Economic Overview of the European Monetary Union

The initial goal for the establishment of the European Union, which has managed to survive until today, is the creation of a united and integrated Europe. Until the end of 2006 the EU consisted of 25 countries. This number has increased to 27 in 2007 with the accession of Bulgaria and Romania to the European family.

Twelve of the member states share the Euro as their common currency. They are: Austria, Belgium, Finland, France, Germany, Greece, Ireland, Italy, Luxemburg, the Netherlands, Portugal and Spain. They make up the European Monetary Union (EMU). These twelve countries also are subject to the monetary policy that is established by the ECB (European Central Bank). Combined together in the EMU, these countries constitute the second economic power in the world.

Convergence Criteria for EMU Membership

In order to become part of the EMU the applying member state should meet a number of criteria. They were established in the Maastricht Treaty of 1992. These criteria are also known as the convergence criteria or the Maastricht criteria.

• The applying state should keep an inflation rate of no more than 1.5% above the average. This average is calculated on the basis of the 12-month average of the three best performing countries before the date at which assessment is made.
• Additionally, the long-term interest rate of the applying for EMU membership country should not be greater than 2% of the average of these best performing members.
• Another criterion concerns the exchange rate fluctuations. These should be within the normal margins of the ERM (exchange rate mechanism) for not less than two years.
• The general government debt/GDP ratio should not exceed 60%. Exceptions are made if the country shows that this ratio is consistently decreasing.

When these criteria are met the applying country can become part of the EMU.

Economic Significance of the EMU

The EMU has attracted many investors since it enjoys very well-developed fixed income, equity and futures markets. However, this has not always been the case, since in the past it was less attractive to FDI. This is so since the US have presented assets that offer more solid return rates. However, the popularity of these US assets has declined recently thanks to the increasing EMU interest rates.

Trade is of great importance to the economies of the members of the EMU, since the latter is characterized as being capital flow and trade oriented economy. The EMU has neither a significant trade deficit nor a surplus.

The EMU plays a major role on the international trade arena since it executes a large number of trades with the rest of the world. The establishment of the EU has as its major purpose international trade dominance. This is greatly facilitated since many countries are grouped together and act as one unit when trade issues are concerned. Thus, they manage to negotiate as one entity with the US - EU's biggest trade partner.

Another characteristic of the EMU economy is its service orientation. This sector accounts for the biggest percentage of total GDP. Innovation, research and development, design and marketing are the major activities on which EU companies focus, while they tend to outsource actual production to regions with low cost of labor, such as Asia.

The importance of the Euro as a reserve currency is stressed by the growing influence of the EU. Large amounts of reserve currencies in needed in order to alleviate exchange risks and transaction costs. Before the Euro entered the international trade scene, the USD, GBP and the Japanese Yen represented the basic currencies in which international transactions were executed. This resulted in the USD being the major currency in which reserves were held. However, the introduction of the Euro changed this by making it one of the currencies in which many countries hold their reserves.

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