It is certain that the last half-century of economic history has seen a dramatic increase in global market integration. States in this integrated setting must make difficult financial decisions with a great deal of insecurity. In managing their national currency, they face uncertainty and a chorus of opinionated voices. But it is worth considering how and why the world economy has taken on its particular forms, and the way political institutions have shaped monetary policy. This essay analyzes, from a largely political and historical perspective, the tensions between monetary autonomy, capital mobility, and fixed exchange rates. I argue that political considerations have favored autonomy but have also favored conditions that undermine that autonomy. To introduce the analysis, I offer an outline of the theoretical tensions between these three states of the world. I apply this theory to the history of global currency and trade to show that domestic politics increasingly favored monetary autonomy. After explaining how and why capital mobility has undermined this autonomy, I conclude by considering strategies states use to manage the tradeoffs and retain control over their currencies.
[...] Theory Through History The theoretical tradeoffs of the Unholy Trinity tend to be resolved in the political domain. This, however, has meant multiple things. Exchange rate politics have played out on an international as well as on a domestic scale. Thus, at times the exchange rate system arises from interstate interaction and at other times from political coalitions within the country. Historical examples in this case serve to illustrate the theory best. The gold standard of the late nineteenth century serves as a prototypical example of interstate politics setting the course of monetary policy. [...]
[...] This leads to a key insight: as governments widen the electoral franchise and as politics shifts from the elite to the public in the twentieth century, the emphasis on monetary autonomy becomes more pronounced. If, in a system as objective as the gold standard, monetary policy bent to the desires of individual states, this proclivity could only sharpen after World War II. The Bretton Woods system of the latter period was partly designed to preserve the monetary autonomy of countries in a postwar world where their constituents made greater demands and held officials accountable to their promises. [...]
[...] Monetary authorities face speculative crises and capital flight when they attempt to peg exchange rates and pursue domestic goals, as was the case with the Thai Banking Crisis. Speculation has also increased in policies, as Krugman (1995) argues, with capitalists “investing” in overstuffed ideas like the Washington Consensus. This sort of speculation can lead to money flows built on an ideological house of cards. The Mexican Peso Crisis is an instance in which these cards came tumbling down. Moreover, countries like Mexico facing financial troubles often receive criticisms of lacking discipline and, through IMF structural adjustments, see a further loss of autonomy (Feldstein online). [...]
[...] Various explanations exist for this phenomenon, but Goldstein suggests that private actors (with the state's interest in mind) intervene subtly in currency markets. Thus, through overt and covert strategic cooperation, states are able to exercise a degree of monetary control and fixed exchange even in today's world of continuous capital flow. Despite the difficult theoretical tradeoffs of the Unholy Trinity, governments sometimes persist in having their cake and eating it, too. Works Cited Grieco and Ikenberry. State Power and World Markets. New York: W.W. Norton and Company Eichengreen, Barry. Globalizing [...]
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