Page 192 - Encyclopedia Of World History Vol III

international monetary systems 1011

Nations have recently been led to borrow billions for war; no nation
has ever borrowed largely for education. Probably, no nation is rich
enough to pay for both war and civilization.We must make our choice;
we cannot have both. • Abraham Flexner (1856–1959)

guinea at twenty-one silver shillings, a mint price of 3 The Twentieth Century
pounds, 17 shillings, 10.5 pence per ounce of gold and Beyond
(fifteen-sixteenths fine) that was maintained until 1939. World War I disrupted the gold standard, and was fol-
Newton overvalued gold and undervalued silver, so, in lowed by spectacular hyperinflations and exchange
keeping with Gresham’s Law that bad money drives out depreciations in Central and Eastern Europe, with the
good, only gold coins circulated, while silver coins were German mark stabilized in 1924 at one trillionth of its
melted down into bullion. In 1752, David Hume prewar gold value. John Maynard Keynes presciently crit-
expounded the theory of the specie-flow mechanism icized Britain’s return to the gold standard at the prewar
underlying the gold standard: If international trade and parity in 1925, warning that the deflation of prices and
payments were unbalanced, gold bullion would flow wages required to remain internationally competitive at
from the country with a trade deficit to the one with a a higher exchange rate would exacerbate unemploy-
trade surplus, reducing the money supply and price ment. Following the Wall Street crash of 1929, the fixed
level in the deficit country and increasing the money exchange rates of the gold standard transmitted deflation
supply and price level in the surplus country.The chang- and depression from country to country, with Britain
ing relative price levels would reduce the net exports of forced off the gold standard in 1931 and the United
the surplus country and raise those of the deficit coun- States devaluing and ending gold conversion of the dol-
try until the balance of payments surpluses and deficits lar in 1933. The Great Depression of the 1930s was a
were restored to zero. Bank notes were convertible into period of fluctuating exchange rates, protectionist tariffs,
coin on demand, and coin or bullion was used for restrictions on capital flows, and shrinking world trade,
international settlements, with a bank raising its dis- a retreat from globalization.
count rate when a gold outflow threatened the adequacy At the end of World War II, the international monetary
of its reserves. By the nineteenth century, the City of conference at Bretton Woods, New Hampshire, guided
London was established as the world center of finance by Lord Keynes and Harry Dexter White, devised a sys-
and commerce, and the Bank of England as the key insti- tem of fixed exchange rates, adjustable in case of funda-
tution of the gold standard. mental payment imbalances, with an International Mon-
The conversion of Bank of England notes was sus- etary Fund (IMF) to lend foreign exchange, and with the
pended from 1797 to 1821, and the British government U.S. dollar as the key reserve currency. The dollar was
paid for its role in the Napoleonic Wars through infla- pegged to gold at $35 per ounce, but only other central
tionary finance, with large increases in national debt stock banks could present dollars to the Federal Reserve for
in the hands of the public and of the Bank of England, redemption in gold. IMF lending, being conditional on
depreciation of inconvertible Bank of England notes following policy advice designed to end payment deficits,
against gold, and a higher price level. Restoration of con- caused friction between borrowing governments and the
vertibility at the old parity required a sharp deflation, but IMF. Although a few nations floated their currencies
was followed by nearly a century of growing world trade (notably Canada from 1950 to 1962), the pound sterling
and largely stable exchange rates (although the United was devalued in 1949 and 1967, and centrally planned
States was on an inconvertible “greenback” paper stan- economies such as the USSR and China stood apart, the
dard from the Civil War until the start of 1879). The Bretton Woods system provided a stable framework for
Latin Monetary Union, a pioneering French-led effort at expanding global trade and investment flows from 1945
European monetary unification begun in 1865, linked the to 1973. Persistent U.S. balance of payments deficits un-
French, Italian, Belgian, Swiss, Spanish, and Greek cur- dermined the Bretton Woods system, which was followed
rencies to a bimetallic standard, but foundered in the face by a period of exchange rate instability. The Exchange
of British and German opposition and the shifting rela- Rate Mechanism, designed to stabilize exchange rates
tive price of gold and silver. among European currencies, collapsed under speculative