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Journal Article
Dollarization and the conquest of hyperinflation in divided societies
This study argues that the delegation of monetary policy control by one country to another can reduce inflation in the delegating country. Hyperinflation is common in a divided society, one in which special interest groups can pressure a weak central government to issue money to finance their own demands while neglecting the country?s overall welfare. A commitment device like dollarization or a currency board, which gives control of the divided country?s money supply to another country, can eliminate this inflation bias. This is illustrated by Argentina?s experience with inflation and a ...
Report
Overturning Mundell: fiscal policy in a monetary union
Central to ongoing debates over the desirability of monetary unions is a supposed trade-off, outlined by Mundell [1961]: a monetary union reduces transactions costs but renders stabilization policy less effective. If shocks across countries are sufficiently correlated, then, according to this argument, delegating monetary policy to a single central bank is not very costly and a monetary union is desirable.> This paper explores this argument in a setting with both monetary and fiscal policies. In an economy with monetary policy alone, we confirm the presence of the trade-off and find that ...
Working Paper
Monetary policy and the financial accelerator in a monetary union
In this paper, we consider the effect of a monetary union in a model with a significant role for financial market imperfections. We do so by introducing a financial accelerator into a stochastic general equilibrium macro model of a two country economy. We show that financial market imperfections introduce important cross-country transmission mechanisms to asymmetric shocks to supply and demand. Within this framework, we study the likely costs and benefits of monetary union. We also consider the effects of cross-country heterogeneity in financial markets. Both the presence of financial ...
Working Paper
Insulation impossible: fiscal spillovers in a monetary union
This paper studies the effects of monetary policy rules in a monetary union. The focus of the analysis is on the interaction between the fiscal policy of member countries (regions) and the central monetary authority. When capital markets are integrated, the fiscal policy of one country will influence equilibrium wages and interest rates. Thus there are fiscal spillovers within a federation. The magnitude and direction of these spillovers, in particular the presence of a crowding out effect, can be influenced by the choice of monetary policy rules. We find that there does not exist a monetary ...
Working Paper
On policy interactions among nations: when do cooperation and commitment matter?
This paper offers a framework to study commitment and cooperation issues in games with multiple policymakers. To reconcile some puzzles in the recent literature on the nature of policy interactions among nations, we prove that games characterized by different commitment and cooperation schemes can admit the same equilibrium outcome if certain spillover effects vanish at the common solution of these games. We provide a detailed discussion of these spillovers, showing that, in general, commitment and cooperation are nontrivial issues. Yet in linear-quadratic models with multiple policymakers, ...
Working Paper
Is it is or is it ain't my obligation? Regional debt in a fiscal federation
This paper studies the repayment of regional debt in a multiregion economy with a central authority: Who pays the obligation issued by a region? With commitment, a central government will use its taxation power to smooth distortionary taxes across regions. Absent commitment, the central government may be induced to bail out the regional government in order to smooth consumption and distortionary taxes across the regions. We characterize the conditions under which bailouts occur and their welfare implications. The gains to creating a federation are higher when the (government spending) shocks ...
Working Paper
Designing stabilization policy in a monetary union
The European Monetary Union (EMU) has become a reality, but economists nonetheless continue to debate the desirability and the optimal design of a monetary union. Since a union's essential element is delegation of monetary power to a single centralized entity, one of the key issues in this debate is whether a monetary union will limit the effectiveness of stabilization policy. If so, it will not necessarily be welfare-improving. Having studied a two-country world economy and considered various designs of monetary union, the authors argue that the success of monetary union depends on 1) the ...