This book presents the report on the European economic system, which was submitted to the President of the European Commission in July 2003. The report is divided into three parts. The first contains an assessment of the economic performance in terms of growth, stability, and cohesion. The second explores the challenges facing the European Union. The third presents a series of policy recommendations for the future.

Countries which stabilize from high inflation -here defined as an annual rate above 40% -usually have output expansions in the first and subsequent years of stabilization. These expansions occur in both exchange-rate-based and money-based stabilizations. The paper reaches these conclusions after examining a sample of all 28 episodes in the international data that meet a pre-defined criterion for stabilization from high inflation. The results do not change with alternative growth and stabilization definitions. The paper documents similar expansionary stabilizations in historical data and in the recent experience of the former Communist economies. Expansionary stabilizations may be an indirect confirmation of recent theories of political economy that predict that stabilization will not occur until the gains are very large.

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for help in the preparation of the paper, and Olivier Blanchard and David Romer for insightful comments. DISCLAIMER: The views expressed herein are those of the author(s) and should not be attributed to the IMF, its Executive Board, or its management.

DISCLAIMER: This Staff Discussion Note represents the views of the authors and does not necessarily represent IMF views or IMF policy. The views expressed herein should be attributed to the authors and not to the IMF, its Executive Board, or its management. Staff Discussion Notes are published to elicit comments and to further debate.