Friday, May 7, 2010

Should the Valley Have Its Own Currency?

If the Central Valley had its own currency, what would you call it?

When we are feeling a little silly and depressed about the Valley economy in the Business Forecasting Center, we wish for a bout of runaway inflation. We've been chatting about this for 2 years, but Paul Krugman's column in the New York Times today launched a discussion about what if California had it's own currency in the global econ blogosphere. I say the heck with California, why can't the Valley have it's own money.

We are definitely feeling the pain of asset deflation around here (most obviously trapping people in underwater mortgages), and prices and wages are showing their usual downward rigidities (prices go up much easier than they come down, especially in labor markets) and the lack of price adjustment can create unemployment (take a look at local government employee and teacher contract negotiations for a public sector rather than market example, jobs are being cut rather than wages).

If we could just be Costa Rica for a while and enjoy loose money and 10% inflation for a bit, then "dollarize" our currency like Panama at just the right time. And if we could just do that while still enjoying all the benefits we get from being part of CA and the US. And if unicorns were discovered in the ...

Anyway, lot's of blog chatter on optimal currency zones today. It's a purely academic topic, but interesting to think about nonetheless. Here is what Ryan Avent at the Economist said -think of substituting Central Valley for Greece and substitute California or the US for the Europe as you read this.
Why is this important? Well, the problem in Greece right now is that the Greek economy is at a very different point in the business cycle from the euro zone as a whole. It's still in recession, while most of Europe's large economies are in recovery. And it's still in recession, in part, because labour prices are too high given available demand. To fix this, Greece could cut prices. It would like to do this through inflation or depreciation, but those options are off the table because it is a member of the euro zone. Instead, Greece is stuck trying to reduce nominal wages, which is difficult to do. Alternatively, Greece could boost demand. But Greece doesn't have the fiscal room to do this given the stance of the euro zone's monetary policy, and its high debt load. There is another possibility, however. Greeks could leave the country. They could move to stronger economies until Greece's labour market tightened up, placing upward pressure on wages. If you can't shift prices, you can always try reallocating demand. But this is more difficult in places were languages, cultures, and institutions vary significantly across borders.

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