Understanding fiscal devaluations

Abstract

aim is to compile and simplify the literature on the subject, in order to better understand the mechanism and the effects of fiscal devaluation policies. Using a deterministic model of a small open economy with flexible prices and wages, we start by identifying the relevant equilibrium conditions and analysing the equivalence between fiscal and nominal devaluations. We then consider a simple model with fixed exchange rates and nominal wage rigidity to study how fiscal devaluations can be used to restore equilibrium in the labour market. While the consideration of fiscal devaluations in simplified frameworks is in fact adequate as a first approach, a complete and accurate study of these policies may require the use of models of higher complexity.