Monday, 23 September 2013

European governments repeat the mistakes of the Treaty of Versailles.

That’s the title of a letter in this morning’s Financial Times by twenty delusional economics professors who think they have the solution Eurozone problems.
They give us a tearjerking description of austerity in the periphery. And that’s a good gambit because 95% of the population think that when their emotions are aroused, what they are reading must be of significance.
The professors then end up by telling us that the solution is “a plan to revitalise public and private investment . . . and increase employment in the peripheral countries of the union..”.
Well that sounds great doesn’t it? Who could possibly be against a “plan to increase employment”?  Unfortunately it’s just happy talk: no doubt the average left of centre dummy will be enthralled by the phrase “revitalising public and private investment”. But the professors don’t actually explain on their site how that would work. Attention to detail and reality has never been the left’s strong point.

An introductory lesson on devaluation.
The professors also show an abysmal failure to understand how internal devaluation works in a common currency area. So and introductory lesson on the subject for professors who haven’t the faintest grasp of the subject is required. Here goes.
The professors say that “Expecting the peripheral countries of Union to solve the problem unaided means requiring them to undergo a drop in wages and prices on such a scale as to cause a still more accentuated collapse of incomes and violent debt deflation…”
Devaluation (whether its internal devaluation of a country in a common currency area or the devaluation of the currency of a country that issues its own currency) does not require a big drop in REAL WAGES. To illustrate, the Pound Sterling was devalued by about 25% in 2008, and the majority of the UK population didn’t know it had happened: the effect on real wages was minimal.
Likewise if wages and prices in a periphery country drop by say 25%, the effect on REAL WAGES is small because local wages are themselves a large constituent of the cost of most goods and services sold in the relevant country.

These professors have past form.
Three of the professors have a record of talking nonsense. They are Dani Rodrick, Jan Kregel and Dimitri Papadimitriou.

The Eurozone’s problems are simply problems that are INHERENT to a common currency area, and there are no easy solutions. Solution No.1 is the current austerity/slow internal devaluation solution. Solution No.2 is to leave the Euro.

If I was economic dictator of the EZ I could impose a very quick and relatively painless solution. That is to organise an overnight internal devaluation for the periphery: i.e. FORCE THRU a 25% or so cut in wage and prices in the periphery. That would be administratively difficult and expensive to do, but the costs would be less than the existing costs of austerity in the periphery.

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