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Monetary union with voluntary participation

William Fuchs and Francesco Lippi

No 512, Temi di discussione (Economic working papers) from Bank of Italy, Economic Research and International Relations Area

Abstract: A Monetary Union is modeled as a technology that makes a surprise policy deviation impossible but requires voluntarily participating countries to follow the same monetary policy. Within a fully dynamic context, we identify conditions under which such arrangement may dominate a coordinated system with independent national currencies. Two new results are delivered by the voluntary participation assumption. First, optimal policy is shown to respond to the agents� incentives to leave the union by tilting both current and future policy in their favor. This contrasts with the static nature of optimal policy when participation is exogenously assumed and implies that policy in the union is not exclusively guided by area-wide developments but does occasionally take account of member countries� national developments. Second we show that there might exist states of the world in which the union breaks apart, as occurred in some historical episodes. The paper thus provides a first formal analysis of the incentives behind the formation, sustainability and disruption of a Monetary Union.

Keywords: monetary union; limited commitment (search for similar items in EconPapers)
JEL-codes: C7 E5 F33 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
Date: 2004-07
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Related works:
Working Paper: Monetary Union with Voluntary Participation (2005) Downloads
Working Paper: Monetary Union with Voluntary Participation (2003) Downloads
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