On recoveries, elasticities, and Portuguese exports

by on May 21, 2013 at 7:15 am in Economics, Uncategorized | Permalink

In response to this post, Paul Krugman writes:

Suppose that I could wave a magic wand (or play a few notes on a a Magic Flute) and suddenly increase all German wages by 20 percent. What do you think would happen to the value of the euro against the dollar and other currencies? It would drop a lot, yes? And Portuguese exports would become a lot more competitive everywhere, including non-German and indeed non-Euro destinations.

I guess I thought this was obvious. Apparently not.

Let’s start with the data.  Portuguese exports have indeed gone up since 2009, with the weaker euro likely being one reason.  Here is a recent positive report.  Still, this experience shows higher exports are unlikely to prove their salvation.  Last year Portuguese shipments outside Europe rose by twenty percent, but that is from a fairly small base.  The country continues to have high unemployment and falling gdp, doing worse than does Ireland on the test which Krugman repeatedly applies to Irish recovery.  The Portuguese forecast for this year is 2.3% gdp shrinkage and 18% unemployment, and that is with an export performance described as “surging.”  “Surging” isn’t enough.

[A digression: If you are tempted to argue that "exports arising from inflation in Portugal would be so much more potent than the export boost from the status quo," keep in mind that we are dealing here with the postulated scenario, accepted by Krugman for the sake of argument, where the euro falls, stimulating exports, as indeed has happened, but the inflation stays in Germany and does not spread to Portugal.]

To dig deeper, we might ask how strong the additional export elasticity, with respect to euro devaluation, is going to be.  The leading export partners of Portugal are Spain, Germany, France and Italy, not a surprise.  So a weaker euro won’t much help them on those fronts.  Around 71% of their exports go to the EU and most of that will be to the eurozone.  Next in line is the UK but the pound has fallen too and according to many should (will?) fall even further.  The BRICS are ailing on the growth front.  Team USA is not going to turn Portugal around, we just don’t buy enough cork.

The main import of Portugal from outside the eurozone seems to be petroleum, so a weaker euro hurts them on that front.

Portugal is also a victim of what is called “the gravity equation,” namely that distance hurts the prospects for trade and in a manner which is strongly non-linear.  Think about the map or failing that read Saramago’s The Stone Raft — Portugal is close to other eurozone countries and to some (relatively poor) parts of Africa, otherwise it is pretty far from most places.

As an aside, it is strange for Krugman of all people to so stress the real exchange elasticity of exports.  To do a bit of history of economic thought (pdf):

In particular, the seminal paper by Baldwin and Krugman (1989) shows that the existence of a sunk entry cost into the export market generates a persistent effect of real exchange rate movements on bilateral exports. The model also suggests that a larger sunk entry cost generates a more persistent effect, or equivalently a lower reaction of exports to real exchange rate movements [emphasis added]. We specifically test this theoretical prediction by making use of various measures of trade costs that can be associated to the sunk entry cost.

In other words, real exchange rate movements are not a panacea, and furthermore this is all the more true for countries which are in a disadvantageous position due to…the gravity equation.  The higher export elasticity for Portugal may well be through the dreaded internal devaluation, because that is at least relative to their close and most likely trade partners.

Krugman’s own words on the topic were “huge swings in the exchange rate have had only muted effects on anything real,” to cite one claim out of numerous similar passages.

[Now that sentence is from 1989 and perhaps now you will leap up and accuse me of not allowing Krugman to change his mind, or of thinking he wanted to raise marginal tax rates in 1959, or of seeing 1978 as a liquidity trap.  Please.  This is a fairly general result, but, if the relevant elasticities have indeed gone up significantly since 1989, and indeed that is possible, that is worth discussing.  But rather than making a case for such a change, Krugman's response of "Portuguese exports would become a lot more competitive everywhere, including non-German and indeed non-Euro destinations.  I guess I thought this was obvious. Apparently not." is little more than a self-parody of his own style of argumentation.]

In sum

We can all agree that inflation centered in Germany has some positive spillover effects to Portugal.  But let’s go back to the initial question, a positive rather than normative one.  Can a German prime minister credibly promise that significantly higher inflation would set things straight in the eurozone periphery or for that matter fix Portugal?  I don’t think so, though it may have worked in 2009, as indeed I argued at that time.

Krugman amended his initial post to state the following:

Again, as Ryan [Avent] says, the crucial difference between German/ Portuguese economic relations and, say, US/ El Salvador (whoops: some central American countries have dollarized. But that was their choice, not part of a grand project like the euro) relations is that Germany and Portugal share a currency. This creates obligations for Germany, whether it likes them or not.

That’s a good example of “distraction by introducing or stressing a moral issue.”  (You can track some of Ryan’s related tweets here.)  One can indeed argue the extent of Germany’s moral obligation to its fellow parties in a “we’re all in this together but no bailouts and price stability” treaty.  But the issue on the table was how much more inflation would help Portugal and other nations of the periphery; surely an understanding of that question should come first.

If someone argues “it may not help as much as you think at this point,” and the response is “Germany must be morally (and financially) committed to the grand project,” that is an object lesson in precisely why Germany and some other nations are insisting on so many limits and rules within the eurozone and EU.  Krugman is fond of saying he wants to change the world and not just engage in polite dinner table conversation, but may I suggest his framing is not likely to prove an advance marketing beachhead for the ideas of fiscal union and banking union in Berlin much less Helsinki or for that matter Paris?

As for myself, when the Krugman/Avent case for the German moral obligation so frequently and so quickly jumps to what Daniel Klein has called “The People’s Romance (pdf),” and so infrequently gets into the nitty-gritty of the positive economic argument, that makes me nervous too.

There is the usual snark in Krugman’s post, but if you read it through you will notice it does not cite a single fact or estimate.

Da May 21, 2013 at 7:31 am

If indeed there were moral obligations in an economic project, wouldn’t they be a two-way street. It’s not like there was a European law that forbid the mediterranean countries to implement similar reforms to what Germany hat to go through in the early 2000s to get to the point where it is now. Like internationally competitive.

Some European countries still have not accepted that the time of European countries being at the height of the world just because they are located in Europe is over. European countries will have to make a decision to either compete with the pacific region or lose wealth.

Asking those that decided to compete to pamper those that decided to enjoy life is morally … grey.

The Euro was a well meant project that turned out not to stand the test of reality. It should be put to rest. They should have done that years ago, but since that can’t be changed anymore it should happen now. Cut your losses and move on.

Frederic Mari May 21, 2013 at 7:45 am

Except that the Greeks turn out to work more hours than the Germans and that the rate people exchange their national currency into the Euro may have had a big effect on which country turned out to be competitive versus which one didn’t.

I still think an easier way out than inflation Germans are supposedly so afraid of would be… VAT cuts. According to Wiki, it stands at 19%. Would Tyler Cowen like to think about the consequences of bringing it down to 5%?

And Portugal has payroll taxes standing at 23.75% (possibly 18% if some changes planned last year stuck). What about making them 5% for anyone below €100k a year salary (we can hash out a scaling scheme, if you want, that’s details)?

Finance these cuts by taxing Apple and the like (for ref: http://www.guardian.co.uk/technology/2013/may/20/apple-accused-tax-avoidance-billions-scheme).

Da May 21, 2013 at 7:58 am

Does the figure of all these hours the Greeks supposedly work more than their northern European brothers and sisters include all the state workers that came to their jobs thanks to ‘political affiliation’?

But in fact I agree, Greece should not have joined the Euro when they did. But with a little help from Goldman Sachs that was possible…

Frederic Mari May 21, 2013 at 1:29 pm

Sure, hourly productivity is crucial. And, yes, Greece is a corrupt pile of poo. I think I suggested selling them back to the Turks… but I don’t think the Turks would want the deal.

At the very least, yes, they should not have joined the EU. I’ve had discussions on these with other Europhiles. They think that beating fascism in Portugal and Greece was important. I don’t. I think a deep union like the EU would have hoped to become should have remained to the 4-5 core countries.

JWatts May 21, 2013 at 2:02 pm

Sure, hourly productivity is crucial. And, yes, Greece is a corrupt pile of poo.

Precisely. You can’t expect a large amount of Greek ‘workers’ showing up at a government job and twiddling their thumbs for 7 hours to produce much in the way of economic output. Furthermore, even the Greeks admit the official stats aren’t very accurate.

So, saying ‘Except that the Greeks turn out to work more hours than the Germans’ is not really very accurate. The data it’s based on is bogus and the large number of workers who merely attend a work place can’t realistically be described as working.

mw May 21, 2013 at 7:32 am

OK, now rewrite this post for Iceland.

T. Shaw May 21, 2013 at 11:21 am

A++

In March 2009, Greek and Icelandic unemployment were about the same. On or about 4/1/2013, Greek unemploment was 26% while Iceland was 5.5%. Magic wand or Norse gods????

Also, try a rewrite for Cyprus.

You will obtain far more edification at a scuzzy porn site than from reading Krugman.

Perilo May 21, 2013 at 7:37 am

“The leading export partners of Portugal are Spain, Germany, France and Italy, not a surprise. So a weaker euro won’t help them on those fronts”

False. In trading with these partners, Portugal competes with OTHER countries…

Tyler Cowen May 21, 2013 at 8:07 am

Thanks, I have reworded but won’t be a huge effect.

VN May 21, 2013 at 8:51 am

You should also have in mind that Portuguese exports are inputs of exports of other European countries (specially Spain). Other thing is that the main exports of Portugal to the United States are refined oil products and machinery. Portugal also has a good market in Angola and Brazil, and Mozambique will be a good market in the near future (due to the discovery of large gas fields in this country).

Export industries and tourism (tourism should be considered an export in this discussion) are presently the only ones growing in Portugal and they are the only hope for recovery. The old economy based on debt and internal consumption is unsustainable.

Andrew May 21, 2013 at 8:34 am

Doesn’t that point make the point even stronger? If “Europe” is cheaper, why would people “buy Portugal” over Germany?

VN May 21, 2013 at 8:53 am

Germany may buy Portugal over Sweden (which is outside the euro area)

Andrew' May 21, 2013 at 7:51 am

What struck me in the recent volleys is that it seems that people think there are warehouses in Portugal of things Germans want to buy if only they were cheaper. But since that is just a model, how long would it take in reality for the structure of production to adjust to new trade flows? I’d start with “by the time we are already out of this crisis” and work back from there. My next question would be why did what caused the crisis not cause this adjustment before the crisis?

Claudia May 21, 2013 at 9:35 am

Let’s not get too carried away. I am all for “the nitty-gritty of the positive economic argument” … that will happily fill the rest of my day … however, it can be a distraction at best and an infinite rabbit hole at worst from the big picture. There is no macro truth and any policy will be a leaky bucket, but that does not excuse resignation. While I think morality plays are generally dead ends, I do think social welfare (in a utility sense) is important. Discussions of fear, pain, expectations are a part of positive economics, and actually there are some people who probably have a moral compass still lodged in their utility function. So I don’t the two are so neatly separated. Long-term unemployment is a classic example. I know jobs programs are an efficiency disaster, but I also know the economic, social, and psychological costs of unemployment are huge.

Of course that all applies more to the post than to you. But what caught my eye was your “why did what caused the crisis not cause this adjustment” statement which sounds like positive economics going down the rabbit hole. Sounds like the idea that one has to know the answer to many, many questions before acting or the revealed economy is as it should and must be. Not so sure. There will be plenty of time to write academic papers, but windows of policy opportunity pass more quickly. Finally, it’s easy to say what won’t work…much harder to say what might.

Plamus May 21, 2013 at 11:47 am

“There is no macro truth and any policy will be a leaky bucket, but that does not excuse resignation.” – Yes, yes it does. It’s all nice that you macroeconomists can play with numbers, at the cost of devaluing the dollar to a tiny fraction of its value in a few decades – now how about giving the markets a shot? Your models suck, to the extent that they are falsifiable at all. The whole mentality of “but it’s hard, and we mean well, and we are trying very hard” does not change the futility of it all – with nine hard-working mothers you do not get a baby in a month.

“Finally, it’s easy to say what won’t work…much harder to say what might.” – Wrong. It’s very easy to say what MIGHT work – macroeconomists do it all the time. What’s hard is to say what will or will not, and say it straight. I see very few macroeconomists following Julian Simon’s example and saying “I’ll bet X amount of dollars that if you do Y, you’ll get Z outcome within W time frame”. And for falsifiability purposes, pair it with “I’ll bet X amount of dollars that if you do NOT do Y, you’ll get U outcome within T time frame.” This way there is no weaseling out with “more likely”, “ceteris paribus”, “we can expect”, etc. (for the record, the first one is meaningless in a non-repeatable context, the second one is conveniently never true outside a lab, and the third one is a truism void of useful information).

Claudia May 21, 2013 at 12:01 pm

You got lots of ideas (I disagree more than I agree with them but I see some validity) so get to work … make macro policy better. I am all for outside, critical ideas. One correction to what I wrote, I should have said “show” not “say,” of course talk is cheap … “show” me that real-world markets from this point forward will have it better under control and I will cede your point. I should note, however, that the bias of almost all contemporary macro policy is to let markets work … and many would argue that got us in some trouble earlier this decade. Markets are made up of people and people do and think funny things (not just macroeconomists) so I’m not so sure I’d feel better with markets in complete control.

Plamus May 21, 2013 at 3:47 pm

First, why is the onus on me to show that markets work without policy intervention, and not on you to show that intervention is a net positive? I find it sad and amusing at the same time that I suggest free markets, and you respond with “make macro policy better”. Is this really what free market means to you?

Second, “the bias of almost all contemporary macro policy is to let markets work … and many would argue that got us in some trouble earlier this decade”? Really, you say that with a straight face? You are obviously referring to the real estate debacle earlier this century, not this decade (correct me if I am wrong). You’ll lay that at the door of the free market too? Fannie, Freddie, Ambac, AIG – bailouts and everything – redlining laws, predatory lending laws – and then QE’s, Twists, Fed as the biggest buyer of US gov’t debt – this is free market to you? We must truly be speaking different languages.

Third, I fully agree that people think funny things, and markets are made up of people. What are governments and regulators made up of – unicorns? To each their own, but I am much more comfortable with people who want my business in control, than with people who think they know better than I do what’s good for me.

Claudia May 21, 2013 at 4:01 pm

Clearly, you know all you need to know. Nice chatting.

Plamus May 21, 2013 at 7:29 pm

Clearly, so do you. Likewise, nice chatting.

Claudia May 21, 2013 at 8:21 pm

Actually, there is a lot I don’t know … why else would I poke around in the econ blogosphere? I already get a heavy dose of economics just at work. I guess the “unicorns” just got me riled.

No one ever knows if a policy will work for sure … or if the markets will function for sure. I agree we have get specific in the comparisons. I work on the staff forecast at the Fed and we write down estimated effects for monetary and fiscal policy (and a bunch of other stuff) over the next several years. Of course, our models are imperfect, though we are always working on them … and we even do a thing called judgmental forecasting where we try to think about the model deficiencies and work them in the staff forecast as well. Still not perfect, but there is a precision, plus its a modal forecast so even got the implied probability. And while it’s not the same thing you can see how the FOMC’s projections have evolved over time…you can see specifically how they missed. But what does it mean? Too much policy, too little? Markets impeded, falling apart?

I am well aware that too much intervention stifles an economy, but ours has some institutions in place, and for a reason. A hundred years ago the Federal Reserve was created because the people (in power) were not comfortable with JP Morgan (or any other private banker) deciding the winners and losers from a banking crisis. Btw those crises were quite common before the Fed and now less so. And I mentioned fighting long-term unemployment, well that’s in the dual mandate from Congress. I think onerous is on someone to argue why the dual mandate is detrimental to the economy, but of course policy actions still have to be weighed as the FOMC and Congress and the administration do.

On your point about the unicorns, it would be great if government were all about market failures and social insurance and left the living of life to people. Policy makers have biases like anyone else, but we can’t just ignore they are there.

mark May 21, 2013 at 4:09 pm

You’re on the right track. It’s the macro fallacy, the way macro economists have of looking at everything as fungible GDP and you just need to adjust your fiscal or monetary policy and, poof, everything else follows q.e.d.

Industrial organization. Competitive advantage. Natural resources. Urban vs rural. Technology. Culture and other institutions. Someone else in the department handles those, no?

Germany has been organized for value added manufacturing for centuries, going back to the era of Marx and Engels. Portugal is a neophyte, an amateur by comparison. Is there some amount of German wage inflation depreciation that would enable Portugal to sell a home-grown Mercedes equivalent at a profit? Set aside fantasies of “magic wands” (does the “confidence fairy” loan one to Krugman?), in the real world, if inflation in Germany is slow enough, it will adjust to a 20% wage premium faster than Portugal, because it knows how, and Portugal is clueless.

Very Serious Sam May 21, 2013 at 8:00 am

Krugman argues “that such a policy would largely lead to inflation in Germany [...] that’s a feature, not a bug.”

Not for the average Hans German, it isn’t. Hans has experienced a huge drop in purchasing power since around 2001 or so. And all these years, the (offical) inflation rates were rather low. So Hans knows by long and hard experience that the salary increases are below the inflation rate. No reason to assume this would change if inflation wents up, or salaries rose, or both – Hans knows by experience that inflation eats up his savings and purchasing power.

Thus, Hans understands perfectly well what most politicans and economists don’t get: all these nicely argued proposals to target higher inflation rates might serve the interests of foreign countries, and of course the finance industry. But certainly they don’t serve Hans’ interests.

After all these years of much to cheap money for certain borrowers, thanks to the misconstructed Euro, when others had huge parties (and piling up debt and/or inflating bubbles during the process) while Hans wasn’t allowed anything like that, Hans is perfectly entitled now to have his decade of partying instead of financing the feasts elsewhere.

Boonton May 21, 2013 at 8:28 am

Looking over http://www.tradingeconomics.com/germany/inflation-cpi I’m not seeing any recent period of serious inflation for Germany. Back in 1992 it hit 6%* but since then it’s been oscillating between 1-2% and in recent times it looks closer to 1% or less, which is hinting that maybe Germany itself could use a bit more inflation at the moment rather than worries about inflation. Likewise dispoable income seems to have grown at a pretty even upwards pace (see http://www.tradingeconomics.com/germany/disposable-personal-income)

Tyler neglects the fact that there’s a difference between attempting to achieve inflation in Germany and actually achieving inflation. If the EU Central Bank attempts to achieve inflation by printing money and buying bonds, interest rates will drop. Some of this may turn into increased German purchasing power, granted only a fraction of that may turn into actual exports with Germans going on vacation in Barcelona and Italy etc. But it can just as easily turn into purchasing power throughout the EU. If I sell my bonds to the central bank for 10M Euro there’s no particular reason why I would be inclined to increase consumption in Germany. I could just as easily take that 10M Euro and invest in a start up in Barcelona or a factory in Portugal. If I did so it would have little or no impact on German inflation rates but *NOT* show up as an increase in Portugal exports to Germany.

* 1992 was, of course, a period of reunification where West Germany had to help bring East Germany on a par. It would seem they did this by increasing purchasing power a bit faster than they could increase the ability of East Germany to produce goods and services, hence the 6% inflation. This implies, yes Germany can help bring up the outer countries of the EU by increasing money.

prior_approval May 21, 2013 at 8:31 am

‘Hans has experienced a huge drop in purchasing power since around 2001 or so.’

Strangely, having lived in southern Germany for 20 years, nobody I know has noticed that. I’ll admit I don’t know anybody named Hans, though.

‘So Hans knows by long and hard experience that the salary increases are below the inflation rate.’

Not if Hans is one of the 3.7 million members covered by IG Metall, which just completed a wage agreement with Gesamtmetall, the industrial company representative, to increase of 5.6% over the next 20 months. And as noted at this blog, inflation in the eurozone is currently 1.2%, which is nothing to fear, apparently.

‘Hans is perfectly entitled now to have his decade of partying instead of financing the feasts elsewhere.’

Again, not sure about Hans, but many of the people living in this region has considered the last 10 years to be quite good. Though there has been a recent problem in this region, among a certain group – businesses just can’t find employees any more, with a jobless rate considerably under 5%. It seems like no one wants a job that doesn’t pay well, and a lot of business owners find this distressing. Of course, I don’t know what Hans thinks, but very few Germans I know care about how hard it is for a business owner to exploit its workforce.

Da May 21, 2013 at 8:54 am

‘Strangely, having lived in southern Germany for 20 years, nobody I know has noticed that. I’ll admit I don’t know anybody named Hans, though.’

Comparing southern Germany with Germany is a bit like comparing Germany with Europe.

Also the last ten years were indeed a period of economic healing in Germany thanks mostly to some hard reforms of a nature the good Paul Krugman would not even consider…

prior_approval May 22, 2013 at 10:51 am

Sure – but then, I grew up in Fairfax, and comparing Fairfax to America is roughly the same. Some of us have high standards.

Very Serious Sam May 21, 2013 at 9:40 am

I gather that not every German is member of the IG Metall and lives in souther Germany.
Inflation adjusted, a huge majority of Germans experienced losses in the purchasing power.
See for instance

http://www.welt.de/wirtschaft/article113582315/Realloehne-in-Deutschland-niedriger-als-im-Jahr-2000.html

prior_approval May 22, 2013 at 11:01 am

You did note the part about the last couple of years, right? ‘Auch der Zuwachs in den vergangenen drei Jahren habe die vorherige Entwicklung nicht ausgleichen können. 2012 hatten die Arbeitnehmer nach Abzug der Inflation von 2,0 Prozent noch ein Plus von 0,6 Prozent in der Tasche.’

Those last three years were not exactly sparkling in the rest of the world. And the reason for the increase was that workers demanded it – much like how Amazon is being subject to strikes at German distribution centers, because German workers are very aware of this point – ‘Eine schwache Konjunktur und die Deregulierung am Arbeitsmarkt hätten dazu beigetragen, dass sich die Einkommen seit der Jahrtausendwende insgesamt schwach entwickelten, erklärten die Düsseldorfer Forscher. So hätten die Hartz-Reformen den Druck auf die Verdienste verstärkt, und der Niedriglohnsektor sei gewachsen.’

However, it is also true that the article points out for the more productive segments of the German economy, this applies –

‘Deutlich besser lief es dem WSI zufolge bei den Tariflöhnen und -gehältern. “Sie waren 2012 real um 6,9 Prozent höher als 2000.” In den meisten Jahren dieses Zeitraums blieben die Bruttoeinkommen, in die unter anderem auch die Löhne der nicht nach Tarif bezahlten Arbeitnehmer einfließen, aber hinter den Tarifeinkommen zurück.’

In other words, those people working in jobs generally covered by unions saw their wages increase 6.9% during the time span that wages putatively sank (any guesses how much of that had to do with East Germany? – an honest question, because at some point, East Germany’s problems simply become Germany’s problem.)

And some people wonder why so many Germans support unions.

Josh May 21, 2013 at 8:39 am

Krugman points out that you need ‘two nominals to make a real’ and asks ‘relative to what’ do we need nominal wages in Portugal to fall. He says it’s obvious that it’s relative to German wages. What about relative to Portuguese prices? That’s the whole point of the original MR post: All the potential inflation in Portugal may just become inflation in Germany. Yes, Portugal could use an export boost, but it could more use a domestic fall in real wages to help the labor market achieve equilibrium. The question remains: If nominal wages are downwardly sticky and any inflation leaks out, then how can this be achieved?

Boonton May 21, 2013 at 8:44 am

I would also suggest looking at the US which might be viewed as one model of what the EU is trying to pull off. How dramatic are inflation rate differentials between the states? I don’t have the data but my impression is that US states don’t experience radical inflation rate differentials. This may not necessarily mean that if you have a state with ‘high inflation’ and another state with ‘low’ you’ll see a leap of ‘exports’ from the low state to the high one.

So assuming exports aren’t the ticket, what keeps the inflation rate between the states from being too far spread out? I suggest it comes from the monetary nature of inflation. When the Fed creates money and purchases financial assets, those selling the financial assets aren’t required to spend the money on ‘imports’. The bond manager in NYC doesn’t have to take use the funds he got from selling a bond to buy Jack Daniels (thereby increasing NC’s ‘exports’ to NY). He can just as easily buy a vacation home in NC, but that doesn’t show up as NC’s ‘exports’ going up. Or he can buy a fund that gives loans to people buying homes in NC…again that won’t show up as an increase in NC’s ‘exports’. But it does mean that money creation that ‘lands’ in NYC first doesn’t end up increasing NY’s inflation rate relative to the other states because it doesn’t necessarily result in actual increased purchases in NY.

acarraro May 21, 2013 at 8:50 am

I think that German politicians should tell their voters the truth: they have already lost the money. They just haven’t accounted for the losses yet. Arguing that inflation will hurt Germany is incorrect in my opinion. German savers have lent the money directly or indirectly. They can take their losses as defaults or as inflation. This is the real choice. There is no other party that can take the loss. We decided long ago to do away with debt prison or slavery. Societies can default.

So the real choice is between going through the bankruptcy system or to bail out most borrowers through inflation and financial repression. There is no state on the world in which savers as a category are better off since the money/wealth is not there. It’s true that some category of savers will be better off with defaults. But defaults tend to have big costs and be very disruptive. So in order to preserve those savers you impose a big cost on society. I guess you could say that’s fair. But we don’t have imminent domain laws (in a slightly different area) for no reason.

If there were no euro, you’d get a massive devaluation of liras and pesetas. Allowing the inflation rate to be above normal is a way to get what would have happened in a floating exchange system. Are you arguing that the Mediterranean countries would be in the same situation in a floating rate world? I doubt it frankly…

Boonton May 21, 2013 at 9:04 am

I think that German politicians should tell their voters the truth: they have already lost the money. They just haven’t accounted for the losses yet

Who exactly has lost what money? I mean has the German government directly purchased bonds from Spain or Portugal? Or aren’t we really talking about Germans (and many others) who have purchased bonds from those countries in their mutual funds, 401K’s, or by their bank account balances?

In that case the ‘loss’ of the bonds through a default would be a financial shock which would cause purchasing power to contract. Solution: Print money and stimulus spending to counteract that.

Or you can ‘bail out’ the countries and the ultimate effect would seem to be increased consumption and employment in those countries rather than Germany. Solution: Print a trillion Euros and use it to ‘restructure’ the debt of those countries so they avoid grinding austerity measures that are failing across Europe.

F.F. Wiley May 21, 2013 at 9:04 am

Nice post – good to see Krugman’s distortions spelled out.

It’s not worth the time, but I suspect you could also find him linking reflation arguments in the U.S., U.K. and elsewhere to the benefits of currency devaluation. Even though the arguments can be compelling in the odd open economy that controls its own monetary policy and has a relatively large and price-elastic export sector (Iceland, for example), you certainly can’t “change the world” for the better by urging competitive devaluations in all regions at the same time.

derek May 21, 2013 at 10:19 am

Isn’t Krugman’s whole point predicated on the assumption that German wages would increase if there was substantial inflation?

Germany outsourced much of it’s labor intensive production to neighboring eastern european countries with lower wages. Germany competes on the world market and it’s workers are in competition with a couple billion Indian, Asian, African and South American workers who would do the same work for less. If there was substantial inflation the German workers would be poorer.

Isn’t the whole push for inflation a way to break the stickiness of wages during a downturn?

Inflation would impoverish Germans and the Portuguese as well. Outside of some locally produced exports, the Portuguese would have to buy inputs for their manufacturing with a lower valued currency. The only difference would be a marginal decrease in input costs. Which would be swallowed up the the inevitable swings and instability that an increase in inflation would produce.

And does Krugman even consider that every other exporting nation or bloc is following the same strategy? Japan, the US, China, everyone is attempting to decrease the value of their currency with the goal of increasing exports.

If Portugal has borrowed too much money, both public and private, and having such a drag on the economy that they can’t grow, it is time for a default. It was time 3 years ago.

prior_approval May 22, 2013 at 10:47 am

‘Germany outsourced much of it’s labor intensive production to neighboring eastern european countries with lower wages’

And insourced a lot of it back in the last few years – if both the German media over the past few years and the companies that use the ERP software of the company I work for, are to be trusted. In part, because low wage all too often turned out to be associated with low quality. And in the German eyes, low quality is never a successful route to earning long term profits, even if it decreases short term costs.

Russell L. Carter May 21, 2013 at 10:44 am

“There is the usual snark in Krugman’s post, but if you read it through you will notice it does not cite a single fact or estimate.”

I have been reading MR for over ten years now. And this statement is exactly true of 99.99% (at least) of Tyler Cowen’s posts. This particular characteristic (in concert with the extremely impressive innumeracy (necessarily of other Right Wing ideologues, of course) when “facts or estimates” *are* included) is why I eventually came around to the view that there is no there, there, in Right Wing ideology. It’s all about generously funding narrative generation that facilitates the accelerating returns to the already rich. That’s it.

Cliff May 21, 2013 at 12:00 pm

It’s all a conspiracy! 50% of the population is in on it!

Alex K. May 21, 2013 at 12:02 pm

I missed your highly numerate interpretation of the facts refuting Tyler’s points.

All I saw was:

” It bothers me that I can’t fit this post into my pretty stupid construct of what a ‘right-winger’ does — so I’ll rant a little to feel better.”

Widmerpool May 21, 2013 at 12:07 pm

Oh my. You’re on to us.

JWatts May 21, 2013 at 2:08 pm

So, 99.99% of Tyler’s posts contain snark and not a single fact or estimate. And yet you say, I have been reading MR for over ten years now..

So, who’s the foolish one in that context?

Brian Donohue May 21, 2013 at 10:48 am

Slow clap. I hope you enjoyed writing this as much as I enjoyed reading it.

Arthur May 21, 2013 at 10:50 am

You forgot the effect of higher import prices from Germany, and from non-euro area countries. Also it’s a open market, so we should expect differences in the prices of products to be arbitraged away. Higher inflation in Germany would make some demand go the periphery.

So there are a lot of small channels. Even if banking channels is really broken, I doubt if EBC started to inflate we woundn’t see very positive effects.

collin May 21, 2013 at 12:28 pm

One aspect of modern macro-economics is under a very productive modern economies, is structural changes take a longer time to move. It takes a lot of time for Portugal to move compared to German wages.

This Euro project completely supports the point that that without labor integration there should no currency integration. I believed there are three things causing the US and Euro to move in different directions: The US TARP and Stimulus were done very quickly before too much bleeding, oil and gas boom, and labor integration which controlled wages during the boom and controlled unemployment durin the bust.

mark May 21, 2013 at 3:57 pm

It’s worth noting that the pound has depreciated about 20% in recent years, but UK exports have stagnated, so the answer to Dr Krugman is, maybe yes, maybe no. How much of Portugal’s exports compete with Germany’s? They don’t make cars, for instance. You can’t drive olives or grapes. Uber-simplistic.

prior_approval May 22, 2013 at 10:42 am

‘They don’t make cars, for instance.’

Well, actually, they do. The French car my wife drives was made in Portugal. After all, the country remains fairly low wage.

fred May 23, 2013 at 9:25 am

Is very sad when such intelligent people make such important analyses having in mind stereotypes like “they don’t produce cars”, “You can’t drive olives or grapes”, “we just don’t buy enough cork”. If people here don’t have a clue about the products Portugal exports, how on earth can they make any valid analyses about this subject?

fred May 23, 2013 at 9:41 am

A simplification of the Portuguese goods exports

Food and drinks____ 9%
Industrial supplies__ 34%
Refined Fuel ______ 10% (all crude is imported)
Capital goods ______12%
Transport material __15% (German, French and Japanese brands, all falling a lot in the last year)
Consumption goods _19%

gs May 31, 2013 at 9:44 am

well i have to say im not very impressed with this pseudo intelectual discussion, germans arent better then anybody, and if they have a better economy now is because they have a better geographical position and because to be honest they didnt had a colonial empire and with massive population they had to develop industry or else they would all starve, it wasnt because they were smarter, we had low population and probably the richest countrys on the planet, so trading was more profitable then building, and ppl do what is most profitable always, if it depends on making shit like germans do we will do it to survive period, this kind of racist rethoric will only blow in your faces like it did in the past several times and will again, we werent the ones defaulting time and time again, and then invading other countrys to take their wealth, i guess thats a sign of superiority too just shooting people to take what they have… but hey keep up the good insults like we just dont buy enough cork, its stimulating…

gs May 31, 2013 at 9:55 am

mr kurgman is an idiot, who does not know when to shut up, reading his comments when he says we are far from everywhere else, hes just an idiot who dosent know we have been around for a long times, we are actually present everywhere, everywhere since china macau to brasil and africa, people know us, speak our language and we have routes and connections americans and germans could only dream of, if we use them well or not thats real our problem, krugman is an idiot, the things the man says are just idiotic to say the least the fact he received a award ijn norway tells me northern europe is also a corrupt place, like elsewhere where they kiss ass and to be honest most money they have comes more from image and perception then real things, oil from norway and drug money from switzerland, the fact is the system dosent work, the countrys who have resources will be ok the ones who dont dont, germany will not be ok, in fact i bet everything i have germany will be in biggest recession ever in 5 years. they dont produce anything that cant be made elsewhere, and they dont have any resources, big population, and their biggest export cars, will be obsulete in years time, everybody makes them. in fact germany was falling into crisis right before euro, the euro saved germany and not anybody else, can u imagine germany nowdays with a strong currency like german D? \ if we had a decent gov, with low pop, large sea cap, and connections we have, we would be doing very well. comparing us with germany is stupid, we are a small country, and small countrys are the future, not big ones with large populations, a small country with a well organized gov is where i want to live, to me countrys like usa, germany china are dead and dying.

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