Please use this identifier to cite or link to this item: http://hdl.handle.net/10419/148051
Authors: 
Kaufmann, Christoph
Year of Publication: 
2016
Series/Report no.: 
Discussion Paper, Deutsche Bundesbank 44/2016
Abstract: 
This paper studies Ramsey-optimal monetary and fiscal policy in a New Keynesian 2-country open economy framework, which is used to assess how far fiscal policy can substitute for the role of nominal exchange rates within a monetary union. Giving up exchange rate flexibility leads to welfare costs that depend significantly on whether the law of one price holds internationally or whether firms can engage in pricing-tomarket. Calibrated to the euro area, the welfare costs can be reduced by 86% in the former and by 69% in the latter case by using only one tax instrument per country. Fiscal devaluations can be observed as an optimal policy in a monetary union: if a nominal devaluation of the domestic currency were optimal under flexible exchange rates, optimal fiscal policy in a monetary union is an increase of the domestic relative to the foreign value added tax.
Subjects: 
Monetary union
Optimal monetary and fiscal policy
Exchange rate
JEL: 
F41
F45
E63
ISBN: 
978-3-95729-316-9
Document Type: 
Working Paper

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