Working Paper: CEPR ID: DP5797
Authors: Bernardino Adao; Isabel Correia; Pedro Teles
Abstract: This paper assesses the relevance of the exchange rate regime for stabilization policy. This regime question cannot be dealt with independently of other institutions, in particular how fiscal policy is designed. We show that once fiscal policy is taken into account, the exchange rate regime is irrelevant. This is the case independently of the severity of price rigidities, independently of asymmetries across countries in shocks and transmission mechanisms and regardless of the incompleteness of international financial markets. The only relevant condition is labour mobility. The immobility of labour across countries is a necessary condition for our results.
Keywords: Fiscal and Monetary Policy; Fixed Exchange Rates; Labour Mobility; Monetary Union; Nominal Rigidities; Stabilization Policy
JEL Codes: E31; E63; F20; F33; F41; F42
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| exchange rate regime (F33) | stabilization policy (E63) |
| fiscal policy (E62) | stabilization policy (E63) |
| labor mobility (J62) | effectiveness of fiscal and monetary policies (E63) |
| fiscal policy + monetary policy (E63) | costs of fixed exchange rate regime (F31) |
| labor immobility (J69) | irrelevance of exchange rate regime for stabilization policy (F33) |
| labor mobility (J62) | relevance of exchange rate regime for stabilization policy (F33) |