Rebalancing in the eurozone : effects on the terms of trade, the real exchange rate and welfare
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- Master Thesis 
This thesis sets up and solves an intertemporal general equilibrium model of regional rebalancing. The world consists of two regions, each endowed with two goods -one tradable and one nontradable. The model is solved in closedform which makes the rebalancing process transparent. In particular, first order difference equations governing the price paths are established. Another benefit of the closed-form solution is that it allows for global analysis, and not just locally around the equilibrium. Further, the price of nontraded goods outside equilibrium are derived and the transfer effect is quantified. By linearization, the thesis obtains a rule of thumb for the misalignment in nontraded goods’ prices out of equilibrium. The thesis calculates the welfare costs associated with a suboptimal consumption allocation. Further, the thesis simulates the rebalancing of regional imbalances between the core and periphery in the Eurozone. The model predicts that current consumption is likely to deviate from the optimal allocation. The rebalancing leads to significant inflation differences between the core and the periphery. Finally, the welfare costs from the suboptimal consumption allocation seem to be relatively small. However, the costs differ significantly between the regions.