Zero Hedge’s Wondrous Claim – The Problem With The Euro Is The Reason For It

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Zero Hedge tends to be where economic misunderstandings go for a last hurrah. They’ve managed to outdo themselves this time around, insisting that the very problem with the euro is the reason for its existence. Something which shows a distinct lack of understanding of the underlying economics here, that of optimal currency areas.

By the way, the correct answer to the euro is “No.” The more technical one is Hell No.

What Zero Hedge have done is look at the manner in which various of the European currencies devalued over time against the Deutsche Mark. Then insisted that the euro had to come into being in order to prevent such depreciations over time. That the euro doesn’t allow depreciations against the DMark being the actual problem with the euro itself. So, yes, they have identified the problem as the justification. Which is some going really.

As presented in the chart below – which shows the performance for each of the EU12 countries against the German DEM in every decade from the 1950s to the start of the Euro in 1999 – apart from a small revaluation of core countries in the 1990s, every country devalued to Germany in every decade between the 1950s and the start of the Euro. Said otherwise, the Deutsche Mark appreciated in value against all of its European peers for 5 consecutive decades, a condition which if left unchanged, would have led to an economic and trade crisis.

Well, no. Even, Hell No.

As Paul Krugman has pointed out:

We’re all agreed that Greece needed to reduce its wages and other costs relative to those of the euro area core. This could have happened quickly, with no need for high unemployment, if Greece had had an independent currency to devalue — as happened in Iceland. Given membership in the euro area, however, Greece had to go through a period of relatively high unemployment depressing wage growth.

The point being that, as optimal currency area theory insists, different economies do indeed operate differently. The further apart the manner in which any two do operate then the greater the need to have different currencies. Partly so as to enable different monetary policy given different economic conditions, partly so as to allow devaluation. Which is the change in just the one external price rather than having to go through that grind of an internal devaluation. As Krugman points out, the lack of that ability is what has caused the disaster in Greece. Sure, spending too much, borrowing too much, they were causes. But once the crisis came a devaluation would have allowed recovery without 25% unemployment, 50% youth unemployment. You know, a worse – and longer – out turn than the Great Depression in the US. Something I think we’d agree is and was an economic and trade crisis?

The euro and its straitjacket has been the cause of the Irish and Spanish property booms, their subsequent collapses, the Greek debacle, Italy’s entire lack of GDP growth for two decades and much more besides. At which point, well, what do we do about Zero Hedge’s claim that the euro was necessary to avoid an economic and trade crisis?

Laugh maybe?

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Pat
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Pat

As I read the article ZH is not saying that the Euro is a good idea. Just that it was introduced to produce currency stability within the zone- regardless of all else.

Spike
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Spike

ZH is wrong that drift among national currencies “would have led to an economic and trade crisis.” Drift is an additional degree of uncertainty, as currency conversion is a costly additional step. The euro eliminates them. Paul Krugman, who is not an economist but a looter, posits that Greece could have climbed out of crisis by looting the drachma (only, “betcha can’t eat just one,” as any looting is not for financial soundness but for the joy of looting. Whom to loot next time?). The euro does not preclude looting the currency but merely moves the decision from Athens to… Read more »

Quentin Vole
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Quentin Vole

But Puerto Rico’s GDP is around 0.5% of the USA. However bad things get there, it can’t affect the dollar very much. Italy, for comparison, is around 15% of the GDP of the eurozone.

Nautical Nick
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Nautical Nick

Tyler Durden is a pseudonym, taken from a character in Fight Club. Mind you, if I were to write such drivel, I’d use a pseudonym too.

Nautical Nick
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Nautical Nick

Hmmm… having read the rest of the article I’m not so sure he’s advocating prevention of a rising DM, but saying that it was the reason for its introduction. After all, he goes on to say: “And while the fixed exchange of the Euro for European nations allowed the German export industry to go into overdrive, the lack of the possibility for an external, i.e. currency, devaluation, meant that Italy has been forced to do it all by engaging in internal devaluation, i.e., lower wages, higher unemployment and boosting its current account deficit, which however is made virtually impossible given… Read more »

Spike
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Spike

Not to me. A currency is a unit of measurement. A nation is never “forced” to devalue. A currency, moreover, usually has something backing it, whose utility is not that holders can actually turn the currency in and get “a dollar of silver” but to make it harder to devalue it. Italy being unable to rape the currency, as it is now using the EU’s currency, its moves were not “internal devaluation” nor comparable to devaluation except that the result likewise wrecked the economy. “Italy’s deteriorating demographics” (which I assume means that no one is having babies except people who… Read more »

Nautical Nick
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Nautical Nick

And how about their clumsy strap-line (again, from Fight Club) “On a long enough timeline the survival rate for everyone drops to zero”

Or as JMK put it… “In the long run, we are all dead”

jgh
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jgh

Greece needs to reduce its wages relative to the rest of the Eurozone. Yet, at the same time, the EU are consulting on “being paid the same wage for the same job everywhere in the EU”. Hmmm.