Blog Post

On the efficacy of internal devaluations: answers to the questions of Kevin O’Rourke

Kevin O’Rourke kindly drew attention at http://www.irisheconomy.ie/ to my recent Bruegel Policy Contribution titled “Compositional effects on productivity, labour cost and export adjustments” and asked four questions. In my answer I would like to show some charts – but as I cannot post charts at the Irish Economy blog, I post these charts at Bruegel […]

By: Date: June 25, 2012 Topic: European Macroeconomics & Governance

Kevin O’Rourke kindly drew attention at http://www.irisheconomy.ie/ to my recent Bruegel Policy Contribution titled “Compositional effects on productivity, labour cost and export adjustments” and asked four questions. In my answer I would like to show some charts – but as I cannot post charts at the Irish Economy blog, I post these charts at Bruegel Blog.

Question 1: What happens when you calculate a composition-adjusted real exchange rate index for Ireland vis à vis other eurozone members only?

Figure 1 below shows that since 2008Q1, the difference between the developments of the real effective exchange rate (REER) calculated against euro-area partners only and 30 trading partners is not large: the former depreciated by 12 percent, the latter by 14 percent. In both cases the increase in unit labour costs (ULC) of trading partners played a major role, in addition to Irish ULC falls. The nominal effective exchange rate is constant by definition against euro-area partners and had limited role when considering 30 trading partners.

There is a more significant difference between the intra-euro and the total REER when we look at the 2000-2008 period, largely due to the appreciation of the euro from about 2002.

Note that the 30 countries I consider comprise 85 percent of Irish trade. The distribution within these 30 countries is the following: euro-area 39 percent, UK 22 percent, US 23, Japan 7 percent, others 9 percent.

Figure 1: Business sector excluding agriculture, construction and real estate activates: main components of the Irish unit labour costs based real effective exchange rate (using constant weights; 2008Q1=100), 2000Q1-2011Q4


 

Question 2. What happens if you include agriculture in the index? This is an important traded sector in the Irish context.

Question 3. What happens if you do both 1 and 2?

Let me respond to both questions by showing the REER and its components for the agriculture alone (Figure 2). The data looks noisy, yet after a temporary decline in 2008-2009, the REER has appreciated somewhat (just a cumulative 1 percent if we consider 30 trading partners, but 11 percent when considering euro-area partners only). Therefore, for the business sector the cumulative REER depreciation from 2008Q1 to 2011Q4 is somewhat less if agriculture is included, but not much less, because the share of agriculture in the value added of the business sector excluding construction and real estate was only about 2.5 percent.

Figure 2: Agriculture: main components of the Irish unit labour costs based real effective exchange rate (2008Q1=100), 2000Q1-2011Q4

Question 4. One of the most striking graphs in the paper is Figure 2 on p. 6, which shows that while manufacturing value added has risen by 30 percent since the start of 2008 (thanks to what happened in the pharmaceutical sector), gross production has only risen by 5 percent. Can we make further progress in understanding this discrepancy (there are some helpful suggestions in the paper), and what might this tell us about the movement in Irish unit labour costs and real exchange rates since the crisis began?

Unfortunately, I cannot add more observations on the reasons for the discrepancy – and even acknowledge that the four possible explanations listed in my paper were suggested by the Irish economists I thank on the cover page.

But I can highlight that the assessment of this issue is severely hindered by the lack of publicly available data. Ireland is among the few EU countries for which manufacturing sub-sectoral gross value added is available only in current prices, but not in constant prices (I used Eurostat data). Constant price value added data is available only for the total manufacturing industry and therefore one cannot assess the discrepancy between vale added and gross production at the sub-sectoral level.

Deflators may also play a role (the fourth item listed in my paper), which, consequently, also cannot be assessed at the sub-sectoral level. For the total manufacturing Figure 3 compares the deflators of some countries. The deflators of Ireland, Sweden and the UK showed a similar pre-crisis pattern, which very much differed from the euro-area total – but at least Ireland is not unique in this regard (and deflators are certainly impacted by the sub-sectoral composition of manufacturing).

Since 2008Q1 Irish manufacturing prices fell the most and the trend is in line with the pre-crisis trend. In the UK and Sweden the depreciation of the nominal exchange rate may have contributed to the fall in the deflator. And in Sweden the deflator went up recently, in line with the appreciation of the nominal exchange rate.

Understanding the reasons for the developments of the Irish manufacturing deflator – and having data for sub-sectoral deflators – would help a lot in answer Question 4 of Kevin O’Rourke.

Figure 3: Deflator of total manufacturing value added (2008Q1=100), 2000Q1-2011Q4

Finally, since several bloggers commented public sector wages, also asking what happened in southern euro-area members, let me show a chart on this as well. The left-hand panel of Figure 4 suggests that public servants in Ireland are well paid compared to other sectors of the Irish economy, apart from financials. (Btw, Irish real estate agents take home little, at least as reflected in official statistics.) The right hand panel shows that Irish public servants earn much more per hour than their colleagues in southern Europe, yet Ireland has a much higher income per capita as well, which explain at least part of the difference. Public sector wages declined significantly in Greece from the peak in 2009, yet in all four countries public sector wages are broadly at their late 2007 levels.

Figure 4: Hourly labour compensation ( per hour), 2000Q1-2011Q4

Note: hourly labour compensation was calculated as the ratio of total labour compensation to total hours worked, as reported in the national accounts database of Eurostat.


Republishing and referencing

Bruegel considers itself a public good and takes no institutional standpoint. Anyone is free to republish and/or quote this post without prior consent. Please provide a full reference, clearly stating Bruegel and the relevant author as the source, and include a prominent hyperlink to the original post.


Warning: Invalid argument supplied for foreach() in /home/bruegelo/public_html/wp-content/themes/bruegel/content.php on line 449
View comments
Read article More on this topic More by this author

Blog Post

The latest European growth-rate estimates

The quarterly growth rate of the euro area in Q1 2018 was 0.4% (1.5% annualized), considerably higher than the low growth rates of the previous two quarters. This blog reviews the reaction to the release of these numbers and the discussion they have triggered about the euro area’s economic challenges.

By: Konstantinos Efstathiou Topic: European Macroeconomics & Governance Date: May 20, 2019
Read about event More on this topic

Upcoming Event

May
21
10:30

Europe after Sibiu: Towards differentiated integration?

A comprehensive follow-up to the Informal European Council in Sibiu, Romania.

Speakers: Andrew Duff, John Erik Fossum, Paweł Karbownik and Guntram B. Wolff Topic: European Macroeconomics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels
Read about event More on this topic

Upcoming Event

May
28
12:30

The Ukrainian economy: the way forward after a year of political turbulence

What can Ukraine do to foster economic growth? How can the EU and other international partners help Ukraine with this process?

Speakers: Olena Carbou, Marek Dabrowski, Elena Flores, Ivan Miklos and Hlib Vyshlinsky Topic: European Macroeconomics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels
Read article Download PDF More by this author

Book/Special report

Bruegel annual report 2018

The Bruegel annual report provides a broad overview of the organisation's work in the previous year.

By: Bruegel Topic: Energy & Climate, European Macroeconomics & Governance, Finance & Financial Regulation, Global Economics & Governance, Innovation & Competition Policy Date: May 16, 2019
Read about event More on this topic

Past Event

Past Event

CANCELLED: Future of taxation in the EU

Due to a previously unannounced air traffic controllers strike in Belgium, the Prime Minister Morawiecki is unable to land in time for the event. We apologise for any inconvenience.

Speakers: Marie Lamensch, Mateusz Morawiecki and Guntram B. Wolff Topic: European Macroeconomics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: May 16, 2019
Read article More on this topic

Blog Post

Germany’s even larger than expected fiscal surpluses: Is there a link with the constitutional debt brake?

Germany is having a political debate on the adjustment of its budgetary plans due to revised forecasts, and an academic debate on the debt brake. Yet, since 2011, general government revenues and surpluses have been systematically and significantly higher than forecast. The German surplus reached 1.7% of GDP in 2018. This bias did not exist from 1999-2008 before the introduction of the debt brake. While the IMF also got its forecasts of German surpluses wrong, the extent of the bias is larger for the German government’s forecasts. These data suggest that the political debate should focus on the debt brake and its implementation rather than on how to close the budgetary ‘hole’.

By: Catarina Midoes and Guntram B. Wolff Topic: European Macroeconomics & Governance Date: May 13, 2019
Read about event More on this topic

Upcoming Event

Jun
17
12:30

Role of national structural reforms in enhancing resilience in the Euro Area

At this event Gita Gopinath, Chief Economist at the IMF will discuss the role of national structural reforms in enhancing resilience in the Euro Area

Speakers: Maria Demertzis, Gita Gopinath and Guntram B. Wolff Topic: European Macroeconomics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels
Read article More by this author

Blog Post

Spitzenkandidaten visions for the future of Europe's economy

What are the different political visions for the future of Europe’s economy? Bruegel and the Financial Times organised a debate series with lead candidates from six political parties in the run-up to the 2019 European elections.

By: Giuseppe Porcaro Topic: European Macroeconomics & Governance, Global Economics & Governance, Innovation & Competition Policy Date: May 8, 2019
Read article More on this topic More by this author

Opinion

When facts change, change the pact

“When facts change, I change my mind,” John Maynard Keynes famously said. With long-term interest rates currently near zero, the European Union should reform its fiscal framework to allow member states to increase their debt-financed public investments.

By: Jean Pisani-Ferry Topic: European Macroeconomics & Governance Date: May 1, 2019
Read article More on this topic More by this author

Blog Post

EU enlargement 15th anniversary: Upward steps on the income ladder

Since their accession to the EU 15 years ago, the incomes of most central Europeans have increased faster than the incomes of longer-standing members and, thereby, they moved upwards in the EU distribution of income. Yet the very poorest people have not progressed in some countries.

By: Zsolt Darvas Topic: European Macroeconomics & Governance Date: April 30, 2019
Read article Download PDF More on this topic

Working Paper

What drives national implementation of EU policy recommendations?

The authors use a newly-compiled dataset to investigate whether and why European Union countries implement the economic policy recommendations they receive from the EU.

By: Konstantinos Efstathiou and Guntram B. Wolff Topic: European Macroeconomics & Governance Date: April 25, 2019
Read article Download PDF More by this author

External Publication

European Parliament

Taking stock of the Single Resolution Board: Banking union scrutiny

The Single Resolution Board (SRB) has had a somewhat difficult start but has been able to learn and adapt, and has gained stature following its first bank resolution decisions in 2017-18. It must continue to build up its capabilities, even as the European Union’s banking union and its policy regime for unviable banks continue to develop.

By: Nicolas Véron Topic: European Macroeconomics & Governance, European Parliament, Testimonies Date: April 18, 2019
Load more posts