Internal Devaluation Research Articles

Internal devaluation and economic inequality in Portugal: challenges to industrial relations in times of crisis and recovery

Internal devaluation policies imposed in southern European countries since 2010 have weakened labour market institutions and intensified wage inequality and the falling wage share. The debate in the wake of the financial and economic crisis raised concerns about slow wage growth and persistent economic inequality. This article attempts to shed light on this debate, scrutinising the case of Portugal in the period 2010–2017. Mapping the broad developments at the national level, the article examines four sectors, looking in particular at the impact of minimum wages and collective bargaining on wage trends vis-à-vis wage inequality and wage share trajectories. We conclude that both minimum wage increases and the slight recovery of collective bargaining had a positive effect on wage outcomes and were important in reducing wage inequality. The extent of this reduction was limited, however, by uneven sectoral recovery dynamics and the persistent effects of precarious work, combined with critical liberalisation reforms.

Analysis of the Impact of Changes in the Functional Distribution of Income on Aggregate Demand

Analysis of the Impact of Changes in the Functional Distribution of Income on Aggregate Demand

Introducing a Safety Net: The Effects of Neoliberal Policy on Welfare, Poverty, and the Net Social Wage during the Greek Crisis

The combined effects of internal devaluation and fiscal consolidation policies implemented in Greece between 2010 and 2019 are reflected in substantial levels of income contraction and unequal distribution of the financial burden. Neoliberal policy responses are examined through a safety net that allocates scarce fiscal resources to persons in extreme need, subject to high primary budget surplus targets. The safety net operates in this manner when social pressure upon the worker class intensifies. Further, the essay explores two supplementary aspects. First, a modified measure of poverty using the conventional approach of differentiated income poverty lines is considered. Second, net social wage variations are examined. Results indicate Greek workers have suffered substantially and that neoliberal policies have placed disproportionate burdens on persons most in need.

Phillips Curve: The Greek Case

One of the most important problems facing Greece is the long-term and high-level unemployment rate. The Economic Adjustment Programmes (EAPs) focused on the supply side of the economy, aiming at the adjustment of prices and wages, draw on the classical economic model, as it is widely accepted that internal devaluation policies keep inflation low. This article attempts to examine whether the Keynesian theory and the Phillips Curve, which shows the relationship between unemployment and inflation, apply in the case of the Greek economy. We use descriptive statistics, ordinary least squares (OLS) and VAR Analysis to examine the relationship between the variables. According to the results, there is a negative correlation between unemployment and inflation in Greece, thus confirming the Phillips Curve hypothesis. Finally, results show that unemployment is less dependent on inflation compared with the past, and there are numerous other decisive factors affecting unemployment.

The Political Value of Internal Devaluation in the Euro Area Crisis

AbstractTo overcome the euro area (EA) crisis, the core pushed the periphery to cut labour costs. However, this paper documents that internal devaluation (ID) only mildly improves exports and it can significantly harm firms’ non‐price competitiveness factors. This raises the question of whether ID entered the bail‐out conditionality only for economic reasons or also with political motivations. We argue that the economic crisis reignited a trust‐confidence crisis between the core and periphery countries, with the latter emerging as non‐credible reformers. While some adjustment to regain competitiveness was necessary in the periphery, it is hard to conceive that the policy mix adopted was the outcome of taking all costs into account. Political reasons appear to have exerted a notable influence and this may undermine the effectiveness, ownership and sustainability of present and future reforms.

How the Eurozone disempowers trade unions: the political economy of competitive internal devaluation

Abstract The marginalization of trade unions was a notable feature of the sovereign debt crisis in the Eurozone periphery. However, governments have recently imposed liberalizing reforms against union protests in the Eurozone core too. We argue that organized labour loses influence across the core-periphery divide because the ‘new economic governance’ puts national governments under enhanced pressure to compete against each other on wage and labour market flexibility—a process known as competitive internal devaluation. The article illustrates this argument through comparative quantitative indicators of liberalization and qualitative process-tracing in three core countries. Whereas Germany’s outstanding competitiveness position allowed its unions to extract significant concessions, their counterparts in France and Finland faced unprecedented defeats from governments aiming to restore economic growth by closing down the competitiveness gap to Germany. Our findings highlight the class power implications of the Eurozone’s reliance on the labour market as the main economic adjustment variable.

Keeping the euro at any cost? Explaining attitudes toward the euro-austerity trade-off in Greece

Despite years of crisis, the euro has enjoyed strong popular support across the Eurozone periphery. In light of the high costs of internal devaluation strategies, this begs the question why the public has remained in favor of the common currency. In this article, we propose a theoretical mechanism that accounts for both voters’ pocketbook preferences and their sociotropic assessments over the noisy trade-offs associated with the outcomes of euro membership and euro exit. Using original survey data from three consecutive survey waves in Greece (conducted in July, September, and December 2015, respectively), we analyze the attitudes of Greek voters toward the euro in an environment of acute uncertainty, austerity, high unemployment, and economic recession. First, we juxtapose our uncertainty mechanism of popular euro attitudes against other explanations put forward in the literature and find strong support for our argument. Second, we conduct a survey experiment to tap into attitudes toward the euro-austerity trade-off and find that as uncertainty over policy outcomes diminishes, framing effects abate in significance, especially among those who voted No in the July 2015 referendum. Finally, we derive distinct sets of euro preferences for different ‘vulnerability profiles’. Over time, as the trade-offs of euro membership become more pronounced, we find a marked fall in euro support between July and December 2015.

The role of internal devaluation in correcting external deficits: The case of Spain

This paper carries out an ex-post evaluation of the internal devaluation policy in correcting external deficits. We examine to what extent and through which mechanisms the internal devaluation strategy implemented after 2010 is responsible for the readjustment in net exports in the case of Spain. Our analysis incorporates the effects linked to changes in external competitiveness and domestic prices and those associated with changes in income distribution. The main way in which internal devaluation contributed to external readjustment was through a decrease in domestic demand and imports rather than through enhanced external competitiveness. These demand effects derived from the distributive impact of changes in unit labor costs, which reduced the Spanish wage share during this period. According to our estimates, internal devaluation explains 33% of total external sector readjustment over the 2010-2018 period, 98% of which is driven by the demand effect, with the remaining 2% resulting from price effects.

EMU and the Greek crisis: testing the extreme limits of an asymmetric union

ABSTRACTEMU structural asymmetries contributed directly to both procyclical debt-fuelled growth pre-crisis and sharply recessionary adjustment post-crisis. Greece’s fiscal and debt crisis represented an ‘orthodox’ national failure inside EMU, yet the underlying reason for the Euro-Area financial crisis was external imbalances generated by EMU asymmetries. Exclusive reliance on internal devaluation, lack of a Euro-Area countercyclical response, and financial fragmentation, all accentuated the cost of asymmetric adjustment to crisis. The asymmetric EMU institutional framework also necessitated a greater reliance on intergovernmental activism to engineer ad hoc interventions, at the expense of both the Community method and democratic procedure. Financial markets mispriced sovereign risk, failing to counterbalance EMU asymmetries. The Greek crisis prompted the Euro Area to develop stronger policies and institutions and to eschew an extreme existential challenge. EMU is stronger at 20, yet with persisting asymmetries, old and new, and insufficiently equipped to face the next major crisis.

Under economic adjustment programs, do private sector wages respond to changes in public wages and employment?

We examine the spillovers from changes in public sector wages and employment on private sector wages. Using a panel VAR model, we show that changes in public sector wages have a greater effect on private sector wages than changes in public sector employment. We motivate our analysis using the Economic Adjustment Program for Greece, and a simple theoretical model. The empirical validity of these effects is verified through a series of robustness tests. These results have important implications on the evaluation of the recent EU Economic Adjustment Programs and the future design of Internal Devaluation strategies.

Internal Devaluation as a Commitment Device in the Euro Area Crisis

To overcome the Euro Area crisis, periphery countries were pushed to cut labour costs. However, internal devaluation (ID) is known to improve exports only partially. This opens the question as to why ID was so central in managing the crisis. We argue that ID, beyond its purely economic impact, functioned also as a commitment device to overcome two other intertwined crises. First, as stabilization did not suffice, it was necessary to enlarge the initial minimalist architecture of the EMU, overcoming the resistance from the core. Second, to aggravate matters, periphery governments emerged from the crisis in the eyes of the core even less credible than before. ID acted as a commitment device because (i) it was accepted in the core, particularly in Germany, as the best recipe to recover competitiveness; (ii) it implied political costs for incumbent periphery governments and thus revealed a genuine will to reform.

La depreciación argentina durante la Gran Depresión. ¿Por qué falló la teoría?

The aim of this paper is to analyse the conditions in which depreciations in Argentina during the Great Depressionwere produced. The method: an analysis of the literature and the development of an econometric analysis.To this effect, after analysing the monetary context in those years and the impact of the Great Depression,the economic conditions in Latin America and Argentina are presented. National and International literatureshighlight that, against the difficulties to proceed with internal devaluations to adjust prices, monetary depreciationwas crucial to rebalance prices. This was achieved on the contrary of what would be expected accordingto the Purchasing Parity Theory. Through econometric techniques, the prices of Argentinean exports willbe shown as a key for the success of this measure.

Is the emphasis on unit labor costs an effective export-promoting policy? A comparison between Greece and Portugal

The aim of this paper is to assess whether internal devaluation is a sufficient measure to improve industrial exports competitiveness. Focusing on the cases of Greece and Portugal, two small open economies, which have recently experienced major corrective policies in the context of Memoranda of Understanding, we aim at explaining the differences observed regarding the growth of industrial exports in the two countries during the period 2000 to date. Our findings point to a number of cost items other than the unit labor cost that have increased the prices of specific categories of goods exports. Over and above that, however, the higher growth of Portuguese manufacturing exports relative to those of Greece may be explained by a variety of structural weaknesses of the Greek economy leading to its inability to retain international market shares and imposing constraints on the domestic industrial base.

Deciphering the Macroeconomic Effects of Internal Devaluations in a Monetary Union

We study the macroeconomic effects of internal devaluations undertaken by a periphery of countries belonging to a monetary union. We find that internal devaluations have large and positive output effects in the long run. Through an expectations channel, most of these effects carry over to the short run. Internal devaluations focused on goods markets reforms are generally more powerful in stimulating growth than reforms aimed at moderating wages, but the latter are less deflationary. For a monetary union with a periphery the size of the euro area’s, the countries at the periphery benefit from internal devaluations even at the zero lower bound (ZLB) of the nominal interest rate. Nevertheless, when the ZLB binds, there is a case for a sequencing of reforms that prioritizes labor policies over goods markets reforms.

Deciphering the Macroeconomic Effects of Internal Devaluations in a Monetary Union

We study the macroeconomic effects of internal devaluations undertaken by a periphery of countries belonging to a monetary union. We find that internal devaluations have large and positive output effects in the long run. Through an expectations channel, most of these effects carry over to the short run. Internal devaluations focused on goods markets reforms are generally more powerful in stimulating growth than reforms aimed at moderating wages, but the latter are less deflationary. For a monetary union with a periphery the size of the euro area's, the countries at the periphery benefit from internal devaluations even at the zero lower bound (ZLB) of the nominal interest rate. Nevertheless, when the ZLB binds, there is a case for a sequencing of reforms that prioritizes labor policies over goods markets reforms. Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

The Great Recession and Labor Market Adjustment: Evidence from Latvia

How severe are costs to workers when the economy undergoes a large recession? In this paper, we try to provide an answer to this question using as an example Latvia, a new EU member state, which faced the most severe recession in Europe and globally in 2008. We employ individual-level Latvian Labor Force Survey and EU SILC data over the years 2002–2016 and 2007–2015, respectively, and analyze transitions in the labor market and their determinants as well as occupational mobility. Our results show that adjustment takes place predominantly at the extensive margin since it is driven by flows to unemployment. We also show that by 2016 the labor market has bounced back to its pre-crisis performance and that for the average worker Latvia’s macroeconomic policies that focused on internal devaluation did not impose large costs in the medium run. However, the young, ethnic minorities and the less skilled were particularly affected by the crisis. Wage regressions suggest that job mobility is not associated with an increase in wages, i.e., with increased labor productivity.

THE ITALIAN WAY TO INTERNAL DEVALUATION AND SOCIAL ACTORS’ STRATEGIES AGAINST AUSTERITY AND THE FLEXIBILIZATION OF THE LABOUR MARKET

Introduction: the Italian way to internal devaluation; 1.a Precarization of labour and weakening of trade union action at company level (amendment of dismissal law); 1.b Circumvention of the CCNL by means of exceptional employment contracts; 1.c Downward competition on labour costs by means of outsourcing and value chains; 1.d Promotion of decentralized collective bargaining and its power to derogate from the law and freezing of collective bargaining in the public sector; 2. The trade union(s) strategies; 2.a Bargaining strategy; 2.b Judicial strategy; 2.c Confrontational strategy; 3. New challenges for workers and new challenges for their organization(s); 3.a Italian trade unions’ strategies; 3.b Alternative experiences of (and in favour of) precarious workers; 4. Anti-austerity protests: the involvement of trade unions and social movements; 5. Concluding remarks; Bibliography.

Austerity versus pragmatism: a comparison of Latvian and Polish economic policies during the great recession and their consequences ten years later

ABSTRACTDespite many initial similarities, Latvia and Poland represent two opposite extremes in terms of practical and theoretical approaches to the economic crisis. The Polish government applied a ‘pragmatic’ approach to fight the recession, based on expansionary fiscal policies and currency devaluation. Conversely, the Latvian administration opted for the Austerity and internal devaluation strategy. Consequently, the objective of this paper is to analyze, from the perspective of political economy, the strategies chosen for the economic crisis management and their effects in Latvia and Poland, in light of the main EU narratives about its causes and responses. The research contends that the economic performance of both countries during the crisis was due to their respective economic structures. On the one hand, Poland is a bigger, more diversified and industrialized economy, with fewer channels of vulnerability and could apply expansionary policies effectively. On the contrary, the economic model established in Latvia generated a high exposure to external shocks, in particular, with a double vulnerability in the banking sector. In this context, due to internal and external motives, the Latvian government decided to apply the austerity and internal devaluation strategy, worsening the economic decline and the subsequent recovery.

Does Austerity Go Along with Internal Devaluations?

We empirically show that the austerity packages implemented in some euro area countries during 2010–2014 were only partially successful in generating internal devaluations. Countries that cut spending indeed experienced a decline in nominal wages, a real exchange rate depreciation, a fall in the relative price of non-tradables and a shift of consumption toward non-tradables, whereas we find no such evidence for countries raising consumption taxes. We show that this asymmetric response is in line with a small open economy model with GHH preferences. Moreover, the output costs of correcting current accounts were higher than anticipated because neither policy was successful in raising exports through lower prices. Instead, current account improvements were solely driven by lower imports stemming from faltering domestic demand. We provide evidence that exporters absorbed lower wages through higher markups, and show in a model with pricing to market that, had firms kept their markups constant, output costs of correcting current account imbalances would have been cut by almost one half.

Export or Perish: Can Internal Devaluation Create Enough Good Jobs in Southern Europe?

ABSTRACT During the early 2010s, creditor states and EU institutions demanded that the Southern states of the eurozone liberalise their labour markets to facilitate internal devaluation and export-led recoveries. With some variation, the Greek, Portuguese, Spanish and Italian governments complied. This article explains why such a strategy of internal devaluation within the eurozone might fail to produce adequate employment growth to put these countries on stable financial footing. It exploits variation in the timing and intensity of reforms to evaluate the record of the internal devaluation strategy. Our findings suggest that there is no linear relationship between internal devaluation and export-growth. Even where the latter has been impressive, dualism persists and the employment recovery has been weak.