Arnold Kling

Print More Euros

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Bryan's Euro Bet gets discussed in the Economist blog.


There are real issues with the euro; its member states are far from an optimal currency zone, and the problem will only get worse as more members are added (if they are; the proposed new members are getting a little twitchy). America has all sorts of ways to mitigate the damage done by its own sub-optimal currency union; Europe has been slow to develop such mechanisms, especially fiscal stabilisers and labour market mobility. It is not hard to envision a scenario where long-term economic stagnation in the countries that used to depend on a cheap currency to support their manufacturing base results in a new government committed to exit

If Europe is not an optimum currency area, then the problem is in some sense that equilibrium wage rates in euros differ across countries. What is needed is for wages in, say, Italy, to fall and wages somewhere else to rise. But inflation rates are low and wages tend to be sticky downward.

So the solution would seem to be to print more euros and boost the inflation rate. This would provide a cover for a relative wage shift, as the wages in other countries rise more than those of Italian workers.

I'm not saying they should crank up the printing presses to the point of double-digit inflation. But, assuming that my admittedly Keynesian analysis is correct, the imbalance problems caused by the euro seem solvable with more money growth. Right?

My main point is that I think that compared to Europe's regulatory and cultural problems, whatever issues that the euro creates are relatively minor. My prediction is that if a country secedes from the euro but does not fix its institutional problems, it will achieve little.


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COMMENTS (4 to date)
Cyrus writes:

Except that (1) the ECB has a mandate to limit inflation, but none to cause it, and (2) a looser monetary regime to give, say, Italy a jump start is the last thing the already overheated asset markets in Spain and Ireland need.

Barkley Rosser writes:

It remains highly likely you will win your bet. Forget who you are betting with, but they should have demanded some major odds.

Italy remains the most likely to withdraw anytime in the near future, but I think 2010 is way too soon. Prodi will be in probably until then, and he has simply taken the option off the table. One reason it is likely to remain off the table for a long time is that all too many important people in Italy are fully aware that interest rates in Italy would take an umpleasant and sizeable jump if Italy were to withdraw (and presumably devalue).

As for countries joining, well, Slovenia has just joined without a trace of a hassle. Totally smooth sailing. Most of the grumbling in the EU is against assinine regulations and not the euro, although there are a lot of people in many countries who are falsely under the impression that there was this big one time price increase when the changeover occurred from their national currencies to the euro. But that misperception is not going to lead to anybody anywhere pulling out.

Edgardo writes:

Forget about Mundell and others. It makes no sense to say that the EU or any country, including US, is not an optimal currency area. Actually, if you look at the problem from the viewpoint of a system of payments, most likely the world is the optimal area (I should say it was the optimal area because there is no tech reason not to have only what E. Fama calls an accounting system of payments, with just one unit of account). The idea of two or more currencies is based on macro (aggregate demand) arguments that logically imply a number of currencies much larger than the number of countries, except in models like the ones used by Mundell and others where the assumptions to get some theoretical results limit the analysis to two currencies. Should each of the 50 states have its own currency? What about each county? There is no way to answer these questions with those theoretical arguments because once there is some local financial crisis you can show that the best way to solve it is by printing a local currency (the Argentinian crisis of 2001/02 is the most recent example: the largest province issued its own currency just before it was recognized that the crisis was a national one). Indeed, as it is common in the literature on optimal areas, these ideas about many currencies ignore the probabiity that governments may rely on the inflation tax to finance their expenditures (by the way, private company towns that issue monopoly money for local transactions have often abused their power).

jaim klein writes:

The euro is displacing the US dollar because it is a better keeper of value, and it allways will thanks to the Germans (pathological? justified?) fear of inflation and disorder. If I were a Chinese treasury mandarin, just reading that you are advising printing money would cause me to "diversify" a fistful of billions dollars more into euros.

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