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A model of an optimum currency area

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  • Ricci, Luca Antonio

Abstract

This paper develops a two-country model to investigate the circumstances under which it is beneficial to participate in a currency area. It captures both the real and monetary arguments suggested by the optimum currency area literature in a simple monetary model of trade with nominal rigidities. The net benefits that one country expects from participation in a currency union increase with: the correlation of real shocks between countries; the degree of international labor mobility; the degree of adjustment provided by a fiscal tool; the difference between the inflationary bias of the domestic authority and the inflationary bias of the authority of the currency union; the variability of domestic monetary shocks; the extent of the deadweight and efficiency gains deriving from the adoption of a single currency. The same net benefits decrease with: the variability of real shocks; the variability of foreign monetary shocks; and the correlation of monetary shocks between countries. The effect of the degree of openness on the net benefits is ambiguous. This last result contrasts with the usual argument that the more open economies are the better candidates they make for a currency area.

Suggested Citation

  • Ricci, Luca Antonio, 1996. "A model of an optimum currency area," Discussion Papers, Series II 305, University of Konstanz, Collaborative Research Centre (SFB) 178 "Internationalization of the Economy".
  • Handle: RePEc:zbw:kondp2:305
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    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System
    • H77 - Public Economics - - State and Local Government; Intergovernmental Relations - - - Intergovernmental Relations; Federalism
    • F36 - International Economics - - International Finance - - - Financial Aspects of Economic Integration
    • F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • J61 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - Geographic Labor Mobility; Immigrant Workers
    • F02 - International Economics - - General - - - International Economic Order and Integration
    • F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination

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