The ERM system of a generation ago was in one important r...

The ERM system of a generation ago was in one important respect vastly superior to the Euro mechanism. THE ERM system had a fiscal backstop that the Euro mechanism lacked, and Europe today is much the poorer for it: Giancarlo Corsetti, Barry Eichengreen, and Galina Hale: The Euro Crisis in the Mirror of the EMS: How Tying Odysseus to the Mast Avoided the Sirens but Led Him to Charybdis: "What explains the longer and deeper downturn after 2009?.... Six lessons of the ERM-euro crisis comparison...

....The negative feedback between bank balance sheets and sovereign balance sheets was critical starting in 2009-10.... The required relative price adjustment was greater in 2010 because the current account reversal was larger..... Relative price adjustment... was more difficult to achieve in 2010. Individual euro-area countries no longer had their own exchange rate.... Government debts and deficits were lower in 1992-3, leaving more room for supportive fiscal policy.... To the extent that domestic cost and price reductions lagged in 2009-10, the required compression of current account deficits could only occur through reductions in imports, brought about by public spending cuts by governments and deleveraging by households.... Central banks of countries experiencing these problems in 1992-3 could cut interest rates to support domestic demand and prevent balance-sheet problems from spiraling out of control.... In 2009-10, in contrast, policy rates were set by the ECB in light of euro-area-wide conditions.... The same policy rate translated into very different borrowing costs for firms and governments of different countries as their credit worthiness diverged.... Managing large shocks requires a credible backstop for banks and sovereign debt markets. This backstop is required to prevent the endogenous amplification of shocks. A backstop was available during the ERM crisis but not the euro crisis. The goal of euro-area reform now should be to provide one...

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