The Euro Is A Form Of Original Sin

For those of us who experienced the Latin American debt crisis of the nineteen eighties, there is the familiar term “original sin”. Original sin is borrowing dollars, as opposed to a currency that you can print. Many Latin countries had (for good reason) nonexistent capital markets. If such governments wanted to borrow, it had to be in dollars.

The reason this is a sin is because at some point you will lose market access and default. Many Latin and Asian countries learned this lesson, and are now quite cautious about taking on dollar debt. They have developed their local debt market and have also built up big dollar reserves.

But there was another response to these crises, which was the panacea of dollarization. The theory of dollarization was that, by converting the entire economy into dollars, the country could import American monetary policy, and provide the economy with a stable non-inflationary medium of exchange.

The most spectacular example of this was Argentina, which dollarized in 1991. Everything was denominated in dollars or in convertible pesos. The central bank abdicated monetary policy to become a currency board. The idea was that 100% of the convertible pesos in circulation would be backed by dollars at the central bank. What could go wrong?

What went wrong was that the Argentine government didn’t play by the rules and ran big fiscal deficits. It financed these deficits with tricks and theft. The system lost credibility, and bank depositors panicked and drove cartloads of dollars across the river to Uruguay. Crucially, the currency board system provided unlimited convertibility from pesos to dollars, which greatly facilitated capital flight. The money supply contracted automatically. Credit evaporated and, in 2001, the government defaulted and repudiated. A big mess, and not a good day for the cause of dollarization. The world learned something.

But Europe learned nothing from the Argentine fiasco. Instead, it decided to repeat the experiment. Europe required every member of the eurozone to surrender its monetary sovereignty and to import the “hard euro” instead. Overnight, Euroland was euroized. Every government was required to borrow in a currency it couldn’t print, and every banking system was required to accept deposits in foreign currency (the euro, printed in Frankfurt by an independent central bank).

The World’s Opinion Page

Help support Project Syndicate’s mission.


The whole idea of dollarization is to impose market discipline on both the government and the banks. Unable to print money, governments would balance their budgets. To maintain depositor confidence, banks would have to remain strong and liquid because they had given up their local sugar daddy in exchange for the cold indifference of the ECB.

Dollarization is an extremely dangerous policy because it depends on market confidence and market access. Supposedly, market discipline will operate to force governments to maintain the confidence of the market. In fact, as Minsky reminds us, confidence can evaporate rapidly, and without an adjustment period: "The revaluation of accept­able debt struc­tures, when any­thing goes wrong, can be quite sud­den and quick. Quite sud­denly a panic can develop as pres­sure to lower debt ratios increases.”

Once a dollarized government or bank has lost market access, there is no escape. The choice is between foreign aid or default and financial collapse. At present, the peripherals have chosen to seek foreign aid, which is keeping them alive, somewhat. But their debt ratios keep going up, which is not sustainable. Like Argentina, they will eventually have to default, repudiate and redenominate.

It was not just Club Med which made the mistake of euroization. France did too, and it too will face the remorseless logic of confidence-sensitivity. France still has the confidence of the bond market, as do her banks. But France’s debt ratio keeps going up, and its banks will face a through asset-quality review this winter. The clock is ticking.;
  1. Sean Gallup/Getty Images

    Angela Merkel’s Endgame?

    The collapse of coalition negotiations has left German Chancellor Angela Merkel facing a stark choice between forming a minority government or calling for a new election. But would a minority government necessarily be as bad as Germans have traditionally thought?

  2. Trump Trade speech Bill Pugliano/Getty Images .

    Preparing for the Trump Trade Wars

    In the first 11 months of his presidency, Donald Trump has failed to back up his words – or tweets – with action on a variety of fronts. But the rest of the world's governments, and particularly those in Asia and Europe, would be mistaken to assume that he won't follow through on his promised "America First" trade agenda.

  3. A GrabBike rider uses his mobile phone Bay Ismoyo/Getty Images

    The Platform Economy

    While developed countries in Europe, North America, and Asia are rapidly aging, emerging economies are predominantly youthful. Nigerian, Indonesian, and Vietnamese young people will shape global work trends at an increasingly rapid pace, bringing to bear their experience in dynamic informal markets on a tech-enabled gig economy.

  4. Trump Mario Tama/Getty Images

    Profiles in Discouragement

    One day, the United States will turn the page on Donald Trump. But, as Americans prepare to observe their Thanksgiving holiday, they should reflect that their country's culture and global standing will never recover fully from the wounds that his presidency is inflicting on them.

  5. Mugabe kisses Grace JEKESAI NJIKIZANA/AFP/Getty Images

    How Women Shape Coups

    In Zimbabwe, as in all coups, much behind-the-scenes plotting continues to take place in the aftermath of the military's overthrow of President Robert Mugabe. But who the eventual winners and losers are may depend, among other things, on the gender of the plotters.

  6. Oil barrels Ahmad Al-Rubaye/Getty Images

    The Abnormality of Oil

    At the 2017 Abu Dhabi Petroleum Exhibition and Conference, the consensus among industry executives was that oil prices will still be around $60 per barrel in November 2018. But there is evidence to suggest that the uptick in global growth and developments in Saudi Arabia will push the price as high as $80 in the meantime.

  7. Israeli soldier Menahem Kahana/Getty Images

    The Saudi Prince’s Dangerous War Games

    Saudi Arabia’s Crown Prince Mohammed bin Salman is working hard to consolidate power and establish his country as the Middle East’s only hegemon. But his efforts – which include an attempt to trigger a war between Israel and Hezbollah in Lebanon – increasingly look like the work of an immature gambler.