REAL CONVERGENCE AND PRICE LEVELS: LONG-TERM TENDENCIES VERSUS SHORT-TERM PERFORMANCE IN THE ENLARGED EUROPEAN UNION

A cross-country regression relating the relative price level to the relative GDP level is statistically significant and stable over time. Price and GDP levels for EU member countries tend to gravitate to that line. The conclusion that there is a shorter-term trade-off between fast real convergence and low inflation is unwarranted. Higher inflation is not a necessary companion of fast convergence. Giving up national currency, or pegging it to the euro, may prevent real convergence or precipitate divergence. A weak initial price level may be insufficient. While retaining national currency is not risk-free, it allows a corrective devaluation. Copyright © 2009 The Author. Journal compilation © 2009 Blackwell Publishing Ltd.