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Flip Side of a Currency Union

The travails of the weaker economies within the Euro zone have shown the disadvantages of joining a currency union…

The sovereign debt crisis of South European countries intensified once again in September. There is widespread fear within markets that Greece may default. The troubles of these peripheral European nations have once again raised questions about the wisdom of having currency unions. It is not my contention that the currency union within Europe was a bad idea per se. By removing nominal exchange rate risk for trading partners and reducing transaction costs, such unions promote trade among member countries. But the implementation of the European currency union was flawed from the beginning.
Moreover, the peripheral European nations, while enjoying the benefits of such a union, behaved in an irresponsible and profligate manner. Now it is payback time. And now that they are in trouble, the biggest disadvantage of a currency union, the lack of an independent monetary policy, will prevent them from finding their way out of the hole that they have dug for themselves.

Treaty obligations ignored
The Maastricht Treaty of 1992 had laid down certain preconditions for the countries joining the currency union. One, they had to ensure that their annual rate of inflation was not above 1.5 per cent. Two, they had to contain the budget deficit at below 3 per cent of GDP. And three, they had to maintain a debt-to-GDP ratio of less than 60 per cent.
At the time of formation of the union, many countries were allowed to join it despite not meeting these conditions. Subsequently these criteria were not strictly enforced. To meet them the weaker economies would have had to reduce their public spending and raise taxes. This they were reluctant to do as their politicians were not willing to impose the period of fiscal austerity that it would have entailed.

Profligate ways
Before joining the union, the peripheral economies were required to pay a much higher rate of interest on external borrowings than, say, Germany. But once they joined the European monetary union, the interest rates they were required to pay fell sharply. Private lenders reckoned that now that these economies had joined a monetary union, the value of loans made to them could no longer be eroded through currency depreciation. So the currency risk premium they demanded earlier was now waived. And in those early years after the union, the prospect of a credit default seemed distant. It is only now, since the default risk has loomed large, that yields on their bonds have risen and these economies have lost access to markets.
Borrowing per se is not bad; it is what is done with the borrowed money that matters. The countries that are currently in trouble did not use their borrowings to invest in productive assets. Had they done so, their export earnings would have increased and they would have had no trouble paying off their loans. Instead, in some countries the borrowings were used to fund consumption while in others foreign money fuelled a real estate boom.
Now that these countries are in trouble, the biggest disadvantage of a currency union — the loss of an independent monetary policy — has come to haunt them. In a currency union, monetary policy is decided in the interests of the powerful economies (in this case, Germany and France). Prior to the monetary union, these economies could have depended on a weaker currency to enhance their exports and pay off their debts. By joining the union, they have forfeited this option.
Restoring fiscal balance is more easily achieved through high growth rather than through spending cuts. The fiscal austerity that is being forced upon these nations (as a precondition for IMF and ECB assistance) will affect their growth, and only worsen their fiscal plight (as a lower level of economic activity translates into lower revenues for the government).
What remains to be seen is whether the currency union will survive the economic travails of its weaker members. Or will it unravel with some of the weaker economies reverting to their own currencies?

Reform India’s land market
A transparent and smoothly functioning land market would be in everyone’s interest: the government, industrialists and even farmers
Land acquisition has emerged as one of the major impediments in the path of rapid infrastructure development in India. The problem has two aspects. One, of course, is the inadequate compensation paid to farmers, especially when the government acquires land either for projects undertaken by it, or for those being undertaken by the private sector. Farmers’ agitations in different parts of the country in recent times have helped focus the spotlight on this aspect.
Another dimension of the problem is unclear titles. Property records are not well maintained in our country. That leads to conflicting claims over the same piece of land. In such a murky situation, it is beyond the average entrepreneur’s capacity to acquire land and manage the attendant hassles that arise due to claims by rivals. Hence, land acquisition in our country has become the specialised calling of the land mafia — a cabal comprising politicians, builders and developers who have both money and muscle power. Having acquired the land, they have the power to quash the claims of rival claimants and enforce their own rights over the land.
The National Land Acquisition and Rehabilitation & Resettlement (LARR) Bill 2011 that has been introduced in Parliament aims to solve the first issue — that of providing proper remuneration to landowners. The bill includes a comprehensive resettlement and rehabilitation package both for landowners and others who derive their livelihood from it (say, sharecroppers).
On the issue of valuation of land, however, one feels that the bill in its current form does not provide the right answers. It says that land is to be acquired at six times the market price in urban areas and two times the market price in rural areas. How will the market price be determined? If it is based on recent transactions in the area, it should be remembered that people severely understate this rate in order to pay less registration fee. Moreover, why have a factor like six or two? Under certain circumstances a factor of six could be too high and would invite speculation. (Insiders who know that acquisition by the government is about to take place in a certain area could acquire the land at, say, twice the prevailing price, and then sell it off to the government at six times). There could also be situations where the factor of two could be inadequate, say, if recent buyers and sellers severely understated the price of past transactions. (This brings to mind another much needed reform: stamp duty rates need to be lowered to 5-6 per cent in all states so that people stop understating the value of transactions and a more transparent land market emerges.) And finally, why have the district collector as the final arbiter of market price? Let buyers and sellers determine the price through direct negotiations. If an arbiter is needed, let that power rest with the Gram Panchayat.
It is also time that the government showed greater urgency in fixing the problem of unclear land titles. Several states have already launched initiatives for computerisation of land records. This task needs to be taken up in earnest and completed throughout the country at the earliest.
If India is to develop rapidly, it must have a smoothly functioning land market. On the one hand, the government and corporates require land for developing infrastructure and industrial projects. On the other hand, farmers also need to be able to sell land easily. At 52 per cent, far too large a proportion of our population subsists on agriculture, leading to the problem of under- and disguised employment. If our nation’s productivity is to grow, more people need to move out of agriculture and into industry and services, where labour tends to have higher productivity. Unless we have a transparent and smoothly functioning land market, people will not be able to make this transition easily.