Realpolitik: The Euro Payoff

“European monetary unification … has been to Germany’s own great economic advantage” writes Adam S. Posen (“The Euro Payoff: Germany’s Economic Advantages from a Large and Diverse Euro Area”, Peterson Institute for International Economics, March 3, 2011). Thus “coldhearted economic calculations should compel Berlin to step up for the euro”.

Indeed, “a smaller member economy of a currency union might suffer from increased size, in that the monetary policy decisions made put too little weight on the conditions in that economy (which is arguably part of what happened to Ireland and Spain pre-crisis).” But “for the anchor currency of a monetary union – the largest economy and the one that the other member economies’ business cycles respond to most – monetary policy decisions will be largely the same as those that would have been made for the anchor economy itself, because of its economic and political weight.”

Moreover: “Germany benefits directly from the stability of currencies that the euro provides to surrounding countries – and that includes southern Euro Area members. Germany gets to run a trade surplus with member countries that otherwise would not be able to afford so many of its exports.” Or more exactly, German exporters would not been able to export so easily their products, were the intra-zone exchange rates at the "right" level.

Thus, “The German economy is protected against exchange rate instability, and likely sharp declines in competitiveness, by keeping its less stable neighbors viably in the Euro Area.” More exactly: the German economy is protected from equilibrium exchange rate adjustment of her partners. 

My summary: Germany gains from a large Euro Area because the monetary policy of the zone is not different from the optimal German one, and because the “less stables neighbors” are prevented from adjusting competitively their exchange rate to equilibrium levels through devaluation, thus giving the German economy the growing advantage of a cumulative devaluation of the “implicit D-Mark” derived from the tightly controlled domestic wage growth, which determines a permanent trade surplus with its European neighbors.

Hence Posen’s conclusion:

“It is in the German’s own enlightened self-interest to provide financing to ease the process of real adjustment in those Euro Area economies that have overstretched on spending on German goods.”

In other words, an undervalued exchange rate determining overstretched exports is well worth the cost of providing finance to neighbors. Especially so since the "strong euro" broadens the international market for sovereign German borrowing, and thus lowers interest rates on German bonds. 

Why then isn’t German public opinion convinced? Maybe because the profits from the export machine are concentrated while all German taxpayers are going to pay for subsidies to Greece, Ireland, Portugal and maybe Spain, while German wage growth is anemic.

The punch line:

The Posen paper is a marvelously clear and cynical exposé of the narrow interests of the German export machine. Domestic wages kept low and higher taxes allow real transfers from German households to the German exporters, by the means of subsidizing other European countries which are pushed into importing more German goods by the overvaluation of their “implicit currencies”, and have been pushed to near bankruptcy borrowing by the inadequate “German” ECB monetary policy.

These other members of the eurozone should think twice about the cost to themselves of a continuing participation in such an asymmetric and detrimental institution.

Read the whole paper here .

Krugman on Ricardian Equivalence

A temporary (not permanent) increase in government spending now (let’s say for one or two years) does not call for a same amount of tax increases in all future periods, but a lower one as far as the tax burden is spread over many future periods.  In that case, the present cut in consumer spending should be less than the public spending increase and the program should have expansionary effects, even if you have full “Ricardian equivalence” behavior (perfect foresight of future fiscal consequences of present policy).

A short post here .

The result of course would be different if future tax increases were to be concentrated in the next few years rather than over an infinite series of future periods. 

Does Education Pay?

Not necessarily, writes Laurence Kotlikoff in an article that makes you think twice about government policies that promote higher education as a sure path to economic success. The reasons for skepticism? First, differences in the length of active life, and second, of course, differences in taxes.

The paper is well worth reading on Bloomberg.

The Most Heavily Cited Macroeconomic Title of the 20th Century

The Journal of Economic Perspectives publishes a retrospective on New Zealand economist Alban William Housego (Bill) Phillips, a remarkable man, who had an extraordinary life and who discovered (or maybe rediscovered after Irving Fisher’s “A Statistical Relation between Unemployment and Price Changes”, The Journal of Political Economy, March-April 1973 reprint of a 1926 article) the famous inflation-unemployment trade-off Curve.

It reads like a novel here (complimentary). 

Protestant Reformation and the Printing Press

New evidence provided by Jared Rubin is available here.

My comment: The printing press increased in considerable proportions the amount of information available to the population in the West. According to my thesis, this contributed to the development of decentralized production and a decline of hierarchical production.

A main difference between the Protestant churches and the Catholic dominant one, at the time, was that the  former were decentralized enterprises in the production of religious services while the latter was heavily centralized under the papal management in Rome.

The information revolution produced by the printing press thus determined a rise of the decentralized sector of the religious business, and a contraction of the market share and production of the centralized sector of the same business. This is what I defined as the “Coase-Rybcinski” theorem in my 2000-2006 book. 

Is Trichet out of his ****** mind?!

The tightening of monetary policy in the Eurozone announced by Jean-Claude Trichet on March 4 is a “horrible idea” according to a much commented post on the German blog Kantoos Economics.

A striking graph shows the abrupt fall of the Euro area (15) quarterly NGDP deviation from trend since 2008. It is currently of – 10% and there is still no sign of recovery. Since the beginning of the year the euro has appreciated from about 1.35 to the current near 1.40 dollar, while the total nominal hourly labour costs keep falling as shown by Matt Yglesias here.

Yglesias concludes that “the Euro contraption is being run for the benefit of German bondholders and totally (ignores) the welfare of the majority of Europe’s citizens.”

My comment: This is precisely the theme of my forthcoming book (in press, in French).

Gold Standard Versus Market Economics

Steven Bryan has just published a remarkable book: The Gold Standard at the Turn of the Twentieth Century: Rising Powers, Global Money, and the Age of Empire.

Excerpts:

 “This book is about the gold standard and how it came to be adopted worldwide at the turn of the twentieth century in ways and for reasons that had less to do with fealty to English power or English theory than with realpolitik concerns of national power, prestige, and anti-English competition. It was a use of the gold standard distinct  from neoclassical ideas, English influence, and late twentieth century and early twenty-first century ideas of market economics.”

“Since Britain had been the first country to fix the value of its currency to gold in the nineteenth century – and was by the mid-nineteenth century the world’s primary financial and trade power – setting a fixed value of one’s currency to gold meant, in practice, fixing the value of one’s currency to the British pound sterling. It was, in short, similar to countries in the 1990s, such as Argentina and Thailand, that fixed the value of their currencies to the U.S. dollar.”

“The chapters that follow show how the gold standard emerged outside of Europe in the late nineteenth century as a tool of nationalists and protectionists intent on fostering domestic industry and imperial expansion. In so doing, the book shifts the center of gravity for the gold standard from a cosmopolitan world of free markets, economic liberalism, and laissez-faire to one in which nationalist concerns with infant-industry protection and military power dominated.”

My comment:

This is quite coherent with my analysis (in The Second Twentieth Century) of the last quarter of the nineteenth century as the beginning of the era of centralization, imperialism and decline of democracy, which was to last until the mid-1970s and the contemporary information and communication revolution. 

It may also explain why the major powers tried to reinstate the gold standard after WWI, not, -- contrary to what they said -- , as a return to classical liberal policies and free trade, but much in accordance with the dominant protectionist, statist, and authoritarian trends of the late nineteenth and early twentieth century. Their mistake then would not have been in the designing of the wrong policy, dissonant with the general trends of the period, but of going too far in the dominant direction of market fragmentation and protectionism, and of adopting, in the pursuit of these policies adapted to the conditions of the time, extreme disequilibrium and  unsustainable exchange rates.   

Advice to the "goldbugs" who advocate a return to the gold standard as an example of a classical liberal, pro market policy “par excellence”: beware of what you wish for !