INFLATION STABILIZATION AND DEFAULT RISK IN A CURRENCY UNION

Eiji Okano, Masashige Hamano

    Research output: Contribution to journalArticle

    1 Citation (Scopus)

    Abstract

    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.

    Original languageEnglish
    Pages (from-to)1-18
    Number of pages18
    JournalMacroeconomic Dynamics
    DOIs
    Publication statusAccepted/In press - 2018 Mar 1

    Fingerprint

    Currency union
    Inflation
    Inflation stabilization
    Default risk
    Tax rate
    Stabilization policy
    Default rate
    Dynamic stochastic general equilibrium model
    Welfare cost
    Optimal fiscal policy
    Policy tools
    Surplus
    Optimal fiscal and monetary policy
    Nominal rigidities
    Trade-offs
    Fiscal
    Sovereign risk

    Keywords

    • European Crisis
    • Fiscal Theory of the Price Level
    • Optimal Monetary Policy
    • Sovereign Risk

    ASJC Scopus subject areas

    • Economics and Econometrics

    Cite this

    INFLATION STABILIZATION AND DEFAULT RISK IN A CURRENCY UNION. / Okano, Eiji; Hamano, Masashige.

    In: Macroeconomic Dynamics, 01.03.2018, p. 1-18.

    Research output: Contribution to journalArticle

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