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In our previous post, we wrote about how Mises envisioned the coming of the Euro, and how he thought it would result in exactly what we have today, poverty and international strife in Europe. He thought it would happen because of Cantillon effects, as explained last article, and in this one we will talk about what happened instead, and why.
Greece and Spain and Italy and other countries found a way to game the system that Mises did not consider worthy of discussion, I imagine, because it required tremendous recklessness and irresponsibility on their parts. Their method, which we’ll describe very soon, has the honor of bringing about the poverty and conflicts Mises predicted.
For right now, nobody was complaining about how to divvy up the spoils, because the Euro was young, and everyone wanted to start off on the right foot. But some countries found a way to have a lot of fun at other peoples expense now that their money was the Euro. Germany’s prestige as an economic powerhouse extended to the money it was using, the Euro, and thence to the economies of every other country using the Euro. Since Greek money and German money became the same thing, the Euro, the Greek govt found that it could borrow very cheaply, as cheap as Germany. So it did, and spent it all on wild cocaine parties [=not to increase production, but on sheer consumption]. Hey, why not?
Pretty soon they found out why not. Because nobody wanted to lend them any more, seeing as how it looked like the Greeks had no way to repay. Because of that, they were unable to borrow money to use to pay back what they already owed.
Now normally, if the Greeks were using their original currency, the drachma, nobody could care less. The Greeks have troubles? Too bad for them. Maybe they will learn to be responsible next time. But now that the Greeks were using the Euro, all Europe panicked. The powers that be feared that, just as Germany’s prestige had earlier extended to all countries using the Euro, now things may work in reverse. Greece’s lack of prestige and reputation of inept deadbeat might spread to all countries using the Euro. [And not without cause, either. Plenty of other countries where doing exactly what Greece was doing, too. I’m looking at you, France and Spain and Ireland and Italy.]. The result would be catastrophic. Interest rates for all govts in Europe would rise to over 100%, just like for Greece.
Now the best way to deal with such a problem is simply kick Greece out of the Euro and be done with it. Problem solved. But then the dream of “international money cooperation” [and we saw what that really means in the previous article] would die. So the rest of Europe decided that they would all kick in and pay Greece’s bills. Meaning Germany would, since it was the only country who wasn’t doing exactly what Greece was doing. German citizens did not like this idea at all, and we have our strife. And of course our poverty, since nobody was producing anything but the Germans, instead taking advantage of the Euro’s prestige to waste tons of money.
So that’s how the Euro nations shot themselves in the foot. They were more greedy and stupid than Mises wanted to bother talking about. You’ll remember he was assuming intelligent leadership running the Euro, and his point was that even in such circs the Euro would fall apart. It started falling apart much earlier because the leadership was incredibly foolish.
UPDATE 8/15/15: Gotta hand it to Philip Bagus. In a recent lecture, he showed that those wily Greeks were actually doing exactly what Mises predicted someone would do, and not, as I wrote here, doing something even worse. In other words, if you dig deep enough, what I wrote, though factually correct, is really a disguised version of what Mises said would happen. Listen to the enlightening podcast right here: https://mises.org/sites/default/files/19_MisesU_20150721_Bagus.mp3
Of course, the Euro did not exist in his time. But he was no fool. He knew what govts would probably try some day.
Unlike all the folks who thought the Euro would bring peace, harmony, and eternal prosperity for all, he saw right away what the Euro is really about, and what would happen with Euros running the show.
As always, Mises’ words are in italics and my comments in regular font.
Here’s the link, from his classic Human Action: http://mises.org/humanaction/chap17sec19.asp
International Monetary Cooperation
The international gold standard works without any action on the part of governments. It is effective real cooperation of all members of the world-embracing market economy. There is no need for any government to interfere in order to make the gold standard work as an international standard.
In other words, govts can just stay out of the way, not meddle at all in what people use for money, and everything will be fine. There is no need for “international money cooperation”, meaning nobody needs a Euro. So why would any govt want a Euro?
What governments call international monetary cooperation is concerted action for the sake of credit expansion.
By credit expansion, Mises means a govt printing money and spending it.
By concerted action, he means that all the govts want to make sure they print their money at the same speed. And why do they care about that? What’s wrong with just printing as much you as you want, and who cares what your neighbor does with his currency?
They have learned that credit expansion, when limited to one country only, results in an external drain.
In Mises time, when there was a gold standard, if the USA printed too much money, other countries would take all their dollars, bring them in to the US, and demand gold for them. This is exactly what DeGaulle did in 1971 when he saw that the US had printed so many dollars to pay for the Vietnam war and all the new welfare programs.
After 1971, when all countries went off the gold standard, there was still a problem if one country printed its money faster than everyone else. Its money lost value compared to the other countries. France and all the other European countries were printing money much faster than Germany was, so the German mark rose in value. This was embarrassing to France and everyone else, and expensive, too. It meant the Germans could work the same amount of time, but could now afford much more French wine than before. Instead of gold leaving France for Germany, everything else did.
They believe that it is only the external drain that frustrates their plans of lowering the rate of interest and thus of creating an everlasting boom.
As we explained in the previous post, constant money printing can keep everyone happy for a while.
If all governments were to cooperate in their expansionist policies, they think, they could remove this obstacle. What is required is an international bank issuing fiduciary media which are dealt with as money-substitutes by all people in all countries.
Here Mises, to use poker language, sees the Euro, and raises the ante to cover the whole world, not just Europe. If the Euro is good for Europe, a world wide currency will be great for the whole world, right?
There is no need to stress again here the point that what makes it impossible to lower the rate of interest by means of credit expansion is not merely the external drain. This fundamental issue is dealt with exhaustively in other chapters and sections of this book.
And we dealt with it in the previous post a bit. You can only print so much until your money becomes worthless, meaning hyperinflation. This follows from a simple application of the laws of supply and demand. If the supply of money is too high, it’s price, meaning in this context its purchasing power, will sink to Zimbabwe levels.
But there is another important question to be raised.
Let us assume that there exists an international bank issuing …a uniform world currency.
… the world bank is restrained only by those factors which limit credit expansion on the part of a single bank operation in an isolated economic system or in the whole world.
We may as well assume that the international bank is … a world authority issuing international fiat money. Gold has been entirely demonetized. The only money in use is that created by the international authority. The international authority is free to increase the quantity of this money provided it does not go so far as to bring about the crack-up boom and the breakdown of the currency.
In other words, I give you the Euro, says Mises. Not just for Europe, but for the whole world. Not only that, I will assume for the sake of argument that the guys running the show are smart enough not to turn the whole world into Zimbabwe. They will still print tons of money and hand it out free to the various govts to spend, don’t get me wrong, but they will be smart enough not to go overboard and print so much that the currency is destroyed.
Then the ideal of the Keynesians is realized. There is an institution operating which can exercise an “expansionist pressure on world trade.”
Here Mises is referring to a bit of Keynesian silliness that assumes printing money will magically increase production and make everyone wealthier, which we need not go into.
So everything looks peachy, right? Wrong, says Mises:
However, the champions of such plans have neglected a fundamental problem, namely, that of the distribution of the additional quantities of this credit money or of this paper money.
Meaning how do you divvy up the spoils? How much free newly printed money will each govt get?
First, Mises considers the theoretical case where one country gets all the new money, and the problems that will result:
Let us assume that the international authority increases the amount of its issuance by a definite sum, all of which goes to one country, Ruritania. The final result of this inflationary action will be a rise in prices of commodities and services all over the world. but while this process is going on, the conditions of the citizens of various countries are affected in a different way.
Mises is describing the famous Cantillon effect, named after Richard Cantillon. It’s been well known for over 250 years, but you will never hear about it from any politician or mainstream economist. Let’s give Mises the floor as he explains it:
The Ruritanians are the first group blessed by the additional manna. They have more money in their pockets while the rest of the world’s inhabitants have not yet got a share of the new money. They can bid higher prices, while the others cannot. Therefore the Ruritanians withdraw more goods from the world market than they did before. The non-Ruritanians are forced to restrict their consumption because they cannot compete with the higher prices paid by the Ruritanians. While the process of adjusting prices to the altered money relation is still in progress, the Ruritanians are in an advantageous position against the non-Ruritanians. When the process finally comes to an end, the Ruritanians have been enriched at the expense of the non-Ruritanians.
So giving all the money to one country won’t be ideal, because whoever gets the money first will party while the rest of the world serves him hand and foot. At least until he spends all the new money.
The main problem in such expansionist ventures is the proportion according to which the additional money is to be allotted to the various nations. Each nation will be eager to advocate a mode of distribution which will give it the greatest possible share in the additional currency. The industrially backward nations of the East will, for instance, probably recommend equal distribution per capita of population, a mode which would obviously favor them at the expense of the industrially advanced nations. Whatever mode may be adopted, all nations would be dissatisfied and would complain of unfair treatment. Serious conflicts would ensue and would disrupt the whole scheme.
There it is. The point of one world currency is for all govts to print money at the same rate, so they have plenty to spend. But once you have one bank printing all the new money, fights will break out about who gets that new money, because whoever gets it first is the big winner.
There you have Mises’ vision of the Euro. It will not bring peace into the world, but enmity and conflict. It will not bring wealth into the world, but more poverty.
So, was he right? Of course he was. Just read any article about Europe.
Is the problem the same as the one he envisioned? Not exactly, as we will explain in the next article.
Tantalizing Hint: Remember, Mises assumed intelligent leadership in his scenario. He overestimated.