The Role of Exchange Rate on the Road towards the Euro Area: The Case of Baltic and Central Emerging European Economies

The paper deals with the attractiveness of the euro area for emerging EU members (Central Emerging European Economies vs Baltic States) from the angle of previously applied exchange rate regimes (floaters vs fixers). Monetary convergence is accompanied with real exchange rate appreciation, but the adjustment channels differ in dependence from adopted exchange rate framework. Impulse response functions from bivariate VAR models in the period 2000 - 2018/euro adoption are used to identify the impact of monetary and real shocks to real exchange rate variations, as well as real exchange rate transmission to economic activities. The results indicate: the prevalence of real shocks in initiating real exchange rate appreciation; higher real exchange rate sensitivity for the floaters with higher loss in terms of stabilization mechanism; less contractionary real exchange rate appreciation for the floaters with less output constraints due to the role of exchange rate as a shock absorber.