Leaving the €uro: Pros & Cons?

SkepticOne

southsiderosie wrote: »

I have never said it wasn't - in fact I've said they would need to be even more open than before. Why do you keep repeating this point?

Maybe I misunderstood your earlier point. What you said was:

The only way I could see Ireland surviving on its own would be for it to adopt a Hong Kong or Singapore style of fiscal and government policy: zero regulation, no minimum wages, glorious place to set up shop and do business. However, this would probably require a level of government heavy-handedness that most voters would likely be uncomfortable with.

You seem to be arguing here that Ireland if it left the Euro would need to adopt the policies of Hong Kong i.e. have a highly flexible workforce with no minimum wages etc. However Ahearne is pointing out that this need for flexibility in the their economy is due to their currency board with the US dollar and that since Ireland is in a currency union, we therefore need to be like Hong Kong also in this respect.

You seem to think that the shift to a floating currency will somehow curb the pain of wage deflation and unemployment because the currency will bear the brunt of the government's bad policies. But workers - and especially low wage workers - bear the brunt as well.

I do think it will curb the pain somewhat. Not remove the pain altogether. What it does is bring the market to bear on the economy as a whole. It means we don't have to be like Hong Kong in having extreme flexibility in the economy. As it stands, if the economy falters in Ireland to any great extent (as it has) then all the contracts and arrangements (and not just wages) need to be renegotiated.

As an example, businesses have to get in touch with their landlords to try and reduce rents. But these landlords may not believe the problems of the businesses or may have loans of their own that they need to pay off, so they will push their tenants to bankruptcy rather than lower the rents. This is happening in Ireland.

Now some support euro membership precisely because of these problems since membership of a currency union punishes any lack of flexibility in the economy. Although I don't agree with their goal, their reason for supporting the Eurozone is sound, but as far as I can see you are arguing against this position.

If countries want to run ridiculous fiscal and monetary policies, but maintain employment levels, they they are going to have to be satisfied with high levels of inflation.

Yes inflation is a risk. A strong independent central bank is important.

Again, Argentina is a case in point: inflation has been running at over 20% there for almost a decade, no matter how much the government tries to fudge the figures. This would be DISASTROUS for Ireland, which imports over 75% of its food supply, and most of its consumer goods. It would be especially bad for the poor, who spend a higher percentage of their income on food and basics.

Yes I agree it would be bad if inflation were to take off and this is why a strong central bank would be important run by the likes of Honohan who is currently in charge.

You also seem to think that this shift would not have any repercussions from the EU. I would presume that Ireland would lose many of its EU membership benefits if it dropped out of the eurozone, and if these extended to preferential trade access, Ireland could kiss its MNCs goodbye.

Again, I think there's the assumption that everyone wants us in the Eurozone to start with. It is certainly one of the aspirations of the EU to have a single currency for everyone, but these aspirations need to be revised in the light of events. I think most countries would recognise the need for a degree of flexibility in their application.

southsiderosie

SkepticOne wrote: »

Now some support euro membership precisely because of these problems since membership of a currency union punishes any lack of flexibility in the economy. Although I don't agree with their goal, their reason for supporting the Eurozone is sound, but as far as I can see you are arguing against this position.Yes inflation is a risk. A strong independent central bank is important.Yes I agree it would be bad if inflation were to take off and this is why a strong central bank would be important run by the likes of Honohan who is currently in charge. Again, I think there's the assumption that everyone wants us in the Eurozone to start with. It is certainly one of the aspirations of the EU to have a single currency for everyone, but these aspirations need to be revised in the light of events. I think most countries would recognise the need for a degree of flexibility in their application.

If Ireland had control over its interest rates, and an open economy, it would not be able to control the value of its currency. The weak currency is what would drive massive inflation, and there is little that the government could do to control that. Countries with open economies cannot control exchange rates and interest rates at the same time.

SkepticOne

southsiderosie wrote: »

If Ireland had control over its interest rates, and an open economy, it would not be able to control the value of its currency. The weak currency is what would drive massive inflation, and there is little that the government could do to control that. Countries with open economies cannot control exchange rates and interest rates at the same time.

The impossible trinity that you refer to earlier says that what can't be done is maintaining a deliberately weak currency (like China to encourage exports) while at the same time maintaining high interest rates (to curb inflation) while at the same time allowing free movement of capital. The problem according to the impossible trinity is that if you raise interest in order to curb inflation you also tend to raise the value of the currency.

But note that this is the opposite problem to what you believe is the danger in your post.

The impossible trinity is more of a problem for countries in a strict currency peg as far as I can see. They must control the exchange rate in order to stay in the currency peg. That means they must give up one of the other two. They set the exchange rate but then if they try to control inflation, they give up control over capital flow. Because we're in an analogous situation to a country in a strict currency peg, we're suffering the same problems and we're seeing massive capital outflow.

So I don't think controlling inflation is a problem in a floating currency scenario once have a strong independent central bank.

southsiderosie

SkepticOne wrote: »

The impossible trinity that you refer to earlier says that what can't be done is maintaining a deliberately weak currency (like China to encourage exports) while at the same time maintaining high interest rates (to curb inflation) while at the same time allowing free movement of capital. The problem according to the impossible trinity is that if you raise interest in order to curb inflation you also tend to raise the value of the currency.

But note that this is the opposite problem to what you believe is the danger in your post.

The impossible trinity is more of a problem for countries in a strict currency peg as far as I can see. They must control the exchange rate in order to stay in the currency peg. That means they must give up one of the other two. They set the exchange rate but then if they try to control inflation, they give up control over capital flow. Because we're in an analogous situation to a country in a strict currency peg, we're suffering the same problems and we're seeing massive capital outflow.

So I don't think controlling inflation is a problem in a floating currency scenario once have a strong independent central bank.

But ostensibly the reason for letting the currency float would be to force a devaluation which would theoretically restore Ireland's competitiveness and ease pressure on wages and employment. But a tight monetary policy meant to control inflation seemingly defeats the purpose of a currency devaluation.

At this point I am confused. What do you really expect will happen in Ireland? Because I see no way forward that will not be detrimental to workers, it is just a matter of from what direction they are going to be squeezed.

Again, turning to the Argentina example:

As the expectations of devaluation increase, domestic agents
modify their portfolio by reducing their investment in domestic capital and increasing their foreign asset holdings. This reduces GDP and tax revenues. We assume that once a government devalues, the expectations vanish and the economy recovers its past levels of investment and GDP. A government has an incentive to devalue so as to increase the future levels of output, consumption, and capital stock. However, if a government devalues, in the future it requires a higher fraction of GDP to repay its external debt (which is denominated in US dollars euros). In consequence, the government policy of devaluation faces a trade-off between recovering the economy, and increasing the future cost of repaying the debt.

Our main result shows that under a speculative attack the optimal government policy depends on its level of debt. If the level of debt is low, the government devalues to increase capital but does not default. For higher levels of debt, the government does not devalue and repays its debt because the cost of a default is higher than the benets of a devaluation. Finally, for sufficiently high levels of debt, the government defaults, because repaying the debt is too costly, and devalues, once again to increase capital. Our theory explains why we sometimes observe "good" devaluations, where the economy recovers or "bad" experiences where devaluations took place only after government default, and as a result the economy pays a severe productivity cost that reduces investment and output (as in Argentina in 2002).

I think this highlights the Irish problem in a nutshell.

Homehippo

Hypothetical situation of Ireland leaving the euro

I asked the question today what would happen if Ireland left the Euro or it became an Irish Euro versus a german euro and I was told it would depend on the legislation brought in by the government. If it covered only irish banks you would receive Euro (Dutch) but if it included foreign banks in Ireland it would be Irish (Euro).

If this happened I would expect all debts to become Irish Euro and likewise all Assets you would then transition back to your own currency (print new currency and switch like we did in the Euro).

I think this is a real possibility and would have the effect of a haircut on Irish debt while making us competitive again.

The problem is how to protect your savings is to move it into sterling or buy a german bond. Physically opening a bank account in another euro zone country is much more difficult.

SkepticOne

southsiderosie wrote: »

But ostensibly the reason for letting the currency float would be to force a devaluation which would theoretically restore Ireland's competitiveness and ease pressure on wages and employment. But a tight monetary policy meant to control inflation seemingly defeats the purpose of a currency devaluation.

However in a situation where you might want the currency to fall, in those circumstances (such as we're in now) you are in a deflationary situation. Allowing the currency to fall counteracts that.

At this point I am confused. What do you really expect will happen in Ireland? Because I see no way forward that will not be detrimental to workers, it is just a matter of from what direction they are going to be squeezed.

Like you I don't see anyway forward that will not be detrimental to workers. However I see the situation where the currency remains at a high value but the adjustment is made through deflation as more detrimental since the adjustment made that way will involve redundancies, bankruptcies, evictions and so forth. Wages and prices are not going to come down in any sort of coordinated way.

Again, turning to the Argentina example:

I think this highlights the Irish problem in a nutshell.

I think you may have misinterpreted what you have quoted from that paper. I have reformatted it slightly but otherwise the wording stays the same. What it says is:

Our main result shows that under a speculative attack the optimal government policy depends on its level of debt.

a) If the level of debt is low, the government devalues to increase
capital but does not default.

b) For higher levels of debt, the government does not devalue and repays its debt because the cost of a default is higher than the benets of a devaluation.

c) Finally, for sufficiently high levels of debt, the government defaults, because repaying the debt is too costly, and devalues, once again to increase capital.

So what what the article is saying is that there's an optimal course of action depending on the level of debt. For the middle level of debt the best course of action is to try and pay down the debt without devaluing. For relatively low levels, devaluing is optimal and at the other end of the scale, defaulting and devaluing is optimal.

Now I think the problem with Ireland is that we thought we were in the middle category. What we're finding out is that we're not.

southsiderosie

Homehippo wrote: »

Hypothetical situation of Ireland leaving the euro

I asked the question today what would happen if Ireland left the Euro or it became an Irish Euro versus a german euro and I was told it would depend on the legislation brought in by the government. If it covered only irish banks you would receive Euro (Dutch) but if it included foreign banks in Ireland it would be Irish (Euro).

If this happened I would expect all debts to become Irish Euro and likewise all Assets you would then transition back to your own currency (print new currency and switch like we did in the Euro).

I think this is a real possibility and would have the effect of a haircut on Irish debt while making us competitive again.

The problem is how to protect your savings is to move it into sterling or buy a german bond. Physically opening a bank account in another euro zone country is much more difficult.

The second this was announced there would be a run on the banks and massive capital flight from the country. I would rather put my money under a mattress or wire it to my family in the US than leave it in an Irish bank, if this were to come to pass.

southsiderosie

SkepticOne wrote: »

However in a situation where you might want the currency to fall, in those circumstances (such as we're in now) you are in a deflationary situation. Allowing the currency to fall counteracts that. Like you I don't see anyway forward that will not be detrimental to workers. However I see the situation where the currency remains at a high value but the adjustment is made through deflation as more detrimental since the adjustment made that way will involve redundancies, bankruptcies, evictions and so forth. Wages and prices are not going to come down in any sort of coordinated way.
I think you may have misinterpreted what you have quoted from that paper. I have reformatted it slightly but otherwise the wording stays the same. What it says is:

So what what the article is saying is that there's an optimal course of action depending on the level of debt. For the middle level of debt the best course of action is to try and pay down the debt without devaluing. For relatively low levels, devaluing is optimal and at the other end of the scale, defaulting and devaluing is optimal.

Now I think the problem with Ireland is that we thought we were in the middle category. What we're finding out is that we're not.

Reading that article, I assumed that Ireland was a high debt country, based on the budget projections (which I do not trust, and double in my head whenever I see them). Based on the current trajectory, and the interpretation in the article, it looks like Ireland is heading for a "bad" experience:

where devaluations took place only after government default, and as a result the economy pays a severe productivity cost that reduces investment and output.

SkepticOne

southsiderosie wrote: »

The second this was announced there would be a run on the banks and massive capital flight from the country. I would rather put my money under a mattress or wire it to my family in the US than leave it in an Irish bank, if this were to come to pass.

We are probably going to leave the Euro at some stage however much of the money has already left and is leaving right now not because of this fear but because of bank insolvency.

SkepticOne

southsiderosie wrote: »

Reading that article, I assumed that Ireland was a high debt country, based on the budget projections (which I do not trust, and double in my head whenever I see them). Based on the current trajectory, and the interpretation in the article, it looks like Ireland is heading for a "bad" experience:

Yes we are what ever we do. But the article says that the optimal strategy is default and devalue.

southsiderosie

SkepticOne wrote: »

Yes we are what ever we do. But the article says that the optimal strategy is default and devalue.

It is the optimal strategy once the country is under speculative attack. Thus far the ECB has been willing to intervene in order to stave off the attacks, and it thinks that the waters would be further calmed by Ireland accepting a banking restructuring plan, which the government has steadfastly refused to do.

Ireland does not have to be the target of speculation, but it most certainly will be if there is any hint that it is leaving the eurozone. This more than anything else will force a default followed by devaluation. The worst case scenario does not have to happen, and the only reason it hasn't so far is because of the ECB. But talk of devaluation will turn into a self-fulfilling prophecy.

Edit side note: When the Argentina situation happened, I was working on project focusing on Latin American trade issues, and their rapid economic collapse was appalling. I have a hard time seeing this as "optimal" for any country, even if it may seem like the best option from where Ireland is at today. So I guess that shades my perspective here: from what I saw and read, Ireland should beg, borrow, or steal whatever the Germans want them to, if it means they can avoid ending up like Argentina.

BeeDI

I want to ask a question regarding farming and Ireland being forced out of the euro.
I own a herd of beef cows, and typically sell the offspring each autumn. The stock are generally for export to France and Italy, with some I guess going to the UK. There are many thousands of farmers in the same situation.
In the event of Ireland leaving the euro and adopting say the punt at a predetermined value. Lets say €0.75.

My questions.

1. Is it reasonale to assume that the value of my sales would remain pretty much at pre devaluation levels.

2. If the value of my stock for export sale has remained stable despite the ciurrency devaluation, does it follow that increasing the size of my herd of cows is a good hedge against the prospect of currency devaluation.

Cow I understand. Gold I don't. So I'm thinking, for me cows could be my store of value.

Thanks

SkepticOne

BeeDI wrote: »

I want to ask a question regarding farming and Ireland being forced out of the euro.
I own a herd of beef cows, and typically sell the offspring each autumn. The stock are generally for export to France and Italy, with some I guess going to the UK. There are many thousands of farmers in the same situation.
In the event of Ireland leaving the euro and adopting say the punt at a predetermined value. Lets say €0.75.

My questions.

1. Is it reasonale to assume that the value of my sales would remain pretty much at pre devaluation levels.

2. If the value of my stock for export sale has remained stable despite the ciurrency devaluation, does it follow that increasing the size of my herd of cows is a good hedge against the prospect of currency devaluation.

Cow I understand. Gold I don't. So I'm thinking, for me cows could be my store of value.

Thanks

I think the answer to 1 would be yes. Why would a buyer in France or Britain pay you less just because you use a particular currency? But isn't the single farm payment the main source of income for farmers?

I think in general you should invest in exporting businesses generally.

K-9

The big con for me is that 90% of our exports are by Foreign owned Companies. That isn't ideal, but there is no point ignoring reality either.

To me, it seems counter productive leaving a single currency zone that is our biggest trading partner and one we haven't developed properly:

Ireland exiting the euro and the risk of setting the Irish economy on fire

A measure of how much an economy is dependent on external trade is provided by the ratio of exports to an economy's annual GDP.
In 1973, when Ireland joined the then European Economic Community, its export ratio was 21.4 per cent. By 1993, it was 51.1 per cent; 79 per cent in 1999 - the year of the euro's launch - - and it is forecast to be 93 per cent this year.
By contrast, a comparable developed country, New Zealand, had an export ratio of 11.3 per cent in 1973 and 22.9 per cent in 2008.
However, New Zealand is the home of the world's biggest dairy products company, Fonterra, which is responsible for about 25 per cent of its total export earnings and over one third of international dairy trade - - selling in 140 countries and providing direct employment for over 10,000 in New Zealand.
Foreign-owned companies, mainly American, have been responsible for Ireland's exports boom in recent decades. Irish-owned firms account for only about 10 per cent of Ireland’s annual exports.
In 1973, 55 per cent of total Irish exports went to the UK and the percentage is almost 20 per cent today. However, more than 50 per cent of current exports from Irish-owned firms - - mainly producers of food and drink - - are to the UK market. The countries Germany, France, Benelux, Italy and Spain collectively represent a GDP 3.9 times the size of the UK, yet the non-food exports by Enterprise Ireland clients companies to these countries, is 40 per cent of that of the UK. Exports by Irish-owned firms to China in 2007, were 6.7 per cent of total exports from Ireland to China.

About 18 per cent of Irish merchandise exports and 15 per cent of service exports are to the US but Ireland is used as a significant profit centre by US firms because of the low corporate tax rate and patents can be parked in Ireland to receive tax-free income from other overseas locations. US firms transact a significant amount of their business in the world's second reserve currency - - the euro. Hedging against a small volatile currency is not likely to be in their interest.

While a secession would not prompt an ECB gunboat on the Liffey, there would likely be an economic collapse, at least initially.

Fieldstein and Hague were correct about exiting as once fear spread of an impending exit, funds would be moved offshore.

The end of the ECB lifeline for the banks, would surely bring them down.

Inflation would rise and then at some stage when an equilibrium value for the new punt was reached, mortgage borrowers would have to contend with maybe double-digit interest rates, while savers would be forced to convert their euros to lower value punts.

The business sector would be in turmoil as losses would have to be booked on euro debt and the governance system that is challenged with the smallest crisis, would have to put in place a siege economy.

Meanwhile, a country that is so dependent on foreign investment, would have a choice of a surge in its national debt or default. Against that backdrop, it would need a lot more than an IDA Ireland syrupy marketing campaign, to restore Ireland's reputation.

Costs would initially be lower, in the main trading currencies, but in the absence of reform, they would creep back up over time as high inflation would erode the advantage.

So why risk massive turmoil instead of creating a competitive economy within the huge Eurozone market?

In the year to August 2009, 42 per cent of merchandise exports from Ireland went to the Eurozone. In 2008, 37 per cent of service exports went to the common currency area. It could be bigger and why would it be rational to hoist the white flag when the market area will grow in size over the next decade?

To me, embracing it far more, makes more sense than leaving it.