Hostname: page-component-7b7567c8c-7pwfn Total loading time: 0 Render date: 2026-11-14T19:43:37.116Z Has data issue: false hasContentIssue false
  • English
  • Français

INFLATION STABILIZATION AND DEFAULT RISK IN A CURRENCY UNION

Published online by Cambridge University Press:  01 March 2018

Eiji Okano and
Masashige Hamano
Eiji Okano*
Affiliation:
Nagoya City University
Masashige Hamano
Affiliation:
Waseda University
*
Address correspondence to: Eiji Okano, Graduate School of Economics, Nagoya City University, 1, Aza, Yamanobata, Mizuhocho, Mizuho-ku, Nagoya-shi, Aichi, 467-8501, Japan; e-mail: eiji_okano@econ.nagoya-cu.ac.jp.
Rights & Permissions [Opens in a new window]

Abstract

Core share and HTML view are not available for this content. However, as you have access to this content, a full PDF is available via the 'Save PDF' action button.

By developing a class of dynamic stochastic general equilibrium models with nominal rigidities and assuming a two-country currency union with sovereign risk, we show that there is not necessarily a trade-off between the prevention of default risk and stabilizing inflation. Under optimal monetary and fiscal policy, comprising a de facto inflation stabilization policy, the tax rate as an optimal fiscal policy tool plays an important role in stabilizing inflation, although not completely because of the distorted steady state. Changes in the tax rate to minimize welfare costs via stabilizing inflation then improve the fiscal surplus, and because of this and the incompletely stabilized inflation, the default rate does not increase as much.

Keywords

Sovereign RiskEuropean CrisisOptimal Monetary PolicyFiscal Theory of the Price Level

Information

Type
Articles
Information
Macroeconomic Dynamics , Volume 22 , Special Issue 7: Recent Insights into Financial, Housing, and Monetary Markets , October 2018, pp. 1790 - 1807
Copyright
Copyright © Cambridge University Press 2018 

Footnotes

The authors would like to thank Alexandre Caboussat, John Barrdear, John Drifill, Masataka Eguchi, Kazuyuki Inagaki, Takashi Kano, Shigeto Kitano, Keiichiro Kobayashi, Chikafumi Nakamura, Tomomi Miyazaki, Eiji Ogawa, Shin-ichi Nishiyama, Etsuro Shioji, Akira Yakita, Naoyuki Yoshino, conference and seminar participants at Cardiff University, Chukyo University, the ESSCA Business School, the Imperial Queen's Park Hotel (Bangkok), Kyushu University, Nagoya City University, Mandarin Orchard (Singapore), Meisei University, Niigata University, Otaru University of Commerce, Queensland University of Technology, Silken Diagonal Barcelona, Yamaguchi University, Sophia University, and two anonymous referees for their helpful comments. Any errors are our own. This work was supported by JSPS KAKENHI Grant Number 25380400.

References

REFERENCES

Batini, Nicoletta, Harrison, Richard, and Millard, Stephen P. (2003) Monetary policy rules for an open economy. Journal of Economic Dynamics and Control 27, 2059–2094.Google Scholar
Benigno, Pierpaolo (2001) Price Stability with Imperfect Financial Integration. CEPR discussion paper no. 2854.Google Scholar
Benigno, Pierpaolo (2009) Price stability with imperfect financial integration. Journal of Money, Credit, and Banking 41, 121–149.Google Scholar
Benigno, Pierpaolo and Woodford, Michael (2005) Inflation stabilization and welfare: The case of a distorted steady state. Journal of the European Economics Association 3, 1185–1236.Google Scholar
Benigno, Pierpaolo and Lopez-Salido, David (2006) Inflation persistence and optimal monetary policy in the Euro area. Journal of Money, Credit, and Banking 38, 587–614.Google Scholar
Benigno, Pierpaolo and Benigno, Gianluca (2006) Designing targeting rules for international monetary policy cooperation. Journal of Monetary Economics 53, 473–506.Google Scholar
Corsetti, Giancarlo, Kuester, Keith, Meier, Andre, and Muller, Gernot J. (2013) Sovereign risk, fiscal policy, and macroeconomic stability. The Economic Journal 123, 99–132.Google Scholar
Ferrero, Andrea (2009) Fiscal and monetary rules for a currency union. Journal of International Economics 77, 1–10.Google Scholar
Gali, Jordi and Monacelli, Tommaso (2005) Monetary policy and exchange rate volatility in a small open economy. Review of Economic Studies 72, 707–734.Google Scholar
Kim, Jinill and Kim, Sunghyun Henry (2003) Spurious welfare reversals in international business cycle models. Journal of International Economics 60, 471–500.Google Scholar
Obstfeld, Maurice and Rogoff, Kenneth (2000) The six major puzzles in international finance: Is there a common cause? In Bernanke, B. S. and Rogoff, K. (eds.), NBER Macroeconomics Annual, vol. 15. Cambridge, MA: MIT Press.Google Scholar
Okano, Eiji (2014) How important is fiscal policy cooperation in a currency union? Journal of Economic Dynamics and Control 38, 266–286.Google Scholar
Okano, Eiji and Inagaki, Kazuyuki (2017) Revisiting the Fiscal Theory of Sovereign Risk from a DSGE Viewpoint. The Society of Economics, Nagoya City University discussion paper series no. 611.Google Scholar
Poplawski-Ribeiro, Marcos (2008) New Evidence on the Effectiveness of Europe's Fiscal Restrictions. CEPII working paper no. 2009–13.Google Scholar
Uribe, Martin (2006) A fiscal theory of sovereign risk. Journal of Monetary Economics 53, 1857–1875.Google Scholar
Woodford, Michael (2003) Interest Rate and Prices: Foundations of a Theory of Monetary Policy. Princeton, NJ: Princeton University Press.Google Scholar