THE EMERGENCE OF THE EURO AS AN INTERNATIONAL CURRENCY

Will and should the euro become an international currency Previous wor k has noted that measuring size by GDP, role in international trade or even financial markets, Europe matches the USA. On these grounds, the euro is expected to challenge the dollar's supremacy. Cost-benefit an alyses have looked at seigniorage, benefits for home financial institu tions, relaxation of the external constraint, influence on internation al institutions, ejects on macroeconomic policy co-ordination, and the wider consequences of exercising or sharing 'currency hegemony'. This paper revisits these issues with a new framework that stresses the ro le of financial asset markets and uses new data to evaluate scenarios. As euro securities markets become deeper and more liquid and transact ion costs fall, euro assets will become more attractive, and the use o f the euro as a vehicle currency in trade will expand; the asset and t rade ejects interact. A welfare analysis reveals potential benefits fo r the euro area of the same order of magnitude as international seigni orage - at the cost of the USA and the 'Asian bloc'. If policy-makers wish to promote the international role of the euro, they should focus their efforts on integrating the European capital markets: increasing their liquidity, breadth and depth. Here both (de)regulation and vario us aspects of policy harmonization across Europe will be important; so too will private market initiatives (e.g., in establishing benchmark interest rates and securities).