The End of Euroland?

Like Paul Krugman, I was swayed--if not convinced--by Barry Eichengreen's argument that leaving the euro would trigger catastrophic bank runs in any country that did so, and was therefore unlikely.  Perhaps, I thought, my earlier euroskepticism had been overdone.

But today Krugman makes a very good point:  the countries now at risk of leaving the euro are going ahead and having the financial crisis anyway (to varying degrees).  Which may mean all bets are off.  Once Greece has to place "emergency" restrictions on bank withdrawals in order to halt runs, bolting the currency union starts to seem much more thinkable.  And allegedly, the runs have already started.  In fact, the euro is making them worse, because you can move your money to another country's banks without taking any currency risk (to the downside, anyway.  Depositors who are sensible enough to stash their cash in Germany will get a nice boost if Greece devalues).

I now think it's much more likely than not that Greece will ultimately leave the euro--if not this year, then soon.  Best case scenario is that they get a big IMF/euroland bailout, default on their debt and secure a reasonable restructuring from creditors--at which point they're still stuck with an excessively tight monetary policy and an economy that isn't all that productive, except they also can't borrow money at attractive euro-style rates.

Don't get me wrong.  I think it's clear that on or off the euro, Greece is going to have to get its fiscal house in order and make substantial cuts to government spending.  But it will be a lot easier with a looser monetary policy and a cheaper currency that makes tourism and agricultural exports more competitive.  Going off the euro has huge, dramatic costs.  But they probably involve fewer rioting civil servants.

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