Cities and the Fetters of Nations
| Dick Langlois |
In Cities and the Wealth of Nations, Jane Jacobs argued that currencies should be promulgated by cities not nation states. If, for example, the currency of Detroit (the cadillac, let us say) could have floated against the currency of San Francisco (the silicon) during the late 20th century, there would have been another margin (other than the movement of capital and people) on which adjustments to technological change and shifting relative prices could have taken place, perhaps making Detroit less of a disaster area. I always found this idea appealing; but, not being a monetary economist and not having heard the idea discussed within professional economics, I wondered whether I might be missing some obvious counter-argument. Recently, however, I saw an NBER Working paper by Barry Eichengreen and Peter Temin that seems to make a similar point. Called “Fetters of Gold and Paper,” it argues that the euro and the dollar-renminbi peg are fixed-exchange-rate regimes like the gold standard. Such fixed-rate regimes may lower transaction costs in good times, but they prevent necessary adjustments in bad times, potentially leading to crises. Adjustment takes place via deflation that would otherwise have taken place through exchange-rate movement.
This is essentially the Eichengreen-Temin story about the Great Depression, which (to oversimplify) isn’t really very different from the Monetarist version. The Monetarists essentially say that gold wasn’t a fetter because there was never a real gold standard; it was a badly manipulated facsimile, which the Fed mismanaged. Eichengreen and Temin acknowledge this, but apply spin so that it was the mentalité of the gold standard that caused monetary authorities to behave as they did. In any case, as Eichengreen and Temin point out, the euro is actually a much stronger version of the fetters problem, since there is no adjustment mechanism akin to gold flows, however imperfect that mechanism might have been. Moreover, countries could (and eventually did) go off the gold standard; but there is no mechanism for countries to pull out of the euro without causing a major crisis. Interestingly, they see Bretton Woods as less of a problem, since there were international adjustment mechanisms in place. Also interestingly (for two economists of a Keynesian bent), they worry at length about the federal budget deficit and the level of government spending in the face of the renminbi peg and the current-account deficit. Usually, free-market economists worry about the budget deficit but not the current-account deficit, whereas left-of-center economists worry about the current account but not the budget. The renminbi peg makes them linked problems.
Which brings us back to Jacobs. The American dollar — one currency for all 50 states — was a prime model for the euro. And a Google search brings up dozens of comparisons between California and Greece. Why should the nation-state — whether the US or Europe — be the appropriate geographical domain of a currency?