International Gold Standard

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International Gold Standard [1821 to 1944]
Julian Hoyle Kittanun Li XueZhu HO Lap Hei Tang Cheur Kin, Anto John Wark Paula Zalba Guy Rene Kayombuya

Macroeconomic Goals
• Governments and central banks strive for multiple macroeconomic goals
– Long term growth – Price stability – Full employment

History of Money
• Barter system • Hard currencies
– Clipping

• Bimetallism • Fiat Money

The Gold Standard 1821-1914
• Fixed exchange rate
– Core countries vs. periphery countries
Country Great Britain Germany Sweden, Norway and Den ma rk France, Be lgiu m, Switze rland, Italy and Greece Netherlands Uruguay USA Austria Chile Japan Russia Do min ican Republic Panama Mexico Year 1816 1871 1873 1874 1875 1876 1879 1892 1895 1897 1898 1901 1904 1905

Adjustment Mechanisms
• Balance of Payment adjustments
– Price Specie Flow Mechanism
Fall in prices in the USA Uchanged prices abroad

Surplus in the US balanceIncrease in US exports, fall in US imports of-payments, accompanied by net gold inflow fro m abroad Increase in the supply of money in the USA Increase in the US prices Increase in foreign exports, fall in imports Fall in the foreign supply of money Fall in foreign prices

Fall in US expo rts, increase in US imports

Balance-of-pay ments equilibriu m No more gold flow

Increase in foreign exports, fall in foreign imports

Interest Rates
• If a country was running a BOP deficit, the central bank would allow a gold outflow until its price level was restored to par • To do this, central banks would raise the interest rate to start a gold inflow, and lower the rate to facilitate a gold outflow • A rise in interest rates lowers domestic investment expenditure • Opposite is true for a decrease in the interest rate • The reduction in investment expenditure would cause a reduction in overall domestic spending and a fall in the price level • Due to the opportunity cost of expenditure and cost of financing

Capital Mobility
• The rise in the bank rate would slow any shortterm capital outflow, but would attract shortterm funds from abroad
– Due to the attractiveness of high interest rates to investors

• For example, whenever Great Britain faced a BOP deficit and the Bank of England saw its gold reserves declining, it raised its bank rate
– Which then caused a chain reaction involving international trade

International Trade
• The gold standard unleashed an era of remarkable capital flows, contributing to global trade, growth and significant global economic development • The gold standard increased trade between countries by nearly 60% during the period of 1870 to 1910

• Unemployment was low, as this was a period of economic growth and high levels of international trade, with free flow of labor and capital across countries
• Political environment was stable, as countries engaged in international trading, “globalization”

• Inflation was kept at very low levels, as prices and exchange rates were stable

WWI Begins
• Inflationary policies (extreme printing of money) to finance the war as well as reparation payments lead to hyperinflation in Europe
– German’s price index went from a level of 262 in January 1919 to a shocking 126,160,000,000 in December 1923 (factor of 481.5 billion) – Nazism

• Unemployment rises, specially for countries with deficits, as wages and prices were less flexible and government intervention was limited • Political instability • “Rules of the game” deemed unacceptably restrictive • Exchange rates fluctuated as countries tried to depreciate their currencies through government intervention to gain advantage in the world export market

After WWI
Genoa conference of 1922: Attempt to restore the Gold Standard – plan that different institutionally from the Classical Gold Standard is put together • New Gold Standard led by the US, not Britain • Dollars would be redeemable into gold coins • All other currencies would adopt a “gold bullion”
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