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Monetary Integration Tests for the OCA’s Business Cycles Synchronicity Criteria in the WAMZ

Mogaji, Peter Kehinde (2016): Monetary Integration Tests for the OCA’s Business Cycles Synchronicity Criteria in the WAMZ.

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A theoretical underpinning of the Optimum Currency Area (OCA) is that countries are better suited to form a currency union the more their business (output) cycles are synchronised or symmetric. If countries within a monetary union have similar business cycles or rather experience identical shocks, separate economic policies are therefore not necessary, this implying that asymmetries in output fluctuations and shocks would appropriately necessitate individual policy responses. Negative correlation of business cycles and shocks would therefore weaken the case for a common currency. This paper consequently tested business cycle synchronicity across the WAMZ by investigating the similarity and the co-movements between the two main components of business cycles: (i) the classical business cycles and (ii) the deviation business cycles, employing simple correlation analyses and the analysis of variance (ANOVA) to establish homogeneities or otherwise. The observation of the closeness of coefficient of variations of classical and deviation business cycles of individual WAMZ country were also examined. The Hodrick-Prescott (HP) filtering method (at lambda=100) was employed in filtering and decomposing the real output (GDP) of individual WAMZ countries into transitory and permanent components required for the assessment of classical and deviation business cycles in these countries. Correlation tests as well as tests of homogeneity of variance (Levene Statistics) in business cycles were performed. There were further investigations of the transitory and deviation (output gap) business cycles so as to determine the extent of cyclical convergence of member countries. This is relevant for the conduct of the future common monetary policy. Fifteen bilateral Euclidean distances between output gaps in the WAMZ countries were also measured in order to reveal the extent of business cycle co-movements among member countries. Time span covered by this study were split into two periods: (i) pre-convergence period (1981-2000); (ii) convergence period (2001-2015). This split is significant in bringing about comparative results in these two periods because of the possibility of these WAMZ countries behaving ‘artificially’ in their business attitudes during the convergence era, when efforts were being made to meet the convergence criteria. This research work yielded various results and findings which on the overall produced evidences to suggest that business cycles across the WAMZ are not synchronised. This thus weakens the case for a common currency with the WAMZ enclave.

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