Apart from boosting NGDP and RGDP, euro depreciation will not help Italy

That’s the conclusion of a new paper that Tyler Cowen has linked to.  And I think that’s right.  Many stimulus advocates (including me and Lars Svensson) have pointed out that currency depreciation caused by monetary stimulus would not be expected to boost net exports, as the substitution effect will often be dominated by the income effect (a booming economy sucking in more imports.)

Unfortunately, the paper (by Alberto Bagnai and Christian Alexander Mongeau-Ospina) starts off with a misleading summary of the results:

It is frequently claimed that the current EUR/USD exchange rate is too high and that a depreciation of the EUR against the USD would contribute to relieve the Eurozone economy from the current state of persistent crisis. Evidence provided by the a/simmetrie annual econometric model suggests that this claim is unsupported by the data, at least as far as the Italian economy is concerned. In fact, the size and sign of the trade elasticities show that the increases in net exports towards non-Eurozone countries, brought about by the depreciation of the euro, would be offset by an increase in net imports towards Eurozone countries, brought about by the increase in Italian domestic demand.

And indeed Tyler also assumed that this pessimistic conclusion was their key finding, in his quick summary of the results.  But in fact that’s not at all what the paper says. Here’s the key paragraph:

Before presenting the results, it is worth noting that the simulations proposed were performed using only the foreign trade block of the model, supplemented with the national income identity and the price deflators equations. As a consequence, the results presented have only a partial equilibrium meaning and are still preliminary. In particular, they take into account the feedback on imports following from the expansion of aggregate demand caused by the increase in exports, as well as the inflationary effects following from the increase in import prices determined by the nominal exchange rate devaluation, but they do not take into account the “second round” inflationary effects determined via Phillips curve by the decrease in unemployment, which could possibly offset in the longer run the effect of a nominal realignment.

So if you ignore the fact that monetary stimulus that depreciates the euro will also boost NGDP, and that this will boost RGDP and employment via the “Phillips curve” mechanism, and only focus on the fact that a faster growing Italian economy will suck in more imports and hence stimulus will not improve the trade balance, then it appears a weaker euro will not help Italy.  And I certainly can’t disagree with that!

However I certainly don’t agree with this:

These results have important policy implications.



25 Responses to “Apart from boosting NGDP and RGDP, euro depreciation will not help Italy”

  1. Gravatar of benjamin cole benjamin cole
    13. March 2015 at 15:50

    why Italy Spain Portugal and Greece continue to participate in the ECB is a good question.

    Even 1970s-style inflation and growth would surely be better than permanent recession and deflation.

  2. Gravatar of Ray Lopez Ray Lopez
    13. March 2015 at 19:41

    So if this is true, finding a proxy for Italian GDP, and playing the Fx market, will give a savvy speculator a lot lot lot of money? Wow, it’s good that I read this blog…

  3. Gravatar of guest guest
    13. March 2015 at 21:51

    Alberto Bagnai and ‘a/simmetrie’ (a research group with Bagnai as founder and president http://www.asimmetrie.org/chi-siamo/?lang=en are well-known as euro-exit sdvocates in Italy. I don’t want to put words in their mouth, but they advocate ‘folk’ ideas about the effects of euro-exit pushed into a rather less-than-conventional direction (and one that’s not especially friendly to MM) – i.e. stress the importance of the foreign exports channel, as well as the notion that lacking an independent monetary policy causes Minskyan ‘imbalances’ that lead to recurring crises. Bagnai’s REPEC page is here https://ideas.repec.org/f/pba221.html and his paper “Unhappy families are all alike: Minskyan cycles, Kaldorian growth, and the Eurozone peripheral crises” is a good summary of these views. I’m not familiar with their newly published paper, but it’s not surprising that you (and Tyler) found it hard to understand.

  4. Gravatar of Jim Glass Jim Glass
    13. March 2015 at 23:02

    For the record …

    Fans of Top Gear, the world’s most watched TV show, get a lesson on central banking and receive a plug for Scott Sumner’s NGDP level targeting.

    Or maybe it is people interested in central banking issues get a Top Gear analogy plus the NGDP level targeting recommendation … or just economically literate fans of Jeremy Clarkson, given his latest antics, get entertained. Yeah, that’s probably it … whatever…


  5. Gravatar of Saturos Saturos
    14. March 2015 at 04:21

    This is like the *very thing* that Scott is constantly saying about exchange rate depreciation, I wonder that Tyler Cowen missed that.

  6. Gravatar of ssumner ssumner
    14. March 2015 at 05:10

    Guest, Thanks for that info.

    Jim, I like that, but “only punch anticipated AD shocks” is even better.

    Saturos, Maybe he didn’t read it as closely as I did.

  7. Gravatar of Benjamin Cole Benjamin Cole
    14. March 2015 at 05:28

    OT chuckle for Scott Sumner and all libertarians, reprise of the federal illegalization of cash movement:

    Yes, I went to my very good local bank in L.A. one day maybe five years ago, and tried to take out $5000 for a trip the SE Asia and family. The teller said I could only have $2500. The bank manager knew me, and so I got $5000.

    The Federal Reserve, however ships physical cash to more than 100 nations. From the 2011 report “Cash Dollars Abroad” NY Fed:

    “Our data, from the Federal Reserve System, consist of annual observations of official international wholesale shipments of U.S. dollar banknotes between 100 countries and the U.S. between 1990 to 2007. Precisely, the sample consists of annual payments and receipts of physical currency to the banknote operations departments of branches of depository institutions with accounts with the Fed, by country of location. The overwhelming majority of these transactions use hundred-dollar denominations, and the shipment sizes are usually substantial. Most shipments are done by the pallet which typically contains 640,000 bills, or 64 million dollars.”

    Okay, while I have to to get approval to take out $5,000 in cash from my bank, the Fed is sending pallets of Benjamin Franklins to 100 nations. 100 nations? Oh, I am sure the recipients are all on the up-and-up.

    BTW, don’t bother to look at the report hoping to find out which nations are receiving the most cash. That is “confidential.” Or even how much cash is sent.

  8. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    14. March 2015 at 07:14

    ‘I propose that it shall be no longer malum in se for a citizen to pummel, cowhide, kick, gouge, cut, wound, bruise, maim, burn, club, bastinado, flay, or even lynch a [government] jobholder, and that it shall be malum prohibitum only to the extent that the punishment exceeds the jobholder’s deserts. The amount of this excess, if any, may be determined very conveniently by a petit jury, as other questions of guilt are now determined. The flogged judge, or Congressman, or other jobholder, on being discharged from hospital “” or his chief heir, in case he has perished “” goes before a grand jury and makes a complaint, and, if a true bill is found, a petit jury is empaneled and all the evidence is put before it. If it decides that the jobholder deserves the punishment inflicted upon him, the citizen who inflicted it is acquitted with honor. If, on the contrary, it decides that this punishment was excessive, then the citizen is adjudged guilty of assault, mayhem, murder, or whatever it is, in a degree apportioned to the difference between what the jobholder deserved and what he got, and punishment for that excess follows in the usual course.’

    From H.L. Mencken’s “The Malevolent Jobholder,”

  9. Gravatar of baju muslimah baju muslimah
    14. March 2015 at 08:48

    why Italy Spain Portugal and Greece continue to participate in the ECB is a good question.

  10. Gravatar of Edward Edward
    14. March 2015 at 08:54

    Ooh my, krugman’s mentioned you by name in his latest post Scott…

  11. Gravatar of TravisV TravisV
    14. March 2015 at 10:30

    Off-Topic. I know “income inequality” is meaningless but this is still interesting:


  12. Gravatar of TravisV TravisV
    14. March 2015 at 10:35

    Yglesias responds to Tyler Cowen re: the Trans-Pacific Partnership:


  13. Gravatar of Ray Lopez Ray Lopez
    14. March 2015 at 11:01

    @Edward – you know it means the world for Krugman to mention Sumner by name. Recall years ago when Krugman mocked Sumner’s “open letter”, saying something like ‘you talking to me?’ lol I guess if you blog long enough, your name will get mentioned by default even if your ideas are bogus. There’s hope then Krugman will mention me and MF? No, since we’re not economists, no mystique with our posts, even if they’re true.

  14. Gravatar of Kevin Erdmann Kevin Erdmann
    14. March 2015 at 13:07

    Regarding krugman ‘ s latest, it strikes me as very unfortunate that so many presume that volatility is a sign of inefficiency and that never reasoning from a price change means, in effect, if the price is different than the price that I would reason, then ipso facto, we call it a “bubble” and start demanding policies that explicitly cause harm.

    Then we do enact policies that do inflict harm, and we say, yep. That’s what a bubble gets you. Those financiers that made the bubble? They did this to you.

  15. Gravatar of Ali Ali
    14. March 2015 at 16:31


  16. Gravatar of Blue Eyes Blue Eyes
    15. March 2015 at 03:59

    Surely the result of the Euro depreciation depends on the mentality of consumers? Germany has been running on a weak exchange rate for years and yet because German consumers under-consume they have not had a resulting import boom.

  17. Gravatar of ssumner ssumner
    15. March 2015 at 05:21

    Ben, Interesting story.

    Patrick, He’s one of my favorites.

    Edward, Thanks, I’ll take a look.

    Blue Eyes, I don’t see any evidence that Germans under-consume.

  18. Gravatar of TravisV TravisV
    15. March 2015 at 07:01

    Hooray hooray HOORAY!!


  19. Gravatar of Jean Jean
    15. March 2015 at 07:14

    Scott, the last Chancellor in Germany instituted labor reforms that lead the eurozone to this mess. Instead of recognizing that high unemployment in Germany was caused by overly tight money (I think the Bundesbank uses IS/LM) he blamed high wages within Germany. Schroeder got the unions to agree to flat wages and the workers responded by upping their already high savings rate. Government spending was also constrained by the ‘growth’ and stability pact
    So, having nowhere to invest in Germany, the German banks made huge loans to the periphery of the eurozone – the dreaded hot money flows. Because of the Bundesbank’s preference for tight money the Euro was getting tighter and tighter every year and naturally this caused a recession for the periphery beginning in the second quarter of 2007.

    The disaster struck in July of 2008 – the ECB rate rise tightened an already too tight euro and the German banks pulled every available euro back into the German banks. The banks didn’t want to hold euros, so they went into bonds and dollars.

    THE question for Bernanke and the Fed is why, in the name of God, when they knew there was huge dollar demand coming out of Europe, did they leave rates unchanged in the Sept. 2008 meeting?

  20. Gravatar of Jean Jean
    15. March 2015 at 07:16

    I guess I should have put scare quotes around the entire ‘growth and stability pact”!

  21. Gravatar of ssumner ssumner
    15. March 2015 at 08:18

    Jean , I certainly agree about 2008, but disagree with the rest. Germany’s high unemployment was not caused by tight money, but rather by bad labor market rules. The reforms were very effective, and should be applauded. The high saving rate in Germany should be applauded.

    But yes, the tight money in 2008 was a disaster.

  22. Gravatar of Blue Eyes Blue Eyes
    15. March 2015 at 08:23

    Ok, so Germany’s large and chronic trade and current-account surplus is evidence of something else?

  23. Gravatar of Jean Jean
    15. March 2015 at 09:46

    Current account surplus means a capital account deficit – hot money flows from Germany banks led to consumption booms on the periphery. The labor reforms in Germany looked successful because all those new houses and apartments being built in the periphery countries needed refrigerators, dishwashers etc – all built in Germany. Essentially, German banks became vendors for German built goods.

    Once the money reversed, a mild recession in the periphery countries was turned into a depression, or near depression. Merkel has been doing everything she can to protect the German banks – in Sept. 2008 the most recognized German bank was leveraged 55 to 1! As far as I can tell the transmission mechanism is now completely broken; after the monetary shock of July 2008 the banks in the periphery are still experiencing a slow bleed as customers empty their accounts and move their money to Northern banks.

    Everything Milton Friedman predicted about the euro is happening, and if the euro falls much more against the dollar, the Germans will leave.

  24. Gravatar of ssumner ssumner
    15. March 2015 at 15:59

    Blue Eyes, The German CA surplus may partly reflect a high saving rate, what I object to is people claiming it a problem.

    Jean, Friedman was right, but he would not blame Germany’s CA surplus, he’d blame a tight money policy at the ECB. That’s the problem.

  25. Gravatar of Butik Baju Muslim Butik Baju Muslim
    29. May 2015 at 19:29

    Ok, so Germany’s large and chronic trade and current-account surplus is evidence of something else?
    Baju Muslimah Ibu Hamil

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