Hans-Joachim Voth: The Euro Crisis - The Spanish Perspective

Welcome to our new video series titled "New Economic Thinking." The series will feature dozens of conversations with leading economists on the most important issues facing economics and the global economy today.

This episode features Institute for New Economic Thinking grantee Hans-Joachim Voth talking about the crisis in Europe. Voth, an ICREA Research Professor at the Universitat Pompeu Fabr in Barcelona and a German native, offers a unique dual perspective of a German seeing the impact of his home country's actions in Spain. Voth explains the short-sightedeness of Germany's handling of the euro zone crisis and suggests what Germany needs to do to help Europe finally emerge from the crisis. Below is an introduction from interviewer and Director of Institutional Partnerships Marshall Auerback. Watch the interview to see what Voth has to say!

Last year, there was a great sense of crisis about Europe, especially Spain.

The alarm was reasonable, as Spain was the one large economy where all the economic numbers appeared to have gone past the point of social acceptability: 25% unemployment and over 60% youth unemployment for those under age 25.

But as the country was collapsing, Germany continued to insist on “fiscal responsibility” and resisted significant recapitalization of Spain's banking system, which had collapsed in the wake of the country's real estate crash. Yet the only way to reduce the country's government deficit, as Hans-Joachim Voth argues in this interview, is by reduction of the private sector’s saving (which has deteriorated rapidly) or by movement of its current account toward surplus. Not coincidentally, Germany is a large net exporter, with competitive advantages over Spain.

Since Spain has adopted the euro, it cannot improve its competitive position by devaluing its currency. Its only hope for increasing exports is through a “race to the bottom” reduction of wages and other domestic prices. But doing so will reduce aggregate income and tax revenues—and this is a precarious path toward a current account surplus in any case because other periphery nations are in the same situation.

It is not clear that Spain can win the race to the bottom—against countries like Ireland, for example—and even if it were to win the race, that would simply mean that some other loser would take Spain's place.

Germany can only be a net exporter to euroland if some other euro nations are willing to be on the other end of the transaction. France, Italy, Belgium, and Spain are among Germany's 11 largest export partners, with each of these countries having a net deficit with it. It is the government and private deficit in these countries that’s effectively financing Germany’s exports and allowing it to run fiscal surpluses. Germany’s push for fiscal austerity combined with its export policy simply amounts to a mercantilist-type beggar-thy-neighbor policy of exporting its unemployment to its trade partners.

Within euroland, this strategy is at best a zero-sum game so long as Germany insists on fiscal austerity for all nations and yet plans current account surpluses for itself.

It is hard to fathom what the Germans are thinking, because as the crisis spreads from the periphery to the core, Germany’s export markets will fall like dominoes. Voth discusses the crisis in these terms in the following interview and illustrates the futility of trying to achieve euro zone-wide prosperity with a race to the bottom in a continent still characterized by woefully deficient demand.

What are his suggestions to end the crisis? Watch the interview to find out!