A Framework For Currency Unions And IMF Lending

from the International Monetary Fund

— this post authored by Sean Hagan and Hugh Bredenkamp

Countries benefit in various ways from belonging to a currency union – a group of countries that share a single currency. Businesses can trade and invest across borders more easily. Member countries gain access to larger markets without facing currency risk. And in some circumstances, currency unions can help support their members when they are hit by external shocks.

But there are also costs to membership: countries relinquish the independence to formulate monetary policy, which can complicate a country’s adjustment to a shock. At the same time, currency union institutions face their own constraints. Currency unions have a responsibility to serve the interests of all of their members; accordingly, changes to policies with a union-wide impact, like monetary policy, are guided by the needs of the union rather than any one single member.

In a new paper, Program Design in Currency Unions, we review our experience in supporting the economic adjustment of countries that belong to currency unions and, for the first time, propose guidance on how this support should be designed and managed. The guidance clarifies when and howthe IMF will seek supportive policy actions from union-level institutions. It does not confer any new authority on the Fund – rather, it simply articulates more clearly how that authority should be exercised in practice.

Why guidance is needed

There are currently four currency unions in the world – the Central African Economic and Monetary Community, the Eastern Caribbean Currency Union, the European Monetary Union, and the West African Economic and Monetary Union – all of which delegate monetary policy and, to varying degrees, exchange rate and financial sector policies to union-level institutions.

Currency unions have long been part of the global financial landscape, but they now account for over 15 percent of the global economy. In the absence of established guidance, our engagement with currency union institutions during past programs has been somewhat ad hoc. By clarifying how adjustment programs should be designed in the future, we hope to foster more robust programs and promote more evenhanded treatment.