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Reform of the International Monetary System and Internationalization of the Renminbi Downloaded from www.worldscientific.com
by NATIONAL UNIVERSITY OF SINGAPORE on 10/25/17. For personal use only.
b2181
Reform of the International Monetary System and Internationalization of the Renminbi
Chapter 2
The Gold-exchange Standard
The gold-exchange standard was an alternative to the gold standard
adopted after a failed post-World War I attempt to return to the pre-war
gold standard. It lasted less than a decade, from the 1920s through 1933.
2.1 Origin of the Gold-exchange Standard
During World War I, exchange rates were extremely volatile, making it
almost impossible to conduct international trade and foreign payments.
After the war, rebuilding of the international monetary system became
urgent. However, as gold supply was insufficient to meet increasing
demand that resulted from economic expansion, it was impossible to
return to the pre-war gold standard. On April 10, 1922, 29 countries1 —
including Britain, France, Italy, Belgium, Japan, and the Soviet Union —
held an international monetary and financial conference in Genoa, Italy on
the rebuilding of the international monetary system. The Genoa Conference
was also the world’s first international economic conference. To narrow
the gap between gold supply and economic growth, the conference proposed the adoption of an international monetary system that would not use
gold directly, i.e., the gold-exchange standard.
1
The United States sent officials as observers to the conference.
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Reform of the International Monetary System and Internationalization of the Renminbi
Reform of the International Monetary System
Reform of the International Monetary System and Internationalization of the Renminbi Downloaded from www.worldscientific.com
by NATIONAL UNIVERSITY OF SINGAPORE on 10/25/17. For personal use only.
2.2 Characteristics of the Gold-exchange Standard
Gold-exchange standard is also called “virtual gold standard”. It was obviously a virtualized copy of the post-World War I gold standard, by actually
encompassing two types of monetary systems — the gold-bullion standard
and the gold-exchange standard. Because a bigger number of countries
adopted gold-exchange standard after the Genoa Conference, the international monetary system during the period was named accordingly. Germany
was the first country to use the gold-exchange standard in 1924. Around
30 countries, including Austria, Italy, and Denmark, also introduced the
standard later. Britain and France adopted the gold-bullion standard in 1925
and 1928, respectively, while the United States continued to use the gold specie
standard. The gold-exchange standard thus came into being in the 1920s.
The gold-exchange standard was essentially a form of the gold standard with conditions attached. This standard had four main characteristics:
first, gold still served as the foundation for the international monetary
system. Countries were still required to set a certain proportion of gold to
back up its paper currencies, which acted as means of payment and settlement that had been previously handled by gold. Second, bank notes were
pegged to gold in two ways: either directly linking a country’s currency
with gold, or indirectly, linking its currency to a gold-linked currency. In
both ways, the national currencies directly or indirectly achieved a fixedparity rate with gold. Third, when indirectly linked, a country could only
obtain gold by purchasing a directly-linked currency (foreign exchange).
To maintain the exchange rate, it needed to deposit a certain amount of
foreign exchange and gold as the stabilization fund in the country whose
currency was directly linked to gold. Finally, gold or gold coins were not
in circulation domestically, and gold could only be used as an instrument
of international payment as the last resort in the case of disequilibrium to
maintain exchange rate stability.
Although it still used gold as the basis for issuing currency, the goldexchange standard was different from the gold standard in several ways.
First, although gold’s position as the basis for issuing bank notes did not
change, its functions were weakened and bank notes were no longer
redeemable for gold freely. For example, to purchase gold from the Bank
of England, a single transaction had to be four hundred ounces of gold or
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Reform of the International Monetary System and Internationalization of the Renminbi
Reform of the International Monetary System and Internationalization of the Renminbi Downloaded from www.worldscientific.com
by NATIONAL UNIVERSITY OF SINGAPORE on 10/25/17. For personal use only.
The Gold-exchange Standard
13
above. In countries using the gold-exchange standard, domestic currency
could not be exchanged for gold and could only be exchanged for the currencies of countries using the gold-bullion standard. These conditions
limited purchase of gold from central banks. Second, the number of currencies functioning as international currencies increased. Under the gold
standard, only gold and the British pound sterling were international currencies. Under the gold-exchange standard, countries with currencies
directly linked to gold included not only Britain but also the United States
and France. The dollar and franc, thus, also functioned as international
currencies. Third, the position of British pound sterling in the international monetary system declined. After World War I, the inflation rate of
Britain was much higher than that of the United States. However, to maintain the pound’s status, the British government kept the exchange rate
fixed at the pre-war rate of US$ 4.86 to GBP 1. This evaluation of pound
sterling was obviously too high which made people unwilling to hold it.
The position of pound sterling in the international monetary system was
thus weakened.
2.3 Breakdown of the Gold-exchange Standard
The gold-exchange standard established after World War I was, in fact, a
variant of the pre-war gold standard and did not break new ground.
Moreover, compared with its role in the pre-war gold standard, the role of
gold as the basis for issuing currency was weakened under either the goldbullion standard or the gold-exchange standard. Consequently, the goldexchange standard was unstable.
After functioning only for a short period of operation time, the fragile
gold-exchange standard eventually collapsed under the impact of the
Great Depression from 1929 to 1933. The outbreak of the depression in
the 1930s initially manifested itself in an increase in “bank runs”. Banks
around the world faced great pressure, when people rushed to banks to
convert their bank notes into gold. On September 21, 1931, Britain was
forced to announce that it would abolish the gold-bullion standard in order
to stave off the rush to convert currency into gold. Then, other countries
using the British pound sterling also abandoned the gold-exchange
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Reform of the International Monetary System and Internationalization of the Renminbi Downloaded from www.worldscientific.com
by NATIONAL UNIVERSITY OF SINGAPORE on 10/25/17. For personal use only.
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Reform of the International Monetary System and Internationalization of the Renminbi
Reform of the International Monetary System
standard. In 1933, when the dollar was also in crisis, the United States,
too, abandoned the gold-bullion standard. The gold-exchange standard
collapsed.
In June of 1933, delegates from 66 countries held an international
conference in London to discuss ways to resolve the problem of stagnation in global trade and save the world economy. However, in a bid to
establish a new global economic order, the United States, with its financial
power, hoped that Britain’s leading position would go with the old economic order. U.S. President Franklin Delano Roosevelt did not attend the
conference and he announced that the United States would not negotiate
any agreements pertaining to monetary stabilization. The conference thus
ended in failure.
After failing to agree on a common policy for stimulating international trade and the world economy, Britain, France, and the United States
began a fierce monetary war, which gave rise to a British pound group, a
French franc group, and a U.S. dollar group. These three competitive currency groups imposed foreign exchange control internally and vied to
depreciate their currencies. Britain further depreciated the pound sterling
and established a foreign exchange stabilization fund to intervene in the
foreign exchange market and keep the British pound’s exchange rate from
rising. The United States chose to allow the dollar to depreciate to maintain its competitiveness in international trade and purchased large quantities of gold. France converted all of its foreign exchange reserves into
gold. This beggar-thy-neighbor policy caused persistent fluctuation of
exchange rates, a sharp decline in international trade, severe damage to the
world economy, and undermined the credibility of currencies in the capitalist world. To some extent, the self-centered policies pursued by the
three major currency groups caused Japan, Italy, and Germany to remedy
their economic woes by militarizing their economies, thereby planting the
seeds for World War II.
2.4 Evaluation of the Gold-exchange Standard
The gold-exchange standard was essentially an international monetary
system still based on gold, so it had the same advantages of the gold standard in terms of checking inflation, stabilizing exchange rates, and
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Reform of the International Monetary System and Internationalization of the Renminbi
Reform of the International Monetary System and Internationalization of the Renminbi Downloaded from www.worldscientific.com
by NATIONAL UNIVERSITY OF SINGAPORE on 10/25/17. For personal use only.
The Gold-exchange Standard
15
regulating balance of payments. Additionally, an important objective of
adopting the gold-exchange standard was to limit the use of gold. So such
a system was justified to some extent. However, it failed to overcome the
inherited defect of the gold standard — the gap between limited gold supply and continuous economic expansion. At most, it only temporarily
eased this problem.
Although the gold-exchange standard only existed for less than
10 years, it was still important in the historical development of the international monetary system for the following four reasons. First, the goldexchange standard was the product of the first international economic
conference and can be viewed as the start of economic consultation and
cooperation at an international level. Second, the gold-exchange standard
was used by Britain — whose economic influence declined and who lost
its position as the global economic leader — to restore the British pound
sterling to its original international standing. But the result was not what
it expected. Not only did the British pound sterling lose to the U.S. dollar
in the international competition, but the gold-exchange standard rapidly
collapsed as well. This illustrates that the position of a country’s currency
in the international monetary system is determined by that country’s economic strength. An international monetary system incompatible with
countries’ economic power is unstable. Third, the gold-exchange standard
weakened the link between currencies and gold. It was an important
breakthrough in monetary history, as it was the first step away from a
gold-based monetary system and towards a credit-based system of the
modern economy. Finally, the Bretton Woods system established after
World War II was a monetary system under which currencies were pegged
to the U.S. dollar and the dollar was in turn pegged to gold. It, too, was a
kind of gold-exchange standard. The introduction of the gold-exchange
standard, therefore, laid the foundation for the establishment of the
Bretton Woods system after World War II.
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Reform of the International Monetary System and Internationalization of the Renminbi Downloaded from www.worldscientific.com
by NATIONAL UNIVERSITY OF SINGAPORE on 10/25/17. For personal use only.
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