Why I Am Coming to Think It Is Time to Dismantle the Eurozone and Restore North Atlantic Economic Policy Hegemony to Washington: Thursday Focus for October 2, 2014

Paul Krugman: Ordoarithmetic: “Francesco Saraceno is furious and dismayed at Hans-Werner Sinn…

…who says among other things that deflation in southern Europe is necessary to restore competitiveness. Why not inflation in Germany, he asks? But Saraceno fails to understand German logic here. As they see it, their economy was in the doldrums at the end of the 1990s; they then cut labor costs, gaining a huge competitive advantage, and began running gigantic trade surpluses. So their recipe for global recovery is for everyone to deflate, gaining a huge competitive advantage, and begin running gigantic trade surpluses. You may think there’s some kind of arithmetic problem here, but in Germany they have their own intellectual tradition.

I would simply note that the German intellectual traditional of “ordoliberalism” grow up in the context in which somebody else–United States–was managing global aggregate demand on Keynesian principles. “Ordoliberalism” works fine if someone else is making Say’s Law true in practice. The big problem is that Germany’s economy recovered and Germany became the linchpin of an economy large enough that it needed to do it’s own aggregate demand stabilization, and win the United States stepped back from its role of global macroeconomic hegemon it did not step back all the way: it did not nurture and accept the growth and increased power that the IMF or some other agency would need to do the job.

Once again, I am impressed at the smarts of Charlie Kindleberger. He said that at its root International economic turmoil and the Great Depression of the innerwar period arose because Brittany decided that it could no longer afford to be the hegemon, and the United States refused–until after World War II–to step forward to take it’s place.

Charlie warned us that we really needed to make sure that this did not happen again.

Well guess what?

As Barry Eichengreen and I wrote a year and a half ago in our preface to the reissue of Charlie’s The World in Depression:

Barry Eichengreen and Brad DeLong: New Preface to Charles Kindleberger, The World in Depression 1929-1939: “Kindleberger predicted all this in 1973…

…He saw the power and willingness of the US to bear the responsibility and burden of sacrifice required of benevolent hegemony as likely to falter in subsequent generations. He saw three positive and three negative branches on the then-future’s probability tree. The positive outcomes were: “[i] revived United States leadership… [ii] an assertion of leadership and assumption of responsibility… by Europe…” [sitting here, in 2013, one might be tempted to add emerging markets like China as potentially stepping into the leadership breach, although in practice the Chinese authorities have been reluctant to go there, and] [iii] cession of economic sovereignty to international institutions….” Here, in a sense, Kindleberger had both global and regional–meaning European–institutions in mind. “The last”, meaning a global solution, “is the most attractive”, he concluded,” but perhaps, because difficult, the least likely…” The negative outcomes were: “(a) the United States and the [EU] vying for leadership… (b) one unable to lead and the other unwilling, as in 1929 to 1933… (c) each retaining a veto… without seeking to secure positive programmes…”

As we write, the North Atlantic world appears to have fallen foul to his bad outcome (c), with extraordinary political dysfunction in the US preventing its government from acting as a benevolent hegemon, and the ruling mandarins of Europe, in Germany in particular, unwilling to step up and convince their voters that they must assume the task.

It was fear of this future that led Kindleberger to end The World in Depression with the observation: “In these circumstances, the third positive alternative of international institutions with real authority and sovereignty is pressing.”

Indeed it is, more so now than ever.

If, as indeed seems the case, Germany will not step up and exercise the responsibilities of mini-hegemon aggregate demand a balance wheel for the European Union, it is time for a constitutional change. The power to manage the North Atlantic economy as a whole needs to be centralized in Washington with the IMF, the Federal Reserve, and the U.S. Treasury taking on the role of trinitarian hegemon; the countries of Europe need to accept that since they will not lead they must follow; and the eurozone needs to be dismantled so that Frankfurt can no longer dictate improper exchange-rate policies to Madrid and Rome.