You are on page 1of 18
International Political Economy #10 The Pre-WWII Monetary System William Kindred Winecoff Indiana University at Bloomington October

International Political Economy #10

The Pre-WWII Monetary System

William Kindred Winecoff

Indiana University at Bloomington

October 3, 2013

International Political Economy #10 The Pre-WWII Monetary System William Kindred Winecoff Indiana University at Bloomington October
The Exam Not great: mean and median of about 21 / 30 = 70 % .

The Exam

Not great: mean and median of about 21/30 = 70%.

The Exam Not great: mean and median of about 21 / 30 = 70 % .
The Gold Standard Local currencies (e.g. British £, U.S. $) were valued in gold weight. Pros:

The Gold Standard

Local currencies (e.g. British £, U.S. $) were valued in gold weight.

Pros: price stability across countries reduced uncertainty and facilitated

trade.

Cons: governments had no flexibility to adjust to economic booms and

bust via monetary policy. (More next week.)

The Gold Standard Local currencies (e.g. British £, U.S. $) were valued in gold weight. Pros:
The Gold Standard The idea is to guarantee political and economic stability at the same time:

The Gold Standard

The idea is to guarantee political and economic stability at the same

time:

Restrain governments (many of which weren’t constitutional

democracies).

Restrain speculators (esp bankers).

Facilitate trade by reducing information gaps.

All of these could be achieved, it was thought, with a gold standard.

It worked for awhile.

The Gold Standard The idea is to guarantee political and economic stability at the same time:
The Problem A good government doesn’t need a gold standard; a bad government won’t maintain it.

The Problem

A good government doesn’t need a gold standard; a bad government

won’t maintain it.

Political change put pressure on the gold standard.

Once one country “defects” it is good for others to defect.

If investors think a government will devalue, it will try to take gold out

of the country.

The Problem A good government doesn’t need a gold standard; a bad government won’t maintain it.
The Monetary Dilemma Country 1 Country 2 Stay on Gold Defect Stay on Gold 2 0

The Monetary Dilemma

Country

1

Country

  • 2 Stay on Gold

Defect

Stay on Gold

  • 2 0

  • 2 3

Defect

  • 3 1

  • 0 1

The Monetary Dilemma Country 1 Country 2 Stay on Gold Defect Stay on Gold 2 0
The Reason Capitalist economies periodically overheat, then slow down. Economic networks sometimes need to become rearranged.

The Reason

Capitalist economies periodically overheat, then slow down.

Economic networks sometimes need to become rearranged.

This is a very messy process.

If government is authoritarian, it can ride it out by suppressing its

citizens.

If government is democratic, voters will demand help.

The Reason Capitalist economies periodically overheat, then slow down. Economic networks sometimes need to become rearranged.
The Output Formula GDP = C + I + G + ( X − M )

The Output Formula

GDP = C + I + G + (X M).

GDP is Gross Domestic Product, the sum of a country’s

yearly output.

  • C is private Consumption.

  • I is Investment.

G is Government consumption.

  • X is eXports; M is iMports.

Thus, the trade balance is linked to output.

The Output Formula GDP = C + I + G + ( X − M )
Thinking About Recessions GDP = C + I + G + ( X − M )

Thinking About Recessions

GDP = C + I + G + (X M).

A recession means GDP drops.

If GDP goes down, what else must happen?

Thinking About Recessions GDP = C + I + G + ( X − M )
Thinking About Recessions GDP = C + I + G + ( X − M )

Thinking About Recessions

GDP = C + I + G + (X M).

A recession means GDP drops.

If GDP goes down, what else must happen?

At least one of:

C could go down, via lower wages.

I could go down, if folks are scared of the future.

G could go down, if the government keeps a balanced budget.

(X M) could go down.

Thinking About Recessions GDP = C + I + G + ( X − M )
The Problem Recessions imply a need for adjustment. Some way to bring the economy back into

The Problem

Recessions imply a need for adjustment. Some way to bring the

economy back into balance.

Specifically, some kind of devaluation.

Internal: drop in domestic prices, including wages.

If wages are “sticky” (and they are) this could end up as

unemployment.

External: drop in the domestic price level.

Can boost employment by boosting X.

The Problem Recessions imply a need for adjustment. Some way to bring the economy back into
Beggar Thy Neighbor The problem is that devaluation is zero-sum: one country gains in competitiveness, the

Beggar Thy Neighbor

The problem is that devaluation is zero-sum: one country gains in

competitiveness, the other loses.

During a global recession this can just make things worse.

On a gold standard it is supposed to be out of bounds.

William Jennings Bryan (1896): “you shall not crucify mankind on a

cross of gold.”

Barry Eichengreen: “Golden Fetters”.

Faced with a recession, the gold standard is unsustainable in a

democratic political system.

Beggar Thy Neighbor The problem is that devaluation is zero-sum: one country gains in competitiveness, the
The Depression: Devaluations

The Depression: Devaluations

The Depression: Devaluations
The Great Crash There was no governance structure for exchange rates. There was no way to

The Great Crash

There was no governance structure for exchange rates.

There was no way to achieve cooperation.

Kindleberger: “The international economic system [was]

rendered unstable by British inability and U.S. unwillingness

to assume responsibility for stabilizing it.”

The political question is: who adjusts?

Politicians have incentives to try to force adjustment onto others.

The Great Crash There was no governance structure for exchange rates. There was no way to
The Monetary Dilemma Country 1 Country 2 Stay on Gold Defect Stay on Gold 2 0

The Monetary Dilemma

Country

1

Country

  • 2 Stay on Gold

Defect

Stay on Gold

  • 2 0

  • 2 3

Defect

  • 3 1

  • 0 1

The Monetary Dilemma Country 1 Country 2 Stay on Gold Defect Stay on Gold 2 0
Gold and Industrial Production

Gold and Industrial Production

Gold and Industrial Production
Gold and GDP

Gold and GDP

Gold and GDP
The Need for a Process National governments were constrained by the gold standard. They needed policymaking

The Need for a Process

National governments were constrained by the gold standard.

They needed policymaking flexibility to appease domestic citizens.

Abandoning the gold standard helped ...

...

but then how are we to a stable trade and monetary system?

The Need for a Process National governments were constrained by the gold standard. They needed policymaking