Keeping inflation down in a Currency Union: A Policy for Germany but not for many more...

In this post I describe how monetary union without fiscal union creates a fertile ground for permanent exposure to the damage of asymmetric shocks. One side of this equation is that the economy not affected by the negative shock still benefits from the low interest. This in turn leads to high rates of inflation. This should be a concern for any country, as the cheap credit may stimulate a bubble. For a country like Germany, there's the added cost of loss of competitiveness. It hit me a while ago that there's a simple solution to this problem: Germany can unilaterally tax loans. By doing this it should increase the cost of borrowing back up, and it shouldn't be particularly hard to figure out what the tax rate would have to be, given the decrease in the interest rate, to leave the after tax interest rate of Germany untouched, in order to abort the bubble before it grew. This shouldn't be very hard to sell to it's neighbours, and it probably doesn't even need to be sold at all. They'll think Germans are shooting themselves in the feet. But what would be the consequences if all the member states, which were not adversely affected by a shock, decided to always behave like this and increase their credit taxes in order to guide a strategic devaluation towards serving the recovery of the most needy countries? Well the obvious result is that this would create a better tool to handle asymmetric shocks, once they've happened. However the signal to the member states would be a terrible one. It would create a selection bias, in that the eurozone would overwhelmingly attract countries which are prone to use devaluations and the accompanying export boom in order to get themselves out of trouble. In a sense all new incoming member states would have an incentive to lie, about the fact that they are laggers, when joining the euro-zone. At the same time for those countries already in, it would create a moral hazard. Why bother with meaningful reforms if we can let things go bust, knowing that the ECB and other countries will come to the rescue. So really, if this policy is to make sense it is only relevant for the national economies implementing it if they are monetarily conservative, like Germany. The argument for a coordinated effort in this direction creates all types of insurance problems and as such cannot confidently be made.