Wolfson gurus see euro break-up as dangerous but liberating

A disorderly break-up of the euro would set off a cataclysmic chain-reaction and a collapse of Europe’s banking system, pushing the world into full-blown depression.

That is the shared nightmare of those shortlisted for the £250,000 Wolfson Economics Prize - the richest economic award after the Nobel Prize - on how to "manage" a full or partial disintegration of monetary union. They agree on little else.

"The consequences of a completely unplanned 'Exit' are likely to be catastrophic," said Neil Record from Record Currency Management, one of the five qualifiers.

Catherine Dobbs, a former algorithms expert at Gartmore, said the global shock could be five to 10 times worse than the Lehman earthquake in 2008, given the scale of contracts and counter-party exposure.

The Lehman lesson is that authorities must have contingency plans in place to stop a seizure of the global credit system. The crucial point is exactly how a break-up occurs, not whether it does so.

Mr Record believes piecemeal exits by one country at a time - the most likely outcome on current policy settings - would be "a recipe for continuous crisis". There can be no such half-way house in any case. As soon as one country leaves EMU, the euro will lose its aura of inevitability. The charisma drains away.

He advocates a secret German-led "Taskforce", with a French cameo role for the sake of "legitimacy". Any broader planning would leak. The European Central Bank and the European Commission would be kept in the dark since they are "not well-equipped to design the demise of their own 'great project’".

"Failure to maintain secrecy would almost certainly lead to a complete freeze in the markets, making it impossible to finance eurozone member states’ deficits. This could accelerate a vicious circle ... and

There is a very sensible way to rescue nations with collapsing economies, and it works because it was used once before, in very collapsed Weimar Germany. And it did recover their economy, unfortunately only for it to be taken over by the Nazis.

But the economic recovery is the important part. Here’s what they did.

In Germany, the Papiermark currency was hyperinflating, so it was to be replaced with a new currency, the Reichsmark. But to insulate the Reichsmark from the inflation, a temporary, “bank and government only” currency was created, called the Rentenmark.

The way this would work today, say in Greece, would be to have three currencies. The Euro, the old Greek Drachma, and an intermediate currency called the “Greco”.

Within Greece, everyone would be paid with, and spend Drachmas. In the rest of Europe, Euros. But both would have to be converted by the European Central Bank (ECB) before they crossed the border.

That is, in Greece, Euros would be worthless. Outside of Greece, Drachmas would be worthless. And the ECB would control the exchange rate.

But more. Anything that Greece could export would be purchased directly by the ECB, and sold in Europe at a higher price than the market. This would give Greece income, and part of the money would go to pay off their creditors, without them getting their hands on it first.

Then, commodities and products that were in overabundance in Europe would be sold to Greece at a very discounted rate.

In a relatively short period of time, this would encourage the recovery of the Greek economy. Importantly, the “Grecos” would not be a legal tender currency, but would only be used by banks and governments. And it would be a very stable currency, because it would have to be 100% backed by gold and land.

At a particular point in the recovery of the Drachma, it too would become increasingly backed by tangible commodities, and would keep getting strong as their debt was reduced.

there is no costless way to fix this, my suggestion would be to take money they are going to lose defending the euro, and use it fund the transition costs of restoring the national currencies. The big cost would be to banks that hold debt that is going to devalue when the new currencies are introduced.

Robert Barro proposed something similar earlier this year. http://online.wsj.com/article/SB10001424052970203462304577134722056867022.html

However, the euro-elite will never give up on the euro until it is as worthless as the Weimar Reichsmark, so all discussion of dual currencies or planned euro exit is pointless.

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