The euro has dropped about 13 percent against the dollar since the sovereign-debt crisis hit Italy seven months ago. To a large extent, the decline reflects the increased likelihood of an Italian default, which would destroy the single currency.
Yet depreciation may be the only remaining hope for the euro’s survival, as long as it is carried out through swift and coherent policy support.
Oh look! The old canard -- we can simply depreciate our currency and everything will be fine!
This has never worked. But let's continue to figure out why.
A weaker euro could help avoid that outcome and make fiscal consolidation a success. For the euro area as a whole, a currency depreciation wouldn’t have a large direct impact, since most trade is within the area. However, that isn’t the case with Italy: 55 percent of Italian exports are to countries outside the euro area, particularly Switzerland, the U.S., Russia and emerging economies.
A 15 percent depreciation of the euro -- bringing it close to parity with the dollar -- would give a big boost to Italian exports, which would compensate for the contraction of domestic demand.
Uh huh. That's a very nice premise. There's a problem with it though.
FX is a zero-sum game. If a currency is devalued so that the nation(s) using it have cheaper exports, thereby boosting their balance of trade, someone else's currency gets stronger, and their exports must decline.
Since everyone would like to be the nation with a lot of exports and fewer imports (that is, they'd like a positive balance of trade) the goal is impossible since everyone cannot "win" -- someone must lose!
Who's going to choose to lose?
Well, let's look at what "lose" means. It means, primarily, larger budget deficits and more debt accumulation. Ok, so who can afford that among those nations who are trading with Europe, and who would volunteer for it?
Not the United States. Not Switzerland. Not Russia. And neither India or China.
Oops.
Without a patsy this scheme fails, because in a fiat world "beggar thy neighbor" can be responded to quite effectively by simply matching tit-for-tat (or more) with each move.
Back when the United States was interested in continuing to run huge budget deficits to make political promises this all sounded great! We'd be the one absorbing more and more debt and hosing our balance of payments. What could possibly go wrong?
Well, debt accumulation of course. And now we're in a place where we can't suck it up and eat it any longer and so is everyone else. Worse, those who aren't currently in this box understand it because they're seeing what it does to nations like Greece, so conning them into accepting their turn in the wood chipper -- feet first -- is unlikely to work out well.
How long will it be before we -- and "news organizations" like Bloomberg -- start demanding that the writers of columns in their rags deal with basic arithmetic. In this case we're not even talking about "complicated" things like exponents -- this is literally a matter of addition and subtraction.
It may be time to start shredding MIT-issued degrees as well.
