Monday, July 06, 2015

Benefits of the Euro far outweigh its disadvantages - Europe must solve Greek problem without forcing Greece out of the single currency

Across 19 countries the Euro, as a transaction mechanism, has been a phenomenal success. Businesses trade with no exchange costs and can largely eliminate the need for currency hedging for intra Europe activities. Interest rates are similarly consistent and predictable. Tourists are able to travel without the need to pay rip-off forex charges and need just one currency in their wallets and their Euro credit cards carry no forex charges when used outside their home Euro country. British people and British businesses are denied all these benefits.

So what's not to like? Well the problem is that a currency is more than a transaction mechanism. When Gordon Brown handed the Bank of England the job to determine Sterling interest rates he was depoliticising one key aspect of economic management. Similarly when a country joined the Euro it was explicitly giving up one traditional control tool - a country could no longer devalue its currency nor set its own interest rates. As good fiscal management sometimes in the past required changes in these areas - devaluation to boost exports for example or the rise of interest rates to control inflation - this became problematic for some.

At a macro level you need to integrate currency management with overall fiscal management. The problem for Greece and others was not so much the Euro - and certainly not the Euro as a transaction mechanism - but the unwillingness to accept that membership of the single currency required also tighter economic management. Not least a tighter grip on public expenditure. But centrally the ECB and the EU was slow to recognise this as well. The boom years of the early noughties disguised the problem and greed, especially in the property sector, fuelled the fire. So when the crash came in 2007 some Euro countries were thrown into disarray. It wasn't the Euro as such, it was the failure properly to understand the requirements that membership of the Eurozone brought with it. The Irish were as profligate as the Greeks!

So now there is a need for Greece to tighten its fiscal management whether it stays in the Euro or not. There is also a need for the big beasts of the Eurozone to genuinely help and that would of course be easier if Greece keeps the Euro. This is the crunch. Punishment of the Greek people for the errors of their leaders has to stop. A long term recovery plan part funded by the ECB and the richer Eurozone nations is the only way forward. Plus some debt cancellation and relief. I suspect Angela Merkel knows that ! 



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