Options for the payments and exchange rate system in Eastern Europe

The paper analyses the role of currency convertibility in the process of economic transition in Eastern Europe and discusses alternative institutional options for achieving this difficult task. It shows that an early transition to convertibility is an indispensable requirement for the success of real sector reforms but that this is only sustainable if the existing flow and stock disequilibria are removed. The options of flexible rates and an East European Payments Union seem less demanding in terms of internal financial stringency, but the former would lead to a high degree of exchange rate instability and the latter would only provide a very limited foreign impact on the domestic restructuring. The paper, therefore, focuses on fixed rate solutions (or adjustable pegs with a preannounced depreciation rate). It shows that the credibility of the exchange rate commitment and the degree of internal financial stringency, which are both crucial for the sustainability of convertibility and for a non-inflationary monetary framework in Eastern Europe, can be considerably increased if all monetary policy competencies are transferred to a supranational institution which is designed according to the blueprint for a European System of Central Banks.