Adjusting to the EMU: electoral, partisan and fiscal cycles

Abstract:

This study argues that coordination of electoral cycles among European Union (EU) Member States and greater similarity in the partisan bias of their governments would make their membership in the single currency easier and cheaper by harmonizing their fiscal policies and would thus contribute to the sustainability of the Economic and Monetary Union (EMU). This argument is supported by applying a two-step least squares regression analysis to a cross-section of 325 dyads among 26 European countries. The article adds to the debate on the sustainability of the EMU with wider country and criteria coverage than is available in most of the existing literature, and by considering endogenous optimal currency area criteria as well as political variables within a single framework. It also contributes by studying the effects of political variables on real exchange rates and by applying a methodology that corrects estimates for the endogeneity of variables.