"East Asia might be one common currency region."

After East Asian countries experienced the Asian currency crisis, it has been regarded that regional financial cooperation in East Asia is necessary among East Asian countries in order to prevent a currency crisis in the future as shown in the Chiang Mai Initiatives by ASEAN + 3 (China, Japan, and Korea).

These movements give us momentum to activate policy dialogues in a field of international monetary arrangements among East Asian countries. This paper has an objective to consider a common currency area in East Asia, which is expected to be an important topic in policy dialogue among East Asian countries in the future.

Our experience of the Asian currency crisis remind us of a fact that the de facto dollar peg was dangerous for East Asian countries. It follows that we should create a common currency that has linkages with not a single major currency but a currency basket. The EU has created a single common currency, the euro, which was based on the European Currency Unit (ECU). In the case of the ECU, member country currencies were linked with the ECU consisted of the member country currencies while the ECU was floating against the US dollar and the Japanese yen. A possible common currency in East Asia will be contrast to the ECU.

In addition, we investigate an optimal currency area in East Asia. Bayoumi, Eichengreen, and Mauro (2000) used a structural VAR model to make an empirical analysis on an optimal currency area in East Asia. We use a Generalized Purchasing Power Parity (G-PPP) model to analyze the issue. We investigate which parts of East Asian countries will be able to create a common currency region. We have an analytical result that there are two groups of a common currency region in the ASEAN. This has an implication that it is difficult for all of East Asian countries to create a single common currency region, given the current situation of East Asia.

This paper consists of seven sections. Next section places stress on creation of a common currency basket for East Asian counties in order to resolve a kind of coordination failure in exchange rate policies among East Asian countries.

In section 3, we consider two methods to create a common currency unit by taking into account stability of home currencies against a currency basket that is composed by the US dollar, the Japanese yen, and the euro. Also, merits and demerits of monetary integration are considered.

In section 4, we consider feasibility of a common currency area in East Asia by taking into account the demerits that we point out in the previous section.

We empirically analyze an optimal currency area for East Asia in section 5. We use a G-PPP model to investigate which of East Asian countries can create a common currency area.

In section 6, we refer to relationship between a common currency area and a free trade area (FTA). In conclusion, we summarize our consideration on an Asian currency union.

Download Toward an Asian Currency Union

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Eiji Ogawaa and Kentaro Kawasakib
July 28, 2001

This paper is prepared for the 2001 KIEP/NEAEF Conference on Strengthening Economic Cooperation in Northeast Asia held in Honolulu, Hawaii, on 16-17 August 2001.

Conclusion:

This paper suggested that it is necessary to create a common currency basket in order to resolve coordination failure in selecting optimal exchange rate policy. From this point of view, it is natural that a future regional currency union in East Asia should be related with a common currency basket. The European experiences of the ECU should provide us with useful information in considering a common currency unit in East Asia. In the case of East Asian countries, we have international trade relationship with variety of regions that include the intra-region, the United States, and the EU. Therefore, a possible common currency unit in East Asia would consist of the US dollar, the Japanese yen, and the euro and so on. It is contrast with the ECU case where the ECU consisted of intra-regional currencies.

However, it may be questionable to create the Asian Currency Union in the near future. We would face in difficulties in feasibility of a common currency area in East Asia. We pointed out two factors: possibilities of international policy cooperation and an optimal currency area. Needless to say, the monetary authorities have to intend to make international policy coordination as a premise that they create a common currency area. It is difficult for them to make international policy coordination unless they have common policy objectives. Especially, it is important that they have common objectives in monetary and exchange rate policies in order to create a common currency area.

Another factor is whether East Asia is an optimal currency area or not. We used the Generalized Purchasing Power Parity (G-PPP) model to investigate which parts of East Asia are candidates for an optimal currency area.

We found that South East Asian countries could be divided into two groups: a group of Singapore and Malaysia and a group of the Philippines and Thailand. Of course, because our results were obtained from the past data, it is difficult for us to extrapolate future situation from the results.

East Asia might be one common currency region.

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