Does Putin's Proposed Eurasian Currency Area Make Sense?

At a meeting in Kazakhstan last week,  Russian  President Vladimir Putin proposed a currency union for the members of the Eurasian Economic Union (EAEU).  Russia, Kazakhstan, Belarus, and Armenia are the current members, and Kyrgyzstan is scheduled to join later this spring. Does a common currency for the EAEU make sense? Not in economic terms, but perhaps there is a political subtext that makes the proposal more understandable.

Some currency union basics

A currency union is simply a group of countries that share a common currency. The Eurozone (EZ) is the best-known example. The much smaller Common Monetary Area, based on the South African Rand, is another. The 50 states of the United States are sometimes viewed as a currency union for economic purposes, even though the members are not sovereign countries.

Currency unions have both advantages and drawbacks. On the plus side, currency unions facilitate trade and integration. They reduce the costs of currency exchange for travel and trade. They remove the risk that a change in exchange rates will render import-export deals or foreign investment projects unprofitable before they are completed. They eliminate costs of hedging against currency risks. The major disadvantage is that a currency union takes away exchange rate changes as an instrument for adjusting to external economic shocks, such as changes in the relative prices of a country’s imports and exports, or sudden surges in capital inflows or outflows.

There is a well-developed theory of optimum currency areas, growing out of a seminal 1961 article by Robert Mundell,  that explores the conditions under which the advantages of a union outweigh the disadvantages. Three of the most important conditions are structural similarities, flexible markets, and fiscal centralization. >>>Read more

Follow this link to view or download a related slideshow, "The Breakup of the Ruble Area."

Job Surge Spooks Markets as Unemployment Approaches the NAIRU

The BLS announced Friday that the US economy added 295,000 jobs in February, bringing the unemployment rate to 5.5 percent, a new low for the recovery. The leading stock indexes immediately plunged. The Dow lost 1.5 percent, the S&P 500 1.4 percent, and the NASDAQ 1.1 percent. Why  the negative reaction to such good news?

The answer may lie in an obscure economic indicator known as the non-accelerating inflation rate of unemployment, or NAIRU. The NAIRU gets its name from the fact that when unemployment hits that level, the rate of inflation begins to accelerate. Market participants know that the Fed has a dual mandate to maintain full employment and price stability, and some of them interpret that to mean that it will begin to raise interest rates as soon as the unemployment rate hits the NAIRU. As the chart shows, that could happen any time now. The Congressional Budget Office estimates that the NAIRU is currently 5.39 percent, within easy reach of February’s current unemployment rate of 5.5 percent. >>>Read more

Follow this link to view or download a brief slideshow with additional charts of the latest US employment situation