Monetary Unions and Hard Pegs: Effects on Trade, Financial Development, and Stability

Monetary Unions and Hard Pegs: Effects on Trade, Financial Development, and Stability

Monetary Unions and Hard Pegs: Effects on Trade, Financial Development, and Stability

Monetary Unions and Hard Pegs: Effects on Trade, Financial Development, and Stability


Financial services with global reach are becoming ever more important in the conduct and organization of the trade and investment of nations, and currencies that lack international standing lose out in this business. The result of financial development has been destabilizing currency andportfolio substitution -- in favour of international currencies and against local ones. This book analyses formal approaches to overcoming monetary divisions within countries and within integrating regions, focusing on the consequences of monetary union for trade among union members and their financial development and stability. The authors discuss hard pegs such as those attempted bythe currency board of Argentina, outright dollarization, such as in Ecuador, and multilateral monetary union, as in Europe, the least reversible form of monetary union and the most powerful elixir of financial integration and trade. The political classes and central banks in most countries have been reluctant to admit the market- and technology-driven forces of currency consolidation, much less yield to them. International financial institutions too are still in the habit of proffering advice about national monetary andexchange-rate policies on the assumption that getting rid of both is not even an option. Emerging-market countries, in particular, have to choose between retaining what independent monetary means they still have -- and can safely use in the presence of widespread liability dollarization and currencymismatches -- and formally replacing the domestic with an international currency to reduce exposure to debilitating financial crises. In concrete investigations of this choice, this volume shows that monetary union deserves a much more sympathetic hearing.


In his 1969 book, Money International, Fred Hirsch, financial editor of The Economist in the 1960s, presented a diagram entitled β€œThe Exchange Rate Pendulum, ” depicting swings in attitudes toward exchange rates over the two generations since the First World War. the swings go from fixity under the gold standard to flexibility in the immediate post-war period, to fixity with the return to normalcy in the 1920s, followed by flexibility with strains on the gold standard, deflation and competitive devaluations in the early 1930s. the pendulum then swung back to fixity after the Tripartite Agreement in 1936 and this period lasted through the Bretton Woods conference in 1944 and the early post-war period. Flexibility returned after the British devaluation in 1967 and the crisis developing in the international monetary system.

We could carry Hirsch's Pendulum forward another three decades, and find rising sentiment for flexibility with the breakdown of the Bretton Woods arrangements in 1971 and the move toward fluctuating exchange rates in 1973. But rising inflation and a falling dollar shifted the pendulum back toward fixity and stability, reflected in the formation of the European Monetary System in 1978, and Chairman Paul Volcker's shift to disinflation policies during the first Reagan term. the pendulum then swung back toward flexibility with the Plaza Accord in 1985 and the erm crisis in 1992, only to swing once again toward fixity with the advent of the euro.

The euro may represent one of the turning points in the international monetary system, although such turning points are often seen only in hindsight. We can recognize 1873 as one turning point, when the breakdown of the bimetallic system led to the creation of the gold standard. Another was the creation in 1913 of the Federal Reserve System, an event of global significance because the United States was the emerging superpower. During the First World War the dollar replaced sterling as the pre-eminent currency, and in the next two decades, the dollar displaced gold at the center of the international monetary system. Looked at in this way, the breakdown of the system in 1971 was just another episode in the history of the dollar. Before and after that breakdown the dollar was the dominant currency.

A case can be made that the advent of the euro is a genuine turning point. For the first time since the dollar replaced the pound as the dominant currency, there has been a change in the power configuration of the system. Upon its creation, the euro became the second most important currency in the world. With its successful move through the transition and its expected expansion it can become an alternative to and even rival of the dollar. Instead of a world characterized by flexible exchange rates, we have a new world of currency areas, led by the dollar, euro, and yen.

Search by... Author
Show... All Results Primary Sources Peer-reviewed


An unknown error has occurred. Please click the button below to reload the page. If the problem persists, please try again in a little while.