Toward a Common Currency: The Euro

Since World War II, the nondemocratic countries of  Europe have pursued ever-closer economic integration, primarily to promote political stability after two devastating conflicts. Peace and trade’ go hand in hand, according to many political scientists. Beginning in 1957 with a free-trade agreement establishing the European Community, Western Europeans gradually removed all barriers to trade in goods, services, and finance.

The monetary structure under a European monetary union resembles that of the United States. Monetary policy is lodged in the European central bank (ECB), which conducts monetary policy for countries in the EMU. The ECB undertakes open-market operations and thereby determine interest rates for the Euro. One of the major questions for monetary policy , involves the objectives of the central bank. The ECB is directed under its charter to pursue “price stability” as its primary objective, although it can pursue other community-wide goals as long as these do not compromise price stability. The ECB defines price stability as,an increase in Euro land consumer prices of below 2 percent over the medium term. As we will see in our discussion of monetary policy in Chapter 34, this emphasis on inflation targeting has been widely adopted by central banks outside the United States.

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