Gold Standard

& Interwars
Edi Utomo Putra - 201502329
Brenda Solis - 201509252
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 Internal Macroeconomic Policy under
Gold Standard, 1870-1914
 In gold standard, gold coins become medium of exchange,
unit of account
 Gold standard as a legal institution is from 1819
 Later in 19th century USA, German, japan and other
countries also adopted the gold standard at that time Britain
was the world leading economic power.

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 External balance Under the Gold Standard

• Under gold standard, the primary responsibility of a central

bank was to fix the exchange rate between its currency and
to maintain this official gold price the central bank needed
an adequate stock of gold reserves
• Central banks tried to avoid sharp fluctuation on the balance
of payments, the difference between the current plus capital
account balances and the balance of net non-reserve
financial flows abroad
• A country is said to be in balance of payment equilibrium
when the sum of its current and capital accounts, less the
non-reserve component of net financial flows abroad, equal
to zero, so that current plus capital account balance is
financed entirely by private international lending without
official reserve movements

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 The Price-Specie-flow Mechanism
The price–specie flow mechanism is a logical argument by
David Hume (1711–1776) against the Mercantilist idea that
a nation should strive for a positive balance of trade, or net
exports.

The argument considers the effects of international

transactions in a gold standard, a system in which gold is
the official means of international payments and each
nation’s currency is in the form of gold itself or of paper
currency fully convertible into gold.

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 The Gold Standard "Rules of the Game":
Myth and Reality
 In theory, the price-specie-flow mechanism could operate
automatically. But the reactions of central banks to gold flows
across their borders furnished another potential mechanism to
help restore balance of payments equilibrium.
 Central banks that were persistently losing gold faced the risk of
becoming unable to meet their obligations to redeem currency
notes
- They were therefore motivated to sell domestic assets when
gold was being lost, pushing domestic interest rates upward and
attracting inflows of funds from abroad

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The Gold Standard "Rules of the
Game": Myth and Reality
 Later research has shown that the supposed "rules of the
game" of the gold standard were frequently violated
before 1914. As noted, the incentives to obey the rules
applied with greater force to deficit than to surplus
countries, so in practice it was the deficit countries that
bore the burden of bringing the payments balances of all
countries into equilibrium

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 Internal Balance under the Gold
Standard

• By fixing the prices of currencies in terms of gold, the gold

standard aimed to limit monetary growth in the world
economy and thus to ensure stability in world price levels.
• In addition, the gold standard does not seem to have done
much to ensure full employment. The U.S. unemployment rate,
for example, averaged 6.8 percent between 1890 and 1913,
whereas it averaged around 5.7 percent between 1948 and 2010

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The Interwar Years 1918-1939

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 The Fleeting Return to Gold
• The United States returned to gold in 1919
• In 1922, at a conference in Genoa, Italy, a group of countries
including Britain, France, Italy, and Japan agreed on a program
calling for a general return to the gold standard and cooperation
among central banks in attaining external and internal
objectives. Realizing that gold supplies might be inadequate to
meet central banks' demands for international reserves
• The importance of an internal policy increased after World War
II as a result of the World Wide economic instability, 1918-1939.
• In 1925, Britain returned to the gold standard by pegging the
pound to gold at the prewar price
• British stagnation in the 1920s accelerated London's decline as
the world's leading financial center

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International Economic Disintegration
• As the depression continued, many countries renounced
the gold standard and allowed their currencies to float in
the foreign exchange market.
• The United States left gold in 1933 but returned in 1934,
having raised the dollar price of gold from $20.67 to $35
per ounce
• In the face of the Great Depression, most countries
resolved the choice between external and internal balance
by curtailing their trading links with the rest of the world
and eliminating, by government decree, the possibility of
any significant external imbalance.

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Goals and Structure
of the IMF
• The major discipline on monetary management was the
requirement of the Exchange rates be fixed to the dollar.

• The official price of a $35 an ounce served as a further

brake on American monetary policy, since that price
would be pushed upward if too many dollars were
created.

• Bretton Woods System was diametrically opposed to the

gold standard's subordination of monetary policy.

• The Bretton Woods System hoped to ensure that countries

would not be forced to adopt contractionary monetary
policies for balance of payments reasons in the face of an
economic downturn.

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