Optimal Currency Area

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DEFINITION

The geographic area in which a single currency would create the greatest economic benefit. While traditionally each country has maintained its own separate currency, work by Robert Mundell in the 1960s theorizes that this may not be the most efficient economic arrangement. In particular, countries which share strong economic ties may benefit from a common currency. This allows for closer integration of capital markets and facilitates trade. However, a common currency results in a loss of each country's ability to direct fiscal and monetary policy interventions to stabilize their economies.

INVESTOPEDIA EXPLAINS

The primary test for the theory of optimal currency areas is the introduction of the euro as a common currency in many European nations. Eurozone countries matched well with Mundell's criteria for successful monetary union, providing the impetus for the introduction of a common currency. While the eurozone has seen many benefits from the introduction of the euro, it has also experienced problems such as the Greek debt crisis. Thus, the long-term outcome of monetary union under the theory of optimal currency areas remains a subject of debate.




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