I've heard (non-serious) talk that Germany should leave the Eurozone instead of Greece. The Euro would then fall in value and all would be better, supposedly.
That makes some logical sense, but I don't think it can work that way. Let's say the new DM-euro currency would suddenly be worth fifteen percent more than the now-depreciated new euro. Everyone would want to claim that their "old euros" should count as DM-euros and it would be very hard to suddenly introduce a border-defined scheme of money stamping. The problem would be Germany's to solve. Yes they could survive a massive inflow of currency from around the Eurozone (presumably checked by bank holidays elsewhere), but why would they wish to court it? Furthermore they have to count on the other countries to get the bank holidays right, which is likely but hardly certain.
Alternatively, let's say the new Drachma-euro is suddenly worth fifteen or twenty percent less. Logically that's quite similar to the first case. Now Greek currency holders would all wish to claim they had "old, real Euros, not the new silly Drachma-euros." Stamping doesn't arrive quickly enough to demarcate a difference. Currency will flow out of Greece, and maybe that's bad, but it's Greece's problem not Germany's problem. Greek-held currency is too small to create a big problem for Germany or elsewhere.
The Germans will strongly prefer that the Greeks leave the currency union and indeed that is how they talk.
On top of that issue, Austria, Benelux and France all pegged to the German mark, with varying degrees of strictness, for some time before the introduction of the euro. They will want to go with Germany and indeed they probably should go with Germany. The scenario of "Germany leaving" raises the awkward question of why won't they go too and how to coordinate the entire shift.
One way or another, Greece leaves first, if indeed the Eurozone breaks up.
Just heard on Bloomberg: Greece debt rating reduced to junk. Altho, Germany may wish to clear out before it kills the country’s monetary system.
Is any economist tracking Iceland? They’ve been bankrupt since 2008.
Too optimistic, Nobody can say what would happen. In any case, a breakdown.
Although semi in the realm of fantasy. Couldn’t Germany encourage the creation of private currencies based on assets (gold, silver, or whatever else holds value well). My understanding is that Germany doesn’t have significant debt so they don’t really need centralized monetary policy for the purposes of printing money.
This also solves the question of how existing euros would be converted into German notes.
Prof. Cowen,
you assume that with a currency separation, the new currency (either the DM or the drachma) would instantly trade substantially above or below par.
But why would that be the case? It seems a problem that the issuing authority easily could and should avoid by printing (or otherwise creating) just enough DMs or drachmas to ensure parity at birth. Doing so would avoid the need for any precipitous flows of cash, currency controls, and other illiberal and likely to fail policies.
Over time, one would expect the currencies to drift apart as different levels of inflation appropriate to the national conditions take hold. Indeed, if they did not drift apart, the issuance of a new currency would have been pointless.
But by the magic of interest/currency parity, all of this can happen while maintaining full convertibility at all times.
I don’t understand why Germany would have any real incentive to get off the Euro. It is my understanding that Germany uses a basket of different currencies to perform different functions and the Euro serves more as a inter country trade facilitator.
Germany will not leave the euro. Tyler is right that the old linkers from the EMU days
would insist on going along. It is more likely that Greece will leave, but before that
happens, expect a quiet restructuring of Greek debt. I was just reading that they are in
a better position to manage it than they were a few months ago. There will be major efforts
to do something, damned near anything, to keep the euro going.
Iceland is not in the eurozone, indeed is not even in the EU. Did not want anybody getting at
their fisheries. So, they are out there by themselves, but who cares besides some British
pensioners and insurance companies and banks? And the Brits are also not in the eurozone.
The scenario of Greece leaving the Euro is more likely than the scenario of Germany leaving. But still the probability of Germany leaving is not zero according to bond markets:
http://themoneydemand.blogspot.com/2010/06/eurozone-breakup-watch-new-deutsche.html
Money Demand Blog,
This is wishful thinking by some bond traders. It might be a better solution in many
ways, but no way is it going to happen. Those traders do not know the Germans. No way.
“The Telegraph is a british right radical tabloid.” No, it’s a broadsheet. “radical” seems an unlikely description too.
When I read this all I can think of is whether Texas A&M will join the SEC or stay in the Big XII. How interesting that “college football athletic conferences” and the European Union have something in common.
Greece could not leave the euro without defaulting on its euro-denominated debts. Assume new drachma is first introduced at 1:1, but is expected to depreciate, and begins to do so. Paying euro debts in drachma would be a partial default. Paying euro debts in euros would be unaffordable. There would be many legal issues over private debts. On the other hand, if Germany leaves the euro, and the new mark begins to appreciate, no problem. Germans, public and private, are happy to pay off all old euro debts in euros, and accept euro payments on euro assets they own. So that is one big difference.
The circumstance under which Germany would want to leave the euro is if the ECB is captured by southern Europe and decides to rescue everyone by engineering inflation. Again, this is asymmetrical. There are no technical barriers to Germany leaving if the ECB decides to inflate, but there are the above-mentioned technical barriers for Greece to leave if the ECB deflates (as it seems to be doing?)
You could say that Greece will have to default anyway, but a good case can be made that an orderly restructuring within the euro would be better than a disorderly exit.
Bottom line: If anyone leaves, Germany leaves first.
If the Telegraph is ‘sensationalist’ and a ‘radical tabloid’, where does that leave the Mail, the Mirror, and the Express? Even the Independent would probably fit those criteria some days. I’d be surprised if any British paper save (perhaps) the FT made it through a month or two without meriting condemnation.
@Andrew P
I ask again: What economic theory demands that the transition be catastrophic?
While one could certainly create a catastrophic transition, there is no argument for why it would have to be so–it is just assumed without argument. Why could a prudently managed transition not start with the new or recreated currency–purely a child of the new issuer and utterly in its control–at par, with a general drifting apart over the years at rates comparable to the inflation-rate disparities between European currencies prior to the advent of the Euro?
The situation isn’t dire enough for Germany to leave the Eurozone just yet. The common German does not yet feel the full weight of ECB mis-management. I wouldn’t worry too much about the mechanics of the split. If it happens, it will be fueled by a burning desire by the German people to escape the roaring inferno of inflation. Where there is a will there is a way. Just as I was writing these sentences, some possibilities come to mind.
1. Investors begin drawing down non-German Euro-denominated assets and begin pouring them into German assets as inflation hedges. This causes a spike in Euro-denominated asset prices in Germany. The German government will seek regulatory action to alleviate the problem – perhaps by restricting or taxing foreign deposits, which would be clearly illegal by EU treaty, but it would be called something else. This would certainly provoke retaliatory EU response.
2. Germans adopt a non-Euro currency en masse. Germany shares borders with Denmark and Switzerland, both highly integrated into the German economy. Border regions start using the CHF or DKK as their de facto currency, and the influence spreads inland. The CHF is the far more likely candidate, due to the strength of Swiss banking institutions and their experience as a minor reserve currency.
3. A large German private bank, sensing an opportunity, creates a scrip currency exclusively backed by German assets. It has a floated exchange rate with the Euro. This would be clearly illegal according to Bundesbank policy.
4. A concerted effort by the German government to slowly segregate German capital from the rest of the Eurozone. The primary goals would be to slowly draw lines as to what is a “German” Euro and what isn’t, and to legislate the flow of capital between the two. It would involve preferential treatment for German nationals and German assets. Similar to #1, but the German government would be an offensive, not defensive actor.
I should stress that these are just remote possibilities at this point – everyday life in Germany is basically untouched at this point.
Greece understands that the instant they leave the Euro is the instant the gravy train stops. There will be no cooperation from Greece to withdraw from the Euro, it would have to be unilateral action. It is hard to believe the the EU is organizationally and politically cohesive enough to do that. Germany, on the other hand, is cohesive enough to unilaterally withdraw from the Euro.
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