DP2329 One Money, One Market: Estimating the Effect of Common Currencies on Trade

Author(s): Andrew K Rose

Publication Date: December 1999

Keyword(s): Country , Data , Empirical , Exchange Rate , Gravity Model , Model , Panel , Union , Volatility

JEL(s): F33

Programme Areas: International Macroeconomics

Link to this Page: www.cepr.org/pubs/dps/DP2329.asp

A gravity model is used to assess the separate effects of exchange rate volatility and currency unions on international trade. The panel data set used includes bilateral observations for five years spanning 1970 through 1990 for 186 countries. In this data set, there are over one hundred pairings and three hundred observations, in which both countries use the same currency. I find a large positive effect of a currency union on international trade, and a small negative effect of exchange rate volatility, even after controlling for a host of features, including the endogenous nature of the exchange rate regime. These effects are statistically significant and imply that two countries that share the same currency trade three times as much as they would with different currencies. Currency unions like EMU may thus lead to a large increase in international trade, with all that entails.

Data: For more information on the data for this Discussion Paper click here