By Alexander Apostolides on September 01, 2012

A response to Protesilaos Stavrou’s “ is Euro area facing a balance of payments crisis”


I know and like Protesilaos personally for two years and I more often in agreement than not, but I must say that the following document (http://www.protesilaos.com/2012/08/euro-balance-payments.html) needed a response.

In the document Protesilaos criticised the obsession of many economists, including Krugman, of seeing the Euro crisis as essentially a balance of payments crisis that is made worse through the straightjacket of the Euro. He attacks the above by suggesting:
1) That the abstract of national trade is a statistical construct that is not very relevant to today’s G0 world of multinational manufacturing and services
2) That balance of payments are not linked to any socio-cultural characteristics
3) That imbalances within nations are frequent and they do not illicit such worries over the viability of a currency.

I disagree with all of the above.
a) This is not the first crisis that the EU has faced; in fact all European crises, whether triggered by exogenous factors (the oil price hikes in the 1970s) or by endogenous factors (Germany’s decision to keep interest rates high in the early 1990s) always end up becoming balance of payments problems as that is the essential weakness that underlines the European project. Although balance in trade was traditionally in surplus for the “core” of Europe and in deficit for the “periphery”, this was more than made up by the great migration of periphery workers to the core, whose remittances kept the balance. Where balance did not exist, nations would depreciative their currencies, hoping to remove balance of payment constraints, an option that is not available in the Eurozone. Depreciation was not necessarily a good option as it integrates a vicious cycle: “periphery” countries with limited raw materials found that a depreciation triggered another round of inflation (through the increase of the price of imported primary goods) leading to a further decline in competitiveness in the balance of trade, needing further future depreciations
b) No one claims that macroeconomics is not essentially an abstract idea, but its usefulness is not to be denied. National Accounts, trade statistics and others count what is going on in aggregate in an area defined by a set of rules where one authority holds power. It happens that we call this area a nation, and that since nations have their own set of rules for individuals, factories or companies, it is a very good summariser for economic vitality. Since a nation has substantial power over the individual then its decisions must be made while focused on the increase of the greater good – hence the need to think in terms of nations.
c) Just because there is a construct in creating a national level data the idea is still valid and useful. It enchases our ability to understand what is going on and perhaps find out what are the underlying causes a problem in a way that the microeconomics data might not be able to (people are not very good with data overload; machines are but are not very good on insight). Sure national data are a summary and as all summaries you lose detail but you gain insight – the long view. Yes the interactions of individuals across borders are not easily being pinpointed, but it is clear that if Greece fails to land a multinational firm making parts for a German auto company its balance of payments position will deteriorate over time, dampening the possibility of having economic growth (unless you have it on credit – and we all see the problems of that strategy).
d) Yes nations do have internal imbalances, and they rightly worry nations – they are not being as frivolous as Protesilaos suggests in ignoring their internal balance of payment problem areas. Italy is suffering from this problem through a North South divide, so in the US, and both have affected the political climate either through requests for limiting the national authority over the regional areas. Both countries a chucking huge sums of money on the problem, being aware that they risk having areas which are permanently in poverty who decide to undermine the national union.
e) I am afraid only with federation where they will be automatic aid to areas under deficit will the Balance of payment issues of the European Union will this problem cease to be so damaging to Europe, but since the mood in Europe is turning against a federation, I have to agree with Krugman and others that the Balance of payment imbalances between the “core” and “periphery” will remain one of the central weakness of the European Project.

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