Does Euro Introduction Ensure Lower Vulnerability of the New Euro Area Members to the External Shocks? The Case of the Central and Eastern European Countries

A very intense euro area enlargement during the last two decades rises the question about the impact of the euro introduction on vulnerability of the new euro area members [especially Central and Eastern European Countries (CEECs)] to the external shocks. Since 2007, five CEECs joined the euro area and the euro adoption reduced sovereign bond interest rates, credit default swap (CDS) prices of the new euro area members due to a decrease in foreign exchange risk, and positively affected the CEECs' credit ratings. However, the question about lower vulnerability of the new euro area members to the external shocks is still open. The objective of this study was to assess the impact of euro introduction on vulnerability of the new euro area members to the external shocks. The empirical results show that the announcement of positive convergence report and the euro introduction in the new euro area members did not manifest itself automatically in the short term and last into the long term (except in Latvia and Lithuania). This reaction of the financial market participants could be explained by the fact that most of the new euro area members (Slovenia, Cyprus, Malta, and Slovakia) introduced euro in 2007-2009 during the global financial crisis. The results of generalized impulse response analysis confirm that the new euro area members are still very sensitive to shocks in other CEECs sovereign bond markets. However, new euro area members became less sensitive to the external shocks after the introduction of euro.