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Philipp Engler, Mr. Giovanni Ganelli, Juha Tervala, and Simon Voigts
Using a DSGE model calibrated to the euro area, we analyze the international effects of a fiscal devaluation (FD) implemented as a revenue-neutral shift from employer's social contributions to the Value Added Tax. We find that a FD in ‘Southern European countries’ has a strong positive effect on output, but mild effects on the trade balance and the real exchange rate. Since the benefits of a FD are small relative to the divergence in competitiveness, it is best addressed through structural reforms.
Philipp Engler, Mr. Giovanni Ganelli, Juha Tervala, and Simon Voigts

trade balance by 0.2 percent of GDP, which are quite small effects. Figure 2 shows that the current account deficit inSouthern European countries’ was roughly 1 percent of GDP in 2012. We show that a fiscal devaluation of roughly 4 percent of GDP is needed to correct—temporarily—the 1 percent trade balance deficit inSouthern European countries’. This would imply that the VAT rate needs to be increased by 4 percentage points and it may be difficult to raise VAT rates by such a large amount swiftly. In addition, a fiscal devaluation of 4 percent of GDP depreciates