Fiscal Devaluation in a Monetary Union

Using a DSGE model calibrated to the euro area, we analyze the international effects of afiscal devaluation (FD) implemented as a revenue-neutral shift from employer's socialcontributions to the Value Added Tax. We find that a FD in 'Southern European countries' has a strong positive effect on output, but mild effects on the trade balance and the realexchange rate. Since the benefits of a FD are small relative to the divergence incompetitiveness, it is best addressed through structural reforms