International Monetary system and its stages.pptx

The International Monetary System constitutes an integrated set of money flows and related governance institutions that establish the quantities of money, the means of supporting currency requirements and the basis for exchange among currencies in order to meet payments obligations within and across countries.

1. International Monetary System Dr. KAVITHAMANI R Assistant Professor PG & Research Department o f International Business Sri Ramakrishna College of Arts & Science Coimbatore - 641 006 Tamil Nadu, India 1 International Financial Management

2. The international monetary system refers to the operating system of the financial environment, which consists of financial institutions, multinational corporations, and investors. The international monetary system provides the institutional framework for determining the rules and procedures for international payments, determination of exchange rates, and movement of capital. International Monetary Systems Sri Ramakrishna College of Arts & Science

3. Sri Ramakrishna College of Arts & Science Stages of Evolution of International Monetary Systems The era of bimetallism Gold standard Gold exchange standard Flexible exchange rate regime

4. Before 1870, the international monetary system consisted of bimetallism, where both gold and silver coins were used as the international modes of payment. The exchange rates among currencies were determined by their gold or silver contents. Some countries were either on a gold or a silver standard. Sri Ramakrishna College of Arts & Science 1. The Era of Bimetallism

5. The international gold standard prevailed from 1875 to 1914. In a Gold standard system, gold alone is assured of unrestricted coinage. There was a two-way convertibility between gold and national currencies at a stable ratio. No restrictions were in place for the export and import of gold. The exchange rate between two currencies was determined by their gold content. The gold standard ended in 1914 during World War I. Great Britain, France, Germany, and many other countries imposed embargoes on gold exports and suspended redemption of bank notes in gold. Sri Ramakrishna College of Arts & Science 2 . Gold standard

6. The interwar period was between World War I and World War II (1915-1944). During this period the United States replaced Britain as the dominant financial power of the world. The United States returned to a gold standard in 1919. During the intermittent period, many countries followed a policy of sterilization of gold by matching inflows and outflows of gold with changes in domestic money and credit. Sri Ramakrishna College of Arts & Science

7. Sri Ramakrishna College of Arts & Science 3 . Gold exchange standard The Bretton Woods System was established after World War II and was in existence during the period 1945-1972. In 1944, representatives of 44 nations met at Bretton Woods, New Hampshire, and designed a new postwar   international monetary system . This system advocated the adoption of an exchange standard that included both gold and foreign exchanges. Under this system, each country established a par value in relation to the US dollar, which was pegged to gold at $35 per ounce. Under this system, the reserve currency country would aim to run a balance of payments (BOPs) deficit to supply reserves. If such deficits turned out to be very large then the reserve currency itself would witness crisis. This condition was often coined the Triffin paradox.

8. Eventually in the early 1970s, the gold exchange standard system collapsed because of these reasons. From 1950 onward, the United States started facing trade deficit problems. With development of the euro markets, there was a huge outflow of dollars. The US government took several dollar defense measures, including the imposition of the Interest Equalization Tax (IET) on US purchases of foreign stock to prevent the outflow of dollars. The international monetary fund created a new reserve asset called special drawing rights (SDRs) to ease the pressure on the dollar, which was the central reserve currency. Sri Ramakrishna College of Arts & Science

9. Initially , the SDR were modeled to be the weighted average of 16 currencies of such countries whose shares in the world exports were more than 1%. In 1981, the SDR were restructured to constitute only five major currencies: the US dollar, German mark, Japanese yen, British pound, and French franc. The SDR were also being used as a denomination currency for international transactions. But the dollar-based gold exchange standard could not be sustained in the context of rising inflation and monetary expansion. In 1971 the Smithsonian Agreement signed by the Group of Ten major countries made changes to the gold exchange standard. The price of gold was raised to $38 per ounce. Other countries revalued their currency by up to 10%. The band for exchange rate fluctuation was increased to 2.25% from 1%. But the Smithsonian agreement also proved to be ineffective and the Bretton Woods System collapsed. Sri Ramakrishna College of Arts & Science

10. European and Japanese currencies became free-floating currencies in 1973. The flexible exchange rate regime was formally ratified in 1976 by IMF members through the Jamaica Agreement. The agreement stipulated that central banks of respective countries could intervene in the exchange markets to guard against unwarranted fluctuations. Gold was also officially abandoned as the international reserve asset. In 1985, the Plaza Accord envisaged the depreciation of the dollar against most major currencies to solve US trade deficit problems. Sri Ramakrishna College of Arts & Science 4. Flexible exchange rate regime

11. Sri Ramakrishna College of Arts & Science In general there are many flexible exchange rate systems. In a free-floating or independent-floating currency, the exchange rate is determined by the market, with foreign exchange intervention occurring only to prevent undue fluctuations. For example, Australia, the United Kingdom, Japan, and the United States have free-floating currencies.

12. In a managed-floating system , the central monetary authority of countries influences the movement of the exchange rate through active intervention in the forex market with no preannounced path for the exchange rate. Examples include China, India, Russia, and Singapore. In a fixed-peg arrangement, the country pegs its currency at a fixed rate to a major currency or to a basket of currencies. For example, many GCC ( Cooperation Council for the Arab States of the Gulf (GCC) is a regional organisation comprising of six members: The Kingdom of Bahrain, the State of Kuwait, the Sultanate of Oman, the State of Qatar, the Kingdom of Saudi Arabia and the United Arab Emirates) countries such as UAE and Saudi Arabia have pegged their curre ncies to the US dollar . Sri Ramakrishna College of Arts & Science