ABSTRACT

This chapter focuses on the effects of fluctuation of the euro’s exchange rate on outside economies. It aims to examine the effects of the exchange rate between the even stronger euro against a currency of a non-member country. The chapter presents statistical facts about the major exchange rates and the euro/dollar rate are presented. It discusses a simple open economy model and analyses the effects of monetary shocks on the volatility of the exchange rate by clearly distinguishing capital substitutability and mobility. The chapter focuses on different degrees of asset substitutability and also discusses the discussions on the policy implications. It demonstrates that the situations are quite different under different assumptions of asset substitutability after a monetary expansion. As the European Union (EU) expands in the future, as stipulated by the Treaty of Nice, a small open economy, whose relationship with the EU countries becomes closer, is likely to be vulnerable through larger volatility of exchange rate against the euro.