the IMS in history - gold standard and interwar instability Flashcards
why did silver dissapear from circulation?
in 1717 sir isaac newton set a too low gold price for solver causing the disappearence of silver coins from circulation
what caused the birth of the gold standard?
gold and silver were dominatnt due to their characteristics so many countries adopted bimetalism. however when sir isaac newton set a too low gold price for silver, silver disappeareed from circulation. by 1821, silver was not legal tender in britain. portugal who traded heavily with britain followed suit in 1854, as did many other countries as britain was one of the leading financial and commercial powers. network externalities meant that other countries followed suit and abandoned bimetalism. this led to an emergence of a system of fixed exchange rates called the gold standard.
what is the gold standard?
where money in circulation consisted of paper currencies, central banks of countries belonging to the gold standard committed to convert their currencies into gold at a fixed price on demand, as a result central bank kept reserves in gold for that purpose.
what are foreign exchange reserves?
FERs were held in currencies which were convertible to gold, FER could take the form of bank deposits or treasury bills and were attractive because of the interest they bore
what was the key role of the sterling?
the growing demand for convertible foreign balances was met mostly by britain, the leading power. britain had a well developed banking system, which saw a growing circulation of treasury bills and bonds. confidence in the convertability was high as it was the first country to adopt a gold standard with proven record of more than 100 years.london was the leading gold market and the bank of england operated as a lender of last resort
what is the price-specie flow model?
hume 1752 elaborated a framework which is still useful to understand how the gold standard operated.
it assumed that only gold coins circulated: payments for international trade transactions were made in gold. banks played no role in the model
explain the concepts of the price-specie flow model?
suppose the country had a trade defecit. the country experienced a gold outflow as a result. with less money in circulation internally, prices fell in the country. this improved competitiveness in the defecit country. at the same time, the surplus country would experience inflation. this would increase the demand for domestic goods in the defecit country. equillibrium will then be restored.
what is the concept of the modified version of the price- specie flow model with paper currency?
suppose britain ran a trade deficit with france, it would pay the deficit with the sterling. french merchants will ask bank of england to convert sterling into gold. they would present gold to bank of france to obtain francs. similarily, money supply in britain fell and in france increased. this would deflate britain and inflation in france. equillibrium in the balance of payments will be restored.
what was the “ rules of the game”?
transactions in gold were rare. the central banks used the discount rate as monetary policy instrument to control the money supply. the discount rate was the interest charged by the central banks to the banks to advance money that they lent to buissnesses. raising the discount rate would make credit less availiable and decrease the money supply. a central bank anticipating gold losses would raise the discount rate to decrease the money supply/price level and restore balance of payments equillibrium.
what was the central banks main objective during the gold standard?
the central banks main objective was to preserve the exchange rate stability. maintaining convertability of the currency was key to their credibility. this was possible in a historical situation where democracy was limited. a country with defecit of the balance of payments would need to raise the discount rate to prevent a gold outflow. this was deflationary which implies lower wages which was politically acceptable at the time because no parties represented the working class.
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