3. 5-3
Learning Objectives
• Explain the functioning of the gold standard
• Describe the purposes of the IMF
• Appreciate the accomplishments of Bretton
Woods system and the ensuing developments
shaping the world monetary system
• Describe the purpose of the World Banks
• Discuss the purpose of the Bank for
International Settlements
4. 5-4
Learning Objectives
• Discuss the floating exchange rate
system
• Describe the development of the euro
• Explain the role of the Balance of
Payments (BOP)
• Discuss the major BOP accounts
• Explain the use of Special Drawing
Rights (SDRs)
5. 5-5
Gold Standard
• Gold Standard
– The use of gold at an established number of
units per currency
• Bretton Woods
– The New Hampshire town where treasury
and central bank representatives met near
the end of World War II to establish the IMF,
the World Bank, and the gold exchange
standard
6. 5-6
International Monetary Fund
• International Monetary Fund (IMF)
– Institution that coordinates multilateral
monetary rules and their enforcement
• Triffin paradox
– The concept that a national currency that is
also a reserve currency will eventually run a
deficit, which eventually inspires a lack of
confidence in the reserve currency and
leads to a financial crisis.
7. 5-7
World Bank
• World Bank
– Institution that focuses on funding of
development projects
• Bank for International Settlements
– Institution that is the central bank for central
bankers
8. 5-8
Currency Exchange Rate Systems
• Fixed currency exchange rates
– Rates that governments agree on and undertake to
maintain
• Floating currency exchanges rates
– Rates that are allowed to float against other
currencies and are determined by market forces
• Jamaica Agreement
– The 1976 IMF agreement that allows flexible
exchange rates among members
9. 5-9
Current Currency Exchange Rate
Arrangements
• Exchange arrangements with no
separate legal tender
• Currency board arrangements
• Other conventional fixed peg
arrangements
• Pegged exchange rates within horizontal
bands
10. 5-10
Current Currency Exchange Rate
Arrangements
• Crawling pegs
• Exchange rates within crawling bands
• Managed floating with no preannounced
path for the exchange rate
• Independently floating exchange rates
11. 5-11
Euro
• Currency of the European Union (started
on January 1, 2002)
• 12 EU members have joined the
European Monetary Union (Austria,
Belgium, Finland, France, Germany,
Greece, Ireland, Italy, Luxemburg, the
Netherlands, Portugal, Spain)
• The U.K. and Switzerland maintain their
currencies. Yet they accept euro in
transactions within their countries
12. 5-12
BOP Accounts
Table 5.1
• Current account
– Records a country’s exports and imports in
goods and services
• Goods or merchandise account
• Services account
• Unilateral transfers
13. 5-13
BOP Accounts
• Capital account
– Records the net changes in a nation’s international
financial assets and liabilities
• Direct investments
• Portfolio Investments
• Short-term capital flows
• Official Reserves account
– Records the assets held by the government; gold,
foreign currencies, and accounts in foreign banks; a
balance of the country’s foreign currency
15. 5-15
Special Drawing Rights
• Special Drawing Rights (SDR)
– An international reserve asset established by the
IMF (1970)
– The unit of account for the IMF and other
international organizations
– SDR value based on a basket of 5 currencies: US$
(45%), Euro (29%), Yen (15%), and pound sterling
(11%)
– SDR is more stable than any other currencies such
that it is used in international transactions
