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Nominal Bonds and Budgetary Discipline in a Currency Union
Credit and Capital Markets – Kredit und Kapital, Vol. 32 (1999), Iss. 1 : pp. 1–23
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Gerhard Illing, Frankfurt/Main
Cited By
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Bailing in the private sector
Illing, Gerhard
Intereconomics, Vol. 35 (2000), Iss. 2 P.64
https://doi.org/10.1007/BF02930129 [Citations: 0]
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Abstract
The paper analyses monetary policy in a stochastic economy with shocks on government spending. Due to a moral hazard problem (efforts for budgetary discipline being not observable), nominal debt serves as a substitute for risk markets. It is shown that the optimal level of debt is finite even in a regime with reputation. A transfer of reputation in a currency union can work smoothly only under conditions of an optimum currency area (strongly correlated spendings shocks). Even in that case, however, budgetary policy has to be centrally coordinated as well, because otherwise incentives for budgetary discipline will be distorted. (JEL E50, E62, H63)