My ardent blog readers must have got mystified by the topic since the dreaded word i.e. divorce, is mentioned. Divorces are perceived as a means for the counterparties to part ways seeking cordial reasons for it. Don’t mistake me for a marriage counselor (though I have counseled some successful relationships in the past seeking no reward for the gesture). The idea of a divorce arises when the concerned parties do not see eye to eye in the long run. However, I am not here to talk about personal relationships but a bigger picture in the horizon-the Euro Divorce.

Some renowned economists in the world including Nouriel Roubini, had suggested that the euro members should get a divorce (or they call it an ‘amicable divorce settlement”). In their views, the current policies will not work and the only solution is the breakup of the euro area to allow some of the economies in trouble to get a boost from a depreciation of their currencies.

The argument is not new but the insights provide a blueprint of how it should be done, which makes the reading more interesting but, of course, it also opens up their argument to more criticisms. The summarization of their proposal is as follows:

1.      Portugal, Ireland, Italy, Greece and Spain to abandon the euro.

2.      A system of fixed exchange rates to be introduced in the transition where ECB will play a strong role defending the announced targets.

3.      After a transition, all central banks will implement similar inflation targets to avoid competitive devaluations.

4.      Contracts made under domestic laws will be denominated to the new currency.

But I am concerned with how some of the details in their proposal will work. The concerns of yours truly are highlighted below:

1.      How are the new exchange rates decided? The only way to make it meaningful is by creating depreciation the months that follow the exit of the euro area. The economists suggest that it will be a controlled depreciation. But who will make that decision?

2.      The moment the depreciation occurs; these countries will be poorer as all their impacts will be more expensive. Are we sure that the loss of confidence in their currencies combined with the immediate shock of making everyone else poorer is going to be compensated fast enough by increasing exports?

3.      The authors suggest that contracts under the foreign law will still be denominated in Euros. Given the depreciating currencies in the euro zone, I remain skeptical of the ability of exports to react significantly and fast enough to compensate for all the potential costs.

Given the unpredictability of the events, the Euro divorce, if it happens, will usher in a new wake of chaos and confusion in the world. The Eurozone require some counseling on this. Anyone interested?                     

Have a great Easter Weekend Everyone!