May 18, 2016 Reading Time: 3 minutes

There is no doubt that ordinary Greeks feel that they have been financially crushed by the foreign-creditor-mandated austerity policies in recent years. The nation’s real output has been declining for several years and the rate of decline understates the contraction of real after-tax incomes of many Greek households. Nevertheless, even a left-wing Greek government has acquiesced to the demands of foreign creditors for further government spending cuts and tax increases. Such ‘austerity’ has failed to lessen the Greek external debt problem, and many analysts anticipate that the time will come when Greek citizens and their elected politicians decide that ‘enough is enough’ and the euro will be abandoned in favor of a new Greek national currency.

While the Greek drama (or tragedy?) has been widely discussed by economists and pundits alike, other euro-zone nations have been struggling under similar circumstances. Their stories, however, have generally gone untold. Most recently, the plight of the Italian economy—and its banking system—has fallen under greater scrutiny. A data-filled column in the Telegraph reports that the shrinking economy and declining real incomes have thwarted policies to shrink Italy’s debt burden, leading almost one-half of the population to now favor the abandonment of the euro and a return to the domestically-controlled lira.

It is an all too familiar story.

When the monetary standard is relatively stable—be it a gold-based regime or a supra-national fiat currency like the euro—relative prices still increase and decrease as demands and supplies change. There seems to be something in human nature that causes people to think of rising prices of things they buy as inflation, but rising prices of things they sell (especially their labors) as “just rewards” for their talents and hard work. The mirror image—falling prices of things they buy—may be called deflation, but falling wages for their labor must be the work of the devil.

Never mind that prevailing wages in some regions of Italy are much too high to be competitive in a global market place. With no inflation, real wages cannot erode downward; if nominal wage cuts are resisted, high unemployment and out-migration of younger workers must follow. It is of little wonder that the “foreign devils” in charge of the currency are blamed. But, the economics of the situation would not be different if Italy and the rest of Europe were on a gold standard instead of a fiat-euro standard. Under past gold standards governments would simply announce that the currency had been “devalued” and a new gold-parity rate had been fixed. Because that option is not available to members of the euro, I’m sure many workers in Italy in the early 21st century see their plight much the same as farmers and workers in regions of the US in the late 19th century.

During the last quarter of the 19th century, the US money supply was limited by adherence to a gold standard, much the same as major trading partners such as the UK at the time. With the average of all prices anchored, relative prices still changed with some rising and others needing to fall. Productivity increased in some industries and regions of the country made them more competitive—justifying higher nominal wages—but less fortunate industries and regions suffered income losses as they resisted the nominal wage cuts that would have restored their relative competitiveness. The resulting economic depression—high unemployment, failed farms and other businesses—led to political demands for restoration of coinage of silver as a method of fostering more rapid growth of the nation’s money supply and resumed inflation.

The Democratic party nominated William Jennings Bryan after he deliver his stirring convention speech, concluding “You shall not press down upon the brow of labor this crown of thorns; you shall not crucify mankind upon a cross of gold.” Such words are echoed now—although less eloquently—by the orator/politicians of today in Italy who are calling for abandonment of the euro and a return to the lira. They may understand that returning to a regime of inflationary debasement of a national currency will not magically cause the productivity of Italian workers to begin to rise again, but they also understand that consequent erosion of real wages will restore competitiveness with their trading partners.

Of course, Italy would not be able seek restoration of prosperity via a depreciating domestic currency while still owing enormous amounts of euro-denominated debt to foreign creditors. Adapting a saying from past Latin American debt crises, “If you owe a small amount and cannot pay, you have a problem; if you owe a very large amount and cannot pay, your creditors have a problem.”

So far, the euro has served as a sort of ‘paper gold‘ in Greece as resistance to economic reforms has been at least partially overcome. Whether or not Italian voters and their elected leaders will follow the example is going to be tested.

Jerry L. Jordan


Jerry L. Jordan is a Senior Fellow with the Fraser Institute and an Adjunct Scholar with the Cato Institute. He was President of the Federal Reserve Bank of Cleveland, a member of President Reagan’s Council of Economic Advisors, Dean and Professor of Economics at the University of New Mexico, and Chief Economist for two commercial banks. He has also served as Sr. Vice President and Director of Research at the Federal Reserve Bank of St. Louis and as a consultant to the Deutsche Bundesbank in Frankfurt, W. Germany.

Jordan earned his Ph.D. in Economics at the University of California, Los Angeles and his B.A. in Economics at California State University, Northridge. He holds honorary doctorates from Denison University, Capital University and Universidad Francisco Marroquin.

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