A Real Options Perspective on the Future of the Euro ∗ by Fernando Alvarez

A break-up of the Eurozone is regarded as inevitable by some. This will be a costly and irreversible decision in conditions of continuing uncertainty, therefore amenable to analysis in the real options framework. We do so by solving as an optimal stopping n−dimensional problem with: (1) country-specific shocks, (2) the “convergence” of member economies, and (3) a complete break-up versus individual country departures. In calibrated solutions for a symmetric case we find a non-negligible but small option value. Furthermore, we find a new theoretical result on the non-monotonicity of abandonment threshold with respect to volatility. E-mail addresses of authors: Alvarez: [email protected] Dixit: [email protected] Dixit thanks Nuffield College, Oxford for its hospitality during the time when part of this work was done, and the economic theory workshop audience there for useful early feedback. Alvarez thanks the Banque de France Foundation for support. We thank the comments by Harald Uhligh, Ivan Werning and Benot Chevalier-Roignant.