The
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The Case for the Amero: Notes

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This study draws on over 35 years of studying and teaching international finance at Simon Fraser University and other universities. The following publications found in References (page 46) contain earlier and more detailed analyses of many of the points raised below: Grubel 1970, 1973, 1984, 1990, 1993.
Friedman (1953) argued for a system of freely floating exchange rates that were determined by market forces alone and free from intervention by governments. The flexible exchange rates adopted by many countries in the 1970s involved what is now known as "dirty" float because government intervention works alongside market forces. In Friedman's view "dirty" floating of exchange rates is little better, and may have worse economic effects than fixed exchange rates.
Robert Mundell (1998) provides a critical examination of the merit of the euro system. He is a "euro-optimist" and believes that the system will provide many benefits to its members. In a private conversation, he agreed with the judgement expressed in this paper that a North American monetary union would also be beneficial. Some further publications on the theory of optimum currency areas are Grubel (1973), Ingram (1973), Kenen (1969), McKinnon (1963). For an excellent recent summary of the theory, see Willett (1999).
I think it would be an interesting project for an economic historian to study what the arguments were and how they can be fitted into the current analytical framework.
Canadian trade with the United States was $309 billion and $6 billion with Mexico (IMF 1998: 156-57).
The total savings are broken down as follows: 60 percent by banks and foreign exchange dealers, 10 percent by travellers, 25 percent by private firms, and 5 percent from reduced costs of clearing foreign cheques. The report does not mention savings of time by travellers and others who are spared the need to convert currencies. It also did not discuss the saving of resources used by researchers and others involved in forecasting exchange rates and selecting proper strategies for hedging against the exchange risk.
Managers of the Global Hedgefund, advised by some Nobel Laureates in Economics, had been large players betting on the narrowing of this interest rate gap through the use of highly leveraged financial instruments. Unfortunately for them, currency upheavals in southeast Asia and in Russia spilled over into European capital markets and slowed the narrowing of the interest-rate gap enough to bring the Hedgefund close to bankruptcy.
It is also worth noting that these currency upheavals did not otherwise create problems in Europe, in contrast with similar episodes in the past when speculative fever infected one or more countries that had otherwise more or less routine economic or political difficulties. This stability was attributed to the policies of coordination and cooperation among governments and central banks that preceded the actual adoption of the euro. It is symbolic of the kind of benefits Canada may be expected to gain from joining a North American Common Currency area.
Carsten Hefeker, in a lengthy study of the history and politics of monetary integration concludes, " the benefits from monetary integration are often underestimated. This is due to the insufficient state of the economic theory regarding the role of money . . . It often neglects the network externalities of money" (1997: 141).
Robert Baldwin (1990) estimated that the euro would raise the income of the European Community by five to ten percent in the long run (cited in Commission of the European Communities 1999).
There is an alternative outcome. Unemployment will rise and unions will not fight it directly. As Lindbeck and Snower (1988) have argued, the union members are the insiders and they are not prepared to make concessions to the outsiders in the non-unionized sector. However, the insiders will soothe their consciences by pressing the government to adopt other policies to fight unemployment, policies like wage and output subsidies, generous retraining programs, and protection from foreign competition that are paid for out of general tax revenue. They will also promote such policies as work-sharing and shortened work-weeks under the condition that they do not lower their own income.
The CRB index used here excludes energy, is produced by the Commodities Research Bureau of Chicago, and is used widely in empirical economic analysis. It is based on US dollar prices and I deflated it by the American consumer price index. For ease of interpretation, the index is plotted as a two-year moving average. I also set the commodity prices equal to one for 1955 when the nominal and real exchange rate were also very close to one. As a result, the relative rates of decline of the three variables can readily be seen.
See McCallum (1998) for such an analysis and references to other Canadian studies that reached similar conclusions. A major flaw in these studies stems from the fact that they use the exchange rate lagged by one period as an explanatory variable in the estimating equations. This variable exhibits a strong auto-correlation with the dependent variable and contributes much to the explanatory power of the regressions. In addition, McCallum's study covers only the period since 1972, while it is more informative to include the 1950s.
Nobel laureate Friedrich Hayek made the general case in 1937 that it was inefficient to use currency depreciation to assist an ailing industrial sector because of the distortions to prices and incentives that such a lower exchange rate has on other sectors of the economy. His argument is nearly the same as that made in the text.
Corden (1982) developed the parallel between protection due to tariffs and exchange rate depreciation.
John McCallum, the chief economist at the Royal Bank of Canada in a paper (1998) noted a phenomenon consistent with the process just described. In an econometric analysis, he found that in periods when the Canadian dollar depreciated against the US dollar, increases in the productivity of labour in Canada were less than those in the United States. McCallum referred to this phenomenon as the "lazy manager and worker effect" and attributed it to the protection implicit in a depreciated currency.
Hefeker notes: "Recent experience suggests that exchange rates move excessively without being justified by `fundamental' factors . . . The real costs of these fluctuations could be avoided by restricting exchange rate fluctuations" (1997: 141).This same phenomenon has also given rise to demands for the "Tobin tax," which would put a small surcharge on all capital flows. The argument is that such a small tax would reduce the profitability of speculative short-term flows but would not interfere with the long-term capital flows, which are more profitable and needed for economic development. Proposals for the Tobin tax have not been acted upon because of its administrative complexity and the difficulty of enforcement.
The other main reason for this failure to adapt is that Canadian governments spend large amounts of money to subsidize declining industries and regions. The money is paid through federal programs like regional adjustment transfers, allegedly to assist the creation of new industries and retrain workers. Provincial governments tend to subsidize failing firms, particularly in remote regions, allegedly to allow them to make efficiency-enhancing investments. In fact, these programs have resulted mostly in a permanent state of dependency of the recipients and, most important, have delayed the needed reallocation of labour and capital. Flexible exchange rates have to some degree resulted in a hiding of the true cost of such subsidies and therefore have made them last longer than they would have otherwise.
In this context, it is worth noting that two of the most rapidly growing countries in the world since the 1970s have been Singapore and Hong Kong. I think it is no coincidence that both countries have fixed their exchange rates to the US dollar and have maintained free trade. In spite of the fact that neither had any natural resources, they grew rapidly and are expected soon to have per-capita incomes higher than those in Canada.
These ideas were exploited in the literature on "political business cycles," which was started by Nordhaus (1975) and MacRae and Duncan (1977). Subsequent developments in the understanding of the phenomenon are reviewed in Hefeker 1997: 19-20). See Buchanan and Tullock for the public-choice model that explains such behaviour.
Swoboda (1991) makes a point similar to mine. He supports the creation of a European Central Bank on the grounds that it would eliminate disturbances that originate with national central banks.
There was much debate about a strong constitution for the European Central Bank during the years leading up to its creation. Buchanan (1990) and Bernholz (1990) argue in favour of the adoption of such a constitution. Others like Vaubel (1991a, 1991b, 1992) and Lomax (1992) doubt that such a constitution can be designed or kept operative through time. Berman and NcNamara (1999) insist that central banks should at all times be subject to political oversight.
Kenen (1992) notes that the political interests of the members of the European Monetary Union will continue to diverge as long as they are not in a political union. It is therefore unlikely that they will attempt to impose on the European Central Bank policies that are driven by political business-cycle motives.
For an early discussion of this subject, see McKinnon 1963.
See Annual Report of the Bank of Canada, 1997, 1998.
In the past, the Bank of Canada also made profits by requiring commercial banks to keep specified quantities of reserves on deposit with the bank. These deposits were used to buy government securities with a yield greater than the interest paid to the commercial banks. However, these reserve requirements have been abandoned since they represent an inefficient tax on financial intermediation ultimately borne by customers of the commercial banks. There is a vocal group of Canadians who believe that the reserve requirements should be re-introduced in the false belief that the incidence of the cost would fall on banks and not the general public.
William Robson pointed out to me that some international agreements like the Kyoto agreement on green-house gas emissions and the UN Convention on the Rights of Children may not have been given the kind of careful scrutiny that I suggest should precede Canada's commitment and surrender of national sovereignty. The same may be said about the convention on refugees. It appears to me that while the first two agreements may have much symbolic value for some politicians and activists, they have in fact had very little effect on actual policies in Canada. At the time of writing, the agreement on refugees is coming under increasing criticism and Canada may well join the ranks of signatories that have interpreted the agreement operationally in such ways as to protect their national interests. This different treatment of the agreements mentioned in the text and those mentioned in this footnote may be explainable by the fact that the former contain effective enforcement mechanisms while the latter do not.
A thoughtful and empirically supported Canadian view on this subject is Murray (1999), who is an economist working for the Bank of Canada. Some economists feel very strongly about the issue. For example, Hankel et al. (1998) make the case against the euro on these grounds. They have written a mock legal suit against the German signatories of the European Monetary Agreement.
Bayoumi and Eichengreen (1994) considered the same issues using of data on members of the North American Free Trade Agreement. For a critical discussion of these results and their implications for monetary union, see Courchene and Harris (1999a), who challenged the authors' conclusions on the basis that they are based on periods when trade between Canada and the United States was much smaller than it is now. This trade expansion has created and will increasingly result in North-South rather than East-West Canadian trade. As a result, supply shocks are increasingly symmetric in both countries and flexible exchange rates will not be needed to permit Canada and its regions to deal with them, as they were when shocks were more asymmetric.
Proposals to include the protection of property rights into the Canadian constitution as part of the Charter of Human Rights and Freedoms was rejected. My recommendations for adoption of such a charter (Grubel 1982; Grubel, Purvis, and Scarth 1992) and my attempt as a member of parliament to introduce balanced budget legislation in the House of Commons did not bear fruit. There are two main reasons for this: (1) Canadian politicians and most opinion makers are ideologically committed to using income redistribution and regulation to engineer a "better" society; (2) politicians have found these policies good for getting votes. After all, there are fewer voters with incomes above rather than below the mean (that is, median incomes in all countries are below mean incomes).
These views were expressed forcefully by a number of American economists and especially Benjamin Cohen (University of California, Santa Barbara), who attended a conference on the subject at Western Washington University in Bellingham in May, 1999.
Benjamin Cohen (1998) presents an interesting analysis of the benefits to the United States from the international uses of the dollar from a point of view that combines economics with political science. His political-science perspective makes him emphasize the symbolism and implicit value that Americans attach to knowing that their currency is in such widespread use. He also notes that the widespread use of the dollar gives the American government political leverage with individual countries.
Feige's numbers are for 1996. Schuler provides data showing that average US currency in circulation in 1997 was $425.5 billion and in 1998 had risen to $460.1 billion. (1999: 15). Porter and Judson (1996) estimate that the circulation of US dollar notes outside the United States is between 55 and 70 percent of the total.
The Euro-dollar business especially cut into profits of American banks after its development in the 1960s. This business sees non-American banks taking deposits and making loans in US dollars, often without the cost of reserve requirements and other taxes. However, through special policies on reserve requirements American banks have become large actors in this type of banking business, which prospers in Europe as well as in a number of other international financial centres like Hong Kong, Singapore, and Bahrein.
Excellent background information on the euro institutions, history, and economic implications is found in the series of articles, The Economist 1998a through 1998h. The pamphlet, Royal Bank of Canada 1998, provides additional, useful information from a Canadian perspective. Assessment of events in the first six months of 1999 following the first-stage introduction of the euro are found in Issing (1999) and Blair (1999).
See Osakwe and Schembri 1998 for an analysis of these events. They argue: "Currency crises can be prevented through the adoption of prudent monetary and fiscal policies, effective financial regulation and supervision and a more flexible nominal exchange rate." For another discussion of the merit of fixed and flexible exchange rates, see Caramazza and Aziz 1998.
This is an oversimplified description of the system. Private banking practices, international clearing mechanisms, and other technical details need to be considered in the design of currency boards. For more on this, see Greenwood 1998; Hanke and Schuler 1994, 1996.
For a detailed analysis of the way in which dollarization works, see Schuler 1999. This study focuses on the costs and benefits to the United States from encouraging emerging markets, like Argentina, to become dollarized.
For a discussion of market dollarization trends in North America, see Courchene and Harris 1999c. For some data on Canada, see the final section of the present study.
Resistance to the amero will be lessened by continuing to call it officially a "dollar" in the United States and Canada. That official designation will be less welcome in Mexico. However, there is nothing to prevent the public from referring to the amero peso in general use.
In the middle and late 1990s major currency speculation rocked the countries of Southeast Asia and Russia. In the past, such currency upheavals almost certainly would have contaminated currencies of some European countries. However, because of the coordination of European monetary and fiscal policies, none of the prospective euro-members' economic conditions were weak and Europe's currencies escaped all speculative upheavals.
I have chosen the example of tractors because during the postwar years there was a celebrated case of differing regulations requiring tractors sold in Germany to have governors that limited them to a speed different from that mandated in France. As a result, trade in tractors between the two countries was hindered since sales in the other country required expensive modifications to the engines. Many saw safety regulations of this sort as deliberate barriers to free trade, which was supposed to have been established through the Treaty of Rome and the creation of the European Economic Union.
A fundamental reason for the opposition of libertarians to monetary union is their agreement with Hayek's view that monetary standards would develop spontaneously in free markets. Accordingly, government mandated monetary systems based on central banks and their operations interfere with liberty and are sub-optimal. Conservative economists are split on this issue. The opposition to libertarians is represented by Milton Friedman who all of his life has stood for minimal government and argued that free markets produce superior outcomes. He believes that the setting of a monetary standard and the steady supply of money is best carried out by governments. I see a certain inconsistency in Friedman's positions on these issues and consider libertarians the winners of the controversy in terms of logic. However, I think that it is not possible to dismantle national central banks and have experiments to determine whether free markets will come up with a superior financial system. Therefore, I think that the task before us is to make these banks function properly by constraining their freedom with constitutions and covering optimum currency areas.
At one conference in Mexico in 1993, my paper was considered totally unrealistic and criticized heavily. The focus of the other papers was on the usefulness of currency boards to stabilize the Mexican economy. Even though the basic theme of the conference was broader and supposed to consider alternative arrangements, the publishers of the proceedings at the conference did not include my paper. Five years after the conference, Roberto Salinas, one of my critics and the co-editor of the volume (see Dorn and Salinas 1996) apologized to me for the bad reception that he and his colleagues had given my paper. He told me that he and many other economists and politicians in Mexico had seen the wisdom of my proposal and had themselves become advocates of a monetary union. He flattered me by saying: "Your name often comes up in discussions about a Mexico-US monetary union."
The relative number of callers for and against monetary union who got onto the air during this program cannot be taken as a reflection of public opinion: not only are the callers self-selected but the program's producers also screen them, using criteria that are not self-evident.
Not all of the following information is found in Beauchesnes' article.
I was induced to stand for election as a Reform Party candidate by this economic and political situation. To my surprise, I won the election in 1993. As a member of Parliament, I had a great opportunity to express the widespread popular concerns about the fiscal situation in the House of Commons and its Finance Committee. Most analysts agree that the Reform Party's electoral success in 1993 and its demands for fiscal prudence thereafter did much to push Liberal government fiscal policies in the right direction. I have had no contacts with the leadership of the Reform Party since I left parliament in 1997 after not seeking re-election and have not been consulted on any economic issues. Since 1997, I have worked strictly as an independent analytical economist and all of my research and publications are public and accessible to politicians from all persuasions.
From the Reform Party: Rob Anders, Rahim Jaffer and Jason Kenney; from the Bloc Québeçois: Bernard Birgras, Pierre Brien, Richard Marceau, Stephan Tremblay and Caroline Saint-Hilaire.

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