Europe can strengthen Greece without weakening Germany
Some experts warn that Greece can't reduce its current deficit unless Germany and other better-off nations reduce their surpluses. Here's why they're wrong.
For years, we have heard Paul Krugman and others assert that Greece etc. can't reduce their current account deficit unless Germany etc. reduces its surpluses. While that would have been true if the world had consisted only of the euro area nations, it is clearly not true in the world we actually live in. Krugman himself lives in a country with an economy bigger than that of the euro area and Japan and China have together a bigger economy than the euro area plus there are nearly 180 more countries including for example Brazil, Saudi Arabia, Turkey, India, Russia, Canada, Australia, Britain, Switzerland, Norway and Sweden, outside of the euro area.
With so many and in some cases so big economies outside of the euro area, and with the euro area trading so much with them it is clearly possible for the aggregate euro area to strengthen its balance, or in other words it is possible for Greece etc. to reduce their deficits without a reduction of the surpluses of Germany etc.. something that is in fact happening as during the last 4 months alone the euro area current account balance has swinged from a €17 billion deficit to a €10 billion surplus.
This shift reflects in part the effects of the euro area austerity measures, and in part it reflects the euro's weak exchange rate. Krugman now seems to implicitly acknowledge that he was wrong when he asserted that the euro area's aggregate balance can't change, because now he argues that it would be wrong if it happened.
Why would it be wrong? Because the three biggest economies outside the euro area, the United States, China and Japan aren't sufficiently strong (he could have also mentioned the fourth biggest economy outside of the euro area, Britain, which is weaker than all three of those countries). But German growth is no higher than growth in these countries, and the second big euro area surplus country, Holland, has fallen into a recession. If it is wrong to increase the U.S. deficit and reduce the Japanese and Chinese surpluses, then it should also be wrong to reduce the German and Dutch surpluses.
Finally, it should again be emphasized that regardless of how much Krugman disapproves of it, it is happening, in part due to the fact that the euro has fallen in value against the U.S. dollar and the U.K. pound. The irrational (but self-fulfilling) investor belief in American and British government bonds as "safe havens" haven't just produced the low yields that Krugman likes to talk about so much, it has also pushed up the exchange rate of the dollar and the pound, something that has contributed to the euro area's swing from an aggregate deficit to an aggregate surplus, while increasing the U.S. and U.K. deficits.
The Christian Science Monitor has assembled a diverse group of the best economy-related bloggers out there. Our guest bloggers are not employed or directed by the Monitor and the views expressed are the bloggers' own, as is responsibility for the content of their blogs. To contact us about a blogger, click here. This post originally ran on stefanmikarlsson.blogspot.com.