Real Exchange Rate, Agglomerations, and Irreversibilities: Macroeconomic Policy and FDI in Emu

Oxford Review of Economic Policy, Vol. 14, No. 3, Autumn 1998

Posted: 26 Apr 1999

See all articles by Ray Barrell

Ray Barrell

National Institute of Economic and Social Research (NIESR)

Nigel Pain

National Institute of Economic and Social Research (NIESR)

Abstract

Fiscal policy in EMU has to be evaluated in the light of the changing nature of capital mobility in Europe and its effects on growth. Most arguments about the effects of fiscal policy in EMU assume that we live in a perfect competition world with a unique natural rate of output for each country. The removal of barriers to foreign direct investment (FDI) accompanied by the prevalence of imperfect competition mean that the natural rate of output is to be determined by locational competition. We show that FDI is influenced by relative costs and is attracted by agglomerations, and that the level of technology depends on the stock of FDI. Sustained expansionary fiscal policies will raise costs and make locations less attractive. Agglomerations could be destroyed by these higher costs, and the size of the nation will shrink. These effects will constrain policy-makers much more than the Stability Pact.

JEL Classification: F33, E62

Suggested Citation

Barrell, Ray and Pain, Nigel, Real Exchange Rate, Agglomerations, and Irreversibilities: Macroeconomic Policy and FDI in Emu. Oxford Review of Economic Policy, Vol. 14, No. 3, Autumn 1998. Available at SSRN: https://ssrn.com/abstract=139817

Ray Barrell (Contact Author)

National Institute of Economic and Social Research (NIESR) ( email )

2 Dean Trench Street
Smith Square
London SW1P 3HE
United Kingdom
0171 222 7665 (Phone)
0171 654 1900 (Fax)

Nigel Pain

National Institute of Economic and Social Research (NIESR) ( email )

2 Dean Trench Street
Smith Square
London SW1P 3HE
United Kingdom
0171 222 7665 (Phone)
0171 654 1900 (Fax)

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