Overturning Mundell: Fiscal policy in a monetary union

Russell Cooper, Hubert Kempf

Research output: Contribution to journalArticle

31 Scopus citations

Abstract

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 indeed a monetary union will not be welfare improving if the correlation of national shocks is too low. However, fiscal interventions by national governments, combined with a central bank that has the ability to commit to monetary policy, overturn these results. In equilibrium, such a monetary union will be welfare improving for any correlation of shocks.

Original languageEnglish (US)
Pages (from-to)371-396
Number of pages26
JournalReview of Economic Studies
Volume71
Issue number2
DOIs
StatePublished - Apr 2004

All Science Journal Classification (ASJC) codes

  • Economics and Econometrics

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