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The costs of internal devaluation in the EA

Sotiropoulos, Dimitris and Stockhammer, Engelbert (2013). The costs of internal devaluation in the EA. In: 17th Annual Conference of the Research Network Macroeconomics and Macroeconomic Policies (FMM), 24-26 Oct 2013, Berlin.

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Abstract

This paper investigates the economic costs of rebalancing current account positions in the Euro area by means of internal devaluation. Internal devaluation relies on wage suppression in the deficit countries. Based on an old Keynesian model we estimate a current account equation, a wage-Phillips curve and an Okun’s Law equation. All estimations are carried out for a panel of twelve Euro area members. From the estimation results we calculate the output costs of reducing current account deficits. Greece, Ireland, Italy, Portugal and Spain (GIIPS) had, on average, current account deficits of 8.4% of GDP in 2007. To eliminate these current account deficits, a reduction of GPD by some 47% would be necessary. Trade imbalances can be resolved in two ways: deflationary adjustment in the deficit countries or inflationary adjustment in the surplus countries. The economic costs of deflationary adjustment to those countries are equivalent to the output loss of the Great Depression. An adjustment of the surplus countries would increase growth and it would come with higher inflation, but it would allow rebalancing without a Great Depression in parts of Europe.

Item Type: Conference or Workshop Item
Copyright Holders: Sotiropoulos Dimitris and Engelbert Stockhammer
ISSN: 2052-7772
Academic Unit/School: Faculty of Business and Law (FBL) > Business > Department for Accounting and Finance
Faculty of Business and Law (FBL) > Business
Faculty of Business and Law (FBL)
Research Group: Innovation, Knowledge & Development research centre (IKD)
Related URLs:
Item ID: 39300
Depositing User: Dimitris Sotiropoulos
Date Deposited: 23 Jan 2014 09:16
Last Modified: 07 Dec 2018 22:02
URI: http://oro.open.ac.uk/id/eprint/39300
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