IMF Economic Review

, Volume 65, Issue 2, pp 241–272 | Cite as

Fiscal Devaluation in a Monetary Union

  • Philipp Engler
  • Giovanni Ganelli
  • Juha Tervala
  • Simon Voigts
Article

Abstract

Given that exchange rate devaluations are no longer available in a monetary union, fiscal devaluations are one potential way to address divergence in competitiveness and trade imbalances. Employing a DSGE model calibrated to the euro area, we quantify the international effects of a fiscal devaluation implemented as a revenue-neutral shift from employers’ social contributions to the value added tax. We find that a fiscal devaluation carried out in the South has a strong positive effect on output, which is five times larger than under a wage tax cut. However, the effect on the trade balance and the real exchange rate is mild. The negative effect on the North’s output is weak.

JEL

E32 E62 F32 F41 

Supplementary material

41308_2016_2_MOESM1_ESM.xlsx (17 kb)
Supplementary material 1 (XLSX 16 kb)
41308_2016_2_MOESM2_ESM.xlsx (24 kb)
Supplementary material 2 (XLSX 23 kb)
41308_2016_2_MOESM3_ESM.zip (13 kb)
Supplementary material 3 (ZIP 12 kb)
41308_2016_2_MOESM4_ESM.zip (11 kb)
Supplementary material 4 (ZIP 11 kb)

References

  1. Adolfson, M., Laseen, S., Linde, J., and Villani, M., 2007, “Bayesian Estimation of an Open Economy DSGE Model with Incomplete Pass-Through,” Journal of International Economics, Vol. 72, pp. 481–511.CrossRefGoogle Scholar
  2. Arnold, J. M., Brys, B., Heady, C., Johansson, A., Schwellnus, C., and Vartia, L., 2011, “Tax Policy for Economic Recovery and Growth,” Economic Journal, Vol. 121, pp. F59–F80.CrossRefGoogle Scholar
  3. Bank of Portugal, 2011, “The Impact of a Tax Change Aimed at Increasing the External Competitiveness of the Portuguese Economy,” Economic Bulletin, Vol. 17, pp. 39–42.Google Scholar
  4. Bils, M., and Klenow, P. J., 2004, “Some Evidence on the Importance of Sticky Prices,” Journal of Political Economy, Vol. 112, pp. 947–985.CrossRefGoogle Scholar
  5. Boscá, J. E., Doménech, R., and Ferria, J., 2012, “Fiscal Devaluations in EMU” BBVA Working Paper 12/11.Google Scholar
  6. Calvo, G. A., 1983, “Staggered Prices in a Utility Maximizing Framework,” Journal of Monetary Economics, Vol. 12, pp. 383–398.CrossRefGoogle Scholar
  7. Campbell, J. Y., and Mankiw, N. G., 1990, “Permanent Income, Current Income, and Consumption,” Journal of Business & Economic Statistics, Vol. 8, pp. 265–279.Google Scholar
  8. Centraal Planbureau (CPB), 2013, “Study on the Impacts of Fiscal Devaluation,” European Commission Taxation Papers (Working Paper No. 36-2013).Google Scholar
  9. Coenen, G., Lombardo, G., Smets, F., and Straub, R., 2010, “International Transmission and Monetary Policy Cooperation,” in International Dimensions of Monetary Policy, ed. by J. Gali, M. J. Gertler (Chicago: University of Chicago Press), pp. 157–192.CrossRefGoogle Scholar
  10. de Mooij, R., and Keen, M., 2013, “‘Fiscal Devaluation’ and Fiscal Consolidation: The VAT in Troubled Times,” in Fiscal Policy after the Financial Crisis, ed. by A. Alesina, F. Giavazzi (Chicago: University of Chicago Press), pp. 443–485.CrossRefGoogle Scholar
  11. Drautzburg, T., and Uhlig, H., 2013, “Fiscal Stimulus and Distortionary Taxation,” FRB of Philadelphia Working Paper No. 13-46.Google Scholar
  12. Druant, M., Fabiani, S., Kezdi, G., Lamo, A., Martins, F., and Sabbatini, R., 2009, “How Are Firms’ Wages and Prices Linked: Survey Evidence in Europe,” European Central Bank Working Paper Series 1084.Google Scholar
  13. European Central Bank, 2012, “Competitiveness and External Imbalances Within the Euro Area,” ECB Occasional Paper series.Google Scholar
  14. European Commission, 2006, “Macroeconomic Effects of a Shift from Direct to Indirect Taxation: A Simulation for 15 EU Member States,” Note presented by the EC services at the 72nd meeting of the OECD Working Party No. 2 on Tax Policy Analysis and Tax Statistics, Paris.Google Scholar
  15. Eurostat, 2013, Statistics, Available online at http://epp.eurostat.ec.europa.eu/portal/page/portal/statistics/themes. Accessed 1 Nov 2013
  16. Farhi, E., Gopinath, G., and Itskhoki, O., 2014, “Fiscal Devaluations,” Review of Economic Studies, Vol. 81, No. 2, pp. 725–760.CrossRefGoogle Scholar
  17. Feenstra, R. C., Obstfeld, M., and Russ, K. N., 2012, “In Search of the Armington Elasticity,” unpublished.Google Scholar
  18. Franco, F., 2010, “Improving Competitiveness Through Fiscal Devaluation, the Case of Portugal,” unpublished.Google Scholar
  19. ——, 2011, “Adjusting to External Imbalances within the EMU, The Case of Portugal,” unpublished.Google Scholar
  20. Galí, J., 2011, Unemployment Fluctuations and Stabilization Policies: A New Keynesian Perspective. (Cambridge, Massachusetts: MIT Press).Google Scholar
  21. Galí, J., López-Salido, J. D., and Vallés, J., 2007, “Understanding the Effects of Government Spending on Consumption,” Journal of the European Economic Association, Vol. 5, pp. 227–270.CrossRefGoogle Scholar
  22. IMF, 2011, Fiscal Monitor: Addressing Fiscal Challenges to Reduce Economic Risks. Washington, DC: International Monetary Fund.Google Scholar
  23. Ivanova, A., 2012, “Current Account Imbalances: Can Structural Policies Make a Difference?” International Monetary Fund Working Paper 12/61. Washington, DC: International Monetary Fund.Google Scholar
  24. Kemmerling, A., 2009, Taxing the Working Poor: The Political Origins and Economic Consequences of Taxing Low Wage. (Cheltenham: Edward Elgar Publishing).CrossRefGoogle Scholar
  25. Keynes, J. M., 1931, Addendum to: Great Britain. Committee on Finance and Industry Report [Macmillan Report] (London: His Majesty’s Stationery Office, 1931) 190–209. Reprinted in Donald Moggridge, The Collected Writings of John Maynard Keynes, Vol. 20 (London: Macmillan and Cambridge: Cambridge Press for the Royal Economic Society, 1981), pp. 283–309.Google Scholar
  26. Kimball, M., and Shapiro, M., 2008, “Labor Supply: Are Income and Substitution Effects Both Large or Both Small,” NBER Working Paper 14208.Google Scholar
  27. Kormilitsina, A., and Nekipelov, D., 2012, “Approximation Properties of Laplace-Type Estimators,” in Balke, N., Canova, F., Milani, F., Wynne, M. A. (eds.) DSGE Models in Macroeconomics: Estimation, Evaluation, and New Developments. (Bingley: Emerald Group Publishing), pp. 291–318.CrossRefGoogle Scholar
  28. Lipinska, A., and von Thadden, L., 2012, “On the (In)Effectiveness of Fiscal Devaluations in a Monetary Union,” Board of Governors of the Federal Reserve System: Finance and Economics Discussion Series 2012-71.Google Scholar
  29. Mian, A., and Sufi, A., 2010, “Household Leverage and the Recession of 2007–09,” IMF Economic Review, Vol. 58, No. 1, pp. 74–117.CrossRefGoogle Scholar
  30. Schmitt-Grohé, S., and Uribe, M., 2003, “Closing Small Open Economy Models,” Journal of International Economics, Vol. 61, pp. 163–185.CrossRefGoogle Scholar
  31. Taylor, J. B., 1993, “Discretion versus Policy Rules in Practice,” Carnegie-Rochester Conference Series on Public Policy, Vol. 39, pp. 195–214.Google Scholar
  32. World Bank, 2013, World DataBank, Available online at http://databank.worldbank.org/data/home.aspx. Accessed 28 Oct 2013.

Copyright information

© International Monetary Fund 2017

Authors and Affiliations

  • Philipp Engler
    • 1
  • Giovanni Ganelli
    • 2
  • Juha Tervala
    • 3
  • Simon Voigts
    • 4
  1. 1.School of Business and EconomicsFreie Universität BerlinBerlinGermany
  2. 2.IMF Regional Office for Asia and the PacificTokyoJapan
  3. 3.Department of Political and Economic StudiesUniversity of HelsinkiHelsinkiFinland
  4. 4.School of Business and EconomicsHumboldt-Universität zu BerlinBerlinGermany

Personalised recommendations