THE CURRENCY BOARD MODEL FOR TRANSITION ECONOMIES (PART III)*

More than a decade after its onset on the path of transition from communism, Romania continues to face problems of transparency in fiscal operations, difficulties in liquidity management, persistent inflation and currency devaluations, and a generally unstable economic environment. This dissertation (published by the Journal in four editions) focuses on the persistent inflation experienced by Romania in the past decade of transition. It seeks to investigate the specific causes of this inflation and to recommend an effective stabilization program. The puzzle at the core of this study asks whether a currency board arrangement implemented in Romania can offer the solution to the country's inflation and macroeconomic problems. By presenting the relationship between the independent variable – the currency board monetary arrangement – and the dependent variable – the presently undisciplined economic situation in Romania mirrored in high levels of inflation, this thesis argues that a currency board arrangement is the optimal stabilization solution for Romania given the constraints it faces at the current time. For a country where inflationary expectations are ingrained in the mentality of all economic agents, which lacks political consensus-building, transparency in governmental operations, credibility in the face of foreign institutions, and yet which hopes to accede to the European Union, a currency board is the best policy which attends to the internal reforms of the economy while harmonizing national and foreign policy. While acknowledging the fact that countries may not prefer to institute a currency board arrangement as a first-choice policy due to the adverse effects that such a fix has on the autonomy of monetary policy, this dissertation argues that countries can choose to implement a currency board when such a measure serves to harmonize national policy – in the form of stabilizing the national economy – with foreign policy – in the form of adhering to a political and monetary union. For a transition economy such as Romania, a currency board can serve to stabilize the national economy, to provide credibility in economic reform and infuse investors with confidence in national markets, while also serving as a measure through which it can satisfy both the Copenhagen and the Maastricht criteria. Joining the EU and EMU will provide a strong and smooth exit strategy from a currency board making the implementation of such a policy more desirable. (*The article is part of the honor Ph.D. thesis “Anchoring Inflation in Transition Economies: The Case for a Currency Board Arrangement in Romania”, defended at Stanford University, CA, USA in June 2002).