A Common Currency with Brazil: A Misapplication of Optimal Currency Area Theory
Drawing inspiration from the theory of optimal currency areas (OCA), some economists and analysts advocate for a shared currency arrangement with Brazil and other countries in the region. Is this a good idea?
Regarding a joint currency initiative with Brazil, the first point to consider is that, in line with the OCA theory, Argentina should establish currency subregions rather than immediately launching a common currency with Brazil. A consistent OCA application cannot assume that inside-the-borders belongs to one common optimal currency area.
The second crucial point is that the advantages of a shared currency become tangible when the currency issued by each country entering the currency area is in demand within its borders. This isn’t the case in Argentina, where the preference leans towards the US dollar rather than the peso. Implementing a common currency with Brazil would entail the challenging task of persuading the public to abandon the U.S. dollar (which the public wants) and adopt the Brazilian real (which the public does not want). It should also be added that Argentina issues debt in U.S. dollars, not in reales.
As for the criticisms directed at dollarization, it’s vital to remember that the dollar serves as the international reserve currency. Evaluating the desirability of dollarization solely by examining the United States is somewhat biased. Dollarizing Argentina would connect it to the global market, not just the American one.
Another point of concern is focusing exclusively on the trade in goods and services (the current account in the balance of payments) while overlooking Argentina's sensitivity to capital movements, such as sudden stops and the so-called “external restriction.” These capital flows predominantly occur in dollars, not reales.
I want to add a third, equally significant point. Dollarization also solves the issue of the Treasury’s currency mismatch (collects taxes in pesos but has debt obligations in U.S. dollars).
Exploring Mundell’s proposal when contemplating a shared currency arrangement with Brazil makes more sense. Under this proposal, the Brazilian real would be convertible to a basket comprising three major currencies: the yen, the dollar, and the euro.
In summary, the arguments favoring a common currency with Brazil and the criticisms of dollarization based on the OCA theory appear to be somewhat forced.
The original post in Spanish can be found here.
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