Working Paper: CEPR ID: DP1643
Authors: Barry Eichengreen; Fabio Ghironi
Abstract: This paper analyses US?European policy interactions under different assumptions about the policy-making regime and the nature of the fiscal environment, contrasting the standard Keynesian case with an anti-Keynesian case in which government spending cuts are expansionary. When fiscal policy is anti-Keynesian, EMU may enhance monetary and fiscal discipline in Europe and stabilize employment in the face of supply shocks, in striking contrast to popular fears. The European Central Bank (ECB) and central banks outside Europe will have little incentive to coordinate their response to such shocks. Governments (the fiscal authorities) will wish central banks to coordinate, but the latter will not share their interest. We show that fiscal coordination can be counterproductive in this setting. Governments and central banks on both sides of the Atlantic are worse off when European governments cooperate. The results for the Keynesian case are different: EMU may reduce monetary discipline, the ECB and central banks outside Europe will wish to coordinate their response to supply shocks, and the ECB will want European governments to coordinate their policies.
Keywords: European Monetary Unification; Exchange Rate Regimes; Fiscal Policy; International Cooperation
JEL Codes: E5; F3; H3
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| EMU (F36) | monetary and fiscal discipline (E63) |
| EMU (F36) | stability of employment (J63) |
| lack of coordination between fiscal and monetary authorities (E61) | suboptimal outcomes (I14) |
| Keynesian fiscal policy (E62) | reduced monetary discipline (E62) |
| ECB's policies (E52) | higher inflation in Europe (E31) |
| EMU (anti-Keynesian context) (E65) | enhanced monetary and fiscal discipline (E63) |