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Optimal Fiscal Devaluation

  • Langot, François

    ()

    (University of Le Mans)

  • Patureau, Lise

    ()

    (University of Lille 1)

  • Sopraseuth, Thepthida

    ()

    (University of Cergy-Pontoise)

We study fiscal devaluation in a small-open economy with labor market search frictions. Our analysis shows the key role of both dimensions in shaping the optimal tax scheme. By reducing labor market distortions, the tax reform is welfare-improving. Yet, as it makes imports more expensive, fiscal devaluation lowers the agents' purchasing power, which is welfare-reducing. These contrasting effects give rise to an optimal tax scheme. Besides, transition matters. If the economy is better off in the long run, the required transitional saving effort increases the cost of the reform, thereby calling for a moderate magnitude of fiscal devaluation.

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Paper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 6624.

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Length: 58 pages
Date of creation: Jun 2012
Date of revision:
Handle: RePEc:iza:izadps:dp6624
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