Stabilization policy in an exchange rate union

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The treaty of Maastricht aims for a complete economic and monetary union in Europe, leading to increased real and monetary integration. This study examines how monetary and fiscal policies of one member country affect its own macroeconomic performance and that of other member countries and the global economy. It contrasts the impacts of a small versus a large European union, clearly differentiating between short-run, medium-run, and long-run effects. The analysis explores the implications for union cohesion and the potential for policy coordination. Utilizing a three-country model, it challenges many findings from traditional two-country policy coordination literature, particularly regarding asymmetries among EC member countries. Additionally, it considers structural parameters as responsive to the integration process rather than fixed, linking the discussion to optimal currency area literature and deriving significant insights about union cohesion during the transition phase.