Wednesday, November 29, 2017

Bill Mitchell — The EMU reform ruse – Part 2

This blog continues the discussion from yesterday’s blog – The EMU reform ruse – Part 1 – where I consider the reform proposals put forward by German academic Fritz Sharpf, which have been held out by Europhile Leftists as the progressive way out of the disaster that the Eurozone has become. Yesterday, I considered his first proposal – to continue with the enforced structural convergence to the Northern model – the current orthodoxy in Brussels. Like Sharpf I agree that the agenda outlined in the 2015 The Five President’s Report: Completing Europe’s Economic and Monetary Union would just continue the disaster and would intensify the political and social instability that will eventually force a breakup of the monetary union. Sharpf’s second proposal is that the EMU dichotomise into a Northern hard currency bloc while the Southern states (and others less inclined to follow the German export-led, domestic-demand suppression growth model) reestablish their own currencies and peg them to the euro with ECB support. While it is an interesting proposal and certainly more adventurous than the plethora of proposals that just tinker at the edges (for example, European unemployment insurance schemes, Blue Bond proposals and the like), it remains deeply flawed. While it is assumed that the Northern bloc would comprise core European nations such as Germany and France, it is not clear that either would prosper under the new arrangement. France and Germany were never been able to maintain stable currencies prior to the EMU. Further, the ‘exit’ proposal ties the poorer nations into a vexed fixed exchange rate arrangement, which would always compromise their domestic policy freedom, just as it did under the earlier versions of the Snake or the European Exchange Rate Mechanism (ERM). Far better to just break the whole show up and let the nations go free with floating exchange rates....
Bill Mitchell – billy blog
The EMU reform ruse – Part 2
Bill Mitchell | Professor in Economics, University of Newcastle, New South Wales, and Director of the Centre of Full Employment and Equity (CofFEE)


GLH said...

Tom Hickey; I left this for Prof. Mitchell: "I think that was an excellent summary of the exchange rate mechanism and I am sure that you are correct that each country should be sovereign in its own currency. But, I believe that the real problem here is not the currencies but trade. I have been reading some of the protectionists material written in the nineteenth century by people like Henry Charles Carey and what I found recently was Carey’s separation of commerce from trade. Commerce, which Carey defined as exchange of goods, is different from trade which is a tool of commerce. Trade comes about because of distance and since trade adds extra cost to commerce it extracts wealth from the real economy. At first I thought that I misunderstood what I was reading but I had to accept that Carey had the real take on trade. So, I think now that that the real problem is trade and that currency issues are just a symptom of the disease." I would like your opinion.

Matt Franko said...

The exchange rate is a composite index of the current real terms of trade between the nations...

The fiscal agents (banks) adjust the rate down and up as the producer-exporters raise and lower the prices of the goods in the foreign currency terms that they (banks) finance against what is effectively fixed capital in short time periods at a constant Leverage Ratio..

So the exchange rates do not “float!” they are also regulated by the fiscal agents (banks) if the CB delegates this function to them..

Tom Hickey said...

International trade is about flows of goods and services. The important matter is the exchange of real resources. The accounting record is just bookkeeping.

In the days the trade balance being settled in gold or silver, it was a barter system.

Countries traded goods and services and gold was a real good that was used to settle the difference.

Gold was actually the focus then, since "the wealth of nations" was computed in units of gold or sliver. So was a person's net worth, as it he is worth X pounds of sterling. This was called mercantilism, and the object of trade was to accumulate gold and silver, which were used to pay for war and preparation for war.

This reflects the real situation historically.

In a monetary system without convertibility of currency into a real good like gold, the game remains the same but the focus changes from gold and silver to the accounting, that is, the capital account and the current account. This means that a country that is running a current account deficit (CAD) is also running a capital account surplus (KAS) and vice versa. CA = KA by accounting identity. This is also written CA + KA = 0.

Presently, the objective becomes to run a current account surplus (CAS), which entails a capital account (KAD) deficit to balance.

What this implies is that the focus in on international finance rather than international economic trade. The basic idea is that countries that are running current account surpluses have stronger currencies than countries that run current account deficits, which is supposedly an economic benefit as well as a financial one in that the international purchasing power of a strong currency is greater than a weaker one.

But at the same time, a stronger currency is unfavorable to trade, since one's exports will be more expensive.

So this is supposed to trade balances among countries out in the long run.

But history that doesn't necessarily work according to the theory.

The conclusion is that surplus countries are preventing this deliberately by manipulating the value of the their currency and preventing free markets from doing their thing.

From the MMT POV, this is irrelevant economically for trade in that net importers are going the benefit of real goods while net exporters are exporting their real resources, including embedded labor.

The embedded labor is the sticking point, since that is effectively importing foreign workers to replace domestic ones.

The MMT answer is gladly receive the positive balance of real resources and use domestic fiscal policy to address the unemployment that is created, since imported real resources are only an economic benefit at full employment.

Tom Hickey said...

The above seems like a no brainer. But it is more complicated now that under Ricardo's analysis of comparative advantage, which prevailed until recently.

The idea was the developed nations where strong in manufacturing and undeveloped nations strong in natural resources, so the advantage was for undeveloped nations to sell resources to developed nations and then buy finished goods from the developed nations.

This ended when capital was permitted mobility, in the sense that manufacturing firms in developed nations were permitted to invest in manufacturing in emerging nations and sell the output not only in emerging nations but also at home and to other developed nations.

This resulted in a drop in the cost of real goods but exporting high-paying manufacturing jobs to lower income countries.

This is neoliberalism based not only on free markets and free trade but also free capital flows.

This is what actually created the disruption of caused by globalization.

It really has very little to do with monetary flows, which are just ways of keeping score.

The social and political issue are the result of real exchanges rather than financial one.

Everyone loves the less expensive price on goods but many workers in developed countries are getting displaced by "the great leveling" as workers in emerging nations rise and they fall.

The fundamental problem as I see it is that process is being left to markets as optimizers and markets are poor at optimizing social and political issues, which in societies where people vote, are determinative. Ergo, Trump and the rise of "populism" in developed countries, as well as renewed interest in socialism and other alternatives.

The way to address this problem in my view is to forget they financial issues, which are essentially irrelevant in modern monetary economies under the present monetary regime, and deal with the real issues with the fiscal power that this monetary regime provides.

In addition, some protection is probably also called for to manage the process. The problem is not the great leveling. That' s a good thing. The problem is the disruption that is taking place. First, the speed is to fast to adjust, and secondly, governments are not using the power they have to manage the situation adequately, and three, probably, the most seriously, is that influential theorists, policy makers, pundits, and voters are ignorant.

This is a set of pseudo-problems that can be resolved by thing some light on the issues and how to address them with available tools. Cue the entry of MMT.

In conclusion, I would agree with the view that "the real problem is trade and that currency issues are just a symptom of the disease."

Trade as exchange of real resources is good and more of it is better since it results in a more efficient and interconnected world that potential increases prosperity generally and obviates military conflict. The challenge is to manage trade and its social and therefore political effects before they result in disruption. That may mean modifying the neoliberal foundation of free markets, free trade and free capital flows somewhat to prevent disruption resulting from imbalances like cheaper goods but fewer jobs. However, the intervention in liberal principles can be reduced any intelligent use of fiscal space made available by the current monetary regime.

If this doesn't happen there will be pressure to go back to gold for international settlement, or conflict. The great leveling is likely to get too severe socially for politics to bear and if left unaddressed, nationalism and populism will only rise and very likely not in good way, since passions will run high.

GLH said...

Thanks for that.