Fiscal policy changes impact regional inflation differentials in currency union.
The article explores how a region in a currency union can influence its inflation compared to the union through fiscal policy. By analyzing the relationship between regional fiscal policy and inflation differences in a two-region model, the researchers found that changing tax rules can reduce inflation volatility but also affect output volatility. In smaller countries, lower inflation volatility is linked to higher output volatility due to their higher openness and reliance on traded goods productivity shocks.