Currency substitution in Eastern Europe

Monetary instability during the transition process from a command economy to a market economy has induced a considerable increase in currency substitution in Eastern Europe. Currency substitution itself affects monetary stability since it reduces the stability of velocity. This paper investigates currency substitution in Eastern Europe. The consequences for the conduct of monetary policies are stressed as currency substitution of a significant degree has a large impact on monetary equilibrium and public finance. Currency substitution affects the shape of the seignorage Laffer-curve, since it makes its tax base, real money demand, sensitive to exchange rate expectations. With the use of the available data the sensitivity of money demand to currency substitution in the Eastern European countries is assessed.