The Economics of Internal Devaluation

Today’s post by Henry Kaspar for Kantoos Economics,  here, is well worth reading.

Excerpt:

“Internal devaluation is tough. Assume Portugal is overvalued by 20 percent, and suppose it maintains its current speed of adjustment, i.e. – 0.9 percent per year. If unit labor costs for the average of the euro area continues to grow by just 0.8 percent annually, it will take 14 years until Portugal has restored a competitive position. Neither investors nor the Portuguese and wider European public will grant the process that much time.”

The punch line:

“there are few (if any) examples in history of heterogeneous countries that were able to tie their currencies together for long periods.”

Austerity + Fixed Exchange Rate = Policy Failure

Read The Wilder View (Rebecca Wilder), here.

Mankiw on Four Typical Mistakes to Avoid

Those of Zimbabwe, Japan, Greece and France. Here.

Krugman on the euro and rescue plans

His recent post “The Hole in Europe’s Bucket” (Commentary, NYTimes) says it all.

Excerpts:

“Greece, where the crisis began, is no more than a grim sideshow. The clear and present danger comes instead from … Italy, the euro area’s third-largest economy. Investors, fearing a possible default, are demanding high interest rates on Italian debt. And these high interest rates, by raising the burden of debt service, make default more likely …

To save the euro, this threat must be contained. But … here’s the problem: All various proposals  … ultimately required backing from major European governments, whose promises to investors must be credible for the plan to work. Yet Italy is one of those major governments; it can’t achieve a rescue by lending money to itself. And France, the euro area’s second-biggest economy, has been looking shaky lately …”

“What makes the story really painful is the fact that none of this had to happen … Britain, Japan and the United States … have large debts and deficits yet remain able to borrow at low interest rates. What’s their secret?  The answer, in large part, is that they retain their own currencies, and investors know that in a pinch they could finance their deficits by printing more of those currencies. If the European Central Bank were to similarly stand behind European debts, the crisis would ease dramatically …

But such action, we keep being told, is off the table. The statutes … supposedly prohibit this kind of thing, although one suspects that clever lawyers could find a way to make it happen. The broader problem, however, is that the whole euro system was designed to fight the last economic war. It’s a Maginot Line built to prevent a replay of the 1970s, which is worse than useless when the real danger is a replay of the 1930s. …

The … European elite, in its arrogance, locked the Continent into a monetary system that recreated the rigidities of the gold standard, and – like the gold standard in the 1930s – has turned into a deadly trap.

Now maybe European leaders will come up with a truly credible rescue plan. I hope so, but I don’t expect it.

The bitter truth is that it’s looking more and more as if the euro system is doomed. And the even more bitter truth is that given the way that system  has been performing, Europe might be better off if it collapses sooner rather than later.”

No further comment is necessary.

  

The Myth of Lazy Southern Europeans (Again)

German officials shouldn’t be so patronizing with the “PIGS”. Read the post by Kash Mansori (The Street Light) here .

Why Britain is in Better Shape than Italy

Here is Krugman on the advantages of having your own currency.

Meanwhile, the euro zone governments try to “save” the euro ...

Great Stagnation ... or Great Relocation?

An interesting post in Noahpinion on why the center of gravity of economic activity and growth is shifting from the rich West, and especially the US, to emerging Asia.

While Tyler Cowen (Marginal Revolution) explains in his book The Great Stagnation that slowing income growth in the US is due to a slowing down of innovation and scientific discovery, Noah’s hypothesis is that growing income per capita in the East, multiplied by a very large population, makes for larger markets there that exert an irresistible pull on firms and economic activity away from the West. This is the “Great Relocation” thesis, and I find it rather persuasive.

Among the measures he suggests to reverse the trend I would support the idea of increasing the population through immigration and that of concluding free trade deals with other rich countries.

My criticism however is that much of Asia’s growth is simply due to the catching up of US income level phenomenon, and as such is a transitory phase that does not necessarily implies a fall in the American income per capita. That was already the case of Western Europe after the war, and then of Japan. And in these latter cases the catching up didn’t affect the leading position and continued progress of the US economy. This is not a zero sum game but a transition towards a new, higher income level, equilibrium for all. It only means that the acceleration of delocalization of low wages industries and firms create a need for new, high technology industries, that requires a high-quality economic environment, in the West.

So that, I would call the present transformation one of Great Reallocation (or Great Restructuration) rather than a Great Stagnation or a Great Relocation one. And in that perspective, the US entrepreneurs will find new products and processes to replace departed activities, sooner or later, but as in previous economic revolutions it is impossible for us to imagine them in advance. This is precisely the painstaking day-to-day job of innovators and entrepreneurs. It has been done several times in the past and it will happen again in the future.