Yes Virginia...It's a Bubble...

[GRG55]

Re: Yes Virginia...It's a Bubble...

i've been thinking that the eu's problem is that it wanted to be more than a free trade zone. if it had accepted that limited achievement the whole community would be better off. the euro, in particular, was a huge mistake- reaching far beyond their grasp.

This is part of my argument that Germany eventually leaves the currency union.

I don't think anybody will disagree that not being able to take up wide differentials in productivity and the sector make-up of individual national economies through currency exchange adjustments is creating enormous stress. The multiple year economic contraction in Greece is a disaster for the whole EU, despite the public efforts to shrug Greece off as a small, inconsequential economy that "deserved what it got". Now Italy is the most visible on the cusp of a similar outcome, and hardly alone, or "inconsequential"

My question now is can France resolve it's policy paralysis and maintain it's economy close enough to pari passu with Germany's to hold the currency union?

However, we should not be under any illusion that maintaining national currencies is without difficulties also. NAFTA is arguably one of the most effective and mutually beneficial trade relationships in the world today (the nonsensical blathering to the contrary by Trump and Clinton notwithstanding). Quite naturally there are stresses between those three participating nations also, and I would imagine at the recent summit in Ottawa the volatility in Loonie/US$ exchange after oil prices collapsed was a topic of discrete conversation. Nevertheless, the managed movement of goods, capital, services and people between the three nations appears to work exceptionally well (and I doubt walls at the border will prove beneficial to anyone, and I note that even The Donald is not talking about an Amexit from NAFTA, but a "renegotiation" ).

[jk]

Re: Yes Virginia...It's a Bubble...

one argument for germany being the country that leaves the euro is that it is the only country that CAN leave the euro without suffering a catastrophic drop in its new currency. otoh, the hypothetical new deutschemark would be very strong and deal a blow to german exports. right now germany benefits from the weakness of the other eurozone members- they drag down the euro to the benefit of germany's export industries. i don't see a german gov't wanting to give up this advantage except under extreme duress.

so, grg55, what do you imagine might drive germany to take the enormous hit of a very strong new currency of its own?

[GRG55]

Re: Yes Virginia...It's a Bubble...

one argument for germany being the country that leaves the euro is that it is the only country that CAN leave the euro without suffering a catastrophic drop in its new currency. otoh, the hypothetical new deutschemark would be very strong and deal a blow to german exports. right now germany benefits from the weakness of the other eurozone members- they drag down the euro to the benefit of germany's export industries. i don't see a german gov't wanting to give up this advantage except under extreme duress.

so, grg55, what do you imagine might drive germany to take the enormous hit of a very strong new currency of its own?

The external exchange of the Euro benefits or impairs all EU currency union members, not just Germany. Germany's greatest benefit does not come from the external exchange rate of the Euro but it's the ability to access internal Euro currency zone markets. But that advantage is at increasingly measurable and increasingly visible cost to every other EU currency union nation, one after another. To paraphrase American economist Herbert Stein "Trends that can't continue, won't".

What would cause Germany to have to exit the currency union and float a new D-Mark? Probably some future confirmation that France is politically incapable of maintaining an economy as productive as Germany (an inevitablity imo), coupled with German refusal (public opinion) or inability (the sheer size of the problem) to continue to subsidise the growing difference. Think of it as "Germany-Greece x 1000".

There has been ample discussion over the years about the negative effects on the currency union, and the EU itself, of a German exit (from the Euro). The WSJ article below, from 2012, is an example. These are premised on the assumption that the currency union is actually functioning in some form. In that circumstance of course no one, including Germany, would wish to instigate the increased costs of an exit.

But what if Italy marks just the latest in an ongoing series of currency union national crises? What if in due course it is France in the headlines. With each episode the costs to "save" the Euro rise, in part because these are individually and collectively no longer inconsequential sized economies such as Greece or Cyprus. I wrote years ago that Germany would exit when it perceived the costs of keeping the Euro as outweighing the costs of leaving. If Germany and the German-led ECB ever arrive at the point where they conclude they have politically and financially exhausted "whatever it takes", its over.

Return to D-Mark Seen Creating Economic Contraction

July 30, 2012 4:17 a.m. ET

[jk]

Re: Yes Virginia...It's a Bubble...

the "cost" of backstopping the italian banks is the issuance of more credit. this allows those banks to continue to extend and pretend. this props up the italian economy. italy imports $70.2b/year FROM germany and exports $61.3b/year TO germany. so although the germans may protest the ecb essentially monetizing italian debt, they benefit from it. the alternative, for italy to have a severe crisis and recession, is going to harm germany. the same will happen if france goes into recession.

as you say, the rest of the eurozone is a huge export market for germany. to leave and have a strong d-mark, while the euro drops sharply [which it would in this scenario] effectively decimates the eurozone as an export market for germany.

i think crisis after crisis, it's still in germany's interest to stay with a euro that is significantly weaker than a strictly german currency would ever be. it helps their trade with the rest of europe, but it also helps vis a vis the u.s., china and all their other export markets.

perhaps if the ecb, doing "all that it takes", really moves to the brink of hyperinflation, just prints like mad and monetizes every european gov't's debt. then germany would leave.

[GRG55]

Re: Yes Virginia...It's a Bubble...

the "cost" of backstopping the italian banks is the issuance of more credit. this allows those banks to continue to extend and pretend. this props up the italian economy. italy imports $70.2b/year FROM germany and exports $61.3b/year TO germany. so although the germans may protest the ecb essentially monetizing italian debt, they benefit from it. the alternative, for italy to have a severe crisis and recession, is going to harm germany. the same will happen if france goes into recession.

as you say, the rest of the eurozone is a huge export market for germany. to leave and have a strong d-mark, while the euro drops sharply [which it would in this scenario] effectively decimates the eurozone as an export market for germany.

i think crisis after crisis, it's still in germany's interest to stay with a euro that is significantly weaker than a strictly german currency would ever be. it helps their trade with the rest of europe, but it also helps vis a vis the u.s., china and all their other export markets.

perhaps if the ecb, doing "all that it takes", really moves to the brink of hyperinflation, just prints like mad and monetizes every european gov't's debt. then germany would leave.

It can go on for a long time, as the Crisis in Europe thread (which is where we really should be posting this) attests. But it cannot go on forever. The EU cannot treat a banking crisis in Italy and eventually (imo) France the same way it did with Cyprus and Greece. As they have shown repeatedly, the "rules" are ones of convenience if you are one of the more important nations in the union.

[jk]

Re: Yes Virginia...It's a Bubble...

The EU cannot treat a banking crisis in Italy and eventually (imo) France the same way it did with Cyprus and Greece. As they have shown repeatedly, the "rules" are ones of convenience if you are one of the more important nations in the union.

first, the ecb will work harder to avoid a banking crisis in italy or spain or france, than it did for little cyprus. but if there is such a crisis, i think they will apply bail INs, as they did in cyprus. depositors beware! frankly, i worry about the possibility of bail ins in the u.s.