53

Why do the 10 year bond interest rates vary between member countries in the EU?

Question 54

Why might a 'one size fits all' monetary policy cause difficulties for a member country?

Question 55

What is the difference between symmetric and asymmetric shocks?

Question 56

Why may keeping to the fiscal pact be difficult for a country running up a large government debt?

Question 57

There is some evidence from the experience of the EMU that a country's degree of trade integration with its EMU partners _________ as a result of joining EMU and so can be said to be _________.

A)decreases, exogenous
B)decreases, endogenous
C)increases, exogenous
D)increases, endogenous

Question 58

Why is it important that the economies of countries entering a currency union be at a similar stage in the economic cycle?

Question 59

The fiscal compact has a key feature to control

A)cyclical deficit.
B)structural deficit.
C)interest rates.
D)the amount a country can increase taxes.

Question 60

What is BRICS and why was it established?