The Political Economy of a Diverse Monetary Union

Enrico Perotti and Oscar Soons ()
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Oscar Soons: University of Amsterdam and Tinbergen Institute

No 10, ECONtribute Discussion Papers Series from University of Bonn and University of Cologne, Germany

Abstract: We analyze the political economy of monetary unification among countries with different quality of institutions. Countries with stronger institutions have lower public spending and better investment incentives, even under a stronger currency. Governments under weaker institutions spend more so must occasionally devalue. In a MU market prices and ows adjust quickly but institutional differences persist, so a diverse monetary union (DMU) has redistributive effects. The government in the weaker country expands spending, and investment may be reduced by the fiscal and common exchange rate effect. Strong country production benefits from the weaker currency but needs to offer fiscal support in a crisis. In equilibrium the required support is incentive compatible due to the devaluation gain. Some governments may join a DMU even if it depresses productive capacity to expand public spending. Even in a DMU beneficial for all countries, firms in weaker countries and savers in stronger countries may lose.

Keywords: Monetary unions; institutional quality; fiscal union; political economy; fiscaltransfers (search for similar items in EconPapers)
JEL-codes: D72 F33 F45 O33 O47 (search for similar items in EconPapers)
Pages: 50 pages
Date: 2020-06
New Economics Papers: this item is included in nep-cba and nep-opm
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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https://www.econtribute.de/RePEc/ajk/ajkdps/ECONtribute_010_2020.pdf First version, 2020 (application/pdf)

Related works:
Working Paper: The Political Economy of a Diverse Monetary Union (2020)
Working Paper: The Political Economy of a Diverse Monetary Union (2019)
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Persistent link: https://EconPapers.repec.org/RePEc:ajk:ajkdps:010

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