by Andreas Hoffmann (University of Leipzig)
In a recent piece Jesus Huerta de Soto (2012) argues that the euro is a proxy for the gold standard. He draws several analogies between the euro and the classical gold standard (1880-1912). Like when “going on gold” European governments gave up monetary sovereignty by introducing the euro. Like the classical gold standard the common currency forces reforms upon countries that are in crisis because governments cannot manipulate the exchange rate and inflate away debt. Therefore, to limit state power and to encourage e.g. labor market reforms he views the euro as second best to the gold standard from a free market perspective. Therefore, we should defend it. He finds that it is a step toward the re-establishment of the classical gold standard.
There has been much criticism of the piece that mainly addresses the inflationary bias of the ECB. I actually agree with much of it. In particular, imperfect currency areas have the potential to restrict monetary nationalism. This can be welcomed just as customs unions that allow for free trade (at least in restricted areas). But I have some trouble with De Soto’s conclusions and the view that adhering to the euro (as did adhering to gold) gives an extra impetus for market reform – in spite of the mentioned e.g. labor market reforms in Spain. In fact, if the euro was to proxy the gold standard, some countries should have already left the euro and reintroduced national currencies when facing high refinancing costs and negative growth rates. But euro introduction went along with several steps far beyond “simply going on gold”:
Clearly, in the good times until 2006-7, the euro just like the gold standard of the 19th century has lowered inflation expectations and contributed to substantial capital market integration because countries gave up monetary nationalism. European government bond yields converged as capital flew from the richer core to the relatively poorer periphery countries. Still both the euro and the classical gold standard were no full insurance for low yields. Government refinancing (sovereign bond yields) costs depended on the credibility and trustworthiness of government policies. While they may have been enhanced by being part of the gold or euro club, debt levels could matter as well – and they did in crisis periods.
In bad times, the euro and the classical gold standard are not as comparable as de Soto argues. Countries frequently left the gold standard when fiscal problems were harsh and when facing deflationary pressure (before the turn of the century). With the euro this is not as easy because there are institutional incentives to adhere to the euro standard. In contrast to the gold standard, Euro introduction was part of a big political project toward European political union. The countries agreed upon joint institutions and established joint organizations (such as the ECB to conduct a common monetary policy). Clearly, the degree of institutional integration is higher and the (political) commitment to the euro stronger. The gold standard emerged without formal agreements.
The differences matter when facing sovereign debt problems. If countries wanted to adhere to the gold standard, credible fiscal policies and reforms – perhaps as implemented in the Baltics – were urgent. If impossible, they dropped out, defaulted and started again. Either way, governments were restricted and faced rising borrowing costs. For example Portugal gave in to deflationary pressure in 1890-1 that made its debt to GDP ratio rise substantially. The Portuguese abandoned the gold standard, devalued the currency and defaulted on debt. Also Argentina and Greece suspended the gold standard in the face of high debt problems (Flaundreau et al. 1998).
Currently the countries of the Southern periphery of the euro area have to cope with sovereign debt problems. Negative growth rates worsen problems just like the deflationary pressure in Portugal in the 1890s. But the greater institutional and political integration makes an exit from the euro more costly than with the gold standard. Further the euro is not a one-sided commitment. The general political commitment to the European project allowed for rescue measures and policies that relief the adjustment pressure and at the same time provide additional incentives to hold on to the euro. New European institutions are created and fiscal union is on its way. More, not less government is the outcome.
*A paper on the issue will soon be published with CEVRO Prague.