Wednesday, August 17, 2011

The Euro Endgame

Mohamed A. El-Erian develops and analysis quite similar to mine (see for example my post of yesterday) for Project-Syndicateeven though his title is misleading, reflecting an ECB-centered preoccupation with its independence and future rather than expressing a concern for global welfare in Europe.


“Whichever way you look at it, the ECB … is being forced into an endgame with three once-improbable outcomes. That endgame will play out in week and months, not quarters and years. (see my comments on the durability of cartels, JJR).  …

The first is a disorderly breakup of the eurozone. …

The second is the one preferred by political scientists and European visionaries (he means “the politicians of the zone”, JJR): greater fiscal union … or, in blunt terms, German willingness to do for the eurozone what it did for Eastern Germany – namely, write large checks for years to come. (most unlikely, despite the "eurobonds" babble, JJR).

The third alternative is the one embraced by several economists. It involves creating a smaller and more economically coherent eurozone which would consist of core and near-core countries within a tighter fiscal union. … In the process, 2-3 peripheral economies would take a sabbatical from the euro. (See again my post on that. It is not a preference, but the logical consequence of the fundamentals of optimal currency areas theory, supplemented by politicians' preference for centralization, JJR). 

Although the endgame is close, it is impossible to predict which alternative will prevail.    … My sense is that politicians will opt for a weak variant of greater fiscal union, but that, ultimately they will fail to execute it for the eurozone as we know it today.   …  the coming endgame will be neither simple, nor orderly. (That’s precisely what I explained in my book, and in yesterday’s post, JJR).”

Additional comment:

El-Erian didn’t, however, mention a fourth alternative that we develop with two colleagues in today’s French daily Les Echos (for those of you who can read French look here: a major devaluation of the euro following a drastic cut of the ECB interest rates, that would stimulate all the economies of the eurozone, including the German one. It would buy some more time for politicians before they resolve to adopt the most likely shrinking of the eurozone into a DM-zone.

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