Tyler Cowen links to an interesting study by Andrew Rose, which found little difference in the macroeconomic outcomes of fixed and floating exchange rate regimes, during the recent crisis. This surprised me a little, until I found out that the study excluded the eurozone. Then it didn’t surprise me at all. On the other hand almost everyone seems to have interpreted the results differently than I do, so perhaps I should be surprised.
It’s true that floating rate proponents like Paul Krugman and I have occasionally blamed the euro for the problems of Greece, Spain, Portugal, etc. This might leads one to conclude that we predict that countries will do better, on average, with floating rate regime. Indeed Krugman seems to have implicitly accepted that view. But that is not the implication at all. Rather the fundamental criticism of fixed rates regimes is not that they produce slower growth on average (impossible in natural rate models), but rather that they lead to greater variability. The famous “one-size-fits-all” problem.
Here’s an easy way to see what I’m talking about. All 50 American states operate with no monetary flexibility, as they are part of a single currency zone—the dollar. Ditto for the 18 members of the eurozone. Thus you would not expect the eurozone to perform differently than the US dollar zone, on any test of the effects of currency flexibility. Yet any study of fixed versus flexible exchange rate regimes would code the US as a “flexible rate” regime and each eurozone country would be coded as a “fixed rate” regime. At first glance, that would seem to imply that if flexible rates improve performance then the eurozone as a whole should do better than the average performance of its 18 members! Of course that’s impossible.
Instead, what you would expect is that the economic performance of floating rate regimes as a group would show less variability than the economic performance of individual countries within a fixed rate regime. Actually even that is perhaps an excessively rigorous test, because single currency zones tend to be composed of countries with similar structural characteristics. But even so I think it’s fair to say that this hypothesis holds up pretty well if you compare the eurozone with a group of floating rate developed countries including Switzerland, Sweden, Britain, Norway, Iceland, the US, Canada, Australia, New Zealand, S. Korea, Taiwan and Japan. The eurozone may or may not have done worse on average than this group of countries (probably worse), but surely there’s been more variability in the eurozone. Countries like Germany have seen virtually no increase in unemployment, whereas unemployment in places like Greece, Spain and Portugal rose much higher than in any of the floating rate developed countries.
PS. All fixed-rate currency blocs float against the rest of the world. There is no obvious reason why the monetary policy of fixed-rate currency blocs would be less effective than the monetary policy of individual floating-rate countries, at least when averaged over the entire currency bloc.
PPS. When I disagree with the findings of studies, it’s not usually due to their formal technical analysis, but rather to interpretation. Some of my recent “Mark Sadowski” posts are a good example. Another recent case like this occurred when Raj Chetty seemed to imply that the Oregon Medicaid study provided support for the Medicaid program:
Other economic studies have taken advantage of the constraints inherent in a particular policy to obtain scientific evidence. An excellent recent example concerned health insurance in Oregon. In 2008, the state of Oregon decided to expand its state health insurance program to cover additional low-income individuals, but it had funding to cover only a small fraction of the eligible families. In collaboration with economics researchers, the state designed a lottery procedure by which individuals who received the insurance could be compared with those who did not, creating in effect a first-rate randomized experiment.
The study found that getting insurance coverage increased the use of health care, reduced financial strain and improved well-being “” results that now provide invaluable guidance in understanding what we should expect from the Affordable Care Act.
Here’s one (anonymous) criticism of this interpretation:
With regards to Medicaid, Chetty also paints a surprisingly incomplete picture of the Oregon Medicaid experiment. As you will recall, Chetty is correct in pointing out that expanding Medicaid seems to have increased usage of health care, decreased financial strain, improved mental health, and improved self reported well being, but he, quite surprisingly given the caliber economist Chetty is, leaves out the less flattering (for supporters of the ACA) part of the study that found no statistically significant increase in objective measures of physical health for patients who received Medicaid.
At best, the Medicaid study was a mixed result for supporters of expanding the Medicaid program (which the ACA does quite dramatically). At worst, the study is a sad demonstration of how bad Medicaid (and perhaps insurance in general) is at improving objective physical health. Why Chetty presented this study as an unambiguous victory for the pro Medicaid crowd is a mystery to me (although I suspect support of ACA has something to do with it)?
In my view the Oregon Medicaid study provides support for replacing Medicaid with a new program called “Mediplacebo.” I think the improvements in mental health identified in the Oregon study were real, and were important. But surely they can be produced at much lower cost. I know that every time I’ve had “cancer,” I’ve felt much better after going to the doctor and being told that I don’t have cancer. Under my plan, consumers would receive the same care provided to the uninsured for things like traffic accidents. For those health problems where the uninsured would not normally receive coverage, health consumers would receive a placebo.
Of course I’m joking, but there is a serious point here. Medicaid is a very expensive program. Unless and until it is possible to show clear physical benefits to health, the per capita spending on Medicaid should be scaled back to the levels that you see in other developed countries such as Singapore. Ditto for Medicare.
We have a Cadillac health care system. I don’t consider “no physical improvement” to be satisfactory, given the cost.