IMF recommended euroisation to eastern Europe

That’s the apparent scoop in Monday’s Financial Times, reflecting sight of a document that apparently circulated among senior policymakers in the last month as the debate about the appropriate multilateral vehicle for sovereign bailouts intensified.  The logic is simple:

For many of these countries, the liabilities are in euro while the assets are in local currency, so any depreciation of the latter exacerbates repayment problems.  If you switch both sides of the balance sheet to euro, that problem disappears.  To be replaced by the problem of achieving competiveness via wage and price reductions and not the exchange rate.  To which the response is that in a crisis country, the balance sheet strains remove much of your exchange rate autonomy anyway.

But the fundamental thinking of the Fund is presumably that there is a group of countries in a worst of both worlds situation — trying to run currency boards, pegs, or highly managed floats, with deteriorating domestic politcal stabiity due to the pressure to make cuts.   The Fund apparently wanted some formal assent of the EU to a euroisation plan, as opposed to the economies simply choosing to euroize on their own — the dynamics of having two currencies circulating at the same time can be very tricky.   It may be that the one definite G20 outcome, increased lending capacity for the Fund, reflects a Plan B, since the recommendation was apparently not pursued.

12 thoughts on “IMF recommended euroisation to eastern Europe

  1. Pingback: Ä€trais ceļš uz eiro - „glābÅ¡anas riņķis” vai „akmens pie kājas” «

  2. So blow away the natural production advantages of weaker currencies? Good way to make basket cases even bigger basket cases, or a good way of protecting German and French jobs…..
    Why not just include other nations’ currencies in the IMF interbank basket?

  3. I read this article as indicating the Eastern European position is at the nadir of their fiscal relationship with the EU.

    If things do not change, from this point on you will see the economic strength of the Eastern European countries gain at the EU’s expense as defaults transfer wealth out of the EU to the re-structuring Eastern European economies.

    The only way things could get measureably worse in the Eastern European countries would be a defacto black-balling of their economic activity by the EU… sort of like cutting your nose off in spite of your face.

    Naturally, if the Eastern European countries adopt the EU, they will do so at the most inopportune moment, and pay the heaviest of prices.

  4. Hmm. Sounds to me like a way to save their own skin (the EU). The EU banking system is heavily exposed to non-euro countries. If they devalue their currencies, EU banks go pop. If you euroise them, they can’t devalue. They *have* to become competitive through wage and price reduction – something which they cannot, IMO, achieve themselves, since the social and so political pressure for devaluation will be too great.

  5. “If they devalue their currencies, EU banks go pop.”

    I’m afraid Xavier, that either way certain (Unicredit, Swedbank…) Eu banks get to go pop, since as Krugman pointed out in the Latvian case, according to all known models, the defaults are in fact worse on the internal wage and price deflation route. It doesn’t matter whether the cost of your repayments doubles, or the value of your wages is reduced by half, although I have noriced that in both the Latvian and Estonian cases a lot of non economists have great difficulty grasping this part.

    Internal deflation is worse because even domestic currency loans are affected, and the process is slower, and more bitterly contested, so you get more of a “U” shaped (or even “L” shaped ) slump than a “V” shaped recovery, so there is more loss of GDP overall.

    Euroisation is similar to the dollarisation recommendation that some where putting forward at the time of the Argentia bust.

    I am not a fan of this at all, since domestic liquidity just dries up if you do not have any sort of capacity to create now money. Basically, you really have to live within your means in a very restricted sense, so again I suspect that GDP is much, much lower on this path.


    “It may be that the one definite G20 outcome, increased lending capacity for the Fund, reflects a Plan B, since the recommendation was apparently not pursued.”

    Well basically this only means more loans to already indebted societies. What we need is a solution which involves a significant debt restructuring and a big clean-out of toxic assets. This needs to be done on an EU wide level, with all EU27 support (the union really is at make or break time in this sense) and the solution needs to include phased but pretty rapid eurone membership into a zone with a new and different fiscal architecture.

    Meanwhile, thsi “black comedy” will continue, and continue to deteriorate.

  6. Mmm. There’s a difference in timing though. If they devalue, the EU banks die, pop, instantly.

    If they do wage/price, it takes time – long enough for EU banks to amass new income from operating revenue.

    Moreover, when you’re facing death, the sensible route is to go for the death furthest in the future, in the hope something happens in time; all the banks will have a preference for avoiding devaluation.

  7. I agree Edward — and in fact the recent trend has been for the Fund to lend with less conditionality (e.g. on deficits) than their 1997 loans, for example. So it’s more lending with fewer conditions into bleaker prospects for repayment, unless there is some type of EU-level scheme along the lines you propose.

  8. Either way it doesn’t matter, from aspect of the lender this is not worrisome. “Business” as usual for IMF and WB.

    Carry-trade is getting new shapes and forms. Western lenders will get their money back, with the interest. Borrower’s economies, along population will suffer.

    As for repayment, this must be SAL type of loans. “Investitors” closing: smelters, mines and mills and army of unemployed getting bigger without any prospect. Full circle of financial and political demagoguery from Washington.

  9. Hello Xavier,

    “Mmm. There’s a difference in timing though.”

    Yep, I think you have a point here. At least I think this is the perception from the banks, just keep putting off and putting off. Hoping it will never happen.

    Bad loans in Russia are now rising at 20% per month, so the day when “*it* nevers happens” is not that far away, maybe a year at this rate.

    Of course, the fact that the recession is worse, and losses are greater, down this road, and that possibly you push the government whose bailout you need over with you doesn’t seem to enter.

    The sort of “economics” that got them into the mess in the first place, I suppose.

    Have a good easter.

  10. > Yep, I think you have a point here. At least I think
    > this is the perception from the banks, just keep
    > putting off and putting off. Hoping it will never
    > happen.

    Like General Motors, Air Italia, etc, etc, etc. You just keep clinging on, hoping for something, lobbying the Government, whatever you can…

    After all, what have you got to lose? if the company pops, you lose your job. Goodbye, nice wages! the longer the company lasts, the longer you cling on to your job.

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