Integration without convergence in the European Currency Area

The paper provides statistical evidence showing that the single currency has not promoted per capita income convergence within the Eurozone, a currency area that today is far away from optimality. A sluggish market adjustment after a shock, and the weak impact of fiscal policy of stabilization in absorbing national GDP deviations from the EMU-average GDP, have both contributed to increasing divergence of the Peripheral countries vis-à-vis the EMU-wide real effective exchange rate. The mutual exposure of governments to distressed domestic banks after the financial crisis, and of banks to the rising risk on sovereign bonds in portfolios, recently provoked the resurgence of the home bias. The paper finds that the formation of a monetary union, differently from the “endogeneity of OCA”, does not per se facilitate the participating countries in ex post compliance with the OCA criteria. A macroeconomic governance more comprehensive than the surveillance on national budgetary policies and tight fiscal rules should have been set up ex ante. An EMU-wide system of mutual risk-sharing represents the viable path to the income smoothing across business cycles, thus prompting the catching-up of the Periphery and furthering compliance with the optimality conditions of a currency area