Which of the following events in the history of international monetary regimes came first?
1. History of International Monetary Systems, Part 1(See handout no.2) Show Four general pointsAs we begin to discuss the history of international monetary systems in this and the next two lectures, four general features are worth emphasizing at the outset. (1) The international monetary system (how exchange rates, balance of payments and macroeconomic management are managed and adjusted globally) is part of a broader international regime. As such, it is influenced strongly by the way power is distributed and exercised in the world, as well as the presence or absence of a powerful and reliable leader country. Historical overviewFrom the 19th century to present, the major international monetary systems have evolved as follows. Gold standard, until 1914 (fixed rates under UK dominance): throughout most of the 19th century and up to 1914 (outbreak of WW1), the world was on a gold standard. Especially, the period of 1879-1913 was called the Classical Gold Standard (or International Gold Standard) because all major countries participated in it. Trade was liberalized and capital was mobile. Since the late 19th century to present, broad developments in prices and long-term interest rates were as follows. Inflation was most stable during the Bretton Woods period, with WPI inflation in major countries staying almost at zero for a few decades (particularly early 1950s to mid 1960s). The 19th century gold standard also experienced relative price stability, although long- and medium-term price swings (which were synchronous across all countries) existed. In the 1970s, inflation accelerated with different rates of price increase across countries. But since the late 1980s and up to present, high inflation subsided (except in a small number of developing and transition countries). The world faces a relative price stability again, even a deflationary trend in some countries including Japan. Long-term interest rates on government and corporate bonds were very stable during the gold standard period. But they became unstable and internationally divergent after the 1960s, especially the inflationary period of the 1970s-80s. At present, interest rates remain different across countries even though the world is financially integrated. The Classical Gold Standard, 1879-1914The 19th century was the century of British economic and military dominance. The UK adopted the gold standard in 1821, after the inflation associated with the Napoleonic Wars stabilized. But the other countries remained on bimetallism (both gold and silver were used, with a fluctuating conversion ratio between them). During the 1870s, most European countries joined the gold standard. In 1879, the US returned to the gold standard when price stability was restored after the Civil War. In this way, from 1879 until the sudden outbreak of WW1 in July 1914, all major countries in Europe and North America were on the gold standard. This meant that their economies were closely linked and operating under the same financial mechanism orchestrated by the City (London financial market). The Classical Gold Standard was truly international.This was also a period of imperialism and colonialism by the Western powers. At the same time, the latecomers (US, Germany and Japan) were rapidly catching up with the UK. As a developing country, Japan joined the gold standard somewhat later, in 1897. For details, see lecture 6 of Economic Development of Japan. Salient features of the Classical Gold Standard were as follows. (1) Goods market integration under free trade: international price linkage was strong, and the world experienced common price movements and business cycles. The law of one price (the same products bear the same price in different locations) held in many commodities, and this fact can also be confirmed by econometric studies. However, one problem was the absence of the nominal anchor (see below). This means that no country, organization or mechanism played the role of stabilizing the global price level. As a result, there was globally common price fluctuations in the medium and long run. The nominal anchorA nominal anchor is a mechanism to stabilize nominal variables, especially the general price level. More plainly, it is a mechanism to prevent inflation or deflation. This can be an informal policy rule adopted by the central bank, such as the Taylor's rule (US short-term interest rate policy responds to domestic inflation and unemployment). It can be a legally binding commitment such as inflation targeting. It may depend on the wisdom of the central banker, for example, like Mr. Alan Greenspan. Alternatively, it can be an automatic mechanism. The nominal anchor can be domestic or global. Here, we are discussing the nominal anchor for the entire world. The point is that no one ensured the price stability of the gold standard world--neither the UK government, the Bank of England, the City, nor the supply and demand of gold. Sherlock Holmes, Dr. Watson, and capital mobilitySherlock Holmes was a famous London detective in the novels written by Sir Arthur Conan Doyle (1859-1930). Dr. John Watson was his friend and assistant. In the adventure stories of Sherlock Holmes, we can find many references to foreign securities and investment. For example, the adventure entitled "The Dancing Men" (1903) begins as follows.
Apart from econometric studies, I think this can be presented as a strong evidence that Dr. Watson (and other ordinary citizens) often invested in foreign securities. Although there was no internet in the late 19th century, the trans-Atlantic cable guaranteed that the financial markets in London and New York were integrated on a real-time basis. The rules of the gameThere are two important terms associated with the gold standard. The first is the "rules of the game," and the second is the "price-species flow mechanism." The rules of the game means a set of rules of conduct, often implicit but nonetheless binding, that are expected of the participating members of a certain system. In the case of the Classical Gold Standard, the participating countries were required to observe the following rules: Gold parity. Each country must declare a fixed value ratio between gold and domestic currency. For example, 1 ounce of gold = 20.69 US dollars, 1 ounce of gold = 4.24 British pounds, and so on. This establishes the cross ratio of 1 British pound = 4.87 US dollars. Prof. Ronald McKinnon (Stanford University) spelled out the rules of the game for other international monetary systems, including the Bretton Woods system, general floating until 1985, general floating after 1985, EMS, etc. If interested, see the book in the reference section. The price-species flow mechanismHere, price means inflation or deflation. Species (true money) means gold. So this funny term really means a "mechanism linking inflation/deflation with gold flows." Through this mechanism, it was thought that the gold standard had a wonderful built-in adjustment mechanism. Even if governments did nothing, international macroeconomic adjustment would occur automatically, or so it was argued. It works like this: If a country has a current account deficit for any reason, there will be an outflow of gold. The loss of gold means less money supply, so this country will have a price deflation. After some time, its products become cheaper in the global market, so exports will rise and imports will fall. This improves the current account. In either case, there is a change in the price level that automatically offsets the initial current account imbalance. There is no need for central bank action or international policy coordination. In fact, the US did not even have a central bank until 1913! Although this mechanism is still taught today as a key feature of the gold standard, whether it really functioned like this is highly questionable. Evidence strongly suggests otherwise. The biggest problem with this explanation is its total neglect of capital mobility; it is focused on the current account and price competitiveness only. But in a financially integrated world with firmly fixed exchange rates, a tiny difference in interest rates will prompt a huge and immediate private capital flow. Moreover, the current account is just a mirror image of the capital account (with the opposite sign). Therefore, as long as the country continues to lend or borrow, there is no need for the current account to "balance." In fact, throughout the 19th century, the UK always had a current account surplus (except for a few years), which rose to as high as 8% of GNP just before WW1. The US, a young developing country with vast investment opportunities, continuously had a current-account deficit and a strong capital inflow until around 1895. Germany was constantly in surplus while Sweden was constantly in deficit, except for a few years. All this reflected each country's long-term saving-investment balance. Moreover, since private capital moved swiftly to offset any balance of payments shocks, there was no need to ship gold across the Atlantic Ocean (though some gold shipment actually occurred). The overall balance of payments (=current account + capital account) could be kept near zero instantaneously as long as capital was mobile. The interwar period, the 1920s-30sThe Classical Gold Standard was shattered by the outbreak of WW1. The system collapsed not because of an internal dilemma but because of an external violence. As soon as the fighting began in Europe, private trade and financial transactions were suspended. Gold exports were banned. As international linkage disappeared, each country started to issue bonds and print money to finance the war effort. They began to have different inflation rates. When WW1 ended, the major countries wished to restore the prewar gold standard, which seemed to offer prosperity and stability. "Return to gold" became the national and even global slogan, and it was believed that returning to gold at the prewar parities (i.e., at the previous exchange rates) was the right thing to do. A report was published, and a few important international conferences were held for this purpose (UK's Cunliffe Report, 1919; conferences in Brussels 1920, in Genoa 1922). The US returned to gold early, in 1919. The UK returned in 1925. Most other European states also returned by 1928, so it looked like the gold standard was resurrected. But this system lacked leadership and coordination, and turned out to be fragile and short-lived. As France demanded only gold for international settlements, a speculative downward pressure on the UK pound emerged. In 1931, the UK abandoned the gold standard again, and the other countries followed. In the midst of the Great Depression (1929-), countries began to form trade blocs and protected their internal markets. Global trade continued to shrink. Militarism and fascism rose. Japan returned to the gold standard in January 1930 and abandoned it in December 1931. For more details, see lecture 7 of Economic Development of Japan. Why did the attempt to restore the gold standard in the interwar period fail? First, the 1920s and 30s saw frequent recessions and banking crises (exception: the US economy was booming until 1929). It was thought that governments had first and foremost the responsibility to solve the domestic problems of bankruptcy and unemployment, rather than keeping international commitments. Inward-looking attitude became dominant. During this period, the famous British economist John Maynard Keynes argued against returning to gold (this was in 1925, before he wrote the famous General Theory in 1936). His argument was roughly as follows: At the prewar parity, the pound would be 10% overvalued against the dollar because of the inflation gap between the UK and the US since 1914. If the UK returned to gold at the old exchange rate, the tradable sector (especially the coal industry) would have to suffer severely. Eichengreen, Barry, ed, The Gold Standard in Theory and History, Methuen & Co. Ltd, 1985. Keynes, John Maynard, "The Economic Consequences of Mr. Churchill," 1925 (reprinted in his Essays in Persuasion). McKinnon, Ronald I., The Rules of the Game: International Money and Exchange Rates, MIT Press, 1996. What was the first international monetary system?The United Nations Monetary and Financial Conference was held in July 1944 at the Mount Washington Hotel in Bretton Woods, New Hampshire, where delegates from forty-four nations created a new international monetary system known as the Bretton Woods system.
What is the history of the International Monetary Fund?The IMF was established in 1944 in the aftermath of the Great Depression of the 1930s. 44 founding member countries sought to build a framework for international economic cooperation. Today, its membership embraces 190 countries, with staff drawn from 150 nations.
When was the international monetary system created?In 1944, representatives of 44 nations met at Bretton Woods, New Hampshire, and designed a new postwar international monetary system.
How did the international monetary system evolve?The international monetary system has gone through four stages in its evolution: (1) the gold standard (1880–1914); (2) the gold-exchange standard (1925–1933); (3) the Bretton Woods system (1944–1971); and (4) the Jamaica system, also known as the floating exchange rate system (1976–present)…
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