Inflation Aversion and Exit Probabilities in the Monetary Unions

The paper considers a monetary union composed of two representative countries characterized by different inflation aversions. The model derives Nash equilibria after a country-specific shock in which the countries have a costly option to abandon the common currency. The main results are that the higher the inflation aversion of the country affected by the shock, the lower its exit probability. The higher the inflation aversion in both countries, the lower the probability that the country not directly hit also abandons the monetary union (contagion).