The policy mix in a two-tier monetary union with constraints on stabilization policy

The paper studies the interaction between the monetary and fiscal authorities in the Euro area and the block of outside countries during the Third Stage of EMU. Restraints on fiscal policies and outside monetary policy are introduced as utility costs related to the use of the tax instruments and, for the outside central bank, the volatility of the outside/Euro nominal exchange rate. Due to the asymmetries of the macromodel, I use simulations to analyze the constrained policy games that arise in response to supply and demand shocks. The exercises in the paper illustrate the importance of taking into account the interaction between the different policymakers when imposing restrictions on a subset of these policymakers.