The International

The International

• The International

• Monetary System

• and the Balance

• of Payments

Discuss the role of the international monetary system in promoting international trade and investment

• Discuss the role of the international monetary system in promoting international trade and investment

• Explain the evolution and functioning of the gold standard

• Summarize the role of the World Bank Group and the International Monetary Fund in the post-World War II international monetary system established at Bretton Woods

Explain the evolution of the flexible exchange rate system

• Explain the evolution of the flexible exchange rate system

• Describe the function and structure of the balance of payments accounting system

• Differentiate among the various definitions of a balance of payments surplus and deficit

The international monetary system

• The international monetary system

• establishes the rules by which

• countries value and exchange their

• currencies and provides a mechanism for

• correcting imbalances between a

• country’s international payments and

• receipts.

The Balance of Payments (BOP)

• The Balance of Payments (BOP)

• Accounting System records

• international transactions and

• supplies vital information about the

• health of a national economy and

• likely changes in its fiscal and

• monetary policies.

The Gold Standard

• The Gold Standard

• The Sterling-Gold Standard

• The Collapse of the Gold Standard

• The Bretton Woods Era

• The End of the Bretton Woods Era

Countries agree to buy or sell their

• Countries agree to buy or sell their

• paper currencies in exchange for gold

• on the request of any individual or firm

• and to allow the free export of gold

• bullion and coins.

British pound sterling was the most important currency from 1821 to 1918.

• British pound sterling was the most important currency from 1821 to 1918.

• Most firms would accept either gold or British pounds.

Economic pressures of WWI

• Economic pressures of WWI

• Countries suspended pledges to buy or sell gold at currencies’ par values

• Gold standard readopted in 1920s

• Dropped during Great Depression

• British pound allowed to float in 1931

• Float: value determined by supply and demand

44 countries met in Bretton Woods, New Hampshire, in 1944

• 44 countries met in Bretton Woods, New Hampshire, in 1944

• Goal: to create a postwar economic environment to promote worldwide peace and prosperity

• Renewed gold standard on modified basis (dollar-based)

• Created International Bank for Reconstruction and Development and International Monetary Fund

Goal 1: to help finance reconstruction of European economies

• Goal 1: to help finance reconstruction of European economies

• Accomplished in mid-1950s

• Goal 2: to build economies of the world’s developing countries

To promote international monetary cooperation

• To promote international monetary cooperation

• To facilitate the expansion and balanced growth of international trade

• To promote exchange stability, to maintain orderly exchange arrangements among members, and to avoid competitive exchange depreciation

• To assist in the establishment of a multilateral system of payments

To give confidence to members by making the general resources of the IMF temporarily available to them and to correct maladjustments in their balances of payments

• To give confidence to members by making the general resources of the IMF temporarily available to them and to correct maladjustments in their balances of payments

• To shorten the duration and lessen the degree of disequilibrium in the international balances of payments of members

Open to any country willing to agree to rules and regulations

• Open to any country willing to agree to rules and regulations

• 185 member countries as of 2008

• Membership requires payment of a quota

Countries agreed to peg the value of currencies to gold

• Countries agreed to peg the value of currencies to gold

• U.S. $ keystone of system

• Fixed exchange rate system

• Adjustable peg

• Functioned well in times of economic prosperity

Susceptible to speculative “runs on the bank”

• Susceptible to speculative “runs on the bank”

• U.S. $ became only source of liquidity necessary to expand international trade

• People questioned the ability of U.S. to meet obligations (Triffin Paradox)

• IMF created special drawing rights (SDRs) – paper gold

• Bretton Woods system ended August 15, 1971

Most currencies began to float

• Most currencies began to float

• Value of U.S. $ fell relative to most major currencies

• Group of Ten agreed to restore fixed exchange rate system with restructured rates of exchange

Development of floating exchange rate system

• Development of floating exchange rate system

• Supply and demand for a currency determine its price in the world market
• Managed float – central banks can affect supply and demand

• Legitimized in 1976 with the Jamaica Agreement

Believed flexible system would hinder ability to create integrated economy

• Believed flexible system would hinder ability to create integrated economy

• Created European Monetary System to manage currency relationships

• ERM participants maintained fixed exchange rates among their currencies

• Facilitated creation and adoption of euro

OPEC quadrupled world oil prices

• OPEC quadrupled world oil prices

• Resulted in inflationary pressures in oil-importing countries
• Exchange rates adjusted
• Transfer of wealth

• Countries borrowed more than they could repay

The BOP accounting system is a

• The BOP accounting system is a

• double-entry bookkeeping system

• designed to measure and record all

• economic transactions between

• residents of one country and residents of

• all other countries during a particular

• time period.

Measures and records all economic transactions between residents of one country and residents of all other countries during specified time period

• Measures and records all economic transactions between residents of one country and residents of all other countries during specified time period

• Provides understanding of performance of each country’s economy in international markets

• Signals fundamental changes in country competitiveness

• Assists policy makers in designing appropriate public policies

Records international transactions made in some time period

• Records international transactions made in some time period

• Records only economic transactions

• Records transactions between residents of one country and all other countries

• Residents include individuals, businesses, government agencies, nonprofit organizations

• Uses a double-entry system

Exports and imports of goods

• Exports and imports of goods

• Exports and imports of services

• Investment income

• Gifts

Records level of official reserves

• Records level of official reserves

• Four types of assets

• Gold
• Convertible currencies
• SDRs
• Reserve positions at the IMF

BOP must balance

• BOP must balance

• Current Account + Capital Account + Official Reserves Account = 0

• Current Account + Capital Account + Official Reserves Account + Errors and Omissions = 0

Official Settlements Balance reflects changes in a country’s official reserves; essentially, it records the net impact of the Central Bank’s intervention in the foreign-exchange market in support of the local currency

• Official Settlements Balance reflects changes in a country’s official reserves; essentially, it records the net impact of the Central Bank’s intervention in the foreign-exchange market in support of the local currency