Fiscal Discipline and Exchange Rate Regimes

CEPR Discussion Paper Series No. 1899

Posted: 4 Dec 1998

See all articles by Behzad Diba

Behzad Diba

Georgetown University

Matthew B. Canzoneri

Georgetown University

Robert E. Cumby

Georgetown University - Department of Economics; National Bureau of Economic Research (NBER)

Date Written: May 1998

Abstract

This paper explores the implications of a new theory of price determination (due to Leeper, Woodford and Sims) for the maintenance of various exchange rate systems--crawling pegs, fixed pegs, and common currency areas. It shows that deeper monetary integration requires more fiscal discipline, especially if price stability is an objective; these monetary arrangements cannot be achieved by monetary policy alone, as conventional wisdom would seem to suggest. A particularly striking result is that a currency peg is simply not sustainable if fiscal surpluses are determined by an exogenous political process; maintenance of a fixed currency peg requires the government to guarantee fiscal solvency for any equilibrium sequence of prices (which Woodford calls a Ricardian Regime). Interestingly, the debt and deficit constraints that were written into the Maastricht Treaty, and will continue in the Stability Pact after EMU, are examples of the fiscal discipline that is required.

JEL Classification: E31, F33, F41

Suggested Citation

Diba, Bezhad and Canzoneri, Matthew B. and Cumby, Robert E., Fiscal Discipline and Exchange Rate Regimes (May 1998). CEPR Discussion Paper Series No. 1899. Available at SSRN: https://ssrn.com/abstract=137207

Bezhad Diba (Contact Author)

Georgetown University ( email )

Washington, DC 20057
United States
2026875682 (Phone)
2026876102 (Fax)

HOME PAGE: http://econ.georgetown.edu/

Matthew B. Canzoneri

Georgetown University ( email )

Washington, DC 20057
United States
202-687-5911 (Phone)
202-687-6102 (Fax)

Robert E. Cumby

Georgetown University - Department of Economics ( email )

580 Intercultural Center
Washington, DC 20057
United States
202-687-2990 (Phone)
202-687-6102 (Fax)

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
United States

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