What about the ugly Europeans?

Paul Krugman has a follow-up post to his earlier one where he points out that being pro-European is one thing, but that being pro-EMU in the 1990s was another.

I have one gripe with the piece: it wasn’t only ugly Americans (and eurosceptic Little Englanders) who were €-sceptical. Here is a newspaper article by Peter Neary, for example, written in 1997, and I have already linked to a longer 1997 piece by Neary and Thom, as well as to a 2000 article by Thom and myself that make my own feelings on the subject pretty clear.

More important, however, are PK’s concluding comments:

Was the euro a mistake? There were benefits — but the costs are proving much higher than the optimists claimed. On balance, I still consider it the wrong move, but in a way that’s irrelevant: it happened, it’s not reversible, so Europe now has to find a way to make it work.

I couldn’t agree more. The logical move at this stage (and some cynics thought this was the point of EMU all along) would be a move to fiscal federalism, so as to smooth out asymmetric shocks, but the French and Dutch votes of 2005 make that a pretty implausible scenario. It is the logical move, though.

59 replies on “What about the ugly Europeans?”

It’s implausible to expect economies to merge in a short space of time. Convergence, however, is not implausible. Agriculture is already on the road to convergence, for example. It has taken a long time, but it is happening. If we see eurozone-wide banking regulation and resolution regimes, this will speed the process in financial markets. If we see some sort of bailout mechanism for states (from the EU or the ECB), this will increase convergence from the fiscal side. Whether there is an impenetrable constitution or an impenetrable framework of treaties…

Logical for who? Eurocrats – yes. Irish citizens – no way José Manuel! Fair dues to Peter Neary. I would love to know how many other Irish economists had read their macroeconomic textbook and popped their heads above the parapet pre-1999?

I wonder what kinds of steps could be taken to promote intra-EU migration as a margin of adjustment? Recognition of credentials/qualifications is an obvious one.

Increased emphasis on (and investment in) language-learning in schooling is a more fundamental and long-term factor I suppose. Perhaps the playwrights of the future will be portraying the dilemmas of emigration to Florence rather than Philadelphia….

@James: pensions seem to be a big problem, speaking to colleagues contemplating moves between countries. Health insurance is another, at least if you are coming into a jurisdiction where insurers make you wait before being fully covered.

The assumption underpinning much debate is that the costs of exiting the Euro make such a step unattractive. I disagree. I think that, until a detailed assessment of the question is made, the matter remains an open question.

There is a danger of a static analysis which would just consider the question in terms of costs and benefits visible today. For how does one quantify the present value of the future costs of indefinitely importing an inappropriate monetary policy? I personally would put a value on that item (real economic independence) even higher than on our existing national independence.

IMHO we should strongly consider exiting the Euro. More importantly, the pros and cons should be formally evaluated by competent economists.

@ Cormac. Here, here! I’m sure there would be some ESF funding available for the research. 😉

I do not follow the logic that exiting the euro, if it were even possible, would imply exiting the EU. Fair enough if all member states were euro members but they are not. That suggest that euro membership if not a prerequisite of EU membership. Moreover, if we were to leave it is high probability that it would be the product of a system wide crisis.

Exit from the euro might be calculated to boost competitiveness but it would almost certainly lead to sovereign default in the current circumstances. The national debt is denominated in euros as is the currently guaranteed external funding of the soon to be nationalised (?) banking system. The national exchequer would almost certainly not be in a position to service this external debt burden.

In reality, unilateral exit from the euro is fools gold.

As I pointed out here, in a speech last year to TCD and in several other places Barry Eichengreen has done the evaluation suggested. Cormac, I think you will agree he is more than competent
See http://www.econ.berkeley.edu/~eichengr/breakup_euro_area.pdf
“How formidable are the obstacles to withdrawing? Economically, it is not clear
which way the arguments cut. A country contemplating exit in order to obtain the kind of real depreciation needed to address problems of chronic slow growth and high
unemployment would be deterred if it thought that its efforts to engineer a real depreciation would be frustrated by the inflationary response of domestic wages and prices, or if it thought that leaving the monetary union would significantly raise its debt servicing costs. But if the defector at the same time strengthens the independence of its central bank and the efficiency of its fiscal institutions, then it is at least conceivable that these negative economic effects would not obtain.
In contrast to some other authors, I have argued that the technical and legal difficulties of reintroducing the national currency, while surmountable, should not be underestimated. But the political domain is where the most serious obstacles to withdrawing reside. A country that withdrew from Europe.s monetary union would be seen as unilaterally disregarding its commitments to other euro area members Such a country would not be welcomed in the meetings where the future architecture of the European Union is discussed and policy priorities are decided. Insofar as member states value their participation in these political discussions, they would incur significant costs.”

So all we have to do is overcome almost insurmountable technicolegal obstacles; grant complete independence to the CB and NOT INTERFERE ; introduce effective and competent financial systems; and wave goodbye to any hope in the next two generations of exercising the slightest whit of influence on any decision whatsover. As the meerkat says, “simples, no?”

Asymmetric shocks was always the weakness of the Euro decision. Anyone remember the McDonald (I think it was) report on EMU of long ago.

The decision was a political one. Unfortunately in present circumstances the chances of interregional automatic budgetary stabilisers or straight transfers are increasingly remote.

We are where we are and a decision to pull out is very different to one not to join.

We’re going to have to work our way through this and hopefully come out the other end still alive. All this green shoots and turning the corner stuff is only a distraction. We are still treading water in the brown stuff and likely to do so for a good while to come.

Sorry for the lack of economic terminology. It just doesn’t seem to get the message across.

I like the quote in the first comment that “convergence is not implausible”, well I would add, not without major pain, restructuring and possible federal fiscal intervention.

Thanks for addressing this topic and the word “irrevocable” springs to mind regarding the euro, a word mentioned a lot at the time. the practicalities of getting out a single currency may be so formidable as to make it impossible, and hopefully we’ll see more expert opinion and analysis on this in future.

If anyone’s interested, Prof Niall Ferguson has an interesting piece on the American future/collapse (link below) in which he takes Krugman’s keynesianism to task.


McWilliams makes a compelling for Ireland not joining the euro. Alas we’re already in, and an argument for not going in just will not do as an argument for leaving.
The frictional difficulties and structural adjustments being experienced by the peripherals will disappear in the long run. By then the more than 20% of the Irish labour force on the dole will have died of old age.
Does anyone know the proportion Irish employment dependent on the British market?

Joe Lawlor – “I do not follow the logic that exiting the euro, if it were even possible, would imply exiting the EU. Fair enough if all member states were euro members but they are not. That suggest that euro membership if not a prerequisite of EU membership.”

Euro membership IS a prerequisite of EU membership for all member states that joined post Maastricht. Those that have not adopted the Euro are classified as “member states with a current derogation” (if I recall correctly), so for these it is legally a case of when will they adopt the Euro, not if.

Only two member states have formal opt outs – Denmark and the UK. The Danish government has stated they want to right to end the opt out which involves a referendum there. The UK’s position is: ” In principle, we are in favour of UK membership of EMU, in practice, the economic conditions must be right” as can be seen here: http://www.hm-treasury.gov.uk/euro_index.htm

The only legal mechanism for a Euro state to “exit the Euro” under the EU Treaties. Hence the simplest way to do this is to leave the EU.

Fiscal Federalism.

Would that mean a common tax base and rates? Periphery…… Not on surely?

We also appear to have committed ourselves to a massive borrowing program, simply to tidy up the balance sheets of banks that will still be insolvent and still require yet more euro for an undetermined peiod into the future.

Not adopting a counter cyclical fiscal policy from 2000 on has been a massive mistake. The same people are still in charge. AS GWB deliberately instigated the sub-prime boom in the USA, was it the case that it was also deliberate here?

Ugly thoughts

@ Brian.

Thanks for the link to the Eichengreen article.

He, having written the excellent “Golden Fetters: the Gold Standard and the Great Depression”, is well-placed to analyse the problems associated with attachment to an inappropriate monetary policy.

@ Cormac Lucey
The assumption und
erpinning much debate is that the costs of exiting the Euro make such a step unattractive. I disagree. I think that, until a detailed assessment of the question is made, the matter remains an open question.

What about trying serious reform?

Without it, wouldn’t devaluation at best be a temporary palliative?

Olli Rehn, the incoming economic and monetary affairs EC commissioner, told the European Parliament on Monday that Estonia will likely be the next new member of the currency union — it would be a somewhat odd that Ireland, which is selling about 42% of its goods exports to other union countries, on a similar level to Germany, would abandon the EMU – – because we are in search of instant but risky solutions.

Why are our main exporters such as Intel not pushing for a return to the punt?


@ Michael

“Why are our main exporters such as Intel not pushing for a return to the punt?”

Because if they do, the Commission will slap them with a multi-million (possibly even billion) euro fine under the guise of breaching Anti-trust legislation. Michael O’Leary’s volte face re Lisbon being a classic example of the power of the Commission.

@ Michael

I don’t see exiting the Euro as an easy option or temporary palliative. It would be horribly messy. Nor should exiting the Euro be an alternative to domestic reform. We need as much of that as we can get.

But the implication of staying inside the Euro is that we condemn ourselves to an inappropriate monetary policy. The full force of adjusting for economic imbalances will fall on levels of domestic activity (employment levels) and on prices of domestic assets (property prices). None of the impact will be absorbed by currency moves.

We saw the extent to which employment levels and property prices were inflated between 1997 and 2007. I fear the extent to which they may be deflated in the coming decade if we stay within the Euro.

Consider the fact that the UK has somewhat less severe financial imbalances than we do (house prices lower at peak as a multiple of income, private sector borrrowing lower as a % of GNP) and that sterling has dropped by about 25% in value against the Euro over the last 3 years. The implication is that we may need to devalue against the Euro by 30-50%. I question whether we can do that by cost reductions without provoking a revolution or – more likely – mass emigration on the lines of the 1950s.

Even if we solved today’s imbalances by 2017, Euro monetary policies are likely to be inappropriate at that point. We risk forcing the entire burden of economic adjustment onto the domestic economy rather than letting a free currency take up some of the slack. As a result our economy risks swinging from binge eating (1997 – 2007) to crash dieting (2008 – ???). Welcome to the YOYO economy.

I personally would be prepared to pay a heavy up-front price to avoid bequething that poisoned inheritance to the next generation. But I’d like to see a respected Irish economist formally examine the pros and cons first.

Michael Finnegan asks: “Why are our main exporters such as Intel not pushing for a return to the punt?”

From Peter Neary’s newspaper article linked to above:

“…the firms responsible for the growth in Ireland’s exports to continental Europe, many of them in high-technology sectors such as chemicals and computers, are disproportionately foreign-owned, high-margin and capital-intensive. This makes them much less vulnerable to exchange-rate fluctuations than Irish-owned firms…. There is a real danger that a sterling depreciation relative to the euro could cause irreversible damage to the indigenous sector and knock stripes off the Celtic Tiger.”

From this we would not expect the Intels to be the ones suffering from overvaluation.

Brian Lucey quotes Barry Eichengreen saying that the key obstacle to Eurozone exit was political. Oddly enough in a VoxEU piece written around the same time he contradicted this, saying: “The insurmountable obstacle to exit is neither economic nor political, then, but procedural.”

His point, which seems persuasive to me, is that restoring the national currency could not be done overnight but would require much debate and extensive technical preparations (similar to those preceding the introduction of the Euro). As we all know, the classic pattern in the devaluation of a pegged currency is deny deny deny (“we’d rather die than devalue” etc) then do it in one fell swoop.

Leaving the Eurozone would be like announcing that one was going to devalue in six months time:

“Households and firms anticipating that domestic deposits would be redenominated into the lira, which would then lose value against the euro, would shift their deposits to other euro-area banks. A system-wide bank run would follow. Investors anticipating that their claims on the Italian government would be redenominated into lira would shift into claims on other euro-area governments, leading to a bond-market crisis. If the precipitating factor was parliamentary debate over abandoning the lira, it would be unlikely that the ECB would provide extensive lender-of-last-resort support. And if the government was already in a weak fiscal position, it would not be able to borrow to bail out the banks and buy back its debt. This would be the mother of all financial crises.

What government invested in its own survival would contemplate this option? The implication is that as soon as discussions of leaving the euro area become serious, it is those discussions, and not the area itself, that will end.”


@Cormac Lucey

The question has been answered by Paul Krugman who wrote above that the euro is irreversible. We just need to figure out how to make it work.

Eichelberger showed that it is not possible for a weak ecomony to leave the Euro euro – a large strong economy could do so.

@Cormac Lucey
“the implication of staying inside the Euro is that we condemn ourselves to an inappropriate monetary policy. ”
You won’t find too many people with debt arguing that low interest rates are inappropriate. You would probably find many people in pre-euro Ireland willing to swap their punt debt rates for euro debt rates, even at the peak they’ve been at since the euro came in.

Yes, interest rates have been inappropriately low while we needed them high. They are hardly inappropriately low now, are they? Even at the heights they will reach (6-8%), this is lower than the punt managed at its low points…

The point is, euro interest rates will not get inappropriately high for the Irish economy by historical standards (of the Irish economy). However, we have an economy that is now part of the european economy (the historical economy has been ditched, the new economy is european, not Irish in nature), so the interest rates are appropriate for our economy.

That our government was unable to resist fuelling the bubble, blowing the boom revenues and creating a huge structural deficit is not something that can really be blamed on the currency.

As for exchange rates, we’ve come from a situation where the euro collapsed in value as bubble FIRE economies seemed like a sure thing. Their bubbles burst and their currency premia disappeared. Now the euro is over-valued, but with interest rates at 1%, the ECB can hardly be accused of chasing a strong euro, now can it?

So I fail to see how current monetary policy is inappropriate for Ireland?

The approach is far too cold and clinical. Germany, France and others brought us into a properous family of nations and lo and behold we prospered mightily. Brian Mulroney who engineered one of the more successful trade agreements of the twentieth century (Canada-US-Mexico) described the role of the gov’t and the country as “dancin with the one that brung ya”. In Ireland of course we do not have people in gov’t with Mulroney’s vision and integrity. Our chancers and glad handers ran the economy off the cliff and are now casting around for the quick fix and easy way out. A century of poverty is the default position and would take very little effort and virutally no planning to accomplish.

@ Yoganmahew

You need to distinguish between nominal and real interest rates. And you need to distinguish between the ECB rates we will get and the interest rates that would be appropriate to Ireland (usually estimated using the Taylor Rule). Look at this rule to understand how appropriate monetary policy / central bank base rates are set.

Real interest rates are very high and are likely to remain so. In the middle of a depression, that is inappropriate to our needs.

Based on the Taylor Rule, nominal ECB rates are likely to remain well above what would be appropriate for Ireland. That will add further pressure on us to deflate in coming years.

Your criticisms of the Irish government might have validity if you identified the economic problems currently being experienced by Greece and Spain as being largely domestic in character to those economies. But the problems of Ireland, Spain and Greece are all largely the result of:
a. joining a currency union while not being part of an optimum currency area
b. “enjoying” ECB interest rates that were too low
c. engorging on debt
d. bloating the interest-rate sensitive construction sector
e. bloating the wider economy and requiring substantial immigration

Now each of these economies are experiencing severe deflationary pressures together.

“interest rates have been inappropriately low while we needed them high. They are hardly inappropriately low now, are they?”

Why are ECB rates higher than Bank of England and US Fed rates? The Eurozone economy is in terrible shape, unemployment is 10%, inflation is undershooting the target rate – so why is the ECB holding onto 100bp it could use to alleviate things?

“with interest rates at 1%, the ECB can hardly be accused of chasing a strong euro, now can it?”

See above – interest rates higher than US/UK, therefore strong euro vis a vis dollar and sterling (that’s before we even consider more unconventional forms of monetary policy).

And of course real interest rates (nominal rates minus inflation) are actually very high in Ireland.

12 month HICP in Ireland to end October 2009 -2.8%
Real interest rate = 3.8%

When, in the whole lifetime of the punt, were interest rates 3.8%? @James and @Cormac, you really think that is high?

What are interest rates in Hungary? Iceland? Poland?

Who here seriously thinks that in 2002-2005 interest rates in Ireland would have been kept high with the punt? Who thinks the punt would have been allowed to appreciate, killing exports, so that the Irish punt became a carry-trade currency like the Icelandic krone? Who thinks that would have ended better?

Revisionist what-ifs are pointless unless they give a realistic alternative scenario of what might have happened. They are otherwise fairytales.

The economic problems of Spain, Ireland, & Greece are precisely the same as each other. Spending more than they earn.

@ Cormac,
what do you think the real interest rate on Irish debt would be if we left the Euro, created a new currecy and ended up with a sovereign default due to the fact that the external debt of the country would climb to 200% of GDP.

Given that real interest rates are currently 3.8%ish, and ten year bonds about 5.5%ish, how come Irish banks are offerring three year fixed mortgages at 2.6%… are they not constrained by the extremely high ECB rates?

Or are they borrowing short to lend long… again?
Unconstrained by the FR or the CB or the government… again?
Offerring ridiculous multiples of debt… again?

“When, in the whole lifetime of the punt, were interest rates 3.8%? ”

Real interest rates under the punt were in fact quite often negative – i.e. nominal rates were high but inflation was higher. I’m no expert but 3.8% seems pretty high in an economy with 12-13% unemployment.

“The economic problems of Spain, Ireland, & Greece are precisely the same as each other. Spending more than they earn.”

If some people are earning more than they spend (Germany) than someone else has to be spending more than they earn. One way of ironing out such imbalances would be to have the German currency appreciate and the Irish/Spanish/Greek currency depreciate. The euro rules this out, which is one reason people are saying maybe the euro wasn’t such a good idea after all even if we can’t leave it now.

But that is not what individuals or companies were paying. They were paying headline rates in double digits. At the same time, their incomes weren’t rising as fast as inflation (since much of it was import-price inflation as a result of currency depreciation).

Or we could stop buying German stuff unless we get a return on investment on it…

Besides, only Spain really has a problem with balance of payments (beyond bubble level of imports). The Greek import problem seems to be exacerbated by large military spending. Ireland should be back in surplus by next year (or is it this year @JohntheO?).


3 year Euro swap rates are 2.1% as per Bloomberg, so if your bank is offering 3 year fixed mortgage at 2.6% they are only making a 50bp margin on it. not much evidence of asset repricing there.

Bit scary, isn’t it really? Mistakes? What mistakes? Let’s start lending again and figure out what mistakes we made later… course, we’ll have to wait until after the next mispriced money crisis/rescue…

“their incomes weren’t rising as fast as inflation”

Figures for economic growth adjust for inflation. Therefore when growth was positive (virtually the whole time except one year in the eighties I think) growth in national income was higher than price inflation. Growth in national income doesn’t necessarily mean growth in individual income since population increases but population growth was low for most of the punt’s history.

So income must have been surpassing inflation for most people most of the time.

If incomes rise as fast as inflation, or even faster (as you say they match economic growth), then devaluation and the higher inflation that results is not going to lead to increased international competitiveness, or indeed a ‘cheaper’ domestic market…

Why bother devaluing an independent currency at all…?


“Ireland should be back in surplus by next year (or is it this year?).”

Obviously no one can predict with certainty. But, for what its worth, ESRI now forecast a balance-of-payments surplus of 0.5% of GDP in 2010.

@ yogan

The point about incomes vis a vis inflation was related to real interest rates – specifically, income growth generally matched or surpassed inflation, therefore real interest rates was indeed a relevant concept under the punt, just as it is now.

The effects of a devaluation on competitiveness is a separate issue. A devaluation would indeed increase inflation, which would decrease competitiveness. But the drop in prices of Irish goods internationally would happen immediately whereas the inflation would happen gradually. Plus domestic demand would be shifted from imports to domestic goods, thus helping balance the current account (the imbalance of which you have suggested was Ireland’s basic problem – i.e. we “spent more than we earnt”).

“the imbalance of which you have suggested was Ireland’s basic problem – i.e. we “spent more than we earnt”).”
Yep. Spent in the past tense. We, as a nation, are about to stop doing that. Greece has the opportunity to do so, since a lot of what it spends appears ‘discretionary’. It is Spain that looks most in trouble from this. But then all three of us have banking systems that are in the toilet…

Re: substitution
I don’t see us being able to build flat-screen TVs, cars, JCBs, aircraft or anything else any time soon. The food stuff is in the ha’penny place where we could provide an alternative.

Irish goods, to the tune of 90% (?) are MNC owned and run. They are priced in other currencies anyway and would continue to be so. The MNCs have, at a wild guess, zero borrowing requirements within the Irish economy, so they only require an administrative banking system. Their wages would be in local amounts and that might be a saving to them, or they might just peg the Irish peso amounts to the previous foreign currency equivalents as part of a global wage structure…

PS. I accept that real interest rates were a concept, but wage rises also lag inflation even where inflation is very high, so real interest rates don’t have a meaning to people paying them – headline rates are what matter…

“wage rises also lag inflation even where inflation is very high, so real interest rates don’t have a meaning to people paying them – headline rates are what matter…”

Sorry, no. If the share of wages in national income doesn’t change and per capita GDP is growing (i.e. nominal GDP rises by more than the rate of inflation) then wages are rising faster than inflation. This is true by definition.

Economy A: 10% interest rate, 10% inflation, per capita income up 2% in real terms (12% in nominal terms)

Economy B: 8% interest rate, 6% inflation, per capita income up 2% in real terms (8% in nominal terms)

Nominal rates are lower for Joe Bloggs B, real rates are lower for Joe Bloggs A. Joe Bloggs A is better off despite paying a higher nominal rate.

It is true that MNC exports represent something like 90% of Irish exports’ value (though a lower share of export sector employment). But that doesn’t have to be the case, and is arguably itself a problem. Indigenous exporters might have a better chance of increasing their share from 10% if not lumbered with an overvalued currency.

“then wages are rising faster than inflation. This is true by definition.”
It may be true in theory, in practice, wage growth lags inflation. Live in a high inflation. low real growth country for a few years. You are always playing catchup.

@ Cormac Lucey/ James Conran

A detailed assessment of staying in the EMU or exiting could be done by the ESRI and it could have the value of dovetailing with James Conran’s point about increasing indigenous exports.

The point about “indigenous exporters lumbered with an overvalued currency,” raises an issue about exporting competence, beyond price.
Indigenous exporters are concentrated in food and drink but even in this area, they are not exploiting potential.

In 1973, 55% of Irish exports went to the UK; over 50% of indigenous export still go there.

I have dealt with some of these issues in a recent article:



Since announcing that we were leaving EMU would bring financial Armageddon upon us I don’t think we should leave.

(If the incredible bank guarantee brings Armageddon upon us anyway, then that might be another matter.)

But in any event I don’t think an ESRI study would have much credibility.

For those of you who tried to click on Jim O’Leary’s link and failed to find anything, he was referring to the Sunday Independent of July 20, 1997, p. 30. It is an enjoyable article, in which he compares EMU to driving in the mountains without brakes or steering wheels. (Brakes…yes indeed, back then we worried about brakes rather than accelerators. Rodney and I spoke of roller coasters. Those were the days.)

The final paragraph is worth quoting in part:

“Yet another theory that you are currently working on, with the help of some gifted intellectuals, is that the car itself will adapt its expectations to the countours and gradients of the mountain road and obviate the need for anything other than the most modest of movements on your part.”

I’m afraid the theory has been falsified by events.

They can’t say they weren’t warned.

Forget the banking inquiry. What about an economics inquiry into the motives of the economists who recommended we enter the eurozone?? The former without the latter would be hypocritical.

I also like this bit from Jim O’Leary’s piece:

“…you have come up with the theory that the function carried out by the steering wheel in a normally-equipped car can in certain circumstances be quite adequately exercised if the driver of a car without such equipment throws himself around the vehicle at a certain velocity and trajectory.”

I guess we’re testing this one now too.

We seem to be adjust very well to the euro, cutting costs of wages by 3-23% or whatever.

The individuals who still have employment may grumble, but there are still many who have less. The cost reduction is in full swing here. We still seem to be commenting on where the ball was rather than where the ball will be?

With deflation here, we will increase native, full value, GNP positive exports. As the EU dismantles subsidies for CAP we will need to increase productivity. We surely have learned about bio-char, green manure crop rotation etc so that we need fewer environmentally poisoning additives based on petrochemicals? What is wrong with farmin fish inland in dammed valleys naturally prone to flooding? They may help to solve the flooding problem, or if left to local councils, exacerbate it.

We are looking at the wrong things, as is common in divided societies. We are in Europe, what makes you think it was ever voluntary? It had the appearance of choice, but we all know about psyops, don’t we? Getting the right answer by referendum did not take half as long as some thought. Lets start playing the ball and not learning to change the rules of the game!!

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