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Independent inflation-targeting regime versus monetary union: An analysis of dynamic stability under endogenous inflation expectations

Dai, Meixing (2006): Independent inflation-targeting regime versus monetary union: An analysis of dynamic stability under endogenous inflation expectations.

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Abstract

Some countries may face choice between targeting inflation independently and entering a monetary union that targets inflation. This paper shows that the choice of a country in favour of monetary union may be motivated by asymmetrical supply shocks. The demand shocks are neutralised under these regimes and don’t explain the choice of joining a monetary union. Further, before or after the construction of the union, monetary authorities must keep a minimum concern for stabilising output around its potential in order to guarantee the dynamic stability of the economy in a framework where the central bank is assumed to be unable to perfectly control, through the manipulation of the repo interest rate, the interest rate at which the private financial and non-financial agents lend and borrow. The disappearance of national currencies can render the economy of the union unstable.

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