Impact of Dollarisation

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O C C A S I O N A L PA P E R S E R I E S
N O. 1 1 / F E B R U A RY 2 0 0 4

OFFICIAL DOLLARISATION/ EUROISATION: MOTIVES, FEATURES AND POLICY IMPLICATIONS OF CURRENT CASES by Adalbert Winkler, Francesco Mazzaferro, Carolin Nerlich and Christian Thimann

O C C A S I O N A L PA P E R S E R I E S
N O. 1 1 / F E B R U A RY 2 0 0 4

OFFICIAL DOLLARISATION/ EUROISATION: MOTIVES, FEATURES AND POLICY IMPLICATIONS OF CURRENT CASES by Adalbert Winkler, Francesco Mazzaferro, Carolin Nerlich and Christian Thimann1 In 2004 all ECB publications will feature a motif taken from the €100 banknote.

This paper can be downloaded from the ECB’s website (http://www.ecb.int).

1 This paper has benefited from comments and suggestions by Oscar Calvo-Gonzalez, Arnaud Mehl, Francesco Mongelli, Georges Pineau, Adam Posen, Francisco Ramón-Ballester, Antonio Sáinz de Vicuña, Michael Sturm, Pierre van der Haegen, members of the EBOPS committee and an anonymous referee. The authors wish to thank André Geis and Stefan Wredenborg for excellent research assistance. The views expressed in this paper do not necessarily reflect those of the European Central Bank.

© European Central Bank, 2004 Address Kaiserstrasse 29 60311 Frankfurt am Main Germany Postal address Postfach 16 03 19 60066 Frankfurt am Main Germany Telephone +49 69 1344 0 Website http://www.ecb.int Fax +49 69 1344 6000 Telex 411 144 ecb d

All rights reserved. Reproduction for educational and non-commercial purposes is permitted provided that the source is acknowledged. The cut-off date for the statistics in this paper was 1 October 2003. ISSN 1607-1484 (print) ISSN 1725-6534 (online)

CONTENTS
1 2 INTRODUCTION DOLLARISATION/EUROISATION – A REVIEW OF THE LITERATURE 4 4 CASES WHERE DOLLARISATION/EUROISATION WAS ABANDONED 36 36 36 36 36 37 39 1. Colonial regimes 7 7 2. Liberia 2.1 Basic facts 2.2 Economic developments over the long run 2.3 Optimum currency area properties 3. Main lessons from cases of abandonment 5 15 RECENT CASES OF DOLLARISATION/ EUROISATION

1. Benefits and costs of dollarisation/ euroisation 2. Dollarisation/euroisation and the bipolar view on sustainable exchange rate regimes 3. Dollarisation/euroisation and optimum currency areas 4. Summary and outlook: stability and integration as key issues in analysing the potential costs and benefits of dollarisation/euroisation 3 CASES OF SUSTAINED DOLLARISATION/EUROISATION

10 12

40 40 40 40 41 41 43 43 44

1. Overview of cases 2. Kosovo and Montenegro 2.1 Basic facts 2.2 Pre-euroisation economic developments 2.3 Optimum currency area properties 3. Ecuador and El Salvador 3.1 Basic facts 3.2 Pre-dollarisation economic developments 4. Common elements and main lessons from recent cases 6 CONCLUSIONS

17 17 18 20 20 20 21 21 22

1. Overview of cases 2. The endogeneity thesis and the Rose evidence 3. The European microstates 3.1 Basic facts 3.2 Economic developments over the long run 4. Panama 4.1 Basic facts 4.2 Economic developments over the long run 5. Remaining cases of sustained dollarisation/euroisation 5.1 Basic facts 5.2 Economic developments over the long run 6. Common elements and main lessons from sustained cases

3.3 Optimum currency area properties 20

3.3 Optimum currency area properties 45 47 50 52

4.3 Optimum currency area properties 22 24 24 24

REFERENCES

5.3 Optimum currency area properties 25 33

ECB Occasional Paper No. 11 February 2004

3

1 INTRODUCTION
The adoption by one country of another country’s currency has its place in the history of the world economy, but had for a long time fallen out of fashion. This has changed in recent years, mainly owing to the currency crises faced by several emerging market economies in the second half of the 1990s. As eliminating the exchange rate through the outright adoption of another currency would eradicate the potential for a currency crisis, official and unilateral dollarisation/euroisation has become a common policy...
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