Every era’s monetary institutions are virtually unimaginable until they are created

Tuesday, July 23rd, 2019

On Bretton Woods’ 75th Anniversary, Tyler Cowen reminds us that every era’s monetary institutions are virtually unimaginable until they are created:

Every era’s monetary institutions are virtually unimaginable until they are created. Looking forward, don’t assume the status quo will hold forever, but rather prepare to be shocked.

Consider the broader history of monetary and financial institutions. The gold standard (and sometimes bi-metallic) regime that marked the Western world from 1815-1914 was without precedent. In medieval times, gold, silver, copper and bills of exchange — from multiple issuers — all circulated as means of payment, and often there was no single dominant form of money. As the gold standard evolved, however, claims to gold became a global means of settling claims and easing foreign trade and investment. While the system was based on some central bank intervention, most notably from the Bank of England, it was self-regulating to a remarkable degree, and it formed the backbone of one of the West’s most successful eras of economic growth. It was not obvious that the West would arrive at such a felicitous arrangement.Now fast forward to the current day. Currencies are fiat, the ties to gold are gone, and most exchange rates for the major currencies are freely floating, with periodic central bank intervention to manipulate exchange rates. For all the criticism it receives, this arrangement has also proved to be a viable global monetary order, and it has been accompanied by an excellent overall record for global growth.

Yet this fiat monetary order might also have seemed, to previous generations of economists, unlikely to succeed. Fiat currencies were associated with the assignat hyperinflations of the French Revolution, the floating exchange rates and competitive devaluations of the 1920s were not a success, and it was hardly obvious that most of the world’s major central banks would pursue inflation targets of below 2%. Until recent times, the record of floating fiat currencies was mostly disastrous.

It is considered bizarre that former Fed Chairman Alan Greenspan advocated a gold standard in 1967, but in fact it was a pretty reasonable view at the time, even if it turned out to be incorrect. And it wasn’t just Greenspan who didn’t see where the world was heading; Benn Steil, in his well-known book on Bretton Woods, wrote: “Keynes thought of freely floating rates as a sort of blind groping … and certainly not as a viable alternative model for underpinning trade relations among nations.” In reality, we are just emerging from arguably the world’s most rapid age of globalization, from about 1990 to 2007.

The Bretton Woods arrangements also seemed highly unlikely until they were in place. They involved a complicated system of exchange rate pegs, capital controls and a “gold pool” (and other methods) to control gold prices and redemption ratios. What’s more, the whole thing was dependent on America’s role as global hegemon, both politically and economically. The dollar still was tied to gold, and the other major currencies tied to the dollar, but as the system evolved it required that no one was too keen to redeem dollars for gold (the French unwillingness to abide by this stricture was one proximate cause of the collapse of Bretton Woods).

I don’t think a monetary economist from, say, 1890 could have imagined that such an arrangement would prove possible, much less successful. Yet the Bretton Woods arrangements had a wonderful track record, as the 1950s and 1960s generated strong economic growth for both the U.S. and Western Europe.

At the same time, once Bretton Woods ended in the early 1970s, few people thought it was possible to turn back the clock. The system required the U.S. to be a creditor nation, to hold much of the world’s gold stock, and for countries such as France to defer to American wishes on gold convertibility. Once again, the line between an “imaginable” and “unimaginable” monetary arrangement proved to be a thin one.

Another surprising monetary innovation would be the euro. Both Milton Friedman and Paul Krugman warned that the euro was unlikely to succeed and persist. Yet it has proven more durable than many people expected, and there does not seem to be an end in sight. This kind of a common fiat currency, spread across so many nations, is without precedent in world history.

So as you consider the legacy of Bretton Woods this week, remember that core lesson: There will be major changes in monetary and institutional arrangements that no one can even imagine right now. Assume the permanency of the status quo at your peril.


  1. Felix says:

    I vote for the de-nation-stating of money being the next big thing.

    Seemed apparent in the 2007 era. The world’s financial system is fundamentally a trust network. Everyone trusts various bank, etc, computerized numbers to mean “money”. In 2007, large parts of that system demonstrated they can’t be trusted. Long term, adios.

    Also, what’s going on right now is a bunch of nations are sitting around a poker table eyeing each other carefully. Each knows they are all busy slipping in extra chips from below the table. But they can’t get out of the game, and they can’t call out any other player for cheating. So all they can do is to keep cheating, but not way, way more than any other player. With no clue as to how much “way, way” is.

  2. Wang Wei Lin says:

    When fiat monetary systems collapse they revert to their real value…zero. From nothing they are created, to nothing they return.

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