The Euro Zone X Factor
Whatever one thinks about Lord Wolfson’s euro-skeptical meddling, it certainly has been entertaining. The British baron’s offer of a £250,000 prize for the best ideas to deal with a possible breakup of the eurozone has brought all sorts of people out of the woodwork. (Including this precocious 11-year old.) But one of the most fascinating ideas on the shortlist has come from Neil Record — although I’m not sure that my takeaway was his main intent.
Suppose that a country does leave the eurozone — this was the starting premise of all the responses to Wolfson’s essay contest. Greece, as the weakest link, seems the most likely candidate. But on the other hand it’s possible that one of the strongest countries chooses to go its own way. Of course we’re talking about Germany. Whether it remains in the euro or decides to take its chances by introducing a new Deutschemark, the fact is that in the case of a euro breakup, Germany is where it’s at. Its fiscal position and reputation for prudence is among the strongest of all developed countries. If it were on its own then its currency would rise to reflect this. So, to the extent that you can choose, you will want to get your banknotes from Berlin.
Some of the economists on Lord Wolfson’s shortlist imagine a scenario where, even post-breakup, all euros are equal. This is not the case with Neil Record’s plan. In fact Record, a former economist with the Bank of England, reminds us that this is not really the case even today, in the absence of any breakup.
It is worth noting, to the surprise of many commentators, that Euro notes are not formally issued by the ECB, but by each member State National Central Bank. Each Euro note is accordingly marked with a prefix letter according to its issuer as follows:
So a Greek (or indeed any non-German resident) could sort through his or her notes as they acquire them, and pass all non-X prefix notes on to shops or back to the bank, and retain all X prefix notes, perhaps in the safe deposit box in Germany. This is as close to a free financial option that any individual will ever be faced with, since the chance of loss is nil (the cost of holding ‘X’ prefix notes is the same as holding any other prefix banknote), and even compared to a bank account, the lost interest is negligible. The opportunity of gain (even if the probability is small) is very substantial indeed.
Cumbersome? Yes. Crazy? Maybe not, if you believe in the merits of Record’s full contingency plan for a breakup of the eurozone. As to the value of contingency plans in general, remember that it has been more than a year and a half since the eurozone crisis broke out in earnest and, despite all assurances to the contrary, it’s not fixed, it’s not getting better and it may actually be getting worse (see Spain.) No one knows what the outcome will be, we only know what politicians are afraid to say — that a breakup of the eurozone might be inevitable. If you’re a European who has steadily decreasing faith that the politicians or the ECB can stabilize the situation then by now you are surely starting to think outside of the box. And you certainly wouldn’t be the first.
Record reminds us that
On 1 Jan 1999, national currency banknotes became ‘fractional denominations’ of the Euro. Exactly the same needs be done in reverse whenever [Record’s] Plan comes into force. So Euro banknotes will become ‘fractional denominations’ of new national currencies. This will mean that apparently similar notes (except for the prefix) will become worth different amounts, and the exchange rates between them will be highly variable.
Could X mark the spot?
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DUAL CURRENCY EXECUTIVE SUMMARY
The Problem
The
Eurozone has adopted monetary union without fiscal union. Member states have
applied different fiscal policies, leading to disparities in relative
competitiveness, which can only be restored by currency devaluations. The
Eurozone is absent a mechanism for differential internal devaluations.
Austerity
cannot be imposed at a degree greater than that which the populations of the
weaker states will accept without negative growth and social unrest. And austerity
alone will not solve the competitiveness problem.
Sovereign
debt bailout strategies will delay the breakup of the Eurozone, but cannot
solve the competitiveness problem.
Fiscal union, allowing massive transfers of wealth internally within the
Eurozone would resolve the problem. However, politically, fiscal union cannot
feasibly be achieved in the relatively short timescale necessary to avoid
unstructured defaults by one or more of the weaker states.
The
political aspiration of an “Ever Closer Union” is a major cause of premature
monetary union in advance of the necessary political and fiscal union. Nevertheless,
the majority of member states’ populations continue to support this ideal. Any solution must reconfigure the monetary
conditions within the Eurozone whilst preserving the integrity of the zone.
The Criteria for a Solution
·
Weaker Eurozone
member states must be able to devalue to regain competitiveness
·
Political and fiscal
union must be preserved as goals to be achieved in the medium to long term for
as many Eurozone member states as possible.
·
The solution must be
perceived as practicable by the European political class, by the peoples of the
Eurozone member states, the global community of financial institutions, the IMF
and the G20.
·
The solution must be
seen as dealing fairly with all the peoples of the Eurozone member states, and
with all the legal entities that have a contractual locus within the Eurozone.
·
The solution must be
organised around a time-tabled and fully funded programme of action that will
bring about resolution of the crisis with certainty, and within as short a
timescale as is feasible.
The Solution – A Dual Currency
The
ECB should issue a new currency – provisionally called the Secundo – to be
legal tender in all Eurozone countries, in addition to the Euro. This would be
achieved by the exchange of all old Euro notes for New Euros and Secundos at a
ratio to be determined differentially in each member state. Euros held
electronically in Eurozone bank accounts would similarly be electronically
exchanged for New Euros and Secundos at the same National ratio.
The
value of the Secundo would be set in relation to the Euro at an exchange rate
that would be fixed in perpetuity – the Fixed Euro Secundo Exchange Rate (FESER).
In this proposal the FESER is set at €0.75.
In
Greece, where it is assumed that all Euro liabilities would be exchanged for
Secundos, government bills and all public sector payrolls would be paid in
Secundos instead of Euros. In member states where the requirement for
devaluation is necessary, but of a lesser scale than in Greece, then government
bills would be paid partially in New Euros and partially in Secundos.
If
France elected to pay all it bills and its public sector payroll in the
proportion of 90% New Euros, 10% Secundos against a 100% old Euro liability, it
would achieve devaluation against a country that retained the Euro for all its
liabilities (e.g. Germany) of 2.5%.
As
Secundos would be usable as currency at three-quarters of the value of the Euro
in all Eurozone countries, the integrity of the Eurozone would be preserved. In
addition, whilst the FESER would be fixed in perpetuity, member states could
engage in small scale devaluations by changing their National Currency Ratio
Determination (NCRD). This flexibility would assist a return to monetary
stability throughout Europe.
All
holders of bank accounts in the Eurozone would need to have current accounts in
Secundos set up. All commercial enterprises in the Eurozone would be required
to price in both Euros and Secundos and to accept payment in either or both
currencies.
Currency
stability would be ensured by the ECB asserting its role as lender of last
resort for both the Euro and the Secundo. To avoid excessive easing of monetary
policy the ECB would need to ensure that the combined value of New Euros and
Secundos in circulation at the time of Secundo issuance was equivalent to the
value of old Euros previously in circulation.
The timing and mechanisms involved would be determined by the Secundo
Implementation Panel (SIP).
To
prevent uncontrollable arbitrage between personal debt, corporate debt,
mortgages, sophisticated financial instruments and sovereign debt, this
proposal applies a consistent approach to the re-valuation of debt at the time
of Secundo Implementation, with the only variable factor being the member state
or countries within which the creditors and debtors reside.
To
largely obviate the need for arbitration or contract renegotiation between
creditors and debtors in different member states or countries, the principle of
a Contract Renegotiation Devaluation Threshold (CRDT) is introduced. Where the
differential between the devaluations applying to two contracting parties at
the time of Secundo Implementation is less than the CRDT, rules define how debt
is to be valued in Euros alone (when the creditor is an External Contracting
Party); or re-valued in Euros and Secundos when the debtor and creditor are in
different Eurozone member states.
The
full proposal addresses in greater detail:
·
How debt
reconciliation could be managed, for all types of debt, within Eurozone member
states, between member states, and in external countries. (The CRDT principle
as adduced)
·
An implementation
plan showing key decision points with a putative timescale
·
Risks to the Dual
Currency Project in the form of a risk register
·
The rationale
underpinning the proposal, based upon the need for all systems to have multiple
control mechanisms that naturally operate at different rates
·
How to address the
three major arguments that will be put against the proposal;
o
Cost of implementation,
(A budgetary indicator calculation is put forward)
o
Difficulty in
operation
o
Uncertainty implicit
in innovation