Working Paper: CEPR ID: DP3491
Authors: Roel Beetsma; Koen Vermeylen
Abstract: We explore the implications of monetary unification for real interest rates and (relative) public debt levels. The adoption of a common monetary policy renders the risk-return characteristics of the participating countries more similar, so that the substitutability of their public debt increases after unification. This implies that the average expected real return on this debt increases. Also, the share of the debt issued by relatively short-sighted governments, or by countries that initially have a relatively dependent central bank, increases after unification. A transfer scheme that penalizes debt increases beyond the union average is able to undo the interest rate effect of unification, but further magnifies the spread of the relative debt levels.
Keywords: relative public debt; central bank independence; externalities; monetary union; real interest rates; substitutability
JEL Codes: E42; E62; E63; F33
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Monetary Unification (F36) | Increased Substitutability of Public Debt (H69) |
| Increased Substitutability of Public Debt (H69) | Increased Average Expected Real Return (G17) |
| Transfer Scheme (F16) | Spread of Relative Debt Levels (F65) |
| Initial Conditions of Central Bank Independence and Government Short-Sightedness (E58) | Spread of Relative Debt Levels (F65) |