[yt_dropcap type=”square” font=”” size=”14″ color=”#000″ background=”#fff” ] I [/yt_dropcap]f it were not for the euro, Germany’s trade balance would have caused a revaluation of the Mark, which would automatically have reduced the exchange rates of the other “European currencies”, thus favouring them on international markets. The single currency was not created to stimulate exports and improve productivity.
In fact, for the first time, the then President of the European Economic Community, Roy Jenkins, proposed a common currency which, however, was also based on a common budget, equal to 10% of the sum of all Member States’ GDPs.
Initially the Euro was based on the “optimum currency area” theory developed by the Canadian economist, Robert Mundell, in 1961. It also rested on the fact that an economy open to international trade always tends to a low exchange rate.
Furthermore, as assumed by Mundell’s group of economists, in a highly diversified national economy the exogenous shock is always very limited.
This would lead a country open to trade and with a diversified economy to accept, in principle, a currency common to other countries.
Provided, however, that there is flexibility on the capital and labour markets and that its economy is very diversified and open to international trade.
However, to what extent can an economy be “diversified”? Does excess of diversification not lead – as natural – to a different and sometimes negative gain margin between products?
In Mundell’s model, the national currencies were described by the economic theory as simple barriers to international trade, as well as limits to productivity and finally obstacles blocking commercial transactions.
At that time, Jacques Delors and Romano Prodi theorized that – rebus sic stantibus – with the mere introduction of the Euro, the European economy would grow 1-1.5% per year.
Later Perrson and Nitsch proved that the econometric model used for those predictions was wrong, while other academics and experts studied the influence of the European monetary union on international trade.
Once again the analyses carried out on macroeconomic data demonstrated that the assessment of the benefits resulting from the single currency had been greatly exaggerated.
Obviously, for political purposes, economics is not so much a “sad science”, but rather rhetoric used to convey political and social messages and choices.
According to these more realistic models, the monetary union was responsible only for a 4.7-6.3% increase in foreign trade, while the most pessimistic forecasts of the first analyses on the Euro-induced growth pointed to a 20% or even a 200-300% increase in international trade.
We have always known that economics is ideology in disguise.
In other words, the Euro does not change international trade transactions, but rather tends to change competitive pricing.
Furthermore, there is no factual evidence of a stable structural difference between foreign trade and exchange rate.
Moreover, according to the International Monetary Fund, a 10% decline of the exchange rate leads to a 1.5% average increase of GDP.
Yet another demonstration of how a healthy and sound devaluation is good for international trade.
The persistently “high” single currency has also hampered recovery in the Eurozone countries, while other European countries, such as Sweden, could quickly rebuild their economy.
This implies that the Euro could do nothing to avoid the crisis, except in Germany, where the per capita GDP has been growing incessantly since 1999.
As to investment in fixed assets, only France, Belgium and Finland have been successful.
Portugal and Greece have fallen to the levels of fixed capital investment of the 1980s, while per capita fixed capital investment (housing, infrastructure, roads, railways, airports, machinery, etc.) has levelled off since 1999.
With the Euro introduction, investment in infrastructure was put to an end.
Furthermore, as repeatedly noted, the crisis of the single currency and of the Eurozone began with Greece’s tragic situation.
Greece is worth almost 3% of the Eurozone GDP and the banking crisis following tension in Greece, at first, and later in Spain, Germany and Italy, cannot be solved with the EU banking union, but only with the action of individual governments.
The signal to international markets is clear: if the Euro is hit with a speculative action, the Eurozone individual countries shall try to solve it, with their limited resources.
With its crisis Greece has later demonstrated that monetary and credit tensions in each country of the single monetary area are never supported by the rest of the Eurozone – as would happen in any real monetary union – but the country in trouble is blamed for being “spendthrift”. The result is that the other Eurozone countries buy the assets of the nation in crisis below cost.
In fact, the single currency works only in really federal States, such as India or the United States, where the internal market and financial networks are wide and can manage the income gap between the various regions of the country.
If we were to support the economies of Italy, Greece, Spain and Portugal, the cost of recovery for these four countries would be 260 billion euro per year for ten years.
Hence the issue does not lie in Germany being wicked, but in the fact that the Euro has been conceived and designed badly and leads to crisis the countries which do not adjust their domestic economy to a structurally and unreasonably overvalued currency.
And in these cases, monetary expansion combined with economic “austerity” does not solve the problems.
Public spending and discretionary spending, as well as wages and salaries and, in some respects, even profits are now regulated by the Solidarity Pacts of 2011, in addition to the Treaty on Stability, Coordination and Governance signed in 2012.
They are inter-European agreements prohibiting the redistribution of funds within the EU. They were signed upon German pressure and it is worth recalling that Germany cannot objectively take upon itself the cost for restructuring Southern countries’ debt.
Indeed, we could devalue the Euro.
Nevertheless the relations between the Eurozone members would not change and Germany would gain even more from a devalued Euro.
Therefore the only way then to change the exchange rate between the various countries of the single currency is not to devalue the Euro, which is based on fixed exchange rates established ne varietur in 1999, but just leave the Euro area.
Furthermore, considering the differences of economic integration in the Eurozone, if the single currency were devalued, the least integrated country, namely France, would gain much more than the others.
It is worth making clear that it would be a gain at the expense of the Euro Mediterranean countries.
It would be tantamount to go back with the Euro to the old gold standard of the 1930s, with the Euro: either it is fully dissolved or you decide to leave.
In this sense, the single currency is a severe loss of economic flexibility in the relationship between inflation, productivity and public debt.
Relations between macroeconomic values which can be manipulated for the better only in a national context, given that the EU still records very significant micro and macroeconomic differences.
It should be noted that the impasse resulting from the gold standard led to the Great Depression after the 1929 crisis.
At the beginning of the Great Depression, Germany and Great Britain tried an internal devaluation, but in these cases, if there is a fixed monetary standard, devaluation only means domestic deflation.
Considering price rigidity, unchanged financial costs and the money supply restriction, any policy of this kind finally makes both politics and society unmanageable.
What about leaving the single currency?
Meanwhile, it is worth recalling that, in international financial law, what matters is not the lender’s nationality, but rather the law applicable to the contract.
If, for example, the debt were regulated by French law, regardless of the parties’ nationality, the payment should be made in the French national currency.
Moreover, statistics throughout the single currency EU tells us that the private debt would not be affected by the transition to the new Franc, Lira, Peseta, etc.
According to the studies of the Bank for International Settlements, which has already analysed these issues, the cost to be borne by EU countries for leaving the single currency would be approximately 5 billion euros – a figure that can be easily managed by everybody.
Hence, after the end of the Euro, the EU countries could appreciate or devalue their currencies, by offering competitive prices and thus recreating precisely those competitive advantages which had been basically removed by the single currency.
In this way the German Mark would surely appreciate as against the Lira and the Peseta, thus favouring the Southern countries’ currencies and making the huge German trade surplus disappear, as if by magic.
Probably this is the best prospect and the best way forward.
Rebalancing Act: China’s 2022 Outlook
Authors: Ibrahim Chowdhury, Ekaterine T. Vashakmadze and Li Yusha
After a strong rebound last year, the world economy is entering a challenging 2022. The advanced economies have recovered rapidly thanks to big stimulus packages and rapid progress with vaccination, but many developing countries continue to struggle.
The spread of new variants amid large inequalities in vaccination rates, elevated food and commodity prices, volatile asset markets, the prospect of policy tightening in the United States and other advanced economies, and continued geopolitical tensions provide a challenging backdrop for developing countries, as the World Bank’s Global Economic Prospects report published today highlights.
The global context will also weigh on China’s outlook in 2022, by dampening export performance, a key growth driver last year. Following a strong 8 percent cyclical rebound in 2021, the World Bank expects growth in China to slow to 5.1 percent in 2022, closer to its potential — the sustainable growth rate of output at full capacity.
Indeed, growth in the second half of 2021 was below this level, and so our forecast assumes a modest amount of policy loosening. Although we expect momentum to pick up, our outlook is subject to domestic in addition to global downside risks. Renewed domestic COVID-19 outbreaks, including the new Omicron variant and other highly transmittable variants, could require more broad-based and longer-lasting restrictions, leading to larger disruptions in economic activity. A severe and prolonged downturn in the real estate sector could have significant economy-wide reverberations.
In the face of these headwinds, China’s policymakers should nonetheless keep a steady hand. Our latest China Economic Update argues that the old playbook of boosting domestic demand through investment-led stimulus will merely exacerbate risks in the real estate sector and reap increasingly lower returns as China’s stock of public infrastructure approaches its saturation point.
Instead, to achieve sustained growth, China needs to stick to the challenging path of rebalancing its economy along three dimensions: first, the shift from external demand to domestic demand and from investment and industry-led growth to greater reliance on consumption and services; second, a greater role for markets and the private sector in driving innovation and the allocation of capital and talent; and third, the transition from a high to a low-carbon economy.
None of these rebalancing acts are easy. However, as the China Economic Update points out, structural reforms could help reduce the trade-offs involved in transitioning to a new path of high-quality growth.
First, fiscal reforms could aim to create a more progressive tax system while boosting social safety nets and spending on health and education. This would help lower precautionary household savings and thereby support the rebalancing toward domestic consumption, while also reducing income inequality among households.
Second, following tightening anti-monopoly provisions aimed at digital platforms, and a range of restrictions imposed on online consumer services, the authorities could consider shifting their attention to remaining barriers to market competition more broadly to spur innovation and productivity growth.
A further opening-up of the protected services sector, for example, could improve access to high-quality services and support the rebalancing toward high-value service jobs (a special focus of the World Bank report). Eliminating remaining restrictions on labor mobility by abolishing the hukou, China’s system of household registration, for all urban areas would equally support the growth of vibrant service economies in China’s largest cities.
Third, the wider use of carbon pricing, for example, through an expansion of the scope and tightening of the emissions trading system rules, as well power sector reforms to encourage the penetration and nationwide trade and dispatch of renewables, would not only generate environmental benefits but also contribute to China’s economic transformation to a more sustainable and innovation-based growth model.
In addition, a more robust corporate and bank resolution framework would contribute to mitigating moral hazards, thereby reducing the trade-offs between monetary policy easing and financial risk management. Addressing distortions in the access to credit — reflected in persistent spreads between private and State borrowers — could support the shift to more innovation-driven, private sector-led growth.
Productivity growth in China during the past four decades of reform and opening-up has been private-sector led. The scope for future productivity gains through the diffusion of modern technologies and practices among smaller private companies remains large. Realizing these gains will require a level playing field with State-owned enterprises.
While the latter have played an instrumental role during the pandemic to stabilize employment, deliver key services and, in some cases, close local government budget gaps, their ability to drive the next phase of growth is questionable given lower profits and productivity growth rates in the past.
In 2022, the authorities will face a significantly more challenging policy environment. They will need to remain vigilant and ready to recalibrate financial and monetary policies to ensure the difficulties in the real estate sector don’t spill over into broader economic distress. Recent policy loosening suggests the policymakers are well aware of these risks.
However, in aiming to keep growth on a steady path close to potential, they will need to be similarly alert to the risk of accumulating ever greater levels of corporate and local government debt. The transition to high-quality growth will require economic rebalancing toward consumption, services, and green investments. If the past is any guide to the future, the reliance on markets and private sector initiative is China’s best bet to achieve the required structural change swiftly and at minimum cost.
First published on China Daily, via World Bank
The US Economic Uncertainty: Bitcoin Faces a Test of Resilience?
Is inflation harmful? Is inflation here to stay? And are people really at a loss? These and countless other questions along the same lines dominated the first half of 2021. Many looked for alternative investments in the national bourse, while others adopted unorthodox streams. Yes, I’m talking about bitcoin. The crypto giant hit records after records since the pandemic made us question the fundamentals of our conventional economic policies. And while inflation was never far behind in registering its own mark in history, the volatility in the crypto stream was hard to deny: swiping billions of dollars in mere days in April 2021. The surge came again, however. And it will keep on coming; I have no doubt. But whether it is the end of the pandemic or the early hues of a new shade, the tumultuous relationship between traditional economic metrics and the championed cryptocurrency is about to get more interesting.
The job market is at the most confusing crossroads in recent times. The hiring rate in the US has slowed down in the past two months, with employers adding only 199,000 jobs in December. The numbers reveal that this is the second month of depressing job additions compared to an average of more than 500,000 jobs added each month throughout 2021. More concerning is that economists had predicted an estimated 400,000 jobs additions last month. Nonetheless, according to the US Bureau of Labour Statistics, the unemployment rate has ticked down to 3.9% – the first time since the pre-pandemic level of 3.5% reported in February 2020. Analytically speaking, US employment has returned to pre-pandemic levels, yet businesses are still looking for more employees. The leverage, therefore, lies with the labor: reportedly (on average) every two employees have three positions available.
The ‘Great Resignation,’ a coinage for the new phenomenon, underscores this unique leverage of job selection. Sectors with low-wage positions like retail and hospitality face a labor shortage as people are better-positioned to bargain for higher wages. Thus, while wages are rising, quitting rates are record high simultaneously. According to recent job reports, an estimated 4.5 million workers quit their jobs in November alone. Given that this data got collected before the surge of the Omicron variant, the picture is about to worsen.
While wages are rising, employment is no longer in the dumps. People are quitting but not to invest stimulus cheques. Instead, they are resigning to negotiate better-paying jobs: forcing the businesses to hike prices and fueling inflation. Thus, despite high earnings, the budget for consumption [represented by the Consumer Price Index (CPI)] is rising at a rate of 6.8% (reported in November 2021). Naturally, bitcoin investment is not likely to bloom at levels rivaling the last two years. However, a downfall is imminent if inflation persists.
The US Federal Reserve sweats caution about searing gains in prices and soaring wage figures. And it appears that the fed is weighing its options to wind up its asset purchase program and hike interest rates. In March 2020, the fed started buying $40 billion worth of Mortgage-backed securities and $80 billion worth of government bonds (T-bills). However, a 19% increase in average house prices and a four-decade-high level of inflation is more than they bargained. Thus, the fed officials have been rooting for an expedited normalization of the monetary policy: further bolstered by the job reports indicating falling unemployment and rising wages. In recent months, the fed purview has dramatically shifted from its dovish sentiments: expecting no rate hike till 2023 to taper talks alongside three rate hikes in 2022.
Bitcoin now faces a volatile passage in the forthcoming months. While the disappointing job data and Omicron concerns could nudge the ball in its favor, the chances are that a depressive phase is yet to ensue. According to crypto-analysts, the bitcoin is technically oversold i.e. mostly devoid of impulsive investors and dominated by long-term holders. Since November, the bitcoin has dropped from the record high of $69,000 by almost 40%: moving in the $40,000-$41,000 range. Analysts believe that since bitcoin acts as a proxy for liquidity, any liquidity shortage could push the market into a mass sellout. Mr. Alex Krüger, the founder of Aike Capital, a New York-based asset management firm, stated: “Crypto assets are at the furthest end of the risk curve.” He further added: “[Therefore] since they had benefited from the Fed’s “extraordinarily lax monetary policy,” it should suffice to say that they would [also] suffer as an “unexpectedly tighter” policy shifts money into safer asset classes.” In simpler terms, a loose monetary policy and a deluge of stimulus payments cushioned the meteoric rise in bitcoin valuation as a hedge against inflation. That mechanism would also plummet the market with a sudden hawkish shift.
The situation is dire for most industries. Job participation levels are still low as workers are on the sidelines either because of the Omicron concern or lack of child support. In case of a rate hike, businesses would be forced to push against the wages to accommodate affordability in consumer prices. For bitcoin, the investment would stay dormant. However, any inflationary surprises could bring about an early tightening of the policy: spelling doom for the crypto market. The market now expects the job data to worsen while inflation to rise at 7.1% through December in the US inflation data (to be reported on Wednesday). Any higher than the forecasted figure alongside uncertainty imbued by the new variant could spark a downward spiral in bitcoin – probably pushing the asset below the $25000 mark.
Platform Modernisation: What the US Treasury Sanctions Review Is All About
The US Treasury has released an overview of its sanctions policy. It outlines key principles for making the restrictive US measures more effective. The revision of the sanctions policy was announced at the beginning of Joe Biden’s presidential term. The new review can be considered one of the results of this work. At the same time, it is difficult to find signs of qualitative changes in the US administration’s approach to sanctions in the document. Rather, it is about upgrading an existing platform.
Sanctions are understood as economic and financial restrictions that make it possible to harm the enemies of the United States, prevent or hinder their actions, and send them a clear political signal. The text reproduces the usual “behavioural” understanding of sanctions. They are viewed as a means of influencing the behaviour of foreign players whose actions threaten the security or contradict the national interests of the United States. The review also defines the institutional structure of the sanctions policy. According to the document, it includes the Treasury, the State Department, and the National Security Council. The Treasury plays the role of the leading executor of the sanctions policy, and the State Department and the NSS determine the political direction of their application, despite the fact that the State Department itself is also responsible for the implementation of a number of sanctions programmes. This line also includes the Department of Justice, which uses coercive measures against violators of the US sanctions regime.
Interestingly, the Department of Commerce is not mentioned among the institutions. The review focuses only on a specific segment of the sanctions policy that is implemented by the Treasury. However, it is the Treasury that is currently at the forefront of the application of restrictive measures. A significant part of the executive orders of the President of the United States and sanctions laws imply blocking financial sanctions in the form of an asset freeze and a ban on transactions with individuals and organisations. Decrees and laws assign the application of such measures to the Treasury in cooperation with the Department of State and the Attorney General. Therefore, the institutional link mentioned in the review reflects the spirit and letter of a significant array of US regulations concerning sanctions. The Department of Commerce and its Bureau of Industry and Security are responsible for a different segment of the sanctions policy, which does not diminish its importance. Export controls can cause a lot of trouble for individual countries and companies.
Another notable part of the review concerns possible obstacles to the effective implementation of US sanctions. These include, among other things, the efforts of the opponents of the United States to change the global financial architecture, reducing the share of the dollar in the national settlements of both opponents and some allies of the United States.
Indeed, such major powers as Russia and China have seriously considered the risks of being involved in a global American-centric financial system.
The course towards the sovereignty of national financial systems and settlements with foreign countries is largely justified by the risk of sanctions.
Russia, for example, is vigorously pursuing the development of a National Payment System, as well as a Financial Messaging System. There has been a cautious but consistent policy of reducing the share of the dollar in external settlements. China, which has much greater economic potential, is building systems of “internal and external circulation”. Even the European Union has embarked on an increase in the role of the euro, taking into account the risk of secondary sanctions from “third countries”, which are often understood between the lines as the United States.
Digital currencies and new payment technologies also pose a threat to the effectiveness of sanctions. Moreover, here the players can be both large powers and many other states and non-state structures. It is interesting that digital currencies at a certain stage may present a common challenge to the United States, Russia, China, the EU and a number of other countries. After all, they can be used not only to circumvent sanctions, but also, for example, to finance terrorism or in money laundering. However, the review does not mention such common interests.
The text does propose measures to modernise the sanctions policy. The first one is to build sanctions into the broader context of US foreign policy. Sanctions are not important in and of themselves, but as part of a broader palette of policy instruments. The second measure is to strengthen interdepartmental coordination in the application of sanctions in parallel with increased coordination of US sanctions with the actions of American allies. The third measure is a more accurate calibration of sanctions in order to avoid humanitarian damage, as well as damage to American business. The fourth measure is to improve the enforceability and clarity of the sanctions policy. Here we can talk about both the legal uncertainty of some decrees and laws, and about an adequate understanding of the sanctions programmes on the part of business. Finally, fifth is the improvement and development of the Treasury-based sanctions apparatus, including investments in technology, staff training and infrastructure.
All these measures can hardly be called new. Experts have long recommended the use of sanctions in combination with other instruments, as well as improved inter-agency coordination. The coordination of sanctions with allies has escalated due to a number of unilateral steps taken by the Trump Administration, including withdrawal from the Iranian nuclear deal or sanctions against Nord Stream 2. However, the very importance of such coordination has not been questioned in the past and has even been reflected in American legislation (Iran). The need for a clearer understanding of sanctions policy has also been long overdue. Its relevance is illustrated, among other things, by the large number of unintentional violations of the US sanctions regime by American and foreign businesses. The problem of overcompliance is also relevant, when companies refuse transactions even when they are allowed. The reason is the fear of possible coercive measures by the US authorities. Finally, improving the sanctioning apparatus is also a long-standing topic. In particular, expanding the resources of the Administration in the application of sanctions was recommended by the US Audit Office in a 2019 report.
The US Treasury review suggests that no signs of an easing are foreseen for the key targets of US sanctions. At the same time, American business and its many foreign counterparties can benefit from the modernisation of the US sanctions policy. Legal certainty can reduce excess compliance as well as help avoid associated losses.
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