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The Economic Environment: Teaching Exchange Rates and Balance of Payments in the Context of the Eurozone Crisis Presentation for NZABE Conference Wintec, Hamilton, 2 October 2012 Keith Rankin [ [email protected] ] Department of Accounting and Finance Faculty of Business and Creative Industries Unitec Institute of Technology Introduction • confused Level 5 Economics – 3 types of economics with different assumptions all blended into standard introductory courses a) full-employment neoclassical win-win economics b) unemployment/recession lose-lose economics c) mercantilist zero-sum win-lose (lose-win) economics • we need to be more clear when we shift assumptions away from (a) – (b) is discussed in recent context by • Paul Krugman (2008,2012), Richard Koo (2009,2011) – (c) relates to international economics • especially when we move away from balanced trade Mercantilism • represents business and political practice in the early (pre-industrial) period of global capitalism – 15th to 18th centuries • reflected in economic thought of the time – doctrine that nations should aim to achieve a trade surplus (seen as a 'win') every year • and should practice deficit-avoidance strategies – supremacy of production over consumption • mercantilist strategies in the 1920s – contributed significantly to the Great Depression Figure 1: Analysis from Google NGRAM Teaching International Trade at Level 5 • we start appropriately with balanced trade and the resulting win-win 'gains from trade' – imports are clearly presented as benefits, and exports (what are given up) as costs – we don't but could address unbalanced trade as 'inter-temporal trade' (Corden) • this allows students to understand inter-country debt • debt servicing clearly understood as a net flow of goods and/or services from debtor to creditor countries – instead we refer to 'surplus' countries as if that has the same meaning as 'creditor' countries • we drift into the 'exports-good imports-bad' idea Eurozone Crisis: Teaching Balance of Payments Figure 2 7% Current Account Balances - Eurozone Countries Northern Eurozone Countries Southern Eurozone Countries 5% percent of GDP 3% easy interpretation is that North are winning; South are losing 1% really, all are losers in a systemic problem of unbalanced trade -1% -3% -5% North: Belgium, Austria, Netherland, Germany, Finland, Luxembourg South: Ireland, Portugal, Italy, Greece, Spain, Cyprus, Malta -7% 1995 1996 1997 1998 1999 2000 Source: International Monetary Fund World Economic Outlook Database 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Eurozone Crisis: Systemic Approach to Teaching • exemplar case-study of unbalanced trade – systemic unbalanced trade zone within a global economy with chronic fiscal imbalances and with a perverse floating exchange rate system • fixed system of exchange rates collapsed – 1910s, 1930s, 1970s – Eurozone an extreme form of fixed exchange rates in which even devaluation is not an option • northern Eurozone (eg 'BANG') countries – persistent trade surpluses; undervalued currency • reverse applies to southern Eurozone 'PIIGS' Current Account Rebalancing Solutions • northern and southern Euros ? – need to imagine creditor countries running deficits, and debtor countries running surpluses • is it a matter of northern winners and southern losers? • austerity ? – reminiscent of failed 1920s' strategies to achieve rebalancing deflation in trade-debtor countries – failed then, in part because creditor countries would not play their part • 'deficit' countries could not import more (had to import less) and 'surplus' countries would not import more • 'surplus' countries need inflation to balance the deflation imposed on the debtor countries Precedent: Australasia in the 19th century • seven countries with a single currency (£) – region net debtor; ongoing finance restricted 1890s – problems of unbalanced trade • short term resolution through labour market mobility • doesn't resolve government component of external debt – longer term solution --- political union • • • • formation of Commonwealth of Australia in 1901 New Zealand chose not to participate reduced problem from extra-national to inter-provincial federal government activity smoothed imbalances • Eurozone – compare and contrast East Germany with Greece – futile to seek huge wage disparities in EU Conclusion • economics should be taught with consistent assumptions about costs and benefits – mercantilist assumptions should be rejected • chronic trade imbalances in the real-world present great opportunities to teach – debt as inter-temporal trade • the requirement for completion of such trade contracts – contrasting exchange rate mechanisms • means to correct trade imbalances • real-world failures of these mechanisms – the consequences of unresolved imbalances • use-it or lose-it principle: spend your credits or lose them