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Financial market integration

EMU and the process of financial integration enjoy a symbiotic relationship. The introduction of the euro eliminated currency risk on the bulk of intra-EU capital flows and on all capital flows within the euro area. In this way, the euro has stimulated both the supply and the demand for cross-border financial services and acted as a powerful catalyst for financial integration. Meanwhile, the integration of Member States' financial markets fosters financial development and raises the efficiency of the whole economy. The euro area benefits even more from these efficiency gains than non-euro EU members do because a single currency environment provides scope for deeper financial integration. Moreover, the integrated financial markets act as a channel for managing asymmetric macroeconomic shocks.

EMU has had a very substantial impact on the integration of the market for government bonds. This market is important not only as a source of government finacing, but also in providing reference pricing for other financial instruments. In the run-up to the euro, there was sustained convergence in yields on bonds issued by euro-area governments. This reflected the progressive, and complete, elimination of currency risk, so that residual yield spreads gradually came to reflect only credit and liquidity risk. The result was the creation of a substantially homogeneous euro-denominated government bond market in 1999 where various national issues now trade as close substitutes. An efficient and liquid government bond market is also important in making the euro area an attractive location for investment and in allowing the euro to play the role of international currency.