The euro area currency crisis – time for local currency solutions … and a serving of wedges

Brixton has one, Toronto has one and now Bristol does too (hat tip JH). They all have local currencies. These currencies are really scrip, and like the Austrian “worgl”, which has been discussed numerous times in this blog, they circulate in parallel to the official currency and are designed to boost demand in the local economies in which they circulate.

Just a thought, isn’t it also time to boost local demand in Greece, Portugal and Spain too? There are no other policy tools left that can directly boost demand in these economies (wage restraint is assigned to boosting supply, fiscal policy to reducing demand and achieving external balance, but nothing is assigned aiding the process by boosting demand see earlier post here).

The arguments for local currencies in the euro periphery are straightforward. First, ECB policy is set to maintain euro area price stability. By design it is currently too tight for the periphery. Engaging in additional quantitative easing in the periphery is just sensible monetary policy. And local currencies essentially do just that.*

Second, local currencies are mercantilistic. Normally mercantilism is a bad thing. But when you are stuck with a way over-valued local currency and an unsustainable trade deficit, mercantilism is really just what you need. Local monies work like this: they are currencies that are accepted by local merchants and trades people (places like bakeries and so on), but they are not widely accepted to by goods that are traded across jurisdictions. The reason is that although you can freely convert the official currency (say the euro) into a local currency (say the Spanish spud) at a rate of one euro for one spud, when you convert back, you only get 0.9 euros per spud. This convertibility “wedge” does two things. First, it makes the local currency a bit of, well … a hot potato. People who want to get euros to buy TVs will tend to try and spend their spuds as fast as they can and save any euros that they happen to already have or get in change. That spending will tend to go on locally made services rather than imported goods. Secondly, the convertibility wedge makes buying goods from outside the local jurisdiction more expensive for those who receive spuds. In popular macroeconomic parlance, the convertibility wedge helps to rotate demand away from imports towards local goods, which in turn reduces the trade deficit.**

Third, if it is successful, the Spanish spud could be expanded to the whole economy and eventually, but not necessarily, be used to smooth an exit from the euro.

Let’s face it, Spain is already in the fryer. They need to try something new. The youth unemployment is over 50% (likewise for Greece), paying the unemployed in Spuds to deliver local services, which have been heavily cuts due to austerity measures, can’t really hurt can it? Even if it is a ridiculous idea, how much worse could it be? OK the project would need to be managed by someone sensible, but there is no shortage of smart Spaniards around (except maybe in Spain – apparently a lot are emigrating). The idea shouldn’t be limited to just Spain. Perhaps the Athens argo, the Dublin Dubliner, Milano Money … . TH reckons it’s an idea whose time has come. And here’s the other thing, they don’t have to wait for national politicians (though they should be considering them) but can be implemented in small towns or big cities too. Go on Madrid, now is the time to try.

* This is really just an extension of an old argument by Paul Krugman .

** As Nick Rowe explains, people are always itching to get rid of the cash in their pocket, but in this case they are particularly keen to get rid of spuds. The rate at which they spend could also be increased by making the currency a depreciating currency — see earlier posts on “the worgl”.

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