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Latin America Need Not Repeat the Euro Disaster

By: Jan Gajentaan - @jangajentaan - Jul 23, 2015, 3:57 pm
André ten Dam and Jan Gajentaan dig through the dirt of the euro disaster, so Latin America doesn't have to make the same mistakes. (Jan Gajentaan)
André ten Dam and Jan Gajentaan, alongside The Euro Trap by German economist Hans Werner Sinn, dig through the dirt of the euro disaster, so Latin America doesn’t have to make the same mistakes. (Jan Gajentaan)

The euro, the supranational European single currency, has turned out to be a disaster, with the Greek crisis as its exponent. Yet several Latin-American nations are in the process of creating their own supranational common currency, the sucre, introduced in a manner akin to the euro. Those with interests in the region should pay attention to the flaws of the European monetary experiment, and what can be learned from its mistakes.

European contributor Jan Gajentaan visited Dutch economic and monetary expert André ten Dam for answers and advice, in relation to the sucre project. Ten Dam, an independent euro researcher with a legal, financial, and engineering background, made a major contribution to international economic science in 2010 with the Matheo Solution (TMS), an innovative but simple and “flexible” alternative to the traditional “rigid” one-size-fits-all monetary union.

How is the euro parallel to the Latin-American sucre?

The euro was introduced in two stages — first as a common unit of account for border-crossing transactions in the European common market. During that first stage the euro served alongside European national currencies still in existence, such as the German mark, the Italian lira, the Greek drachme, and so on. These remained as national units of account for domestic use and, of course, mediums of exchange.

In the second stage, all the national European currencies were replaced by the supranational euro as the single currency, and the only one-size-fits-all monetary unit of account for all euro member states.

The introduction of the Latin-American sucre is being processed in the same two-stage fashion. In 2010, the sucre was introduced as a unit of account between Ecuador and Venezuela for border-crossing trade purposes in a common market. In the meantime, several Latin-American nations such as Bolivia, Cuba, Brazil, and Uruguay — along with Caribbean Community (Caricom) states — joined the sucre project. International trade between member states in sucre exceeded US$850 million in 2013.

The ultimate goal of the sucre member states is the second stage, for it to be the supranational single currency, the only one-size-fits-all unit of account for the Latin-American sucre common market. That includes a sucre central bank to issue banknotes and coins for all member states.

What justified the introduction of the euro; does this apply to sucre members?

A joined common currency stimulates trade between the member states, on account of price transparency and the simple convenience of the same currency and no need for exchange-rate volatility and transactions costs. Moreover, in Europe and Latin America, authorities were looking for an alternative and counterpart to the US dollar as the international trade and reserve currency. Another goal of a supranational common currency for several countries has been to ward off currency speculation.

What went wrong with the euro?

According to so-called Optimal Currency Area economic theory, there are several preconditions that participating countries need to fulfill for the successful creation of a one-size-fits-all monetary union with a single currency. The first and by far most important precondition is “economic convergence,” which means that the economies of the member states should develop equally, in power, development, and economic cycles.

If the economies of the member states do not converge, internally the single currency becomes too expensive for the economic weaker countries and at the same time too cheap for the stronger ones — in terms of the cost of borrowing, the interest rate. There were previous warnings from economic experts worldwide, including Milton Friedman. However, stubborn European politicians, who lacked economic expertise, introduced the euro into the second stage and continued with the single currency, even as its negative effects mounted.

In Europe, the result has been that the weaker Southern European states — such as Greece, Italy, Spain, Portugal, and France — have suffered from economic depression: company bankruptcies, excessive unemployment, and miserable state budgets. At the same time, cheap access to the euro for the stronger countries — such as Germany and the Netherlands — has likewise diminished purchasing power and prosperity. Moreover, the economies of the stronger countries now find themselves having to transfer financial support, in the form of taxpayer money, to the weaker countries.

Exchange-rate adjustments between the euro states are simply not possible, since they use the same currency; there’s no rate to adjust. Meanwhile, European political elites have bound their destinies on the preservation and continuation of the European currency, so its breakup will take some time to avoid, and will be postponed to save face. Thus, the hardship will continue.

To make matters worse, since the introduction of the euro, European banks have flooded the weaker states with credit. These loans have become unsustainable, making the European financial sector insolvent. They must be reduced to bearable proportions, and not only in Greece. To prevent a collapse of the European financial system, additional German and Dutch taxpayer money will be needed to recapitalize the banks.

Please explain your new model, the Matheo Solution.

The TMS model for a monetary union combines the above mentioned advantages of the traditional monetary union with the advantages of national currencies (exchange-rate and interest-rate differentiation on a member-state level) — the best of both worlds. In other words the TMS model makes the traditional “rigid” monetary union “flexible” or “lean and mean.”

andre-ten-dam-tms
Although only introduced in 2010, André ten Dam hopes his currency model will garner traction and avoid the failures of forthcoming currency unions. (Jan Gajentaan)

Actually, it is quite simple. In 2010, I was thinking about the first stage of the euro, when it existed alongside several European national currencies. These all served as units of account and mediums of exchange for domestic use. Put this structure in front of a mirror, and the TMS model becomes visible.

We now introduce national currencies for all euro member states, with each to serve alongside the euro as the single currency within its respective nation. The macroeconomic imbalances between member states can then be addressed by fluctuations in the the national currencies — the Greek versus the German, for example.

Then the economies of the weaker euro states can finally get back on their feet again, and the stronger states can grow by an increase in purchasing power, while not having to shoulder transfer payments. So, the euro and the euro common market can still survive and prosper! The TMS model also addresses the debt and banking aspects of the euro crisis.

Unfortunately, because this flexible model for a monetary union is new in economic science, out in 2010, it will take some time for its acceptance and implementation. I am afraid that it will take until the euro monetary union has already fallen apart, along with its devastating economic, social, and humanitarian results.

What can the sucre member states learn from the disaster?

If the sucre members want to enter into the second stage of a monetary union, please do it in a “flexible” way, according to the TMS model. Its room for domestic policies gives the best chance for the currency’s survival, and more importantly for the prosperity that comes from a monetary union between member states.

Jan Gajentaan Jan Gajentaan

Jan Gajentaan is an independent human-resources consultant based in Rotterdam, Netherlands. Follow @jangajentaan.