19.2 Two Systems of Fixed Exchange Rates #Notebook

19.2 Two Systems of Fixed Exchange Rates #Notebook

Because of arbitrageurs, a type of investor who attempts to profit from market inefficiencies, the spot exchange rate, the market price of bills of exchange, could not stray very far.

The gold standard system was self-equilibrating, functioning without government intervention. But, its weakness was that the governments had so little control of its domestic monetary policy, even did not need a central bank. 

The Bretton Woods System was designed to overcome the flaws of the gold standard while maintaining the stability of fixed exchange rates. By making the dollar the free world’s reserve currency, more elastic supply of international reserves, and also allowed the United States to earn seigniorage. 

However, The Bretton Woods System had to restrict international capital flows and witnessed a massive shrinkage of the international financial system.

Reference

Wright, R.E. & Quadrini, V. (2009). Money and Banking. Saylor Foundation. Licensed under Creative Commons Attribution-NonCommercial-ShareAlike CC BY-NC-SA 3.0 license.