On the Benefits of a Monetary Union: Does it Pay to Be Bigger?

Chiara Forlati ()
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Chiara Forlati: Chair of International Finance, Ecole Polytechnique Federale de Lausanne (EPFL), Switzerland

Working Papers from Center for Fiscal Policy, Swiss Federal Institute of Technology Lausanne

Abstract: This paper revisits the question of the appropriate domain of a currency area using a New-Keynesian open economy model in which the world is split in two areas, each framed as a continuum of small open regions. We show that the adoption of a common currency like the euro can be beneficial for the members of the monetary union, since the spill-over effects within and across areas generated by the inflationary policies of the small open economies are likely to outweigh the costs of not tailoring monetary policy to country-specific shocks. We also show that while enlargement of the monetary union to another group of small open economies can bring about welfare gains for all countries involved, monetary integration of two large economies, such as the euro area and the U.S., will not. These findings can rationalize the process of the creation and enlargement of the eurozone.

Keywords: New Keynesian Open Economy Macroeconomics; Optimal Monetary Policy; Currency Area; Terms-of-Trade Externality (search for similar items in EconPapers)
JEL-codes: E52 E61 F41 (search for similar items in EconPapers)
Pages: 69 pages
Date: 2007-10, Revised 2012-07
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:cif:wpaper:201303

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