Factor analysis of the economic convergence criteria

Maastricht convergence criteria are often criticized by many economists, especially via nature of their definition and via methodology for their quantitative determination. The first part of the paper is a summary of the convergence criteria problem. Primarily, the literature review is focused on the critique of the Maastricht criteria and the problem of quantitative expression of the alternative convergence criteria. The theoretical ground for the formulation of alternative convergence criteria is the theory of optimum currency areas by R. A. Mundell. Mundell (1961) defined the optimum currency area as an area of internal mobility and external factor immobility of factors (in particular, his work reflected the mobility of the workforce and the flexibility of labor costs). Later, the theory has been significantly supplemented by R. McKinnon (1963), who was focused on the criterion of openness of the economy. P. Kenen (1969) expanded the list of criteria for the criterion of diversification of production. These three original criteria are currently being supplemented by others, e.g. frequency of asymmetric shocks in economic areas (e.g. Frankel, Rose, 1998), fiscal transfers volumes (e.g. Dixit, 2000), similarity of the inflation rates (e.g. Carlin et al., 2000) and many others. This paper deals with the identification of the relevant (uncorrelated) macroeconomic convergence criteria. It is possible to assume that the identified criteria are mutually correlated, which reduces their individual explanatory power. In order to define the relevant convergence criteria (resp. for preventing against multicollinearity among criteria), factor analysis is applied to all the criteria defined in the previous part of this paper. The methodology is based on the factor analysis procedure presented in Hebák (2005). Through reduction of the number of theoretical criteria, results of the factor analysis allow the selection of the appropriate variables (criteria) that can be used for further research in the area of economies' convergence.