Globalizing Capital: A History of the International Monetary System

It's our currency but it's your problem.

(U.S. Treasury Secretary John Connally)

Even more than the reconstruction of the gold standard in 1925 or the restoration of convertibility in 1958, the demise of the Bretton Woods international monetary system in 1973 transformed international monetary affairs. Ever since central banks and governments had been aware of the instrument that came to be known as monetary policy, the stability of the exchange rate had been the paramount goal to which it was directed. Monetary policy was used to peg the exchange rate except during exceptional and limited periods of war, reconstruction, and depression. But in 1973 policy was cut loose from these moorings, and exchange rates were allowed to float.

This transition was a consequence of the rise of international capital mobility. Throughout the Bretton Woods years, capital controls had provided some insulation from balance-of-payments pressures for governments that felt a need to direct monetary policy toward other targets. Controls offered the breathing space to organize orderly adjustments of the adjustable peg. Policymakers could contemplate changing the peg without provoking a destabilizing tidal wave of international capital flows. But the effectiveness of controls had been eroded over the years. The recovery of international financial markets and transactions from the disruptions of depression and war had been delayed, but by the 1960s it was well under way. With the reestablishment of currentaccount convertibility, it became difficult to distinguish and segregate purchases and sales of foreign currency related to transactions on current and capital accounts. Market participants found new and clever ways of circumventing barriers to international capital flows.

Stripped of this insulation, governments and central banks found the operation of pegged but adjustable exchange rates increasingly problematic. The merest hint that a country was considering a parity change could subject it to

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