Is a fiscal union optimal for a monetary union?

When is a fiscal union appropriate for a monetary union? In a monetary union without fiscal externalities, when local fiscal authorities have an informational advantage over a central fiscal authority in terms of their knowledge of countries' preferences for government spending, a decentralized fiscal regime dominates a centralized one. Our novel result is that in the presence of fiscal externalities across countries, however, a decentralized fiscal regime is optimal for small monetary unions, whereas a centralized fiscal regime is optimal for large ones. These results shed new light on the debate on fiscal integration within the EU and its enlargement. • We reassess the desirability of fiscal unions for monetary unions. • Fiscal federalism asserts that local authorities best serve local citizens. • We argue that small monetary unions are best paired with decentralized fiscal regimes. • Large monetary unions instead are best paired with centralized fiscal regimes. • Our results shed new light on fiscal integration within the EU and its enlargement. [ABSTRACT FROM AUTHOR]

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