Introduction
The international monetary system is an arrangement of financial and monetary rules that are used by countries to coordinate their respective monetary and fiscal policies for the purpose of facilitating international monetary stability. It comprises of exchange rate regimes and the rules governing international liquidity that allow for the domestic monetary management and international balance of payments adjustment. Over the years, the international monetary system has evolved from the gold standard in the 19th century to the Bretton Woods System in the mid 20th century and then to the system of floating exchange rates in the 1970s. The current international monetary system is a system of floating exchange rates, whereby exchange rates are determined through buying and selling unlike the fixed rates that had been set previously.
Origin of the International Monetary System
Prior to the invention of money, barter was the primary method of exchange. Barter meant exchanging goods with one another, which was an unreliable way to measure the value of goods. Money was invented to facilitate this, which led to the development of the international monetary system.
The earliest known international monetary system was based on the gold standard, a system in which different countries all used gold as a measure of value, and currencies could be exchanged for gold at a fixed rate. The first successful monetary policy using the gold standard was established in 1875 by the Latin Monetary Union, which designated gold as the sole standard for member countries.
The gold standard did not last long and was replaced by the Bretton Woods System of the mid 20th century. This system was put in place by the Allied forces after the Second World War, and the goal was to promote a higher degree of economic stability and international cooperation. Countries pegged their currencies to the US dollar, which was backed by gold through the International Monetary Fund (IMF). Countries also implemented capital controls, which restricted the flow of international capital, to reduce external shocks.
From the Bretton Woods System to the System of Floating Exchange Rates
By the early 1970s, the Bretton Woods System was in decline. Growing trade imbalances, the US Dollar devaluation, and the Nixon shock (i.e. the US Government’s decision to sever the US Dollar’s link with gold in 1971) contributed to its demise. This eventually led to the creation of the system of floating exchange rates, in which exchange rates are determined by market forces rather than government intervention.
Floating exchange rates had several advantages over the Bretton Woods System. For instance, they allowed countries to follow independent monetary and fiscal policies without being bound to predetermined exchange rates. This was recognized as an important degree of freedom and control over controlling domestic inflation, unemployment, and foreign markets. Moreover, floating exchange rates allowed countries to benefit from exchange rate movements, instead of being restricted to fixed ones.
In the decades since its introduction, the system of floating exchange rates has been widely accepted and implemented. However, the system has come under scrutiny in some cases, with countries such as China facing accusations of currency manipulation. Nonetheless, the system of floating exchange rates remains widely accepted and implemented as the primary feature of international monetary systems.
Conclusion
The international monetary system has evolved from the gold standard of the 19th century to the system of floating exchange rates of the 21st century. This has been a long and difficult journey, but one that has been essential for global economic stability and international cooperation. As the international monetary system continues to evolve, it is imperative that all countries ensure that their respective monetary and fiscal policies are in line with the overall system, in order to ensure that the entire system remains robust and effective.
