Stabilization Policy in an Exchange Rate Union Transmission, Coordination and Influence on the Union Cohesion

The treaty of Maastricht envisages the full economic and monetary union in Europe. With increasing real and monetary integration policy decisions in individual member countries tend to have a growing impact on the other member countries of the European Community. Against this background the following study analyses within a unified theoretical framework the impact of monetary and fiscal policy pursued by one country on its own macroeconomic performance as well as on those of the other member countries and of the rest of the world. The analysis contrasts the cases of a small and a large European union relative to the rest of the world and distinguishes very clearly between the short-run, the medium-run and the long-run effects. Based on this the consequences for union cohesion and the scope for policy coordination are discussed. Since the analytical framework is defined by a three country model many results from the traditional policy coordination literature which relies on two country models are qualified. In contrasts to most previous research in this area particular attention is paid to the implications of asymmetries between the EC member countries. Furthermore, the structural parameters are in some instances not taken as given but as responsive to the integration process. In this context numerous links to the traditional literature on optimal currency areas are established and interesting implications for union cohesion during the transition are derived.

I: The State of the Art.- 1. The optimality criteria.- 2. Conditions for existence of a monetary union.- 3. The change in structural parameters.- 4. The underlying models.- 5. The game theoretical approach.- Conclusions.- II: An IS-LM-AS Model for a “Small” Exchange Rate Union.- 1. The model.- 2. The efficacy of monetary policy.- 3. The efficacy of fiscal policy.- 4. The model, the change in structural parameters and the optimality and existence conditions issues.- Conclusions.- III: Monetary and Fiscal Policy in a “Small” Exchange Rate Union — a Strategic Analysis.- 1. Monetary policy: the system of interdependence and the authorities’ utility functions.- 2. Monetary policy: the Nash, cooperative, Stackelberg and monetary union solutions.- 3. Concluding remarks on monetary policy coordination.- 4. Fiscal policy: the system of interdependence and the authorities’ utility functions.- 5. Fiscal policy: the Nash, cooperative and Stackelberg solutions.- 6. Concluding remarks on fiscal policy coordination.- IV: An IS-LM-AS Model for a “Big” Exchange Rate Union.- 1. The model and its formal representation.- 2. Symmetry assumptions and other simplifications introduced for computational reasons.- 3. The efficacy of monetary policy: the short run.- 4. The efficacy of monetary policy: the medium run.- 5. The efficacy of monetary policy: the long run.- 6. The efficacy of monetary policy: the case of fixed exchange rates between the union and the rest of the world.- 7. The efficacy of fiscal policy: the short run.- 8. The efficacy of fiscal policy: the medium run.- 9. The efficacy of fiscal policy: the long run.- 10. The efficacy of fiscal policy: the case of fixed exchange rates towards the rest of the world.- Conclusions.- V: Monetary and Fiscal Policy in a“Big” Exchange Rate Union — a Strategic Analysis.- 1. Monetary policy: the system of interdependence and the authorities’ utility functions.- 2. Monetary policy: the Nash, cooperative and Stackelberg solutions.- 3. Conclusions on monetary policy.- 4. Fiscal policy: the system of interdependence and the authorities’ utility functions.- 5. Fiscal policy: the Nash, cooperative and Stackelberg solutions.- 6. Conclusions on fiscal policy.- Conclusions.