Policy Note to the Economic Minister about a single currency in Arab world

This policy note will be send to the minister of economy, proposing a single Arab currency for the Arab league countries. I have attached an outline and please note the professor highlights and <link is hidden> put your Econ. hat on, and write the best you can do. There is Paul Krugman wrote about the theory of optimum currency areas, and I’m sure you can find others who wrote about the topic. Please include some empirical studies, graphs <link is hidden> />
Professor comments: Here are some more specific comments that you may want to consider:

1. The outline sometimes reads as if all common currency areas are optimal currency areas. But there is an extensive literature on the conditions for an OCA. These have to do, for example, with whether the countries have similar economic structures, tend to experience business cycles in a similar way, etc. It seems likely that Gulf regions meet those conditions, but it would be helpful to make that case.

2. You also need to explain somewhere what the current national exchange rate regimes are. It sounds like each of the currencies is already pegged to the dollar, in which case they are already pegged to each other. If so, I’m not clear on what moving to a single regional currency will increase exchange rate stability and trade. Also, I would assume (although I certainly could be wrong) that the Gulf countries don’t trade much with each other, since they mainly produce oil and gas, so you probably wouldn’t see much benefit there.

3. You can use the EU as a case, as you propose, but the EU is more than a currency area. They are integrated in other ways, such as zero internal tariffs, free labor mobility and number of other common policies.

4. If the move is made to a common currency, what would the exchange rate policy be toward the rest of the world? Would the new currency float or would it be managed in some way? It its going to float, might that not bring exchange rate instability in?

5. The other part of your argument seems to be that a single currency would play a bigger role in the global economy. I am a little skeptical of that, although it’s possible. I wonder if other countries would really want to hold the new Gulf currency as a reserve, since there are very few such reserve currencies. To make that happen, the Gulf countries would need to have strong banking sectors and open capital accounts, so that those holding the currency can buy and sell when they want. Im not sure if that’s currently the case. IN any case, opening up to capital flows in order to have a global currency has its own risks.

He also added the following:

1. From what I understand, the Gulf countries currently peg to the dollar and therefor have fixed exchange rates to each other. You are recommending a joint currency, which essentially is a stronger version of a peg, but you do not say what the exchange rate regime is for the new currency. Will it still be pegged to the dollar? Allowed to float? Something in between? Without knowing that, its hard to evaluate some of your claims about the benefits of a single currency.

2. At some points you seem to assert that a single currency is always best, but that seems unlikely to be true. It wold be good if you could argue that it is best for the Gulf countries because they have the characteristics of an optima currency area.

4. On page 3, I’m not sure what you’re referring to by “ongoing euro-region crisis”

5. I’m dubious that the Gulf currency will become a major reserve currency, since there are basically only two now—the dollar and the euro. Again, it would be helpful if you could back that statement up. What makes a currency attractive to reserves holders?

6. Extending the new currency to other countries, such as Israel, seems a stretch, not so much for political reasons, but because having oil producers and consumers in a single currency area seems like a very difficult idea to pull off. Business cycles would likely be negatively correlated.

So basically, Id like to see you tighten up the argument for a currency union to make them as convincing as possible.
Please note that now I we have changed the plan to include all the Arab league nations. For your reference I have attached the outline.

How to write a Policy note and the grading Rubric:
Your note will be assessed on the basis of the clarity and persuasiveness of the
argument; the use of the course concepts and findings of the academic literature to
advance your argument; and the degree to which feedback has been addressed in the
final version of the note. I have attached the rubric and a document for how to write a policy note.

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