ECO342H1 Lecture Notes - Lecture 2: Reserve Requirement, Deflation
ECO342 – Lecture 2
02 Bretton Woods:
- Ratified agreement in 1946; gold-backed USD at $35/oz, IMF to handle the fluctuations in par
values
- link between paper currencies and gold guaranteed price stability for the long-run and
facilitated international trade
- The system started to fall apart in 1968
Gold Standard:
- defines currency value relative to weight of gold
- paper notes act as intermediary; there was a limit to how much one could print
- gold value of currency determined value relative to other currencies
- gold flowed in and out based on the balance of payments, changing the gold:note ratio
- if the demand for notes was larger than the reserve could support, banking crisis could begin
- central banks formed as the lender of last resort
Money:
- Needs to be something widely accepted
- Needs to be easy to divide, easy to carry, maintain value over time
- paper currency acted as an intermediate, exchangeable for gold at any time; made carrying
easier.
- if there was an abundance of notes in circulation, people might prefer gold to notes, draining
reserves
- small deviations from the par values was due to transportation cost of gold
- banking crises often happened in September or October due to harvests causing a large demand
for gold/notes
- If the demand for notes was high and the deficit in balance of payments was high, banks
wouldn’t be able to issue notes to defend the reserve ratio; this happened in 1907 ( liquidity
crisis) and prompted the creation of the Fed in 1913
- Canada suggested not having a reserve ratio; the point of a reserve is to use it in times of crisis
- A clamor for gold in one country could cause a crisis in another country
Balance of Payments
1) International credit/debit happens through trade, interest and dividend receipts and capital
movements
2) Imbalances usually balance themselves out
3) Creditor country: Exports > Imports; Debtor country: Imports > Exports
4) Countries invest in foreign countries when they have a balance of payment surplus
5) Imports are function of domestic growth; exports are a function of foreign growth
6) Debtors eventually have to repay with interest and dividends
7) Capital movement independent of trade doesn’t occur until after WW2
Balance of payments = Current account - Capital Account = 0
find more resources at oneclass.com
find more resources at oneclass.com
Document Summary
Ratified agreement in 1946; gold-backed usd at /oz, imf to handle the fluctuations in par values. Link between paper currencies and gold guaranteed price stability for the long-run and facilitated international trade. The system started to fall apart in 1968. Defines currency value relative to weight of gold. Paper notes act as intermediary; there was a limit to how much one could print. Gold value of currency determined value relative to other currencies. Gold flowed in and out based on the balance of payments, changing the gold:note ratio. If the demand for notes was larger than the reserve could support, banking crisis could begin. Central banks formed as the lender of last resort. Needs to be easy to divide, easy to carry, maintain value over time. Paper currency acted as an intermediate, exchangeable for gold at any time; made carrying easier. If there was an abundance of notes in circulation, people might prefer gold to notes, draining reserves.
