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Friday, September 06, 2013

'The Euro Counterfactual'

Antonio Fatas is "skeptical that we can that quickly conclude that the Euro was a failed experiment and that life without the Euro would have been better":

The Euro counterfactual, by Antonio Fatas: Since the financial crisis started we have heard many commentators telling the Euro countries: "I told you so, this was a very bad idea". The argument is that the Euro area is not an optimal currency area - a jargon used by economists to argue that the costs of having a single currency are larger than its benefits. While until 2008 things have looked fine, the crisis is the real test for the Euro area and it has failed. And it has failed because of what any standard macroeconomics textbook tells you: that once you give up your exchange rate you lose a stabilization tool and when a crisis that is asymmetric in nature comes along you suffer a prolonged crisis as the only way out is to let prices and wages fall (internal devaluation), a painful and inefficient process.
In a recent post, Paul Krugman reminds us once again of these arguments by comparing Ireland during the current crisis to Thailand or Indonesia during the Asian crisis. His argument is that the Asian economies recovered quite fast from their crisis while Ireland has not (and Greece has not even started any recovery). As Kevin O'Rourke puts it, Ireland looks like Thailand without the Baht.
The arguments seem solid and the evidence strong but I am somehow skeptical that we can that quickly conclude that the Euro was a failed experiment and that life without the Euro would have been better (and maybe I am reading too much into those posts and they are not really going that far in their statements). 
What one wants to do is build a counterfactual: where would Greece or Spain or Ireland be if they had never joined the Euro? What would their currency have done for them before and after the 2008 crisis? Unfortunately we cannot build such counterfactual so the best we can do is to look for similar examples (such as Thailand during the Asian crisis). But let me argue that if one extends the set of examples and anecdotes some of the data does not speak that clearly against the Euro. ...[more]...

    Posted by on Friday, September 6, 2013 at 12:15 AM in Economics, International Finance | Permalink  Comments (12)


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