Robert J. Barro writes:
Italy could have a new lira at 1.0 to the euro. If all the euro-zone countries followed this course, the vanishing of the euro currency in 2014 would come to resemble the disappearance of the 11 separate European moneys in 2001.
In the meantime, doesn’t every euro — a few sticky grannies aside — leave the Italian banking system? Presumably the new lira is not pegged at 1-to-1 forever. Switching out of lira/euros in Italian banks, before the inevitable depreciation, would offer a short-run rate of return of at least thirty percent, maybe more. Or if such a peg holds, and can be enforced, and is seen as credible, isn’t it just like the euro? (Do they deflate their economy by thirty percent or more to validate the exchange rate?) The difference being, of course, that with a separately marked currency it would be easier for Italy to leave the eurozone, which is one reason why a 1-to-1 peg would not be seen as eternally credible. I don’t see how this transition works; am I missing some segment of Barro’s argument?
By the way, the switch to the euro was easier for a few reasons. People believed the national currencies would become stronger (certainly for Italy), not weaker, and there were few doubts about the solvency of various banking systems. That said, the switch to the euro did give rise to unsustainable capital flows into the weaker countries and that is not working out well either.