Fiscal Unions

48 Pages Posted: 9 Aug 2012

See all articles by Emmanuel Farhi

Emmanuel Farhi

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

Iván Werning

Massachusetts Institute of Technology (MIT) - Department of Economics; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: July 31, 2012

Abstract

We study cross-country insurance in a currency union 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.

Keywords: Fiscal union, currency union, optimal currency a/rea, international insurance, fiscal and monetary policy, monetary union

JEL Classification: E6, F3

Suggested Citation

Farhi, Emmanuel and Werning, Ivan, Fiscal Unions (July 31, 2012). MIT Department of Economics Working Paper No. 12-20, Available at SSRN: https://ssrn.com/abstract=2126777 or http://dx.doi.org/10.2139/ssrn.2126777

Emmanuel Farhi

Harvard University - Department of Economics ( email )

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National Bureau of Economic Research (NBER) ( email )

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Ivan Werning (Contact Author)

Massachusetts Institute of Technology (MIT) - Department of Economics ( email )

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HOME PAGE: http://econ-www.mit.edu/faculty/iwerning

National Bureau of Economic Research (NBER) ( email )

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