Variant Perception: A Primer on the Euro Breakup

You may have already noticed that this one has been going the rounds. The piece is mainly driven by my colleague Jonathan Tepper’s work on the history of currency union breakups and how they work (or don’t).

It is a big piece in its entirety but the different sections can be read as standalone arguments. The summary is pasted below.

Many economists expect catastrophic consequences if any country exits the euro. However,during the past century sixty-nine countries have exited currency areas with little downward economic volatility. The mechanics of currency breakups are complicated but feasible, and historical examples provide a roadmap for exit. The real problem in Europe is that EU peripheral countries face severe, unsustainable imbalances in real effective exchange rates and external debt levels that are higher than most previous emerging market crises. Orderly defaults and debt rescheduling coupled with devaluations are inevitable and even desirable. Exiting from the euro and devaluation would accelerate insolvencies, but would provide a powerful policy tool via flexible exchange rates. The European periphery could then grow again quickly with deleveraged balance sheets and more competitive exchange rates, much like many emerging markets after recent defaults and devaluations (Asia 1997, Russia 1998, and Argentina 2002).

Whether it would be as easy as earlier episodes of currency breakups to dismantle the euro zone is a highly contentious issue. I am not sure that I believe it would be as easy is implied in the piece. But this is not the most important point. We are now in a situation where a breakup or a division of the euro zone into two is no longer a remote theoretical discussion. To this end I think the piece takes up (and describes the mechanics of) some very important processes and issues. Go read!

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