Friday, December 11, 2015

Simon Wren-Lewis 'splains the European disaster for you

Simon Wren-Lewis - basic macroeconomics of monetary unions common currency areas. Here's some book-larnin' for you, Wolfgang, about how wrong-headed the ECU project was:

[...] for a country with a flexible exchange rate, you will not increase your international competitiveness by cutting domestic wages and prices. The reason is that the exchange rate moves in a way that offsets this change. This is what economists might call a basic neutrality proposition, and there is plenty of evidence to support it. The Eurozone as a whole is like a flexible exchange rate economy. So if wages and prices fall by, say, 3%, then the Euro will appreciate by 3%.

So what happens if just one country within the Eurozone, like Germany, cuts wages and prices by 3%. If Germany makes up a third of the monetary union, then overall EZ prices and wages will fall by 1%. Given the logic in the previous paragraph, the Euro will appreciate by 1%. That means that Germany gains a competitive advantage with respect to all its union neighbours of 3%, plus an advantage of 2% against the rest of the world. Its neighbours will lose competitiveness both within the union and to a lesser extent against the rest of the world.

The point being that the 1990s-2000s German internal devaluation should not have been allowed, if Europe wanted to avoid the outbound capital flows that fueled the property bubbles in the periphery, and the subsequent need for harsh internal devaluation of the periphery that's going on now. If anything, Germany should have made its economy less competitive.

Or, y'know, adopt the fiscal federalism that we see in Canada, where weak local economies receive fiscal transfers from the strong centre in order to balance everything out.

Ha ha ha! As if the miserly Germans would ever agree to transferring their money to the periphery.


  1. Canada? From
    "The collapse of crude prices has once again put pressure on emerging market currencies. Canada’s dollar hit an 11-year low against the U.S. dollar this week. Colombia’s peso hit an all-time low. Russia’s ruble is once again under fire, nearing record lows......"