An Empirical Study of the Impact of the Euro on Cross-Country Diversification

Round 1

Reviewer 1 Report

Comments and Suggestions for Authors

This paper is well written and is easy to read. The authors analyze the degree of market integration seven years before and seven years after 1999 when Euro was introduced. No evidence of cointegration is found after the adoption of Euro.

Several issues warrant minor revisions.

1 1. Literature and references.

a.       These sections need updating. Here is one of the newer papers that deserves mentioning: Umutlu, M., Yargı, S. G., and Zaremba, A. (2023). Market segmentation and international diversification across country and industry portfolios. Research in International Business and Finance, 65, 101954-. https://doi.org/10.1016/j.ribaf.2023.101954

b.      The authors should look for the recent research on the topic from 2021-2023. Current literature review is cut off at 2020.

c.       Please update your references. This paper has been published: Bartram, S. M., Taylor, S. J., & Wang, Y.-H. (2007). The Euro and European financial market dependence. Journal of Banking & Finance, 31(5), 1461–1481. https://doi.org/10.1016/j.jbankfin.2006.07.014

2 2. Methodology.

The authors should consider fractional cointegration tests as a robustness check. Beliu and Higgins (2004)[i] apply fractional cointegration analysis between inflation and between long-term interest rates in EU countries. They find evidence of fractional cointegration, where the usual cointegration tests show no convergence. However, there is no convergence in output.

3 3.     Tables.

Presentation of Tables needs to be more reader-friendly:

a.       For example, Table 1 should report three decimals instead of four so that numbers fit on one line. Please consider switching to landscape format for all the tables.

b.      Table 2 can benefit from moving most of Panels A and B on Pearson correlation to the Appendix, and leaving the last Panel on Changes in Correlation (After- Before) in the main body of the paper for brevity and ease of presentation.

4 4.   Miscellaneous.

Check line 158, where The Akaike information criterion (AIC) is misspelled.

[i] Beliu, Sonila, & Higgins, M. L. (2004). Fractional cointegration analysis of EU convergence. Applied Economics, 36(14), 1607–1611.

Author Response

1. The suggested research studies are cited and referenced as appropriate, and Bartram, et al. was already cited in its working paper version. Now updated. Other references suggested by the other anonymous reviewers are also added.
2. Beliu, et al (2004) fractional cointegration is suggested. But given their results are also not any different, except in relation to interest rate and inflation, we do not expect to get any different result.  So, we do not perform fractional cointegration analysis.
3. Table 1 digits are adjusted to 3 decimal places.
4. Spelling errors are corrected, and other spelling checks are conducted. Thanks for the catch.
5. Table 2 panels go together, and we think it is better to keep them together for easier reference than moving the two panels to appendix. We can reformat the whole paper according to the journal’s editorial requirement if we reach that stage.

Reviewer 2 Report

Comments and Suggestions for Authors

Should title be:

An Empirical Study of the Impact of the Euro on the degree of market integration.

Some of your key terms need a brief one or two sentence definition, maybe a seminal reference, or similar for each of these terms.

page 2 - introduction of the term ' mean-variance framework' that is about applying the behaviour of a normal distribution to market analysis. Make sure you tell the reader what might be obvious to you, to inform any readers on the margins of the discipline.  You could also point some of the critics of this methodological approach, like Taleb,  for example. Although I don't think such critical perspectives will undermine the results of your research, as you are looking for similarity rather than looking for evidence of extreme divergence and disruptions (such as outliers and 'black swans').  Always good to acknowledge likely critical views of your method, and if you can say why these are not relevant in the context of your study.

See 1412.7647.pdf (arxiv.org)

'weak-form efficient' - this theory argues that historical trends cannot be used to predict future trends. Not sure how this is relevant to your particular argument here and in the conclusion of your research.  This is different to a lack of similarity and convergence in the Euro financial markets that are more likely to be due to external events having a greater impact than internal political and financial coordination. 

'impulse response'  Explain what you mean by using this term here - external shocks and increased, liberalisation of the markets have increased external influences? 

See also, Haynes and Alemna, 2023 - impact of external events like brexit and covid-19 on euro area.

Geographical proximity and regional economic blocks.     There is quite a lot of research and literature on 'European club convergence' that you have not used or referred to that seems relevant to your paper and argument. For example: Borsi and Metiu 2013, Caputo and Forte, 2015, Haynes and Haynes, 2016, Cavallaro and Villani, 2021, Fedajev et al, 2022, Monfort, et al, 2013

Possibly use the descriptive but powerful figures 2A and 2B earlier in your evidence.  Some of the earlier tables are very dense. Can they be summarised more?

page 23, conclusion

You say

'The convergence of interest rates to a lower level by the actions of ECB boosts the economies of those with previously high interest rates and does not affect the economies of those with already low interest rates.'  This seems quite a strong conclusion that is least limited to a certain time period.  It maybe true,  to some extent, in terms of monetary policy and the discipline attempted by the ECB.

But it only held for the medium term and there was large scale divergence and disruption following the shocks of the international financial crisis of 2007-08.  Possibly,  the conclusion needs to be mitigated by reflecting on some of the theoretical  terms and concepts used at the beginning of the paper like 'weak-term efficient','impulse response'?   Similarly,  the conclusion could reflect a bit more on any methodological weaknesses in the approach used and ideas for future replication/similar research. Euro economies have faced lots of different external shocks in the first twenty-five years of the existence of the currency.

Comments on the Quality of English Language

A good paper to read, some technical discussion could be made a little easier for those readers who might be coming to economics from other disciplines etc.

Author Response

1. Your suggested title is well considered. However, we want to emphasize the application to portfolio investment diversification and hence prefer to keep that word in.
2. New footnote 4 is included to describe mean-variance framework.
3. The study is empirical analysis of impact of monetary union among the European countries. It is a planned and coordinated policy change or adoption.  We believe we cannot characterize this as a black-swan event.  We focus on the specific research question and presentation of the empirical results.  We do not believe it warrants to philosophize to Taleb  level debate.  It is exciting to learn the thought the paper triggered though.
4. Weak-form efficiency of markets was reported by the works cited. Your interpretation is correct.  We do not test market efficiency in this work, but the statement is taken from the studies cited because that was their finding.
5. Impulse response is a methodology used to measure response of a market to shocks in other markets. It is referenced in the works cited. 
6. Some of the suggested studies are included and cited. Other studies recommended by another anonymous reviewer are also included.  But some of your suggested studies such as Borsi and Metiu (2013) deal with different variables (personal income) and we thought should not be included in this work.
7. Additional statements are inserted in the conclusion to tame the strong statement and indicate that variations overtime of responses to policy changes.
8. We can format the paper according to the Economies’ editorial needs once we reach that stage.

Thank you again for the important comments.