Fiscal Unions
We study cross-country insurance for members of a currency union using an open economy model with nominal price and wage rigidities. We provide two results that build the case for the creation of a fiscal union within a currency union. First, we show that, if financial markets are incomplete, the value of gaining access to any given level of insurance is greater for countries that are members of a currency union. Second, we show that, even if financial markets are complete, private insurance is inefficiently low. A role emerges for government intervention in macro insurance to both guarantee its existence and to influence its operation. The efficient insurance arrangement can be implemented by contingent transfers within a fiscal union. The benefits of such a fiscal union are larger, the bigger the asymmetric shocks affecting the members of the currency union, the more persistent these shocks, and the less open the member economies.
Year of publication: |
2014-01
|
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Authors: | Farhi, Emmanuel ; Werning, Ivan |
Institutions: | Institute for Quantitative Social Science, Harvard University |
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