Scary graph

The first graph in this post is really quite alarming. (It would of course have been nice if there had been Irish data!)

For an individual country, ‘internal devaluation’ is the optimal strategy in our situation. (Optimal given our constraints that is — it is an incredibly lousy option relative to nominal devaluation, or being able to run a counter-cyclical fiscal policy.) But if everyone is doing the same thing, then it becomes collectively self-defeating.

This is a European problem, and requires European solutions designed to support demand and prevent continent-wide deflation.

Paul Krugman is alarmed here.

17 replies on “Scary graph”

I continent wide reduction in labour costs a bad thing for the EU’s international competitiveness?

The US has achieved the same thing through devaluation. Is currency devaluation a better option for a large economic block / currency union as compared to reduced labour costs coupled with deflation?

I don’t have time to dig properly through the stats right now, but I’m not alarmed yet. Quarter-on-quarter changes in hourly labour costs show big swings for many EU countries. A big rise in one quarter can be followed by a big fall in the next, and vice versa, so one needs a time series to even start making sense of data.

@ Kevin O’Rourke,

I just posted a comment to De Roiste on KW’s Empty Houses thread. De Roiste made a very good point I think:

The government has a lot to answer for on the subject of vacant housing. They knew we had no control over our interest rates and they were going down at a time they should have been going up. They knew how reliant we were becoming on the housing sector and yet they continued with a policy of incentivising the propery market instead of trying to deflate it with their short term policitcal strategy.

I listened to George Lee speaking on an old podcast from 19th December ‘09 yesterday. Lee made a very similar point. You can listen to the podcast yourself. But I think Lee’s point was – if you can imagine a telecommunications line technician stuck out on a pole, somewhere in a region, phoning a report back to base – we need to tell the European commission from our end, what our problems, as we experienced them, have been in Ireland. There is a problem with the single currency he suggested, we need to identify what the problem is, and we need to report the fault to base. We cannot do that without a proper banking inquiry. We have to figure out this problem for ourselves, so that it can never happen again. The scale of losses of wealth in all sectors, to all people, has simply been too huge. I can never again happen. It is time to dispense with all of the political side stepping, and proceed with the job as described by George Lee.

Saturday View December 19th 2009
Rachel English with guests : David Mc Williams, George Lee, Maureen O’ Sullivan,Barry Andrews and Eugene Phelan

@ Kevin,

You may not have heard the story of Canaris, the master spy, before. I knew they were plotting to over throw the evil dictator. I just didn’t know, that plans had been afoot as early as the Czechoslovia invasion. Obviously, many people knew what they were dealing with, even before Poland was invaded. But it was the problem of Hitler’s mass popularity, after Nevil Chamberlain, had that meeting about Sudetenland, that caused Canaris & co. to back down from that earliest putsche.

The chances of Germany embarking on an expansionary policy to boost aggregate demand in Ireland, Spain, Portugal and Greece are zero.

@Ciaran Daly
“How does anyone have a chance of competing against the Germans?”

Pretty much ad-hoc, flexible, small, quick.


Come on Zhou – you are one of the most pragmatic around here (not that I’m always in agreement (-;) : to make sense labour costs need to be addressed in parallel with ‘productivity’, and with respect to particular product/service markets. How many times must I say it – low skill, low cost, no future around here.

@Ciaran Daly
No problem to compete with the Germans. High skill, high productivity, smart work, their banking system is well integrated into productive wealth creating activity with a medium to long term focus, export oriented, competent boards of directors, industry integrated into education and training, multi-lingual, no bull-shit, and they win world cups! Not a bother!

It seems to me that deflation is difficult to stop. Everyone I know is involved, it has become a national obsession. The Internet has provided consumers with a mass of data, being used around the country to drive down rents and the cost of electronics, food, labor etc.

Surely devaluing a currency is a better tool, for its uniform nature and it’s ability to stop?

Talking about Paul Krugman – maybe it’s been mentioned already on this site, but there’s a hilarious blues about him on Loudon Wainwright’s new album.


The point is that some states have very badly cocked up their economy and must recover their lost competitiveness. Devaluation is an attempt to disguise this from voters. Ireland has more ground to cover than Germany, as the housing finance problem is so bad here. All those wage and price rises here were unjustified by fundamental economics, once the Irish bubble started being blown. There should have been govt intervention to increase taxes and dampen the stupidity, from 1999 on. So it comes now instead when we genuinely cannot afford it, OK?

You forget, as Germans become wealthier, they will swoop and scoop! All those juicy bargains in second houses will eventually rescue the economy of those states. But they have to have confidence that it will not keep going down! So we have to have a bottom in prices of these assets. Now!

Oh, but we have NAMA. It impresses the economically ignorant and the greedy, but will it impress the Germans? I think they will wait to see how it affects values here and they will buy in Scotland and Wales instead!

It is not obvious that nominal devaluation would be a better macroeconomic stabilisation option in small open economies. With free and full movement of capital countries face a trade off between currency stability and an independent monetary policy. Small open economies have a preference for a low exchange rate variability due to the fact that they borrow in foreign currency. The mismatch between the foreign debt denominated in foreign currency and earnings in domestic currency to service the debt makes nominal devaluation unacceptable in countries such as Latvia.

After WWI, all the powers had agents in Germany, seeking cheaply to buy up Germans who were of, or would rise to, prominence. Generals used to prostitute themselves and their families for food at one stage. It would not be uncommon for them to have three paymasters, their government and two foreign powers. Hitler was paid to infiltrate what became the Nazo party, now called Nazis.

Chaos provokes consequences however. We still do not know all of those as the victors write the histories……

Would anyone who supports the “internal devaluation is the only answer position” — Philip springs to mind — care to respond to the arguments against this view that are being posed regularly now by the Wilder article Kevin links to, by Krugman and, most cogently, by Rob Parenteau?

Parenteau’s article in John Mauldin’s newsletter today (no link available) or his article on New Deal 2.0 – – both lay out the financial balances model (which he shares with Randall Wray and others at the Levy Institute principally). This model has something very different to say about the wisdom of the path adopted by Ireland and other European countries who appear to be relying on an enormous export boost to aggregated demand. A few choice quotes:

“The financial balance map forces us to recognize that changes in one sector’s financial balance cannot be viewed in isolation, as is the current fashion. If a nation wishes to run a persistent fiscal surplus and thereby pay down government debt, it needs to run an even larger trade surplus, or else the domestic private sector will be left stuck in a persistent deficit spending mode”

“These types of tradeoffs are opaque now because the fiscal balance is being treated in isolation. Implicit choices have to be forced out into the open and coolly considered by both investors and policy makers. It is not out of the question that fiscal rectitude at this juncture could place the private sectors of a number of nations on a debt deflation path – the very outcome policy makers were frantically attempting to prevent but a year ago.”

It appears to me that the salience of these arguments, and the clarity with which people like Parenteau have expressed them, increased over the last year. To my knowledge they have not been directly addressed on this blog and I think it would be productive to do so.

@Mick Costigan

Yes – The Levy Institute at Bard College is fairly pragmatic at times. Not so sure that it is read by that many on the Emerald Isle however – but all reasonably sane, non-fundamentalist-ideological are welcome at the mo, imho. Makes no sense to exclude potentially valuable opinion when addressing a crisis …………

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