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Dublin: 12 °C Thursday 23 October, 2014

WE WERE ON A BREAK: if the eurozone was to split up…this is how it could all be OK

As Greece teeters on the brink, five economists have taken a look at how the eurozone would break up…amicably.

Don't get the illustration? Read Catherine Dobbs's submission
Don't get the illustration? Read Catherine Dobbs's submission
Image: Johnny Green/PA Archive/Press Association Images

EARLIER THIS YEAR, an 11-year-old Dutch boy made global headlines after his plans on how best to prepare for a break-up of the eurozone caught the attention of a leading UK think tank.

The youngest entrant for the Wolfson Economics Prize overshadowed the actual finalists at the time of the shortlist announcement.

The winner, who will be announced on 5 July, was asked to articulate how best to manage the orderly exit of one or more member states from the European Monetary Union.

The brief reads:

There is now a real possibility that political or economic pressure may force one or more states to leave the euro. If the process is managed badly it would threaten European savings, employment and the stability of the international banking system. The Wolfson Economics Prize aims to ensure that high quality economic thought is given to how the Euro might be restructured into more stable currencies.

Given the turmoil across Greece and the euro area in the past few weeks, TheJournal.ie has decided to take a look back at the last-standing contestants vying for the £250,000 prize.

Catherine Dobbs, The NEWNEY approach to unscrambling the Euro

Despite its acronymy title, NEWNEY isn’t a complex theory embedded into economic academia. In fact, Dobbs coined the term to stand for her new two-tier currency, New Euro White/New Euro Yolk.

In her proposal, the British private investor suggests creating a white euro for stronger countries (not named but would likely include Germany and the Netherlands), while the yolk euro would be established for the weaker nations (again, not named but would probably feature Portugal and Ireland).

The assumption is that Yolkzone countries are those that require a devaluation to restore their competitiveness, while White-zone countries are those that are already competitive or that have a chance of restoring their competitiveness through austerity programmes.

Under NEWNEY, each existing euro would be exchanged for a basket of NEY and NEW currencies set by an exchange ratio. Giving an illustration, Dobbs says one euro could be exchanged for 0.7 NEW currency unites and 0.3 NEYs.

Across the Economic and Monetary Union, everyone would receive the same basket of currencies in exchange for their euros. No one would be forced to switch into any particular currency, but over time, individuals would be able to exchange the currencies they receive from the other region, to their region’s home currency.

The gradual devaluation of the Yolk country currency or currencies would be achieved through higher nominal interest rates in the Yolkzone. As part of her plans, Dobbs says that any renegotiation of debt or default on debt by these countries could be managed separately.

Her plan, she says, could actually avoid what it is preparing for because it would prevent any member state from leaving, thus allowing the Union to stay together.

That is because it removes any possibility of a panicked flight of capital because each euro would be exchanged for BOTH new Yolk currency and new White currency.

“The real power of NEWNEY might come from it never being used,” she concludes.

One point of note on Dobbs’ programme is that it allows for an agreement between all member states as opposed to an unauthorised, chaotic exit by just one country.

Neil Record, If member states leave the Economic and Monetary Union, what is the best way for the economic process to be managed to provide the soundest foundation for the future growth and prosperity of the current membership?

Record Currency Management Neil Record’s submission reads more like an army intelligence document than an economics project.

He suggests that Germany and France set up a Task Force which would be absolutely secret and deniable. The radical plan does not allow for a partial break-up as he says the first exit should become the complete abandonment of the euro.

This essay recognises the magnitude of complete Euro abandonment, but I have considered very carefully the alternative (piecemeal departures), and concluded that the moment one country leaves the Euro, then the view that the Euro is ‘unbreakable’ or ‘permanent’ becomes untenable. This would give markets the evidence and the ammunition to continue to turn their fire on euro structural weaknesses elsewhere. This is a recipe for a continuing crisis, resolved only when the last target that the market can find is demolished. In practice, this would be the enforced slow-motion dismemberment of the Euro.

Focusing on the administrative aspects, Record sets out a week-by-week timetable with a number of main recommendations:

  • Germany sets up a secret Task Force to design exit. France joins but only as a “token” for legitimacy.
  • National currencies would replace the euro on the day of the exit announcement.
  • The ECB’s functions would be terminated and its balance sheet shared out on a pro-rata basis.
  • The Task Force would assign currency redenomination to depend only on immoveable reference points to prevent flights of capital.
  • There would be a continued membership of the EU to ensure no tariffs or restrictions to trade are placed on other countries.


Roger Bootle, Leaving the euro: a practical guide

Managing director at Capital Economics, Roger Bootle provided a 16-point-guide for how a country could exit the eurozone in the best (or, in his words, least bad) manner.

We’ve reduced it down a bit but here’s the general overview of the advice given to the Prime Minister, Finance Minister and Central Bank Governor of the exiting nation:

  1. Be secretive for a month before the exit.
  2. Introduce capital controls (in secret) to avoid flights of capital.
  3. Warn the European Commission, the ECB and other members, as well as the IMF and the world’s major central banks just hours before the exit announcement.
  4. D-Day – when the changeover to a new currency will occur – will be just a few days after the public announcement of exit. Ideally, that announcement should be made on a Friday evening and be implemented on Monday.
  5. Once the announcement is made, close the banks to ensure against capital flights and mass withdrawals.
  6. Introduce the new currency (which is coincidentally (!) called the drachma) at parity with the euro. Wages would be 1:1 with old euro.
  7. Euro notes and coins will be allowed for small transactions until new notes and coins are widely available.
  8. From D-Day on: banks reopen, trading on international markets starts and the drachma will be free to depreciate leading to a fall in the real exchange rate. Lift capital controls as soon as is practical.
  9. Redenominate debt in the new national currency and renegotiate to involve a substantial default.
  10. Get Central Bank to inject huge amount of liquidity into own banking system.
  11. Target inflation, adopt tough fiscal rules, outlaw wage indexation and issue government bonds to boost confidence.
  12. Provide clarity on legal issues, including the status of EU membership and status of contracts denominated in euros.

And some other key points for those sticking with the euro:

  1. It is pointless to maintain “the fiction” that euro members is permanent or penalise countries that have left. Just cooperate.
  2. Agree to the introduction of a mechanism that allows other countries to leave.
  3. Make continued membership more attractive.
  4. Take advantage and boost domestic demand.

Jonathan Tepper, A Primer on the Euro Breakup: default, exit and devaluation as the optimal solution

Tepper makes the point that although, yes the euro breakup would be an historic event – it wouldn’t be the first currency breakup ever. There are 69 examples in the past 100 years to learn from, he says, so there is no need to reinvent the thought process around such an event.

While the euro is historically unique, the problems presented by a currency exit are not. There is no need for theorising about how the euro breakup would happen. Previous historical examples provide crucial answers to: the timing and announcement of exits, the introduction of new coins and notes, the denomination or re-denomination of private and public liabilities, and the division of central bank assets and liabilities.

Complicated but feasible, is how he describes previous currency exits. They are often predicted to lead to Armageddon but rarely do.

The problem would not be the currency exit. The problem would remain, as it has done for the past four years, the legacy of the debt piles that have dotted up across EU nations. Troubled countries still need to default and devalue, according to Tepper.

He explains more himself here:


Jens Nordvig, Planning for an orderly break-up of the European Monetary Union

There is no in-between for Nordvig in his plan. He says policy makers should prepare for both a “very limited break-up” and a “big bang” scenario.

His entry focuses on the legal aspect of any such splits because the disorder and chaos from a breakup would mainly be due to the arbitrariness connected to the status of debt contracts denominated in euros.

The solution? Nordvig says that debt contracts falling under national or local law should be redenominated under the new currency, while a basket currency called ECU-2s should be created for debt contracts in foreign law.

The ECU-2 would be made up of national currency elements of the euro in a ratio determined by the countries’ equity weights in the European Central Bank.

Clarity on the redenomination process will reduce the incidence of protracted legal battles, arbitrary court decisions and widespread insolvencies which would characterise a disorderly exit, according to Nordvig.

The Wolfson Economics Prize is the second biggest cash award to an academic, coming in after the Nobel prize.

See how an 11-year-old would fix the eurozone’s Greek problem>

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