This thesis examined the extent to which there is convergence in inflation rates,
interest rates and incomes in the Common Monetary Area (CMA). It also
investigated if countries in the area exhibit asymmetric adjustments to aggregate
shocks. Based on optimum currency area theory, lack of convergence and the
presence of asymmetric adjustments to shocks is likely to pose serious
challenges that need to be addressed as the CMA moves towards a fully-fledged
monetary union.
I formulated and estimated a macroeconomic model to capture the transmission
of shocks in the CMA. The model consists of four equations namely; Phillips
curve, IS curve, exchange rate and monetary policy rule. The model links the
CMA countries via the aggregate demand, inflation and interest rate equations. I
simulated the model to assess the economic performance of the smaller
countries when subjected to either a single monetary policy rule or country
specific monetary policy rules. Such an analysis is used to gauge if a move
towards a fully-fledged monetary union will result in higher benefits for the
smaller countries. Furthermore, I estimated a structural VAR model based on the
theoretical model. The identification restrictions in the VAR are also derived from
the model.
The analysis confirms monetary convergence, which is supported by the strong
evidence of co-movement in interest rates and inflation rates in the CMA.
Monetary convergence is an indicator of strong financial sector integration in the
area. There is also evidence that inflation in the smaller countries is driven by
that of South Africa. This result is mainly attributable to the strong trade links in
the area as well as the existing parity between currencies in the area. The results
also show that countries in the area are likely to face asymmetric shocks based
on their composition of exports as well as the low correlation of growth rates.
However, this asymmetry does not mean that countries cannot move towards
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creation of a fully-fledged monetary union, but rather that the existing
asymmetries should be considered seriously by ensuring that other adjustment
mechanisms are put in place. Extending the analysis to the SADC region shows
that this region exhibits weak monetary convergence even though the poor
countries show some form of real convergence with South Africa. Simulations
from the VAR model show a price puzzle for Swaziland and South Africa but it is
not prolonged. Based on the analysis the study concludes that a monetary union
is possible in the CMA and is likely to be less costly. However, the evident
asymmetries call for gradual step by step phasing in of the monetary union.
| Identifer | oai:union.ndltd.org:netd.ac.za/oai:union.ndltd.org:wits/oai:wiredspace.wits.ac.za:10539/10810 |
| Date | 21 November 2011 |
| Creators | Dlamini, Dumsile Faith |
| Source Sets | South African National ETD Portal |
| Language | English |
| Detected Language | English |
| Type | Thesis |
| Format | application/pdf |
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