Home > Uncategorized > The real cause of the rapid ‘rebalancing’ of the periphery current accounts

The real cause of the rapid ‘rebalancing’ of the periphery current accounts

Raphael Auer is, on Voxeu, surprised about the rapid decline of the current account deficits of the periphery countries of the Eurozone (see also here and here). But he is wrong about the reasons for this decline. The ‘rebalancing’  is mainly caused by a very deep economic slump – and not so much by an increase of productivity. Since 2007 the volume of Spanish exports of goods and services  (i.e. the current account without the income balance) increased with about 26 billion euro (2005 prices) and at about the same rate as before 2008. No change there. But the  64 billion euro decline of imports was much more important for the change in de current account. Before 2008 imports increased faster than exports – after 2008 imports actually went down.And this decline was caused by a steep decline in final demand of about 110 billion Euro (see graph, data from Eurostat).

Spanje

This means that Auer’s suggestion that the Southern European experience shows that internal devaluation can lead to a rapid rebalancing of the current account through the competitivity channel is dead wrong. He states:

Because current-account imbalances are indicative of underlying differences in macroeconomic fundamentals across the currency union, restoring uniform competitiveness across the Eurozone has become a policy objective for many European policymakers. For example, Draghi (2012) states that “Europe’s future prosperity requires member countries to be competitive individually in order to be competitive jointly and thrive in an open, global economy”. However, the heterogeneous developments in wage setting and public and private spending patterns that caused the current-account imbalances had taken a decade to develop, thus giving rise to concerns that closing current-account imbalances also might take a prolonged period. Indeed, given the lack of the possibility of exchange-rate depreciation, external adjustment within currency unions is generally thought to be a slow and costly process. Against the backdrop of these considerations, it is worthwhile to point out that rapid current-account rebalancing is actually well underway at the current juncture.

And

“The size, the speed, and the uniformity of the current-account improvement in these four nations could indicate an improvement of macroeconomic fundamentals or of the deep recession in these nations”.

In my world  27% ‘normal’ U-3 unemployment, almost 40% of broad unemployment and rapidly rising long-term unemployment is not really ‘an improvement of fundamentals’. And neither is a level of spending which is clearly below capacity. But an extreme crisis of course leads  to less imports. Auers should not have been surprised at all. When domestic final demand declines at an unprecedented rate the current account will (completely consistent with economics 101, by the way) also ‘rebalance’ at an unprecedented rate, surely when a rather limited increase in government expenditure is offset by high interest rates, like in Spain. Even when productivity decreases, like in Greece.

  1. BC
    May 9, 2013 at 12:04 am

    Right. By this logic, 50%+ unemployment and mass emigration of the population (hint) would result in soaring “labor productivity”, cuts in social spending and deficits, and an enviable current account surplus.

    The population could also substitute domestic rat, dog, cat, caterpillar, earthworm, and seasonal cicada for beef, chicken, pork, and seafood, reducing consumer prices and allowing the population’s food purchasing power to skyrocket.

    Economics is not just bad accounting, it is delusionally inhumane.

  2. May 9, 2013 at 10:22 am

    This is a very useful corrective to the nonsense spouted about ‘competitiveness’ aka wage reductions.

    A similar pattern applies to Portugal and Greece and even Ireland, which is held up as an example of export-led recovery. In all cases, falling imports bear the greater burden of the the improvement in net exports.

    From the chart, another key common feature. In all these cases the decline in investment now exceeds the decline in aggregate activity, either consumption or GDP as a whole.

  3. May 12, 2013 at 9:59 am

    I agree with the claim in the above article that “Auers should not have been surprised at all.”

    Of relevance here is an editorial article in the Financial Times on 8th May entitled “Greek Tragedy”. The article claimed that according to the IMF, Greece has “closed two thirds of the competitiveness gap that opened up after it joined the Euro.”

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