Financial Markets and Fiscal Unions

Patrick Kehoe and Elena Pastorino

No 23235, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: Do sophisticated international financial markets obviate the need for an active union-wide authority to orchestrate fiscal transfers between countries to provide adequate insurance against country-specific economic fluctuations? We argue that they do. Specifically, we show that in a benchmark economy with no international financial markets, an activist union-wide authority is necessary to achieve desirable outcomes. With sophisticated financial markets, however, such an authority is unnecessary if its only goal is to provide cross-country insurance. Since restricting the set of policy instruments available to member countries does not create a fiscal externality across them, this result holds in a wide variety of settings. Finally, we establish that an activist union-wide authority concerned just with providing insurance across member countries is optimal only when individual countries are either unable or unwilling to pursue desirable policies.

JEL-codes: E0 E5 E6 E62 F33 F36 F38 F42 F44 (search for similar items in EconPapers)
Date: 2017-03
New Economics Papers: this item is included in nep-fdg, nep-ias, nep-mac and nep-opm
Note: EFG IFM ITI ME PE
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