ABSTRACT
Few debates have claimed economists' attention more persistently than that over the merits of adopting fixed versus flexible exchange rates. The early literature on optimum currency areas focused on criteria for the choice between an irrevocably fixed exchange rate—in effect joining a currency area—and a flexible rate adjusting either to market forces or to policy-induced realignments. This chapter offers a brief overview of the optimum currency area approach. It focuses on conditions for promoting price level stability rather than the more traditional Keynesian concerns unemployment. The chapter considers the arguments made for currency competition approaches to monetary reform in the former centrally planned economies and argues that optimum currency area theory highlights some important difficulties with this approach. It concludes with a short list of propositions from optimum currency area analysis which we believe are especially relevant for the choice of exchange rate policies in emerging market economies.
