Internal devaluation in € v cost cutting in own currency

patslatt

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Internal devaluation or grinding deflation which Ireland has been experiencing is politically very difficult compared to cost reduction in a country's own currency for the following reasons:
1.The opportunity for the Central Bank to restrict the growth of money and credit and to increase interest rates to prevent both unsustainable growth and costs from rising in the first place is not available in the euro.
2.Inflation from devaluations to a fair extent conceals from the public who the culprit is for government spending being reduced in real terms and real wages falling.
3.In contrast,cutting government spending and government wages is very unpopular politically.

Should the economy become stuck in a rut,it would be useful to be able to stimulate the economy with lower interest rates and if necessary to reduce export costs through engineering a devaluation with monetary ease.

When the euro was set up with the best of intentions for "ever closer union",why didn't the EU establishment take the above points into consideration? Surely they are not all ignorant of Economics 101?
 


Padraigin

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Internal devaluation or grinding deflation which Ireland has been experiencing is politically very difficult compared to cost reduction in a country's own currency for the following reasons:
1.The opportunity for the Central Bank to restrict the growth of money and credit and to increase interest rates to prevent both unsustainable growth and costs from rising in the first place is not available in the euro.
2.Inflation from devaluations to a fair extent conceals from the public who the culprit is for government spending being reduced in real terms and real wages falling.
3.In contrast,cutting government spending and government wages is very unpopular politically.

Should the economy become stuck in a rut,it would be useful to be able to stimulate the economy with lower interest rates and if necessary to reduce export costs through engineering a devaluation with monetary ease.

When the euro was set up with the best of intentions for "ever closer union",why didn't the EU establishment take the above points into consideration? Surely they are not all ignorant of Economics 101?


Exactly. The monolithic eurozone was a recipe for economic disaster from the beginning. The euro is headed for collapse, probably sooner rather than later, because its rigid fiscal rules deprive the member states from being able to independently set their own fiscal policies.

One side benefit of a default would be the ability to control the fiscal policy of Ireland and not be constrained by the rigid controls of the eurozone.
 

Ulysses

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Exactly. The monolithic eurozone was a recipe for economic disaster from the beginning. The euro is headed for collapse, probably sooner rather than later, because its rigid fiscal rules deprive the member states from being able to independently set their own fiscal policies.

One side benefit of a default would be the ability to control the fiscal policy of Ireland and not be constrained by the rigid controls of the eurozone.
A default and unilateral withdrawal from the euro would be unlikely to work, because most of our external debt is denominated in euro, and the cost of paying interest and repaying the bonds would almost certainly balloon (not to mention the almost inevitable capital flight).

A collapse across multiple member states of the eurozone would be a whole different ballgame, however.
 

Padraigin

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A default and unilateral withdrawal from the euro would be unlikely to work, because most of our external debt is denominated in euro, and the cost of paying interest and repaying the bonds would almost certainly balloon (not to mention the almost inevitable capital flight).

A collapse across multiple member states of the eurozone would be a whole different ballgame, however.

A default is a default. It does not matter whether the debt is owed in euros, or dollars, or rubles.

Look at how Argentina handled its default. It stopped servicing foreign debt and established new currency. The external debt that was not being paid meant that Argentina could not borrow from foreign banks, but that did not prevent its new currency from having value even outside of Argentina. Once the new Argentinian currency stablized in value, it was just like any other currency being used around the world.

A default by a country is like a personal bankruptcy. It destroys your credit rating, but it does not stop you from gaining more wealth and even becoming rich afterward. A country that defaults is like a person who has declared bankruptcy - no more loans for a while, but you can still buy and sell things normally.

Argentina has grown so wealthy since its 2002 default that it has decided to pay some of its old debt with its surplus cash at its own rate and in increments of its own choosing. The foreign banks are so grateful that its credit rating will likely be better than ever very soon.
 

Ulysses

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A default is a default. It does not matter whether the debt is owed in euros, or dollars, or rubles.
But it does - otherwise we don't ever pay back, meaning that the Argentinian example you cite is irrelevant. A unilateral withdrawal from the euro leaves us owing euros (unless there are also odds and ends denominated in Sterling or Dollars, but I wouldn't know about that). A collapse of the euro across a number of member states means we owe..... .....what exactly? Deutschmarks? Zlotys? Milk bottle tops?


no more loans for a while, but you can still buy and sell things normally.
Yep, that's grand. If we can't borrow, how do we find the money (in whatever currency) to fund the large gap between taxes and government spending next year and the couple of years after that? If we can't find it somewhere, what do we do? Sack a load of nurses and special needs assistants?


The foreign banks are so grateful that its credit rating will likely be better than ever very soon.
One thing is certain. Bond buyers have to buy bonds. So defaulting won't make us financial pariahs (well, only for a while anyway). I'd still like to know how we're going to keep public services muddling through for 3-4 years. Things are going to be pretty grim as it is - and I don't fancy the notion of ringing for an ambulance and being told I'll have to wait for one until we're finished working through the consequences of the 2011 default.
 

Padraigin

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But it does - otherwise we don't ever pay back, meaning that the Argentinian example you cite is irrelevant. A unilateral withdrawal from the euro leaves us owing euros (unless there are also odds and ends denominated in Sterling or Dollars, but I wouldn't know about that). A collapse of the euro across a number of member states means we owe..... .....what exactly? Deutschmarks? Zlotys? Milk bottle tops?

A default means you give notice that your country is not going to be paying back debts to foreign banks. The foreign banks - and the world bank - does not like defaults. Your country gets put on the bad risk list, which means no more loans. The currency in which debt is owed is the least of the problems with a default. The key issue is that your country has declared that it is not going to pay. There is really nothing the other countries can do except refuse to give new loans. You can take a marker and check off countries all around the world that have defaulted. There are lots of them.




Yep, that's grand. If we can't borrow, how do we find the money (in whatever currency) to fund the large gap between taxes and government spending next year and the couple of years after that? If we can't find it somewhere, what do we do? Sack a load of nurses and special needs assistants? ['QUOTE]

One thing is certain. Bond buyers have to buy bonds. So defaulting won't make us financial pariahs (well, only for a while anyway). I'd still like to know how we're going to keep public services muddling through for 3-4 years. Things are going to be pretty grim as it is - and I don't fancy the notion of ringing for an ambulance and being told I'll have to wait for one until we're finished working through the consequences of the 2011 default.
After a default, governments and countries must quit borrowing and living beyond their means and set balanced budgets. Since they cannot borrow money, governments generally get serious about curtailing wasteful spending, which is a good thing. However, tax revenues often go up after a default. Money to run the government comes from tax revenues as per usual, but the good thing about a default is that the tax revenue that flowed out of the country in order to service debt owed to foreign banks stays in the treasury. This actually gives the government more money to use in taking care of things inside the country. A default means that a country has to live within its means - no borrowing to make up shortfalls - but its means may actually be better than they were before.
 

slumdog1971

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We don't have to default yet. If we get our income and expenditure closer together then we should consider the possibility of a structured default.

Lets get our expenditure to 42 or 43 bn and our income to 36 or 37bn. Then we should default. The difference can be covered by the reduced interest costs in servcing what will be an enormous debt.

Of course we could have done this two years ago but FF were too interested in keeping Anglo afloat to seriously consider the options avaiable to us. Two years ago we had 20 bn in cash reserve, 20 bn in pension fund, 40 bn in national debt and then Brian Lenihan foisted 44obn of Bank debt on to our shoulders.

It will go down in history as the worst economic decision ever taken by any Minister of Finance anywhere in the world. Even crack pot african dictators wouldn't have down what he did that faithful night. Absolutely crazy.
 

patslatt

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The restored punt as sound as the Swiss franc!

A default and unilateral withdrawal from the euro would be unlikely to work, because most of our external debt is denominated in euro, and the cost of paying interest and repaying the bonds would almost certainly balloon (not to mention the almost inevitable capital flight).

A collapse across multiple member states of the eurozone would be a whole different ballgame, however.
A restored punt could prove a strong currency if the euro comes under sustained attack. The government would have to restore it by announcing rigid rules based conditions designed for currency stability first and price level stability second in order to prevent a run on the Irish banks.

Those conditions could include creating an independent central bank under a constitutional change. Since gold is a proxy for all currencies,a certain target percentage of central bank assets could be in gold with purchases over say 15 years to achieve the target.

Currency stability could be maintained to a fair extent by targetting the punt's value to a trade weighted basket of international currencies and to trade imbalances. If say 20% of export and import trade is with the UK (an average of say 15% of exports and 25% of imports),the punt could be 20% tied to the value of UK pound. If a trade imbalance with the UK rose to unsustainably large levels over a long period,there could be rules for increasing the weighting of the UK pound in the punt's foreign exchange value.

Despite the rules based conditions,the Central Bank would also need freedom to deal with unanticipated economic shocks,such as sudden changes in interest rates and exchange rates. If Ireland had a North Sea size oil discovery for instance,the Central Bank would need to do quantitive easing ie printing money,to prevent the punt from rocketing and wrecking our exports.
 
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Ulysses

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A default means you give notice that your country is not going to be paying back debts to foreign banks. The foreign banks - and the world bank - does not like defaults. Your country gets put on the bad risk list, which means no more loans. The currency in which debt is owed is the least of the problems with a default. The key issue is that your country has declared that it is not going to pay. There is really nothing the other countries can do except refuse to give new loans. You can take a marker and check off countries all around the world that have defaulted. There are lots of them.
I know what a default is. My point is that if you ever intend to pay back the debt at a future date (which Argentina did), the cost of doing so is greater if the debt continues to be denominated in euro - unless the euro ceases to exist.

How many of those defaulting countries are in the OECD?

Argentina, btw, was a basket case, and is still a basket case. In fact, it was even a basket case while it economy was "booming" after its default. Argentina, in other words, is not a good example of the benefits of defaulting.

And there remains the rather significant issue of capital flight. Why would any rational person keep their money in an Irish bank account when the bank is dodgy and unlikely to survive, and when their deposits are about to be converted to the "Irish peso"? A rational person (indeed, very many rational people) would ship their money somewhere it could reside in a reliable currency.




After a default, governments and countries must quit borrowing and living beyond their means and set balanced budgets. Since they cannot borrow money, governments generally get serious about curtailing wasteful spending, which is a good thing. However, tax revenues often go up after a default. Money to run the government comes from tax revenues as per usual, but the good thing about a default is that the tax revenue that flowed out of the country in order to service debt owed to foreign banks stays in the treasury. This actually gives the government more money to use in taking care of things inside the country. A default means that a country has to live within its means - no borrowing to make up shortfalls - but its means may actually be better than they were before.
If your deficit is bigger than your debt servicing costs - as our deficit is - then even if we hold on to the debt servicing money we still have to make cuts to balance the budget. In other words, if we default now our government's means will not be better than they were before. That being the case, I guess we would have to sack nurses and special needs assistants.
 

Ulysses

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A restored punt could prove a strong currency if the euro comes under sustained attack. The government would have to restore it by announcing rigid rules based conditions designed for currency stability first and price level stability second in order to prevent a run on the Irish banks.

Those conditions could include creating an independent central bank under a constitutional change. Since gold is a proxy for all currencies,a certain target percentage of central bank assets could be in gold with purchases over say 15 years to achieve the target.

Currency stability could be maintained to a fair extent by targetting the punt's value to a trade weighted basket of international currencies and to trade imbalances. If say 20% of export and import trade is with the UK (an average of say 15% of exports and 25% of imports),the punt could be 20% tied to the value of UK pound. If a trade imbalance with the UK rose to unsustainably large levels over a long period,there could be rules for increasing the weighting of the UK pound in the punt's foreign exchange value.

Despite the rules based conditions,the Central Bank would also need freedom to deal with unanticipated economic shocks,such as sudden changes in interest rates and exchange rates. If Ireland had a North Sea size oil discovery for instance,the Central Bank would need to do quantitive easing ie printing money,to prevent the punt from rocketing and wrecking our exports.
A lot of "coulds" and "woulds" there. It's a lot easier to envisage a situation in which we'd end up with the "Irish peso" rather than the punt, TBH. Iceland's Canute-like efforts to apply rigid rules-based conditions didn't prevent a two-thirds fall in its currency's value, and I can't see how another bankrupt country with a tiny economy on the margins of Europe would be able to fare much better.

At last count, Iceland's inflation rate was something up around 18%. Come to think of it, Argentina's official inflation rate is a mere 8%, but government statistics are regarded as unreliable and the actual rate is reckoned to be closer to 22%.

If cost cutting in our own currency means 20% plus inflation, frankly we're better off sticking with the euro and with IMF-inspired tax hikes and public sector pay cuts. :shock:
 

H.R. Haldeman

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Internal devaluation or grinding deflation which Ireland has been experiencing is politically very difficult compared to cost reduction in a country's own currency

I don't see clearly enough that the trauma of leaving the euro would less than the trauma of deflation + debt restructuring. I mean, it might be, but is it really that clear cut? If the option is between leaving the euro or just paying ourselves less isn't the latter the path of least resistance?

The only clear advantage I see is that we'd again control monetary policy, as OP mentions. But even on that, aren't there fiscal and policy measures that can be used when you don't control IRs/money supply? For example, during the bubble wouldn't a basic counter-cyclical economic policy have done the trick? And policies like sensible bank regulation (including controlling lending multiples and reforming how performance-linked bank bonuses are awarded), proper planning laws, a sane bankruptcy regime, a logical social housing policy etc. All those things could have offset low IR's and acted as a replacement for raising IR's.
 

Padraigin

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Every economist who has looked at the situation has advised Ireland to default. No economist can justify why the Irish texpayers should be taking on any obligation to repay billions in private investor debt. This is the kind of economic suicide that will not even show up on any economic models, because nobody - absolutely nobody - sane would ever do it. The economists advise that, if the international monetary organizations are trying to impose this unlawful debt on Ireland, the Ireland should say no. Tnis is the only sane, reasonable, and economically sound thing to do.

The only ones who are still trying to spin and deceive the Irish into taking on debt that no sane government would ever agree to pay are the banks and the financial markets of Europe. These people apparently see no higher value in life than the money markets. Not even the economic survival of countries matters to them. They will do just about anything to prop up the money markets, even to the point of enslaving small countries. They tried to destroy Irceland, but the Icelanders fought back and saved themselves and their country. They are now trying to enslave the Irish. The Irish need to fight back just as strongly as the Icelanders - with or without the craven government.

A default is short term monetary disruption, but nothing that a normal government should not be able to handle. The only hard parts is (1) the transition to a new currency and (2) living within a fixed budget. Transitioning to a new currency should not be that hard for Ireland, as there are likely people in government who remember how it was done when Ireland went from the punt to the euro. Transitioning back to the punt would be done the same way.

Living within a fixed budget is how all governments are supposed to operate. Running to foreign banks to borrow more money when governments fail to live within their budgets is a really bad habit and something that needs to end anyway. However, as mentioned before, a default makes more tax revenues available to the government immediately. The Irish government takes in money every month. All it needs to do is match income with expense. Initially, nobody's wages or jobs should need to be cut. Fairly soon, however, wasteful spending will need to be identified and cut from the budget, as the Irish government needs to start rebuilding its reserves. Since it will not be able to borrow money from foreign banks for a while, having reserves is a good idea.

The problems with default are real but not particularly difficult, and are soon over. Once the new currency stabilzes in value, the worst is over and things get back to normal pretty quickly. After a few months, people will have to be reminded that Ireland defaulted, because no one will notice or remember for long. Two weeks ago, most of you would not have been able to name the countries who had defaulted, even though some of those defaults happened only a few years ago.
 
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Ulysses

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Two weeks ago, most of you would not have been able to name the countries who had defaulted, even though some of those defaults happened only a few years ago.
How many of those defaulting countries are in the OECD?

Argentina, btw, was a basket case, and is still a basket case. In fact, it was even a basket case while it economy was "booming" after its default. Argentina, in other words, is not a good example of the benefits of defaulting.


(Sorry for repeating what I posted earlier, but perhaps it will get noticed this time around.)
 


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