List of Figures

Figure 2.1: Postulated evolution toward a monetary economy ..................................... 21

Figure 2.2: Alternative ways of transactions ................................................................. 28

Figure 3.1: Trade and payment flows ............................................................................ 54

Figure 3.2: Foreign trade with two goods in a two-country case .................................. 66

Figure 4.1: 1nterest rates in England in the 18th century .............................................. 72

Figure 4.2: British consumer prices (1661 = 100) ........................................................ 75

Figure 4.3: 1nterest rates in England in the 19th century .............................................. 79

Figure 4.4: Monthly discount rates of the Bank of England .......................................... 82

Figure 5.1: Discount rates in three key financial centres ............................................ 100

Figure 5.2: Distribution of gold reserves .................................................................... 102

Figure 5.3: Central bank discount rates in three key financial centres ....................... 106

Figure 5.4: Cooperative and Nash solutions ............................................................... 110

Figure 5.5: Welfare analysis of deviations from internal and external equilibrium .... 111

Figure 5.6: Unstable Stackelberg solutions ................................................................. 112

Figure 5.7: Eichengreen's Stackelberg solution .......................................................... 115

Figure 5.8: The key currency country as the Stackelberg follower ............................. 117

Figure 5.9: Demand expansion in the key currency country ....................................... 120

Figure 5.10: Regime switch due to a supply-side shock in the key currency country .... 123

Figure 6.1: Alternative solutions of the Bretton Woods game ..................................... 134

Figure 6.2: 3-month interest rates ............................................................................... 136

Figure 6.3: The Federal Reserve's liquidity problem and the market price of gold .... 137

Figure 6.4: Speculation on the dollar's devaluation .................................................... 139

Figure 6.5: U.S. macro variables compared to G7 countries ...................................... 142

Figure 7.1: Macro variables in the EMS ..................................................................... 149

Figure 7.2: Stackelberg solution after a foreign supply shock .................................... 152

Figure 7.3: Short-term interest rates in the EMS ........................................................ 155

Figure 7.4: An asymmetric demand shock in the EMS ................................................ 157

192 List offigures

Figure 7.5: Unemployment-based devaluation expectations after monetary restriction in the key currency country ..................................... 159

Figure 8.1: Germany and EU 11 countries on the road to EMU .............. ..... ... ...... ...... 171

Figure 9.1: A foreign interest shock with varying expected duration ........... ... ...... ...... 180

Figure 9.2: Alternative paths of exchange rate adjustment ......................................... 181

List of Tables

Table 3.1: Balance sheets in the case of resource-based credit ................................... 50

Table 3.2: Changes in balance sheets in case of attracting deposits ........................... 50

Table 3.3: Changes in balance sheets in case of credit extension ................................ 50

Table 4.1: Balance sheet of the Bank of England ........................................................ 81

Table 4.2: Impact of alternative instruments of monetary policy in a

boom period threatened by internal and external drain ............................. 90

Table 5.1: England's Balance of Payments 1900-13 .................................................. 104

Table 5.2: Balance sheets of central banks in the gold standard ............................... 114

Table 5.3: Policy preferences and Stackelberg solutions ........................................... 118

Table 5.4: Interest rate responses to shocks in the S' solution .................................. 119

Table 6.1: Balance sheets of central banks in the Bretton Woods system .................. 131

Table 6.2: Evaluation of the Stackelberg solution S .................................................. 135

Table 6.3: Monetary policy effects in case of an expected dollar devaluation .......... 138

Table 6.4: U.S. balance of payments .......................................................................... 141

Table 7.1: Evaluation of the Stackelberg solution S' ................................................. 152

Table 7.2: Crises in key currency systems ................................................................. 161

Table 7.3: Shock effects when monetary policy looks atforeign output .................... 163

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Index

Addis 122 Amsterdam Bill Bank 54

Bagehot 51,90,92 Bagehot's Rule 90,99, 129 bail-out 172 balance of payments 6,64,101,118,140,

172 disequilibrium of 103

bancor 126 bank crises 82 bank deposits 35,36,50,54-5,84,86, 176

money functions of 51,87 bank failure 64 bank notes 50

acceptance of 70 backed by bills 85 backed by gold 80, 87 backing of 60 excess supply of 74 no fixed proportion to reserves 90 over-issue of 60, 64, 75 stemming from commercial credit 59

Bank of England 73,76-7,81,85-6,98, 101-2,105,115,119,123,140,162 balance sheets of 79, 89 business policy of 89 defending the pound's parity 103-4 gold reserves of 114 private profit motive 78,91

bank policy 176 bank run 51,60,70,74 Banking Department 80,82,89,92 banking policy 5, 67 Banking School 59, 75, 84, 86, 88, 91 banking system 49, 107, 115, 142

balance sheets of 114 one-tier 61 two-tier 81,87,104

banks 4,17,40,64,67,91,184 balance sheets of 30, 50, 80 note issue of 80 temples as 48

Banque de France 98, 105, 123 Banque Generale de France 55

barter 2-4,12,14,18,20,22-3,30,37, 48-9,60,65,164,175 intertemporal 4, 31, 34, 44

bill of debt 49-50,61 non-interest bearing 56

bill of exchange 53, 74, 101 Bill of Indemnity 85-6, 89 bimetallism 128 bipolar monetary standard 6, 185 Bohm-Bawerk 26 Bowley 123,135 Bretton Woods 5, 137, 141, 150, 160, 179 Bretton Woods rules 142 bubble of asset prices 59 Bullion Committee 74,77 Bullion Controversy 85 Bundesbank 62,131,144, 147, 150, 155,

157-8, 160, 162, 170, 174-5 buyer's market 14

capital 22, 25 as cash advance 32 marginal efficiency of 38 scarcity of 26, 38

capital controls 129, 148 capital export 162 capital flight 68, 185 capital goods 34 capital import 98, 113, 116, 124, 138, 184 capital inflow 67, 139 capital market 71,107, 119, 131-3 138

172 ' ,

capital movements 6,39,90-1,98,103-4, 108,111,140,152,154,179,181-2,185 asymmetric reaction to interest changes 115

capital theory 4, 63 central bank 5,62,68,82, 101, 105, 107,

146,151,153,177 hard-nosed 117 state-dependent 81

central-bank credit 172 central-bank money 62, 87 Churchill 122 Clapham 76 classical theory 25-7,30,42,64-5 Clower 42

214

coins 9-10,48,57,63,69 collateral 58, 60, 62 Columbus 52 competitive order 8, 64 competitiveness 121, 128, 131, 145-6, 171 confidence 4,11,58,60,76-7,86,103,

127, 136 in pound sterling 104

contract curve 111 convergence criteria 170 convertibility 99, 101, 103-4, 126, 129,

145 of deposits 92 of notes and deposits 82

cooperation 111 coordination failure 42 country banks 71,93 credibility 10, 155, 158-9, 185

excess 184 of the pound's exchange rate 104

credit 25,34,48-9,51,58,84, 184 and collateral 60 as starting point of economic process 63 creation of 41 international 67 limited by pledgeable assets 60 limiting employment 43 necessary to finance production 68 refusal of 68 three types of 59 to government 55, 59, 70, 71

credit contract 23,35-7,49,61 credit demand 27, 40, 90 credit economy 10 credit market 25, 64 credit policy 67,77-9,82,89, 183 credit supply 35,37,43,61,90,98 credit theory of money 57 creditor 9, 24-5, 36,49, 61, 68

international 129 creditor status 103, 164 creditor-debtor relationship 4, 31 currency

backed by gold reserves 76 backing of 86

currency board 86 currency competition 161 currency crisis 155 currency order 5,69-70,80,128,144

Currency School 83, 86, 88 currency union 14,169,177

Davanzati 56 debt 9,24,32,37,43,57,60 debt burden 24, 40 debt crisis 172 debtor 9, II, 23, 32, 34, 49, 55, 61 debtor status 103 deflation 29,40,76,156-7, 180

inducing hoarding of coins 52 depoliticization strategy 170, 173 deposit bank 70

Index

devaluation 103,158,160,171-2,180, 185 of money holdings 15 of the dollar 127, 136-8 of the dollar in terms of gold 124, 128, 136 oftheECU 144 risk of 164

successful 184

devaluation expectation 138, 154, 156, 161-2, 180 inflation-based 146, 159 unemployment-based 158

discount rate 30, 71, 79, 89, 101, 104-5, 107,110,114,116,119,123

disequilibrium 28, 42, 65 external 158 fundamental 126 macroeconomic 15

disinflation 153, 170 division of labour 8, 65-6 dollar 185

appreciation of 182 backed by gold 127,130,136,141,143 excess supply of 128, 131, 136, 138-9, 142 external stabilization of 140 flight from 148 low price of 122 overvaluation of 128, 131 shortage of 136 world supply of 131

dollar standard 124, 129 Drake 53

economies of scale 51, 93 Eichengreen 109,113,114-5 equilibrium 21,26,33,37

Index

based on expectations 4

conflict between external and internal 183

creative destruction of 8 external 83,109, 111, 116, 132, 161-2, 180,

183 full-employment 3, 42

in a monetary economy 41

internal 109, 116, 161, 183-4

intertemporal 28-31

on goods and labour market 19 path-dependent 16

sunspot 16

equilibrium exchange rates 98, 181 equilibrium vector of relative prices 8 euro I, 169, 182-3, 185 EuropeanCentralBank 1,172,178,183

institutional design of 174

European Currency Unit 144 European Monetary System 5,144,170,

173,178-9,184 European Monetary Union 5,169,178-9 evolution 8-9, 16,47,60 exchange rate risk 124, 154 exchange rates 41,74, 127, 144, 176

and inflation import 86

as asset prices 6, 185

as instrument 171

as policy targets 153, 184

choice between flexible and fixed 169,179

choice of a wrong nominal 125

expected 54, 108, 180-1 fixed 39, 68, 126, 129, 152-3, 185

fixed in terms of gold 53

fixed parity grid of 97 flexible 39,93, 180, 182, 184

internal 97 low credibility of fixed 185

misaligned 6 nominal 152, 183

of bills 54

oCthe dollar 131,142

oftheECU 145

of the mark 148, 150

of the pound 104

random walk of 182

real 107,123,157,179,182

transition to flexible 156

export-led growth 65, 128 external anchor 185

external drain 77, 122, 128, 176

Federal Reserve 124, 128, 130-2, 135, 140, 183

financial crisis 89 financial innovation 9, 84

215

financial markets 18,39,56,65,78-9,91, 93,117,122,128-30,147,151,156-7, 179,184-5 competitive order in 92

England's reputation in 102

equilibrium conditions on 6 nationalization of 69

stability of 40

First World War 121, 176 Fisher 24, 29 flight from the currency 39 forced saving 30 foreign debt 56, 103 foreign exchange 98, 104-5, 125, 128,

130,139, 145, 154, 161, 176, 178, 181, 186

foreign exchange crisis 182 foreign exchange intervention 126, 147,

150, 183-4 foreign investment 103, 140, 143, 184 forward solution 181 franc

overvaluation of 157

speculation on 157

free trade 65 free-banking system 92 Fugger 55, 64 full employment 3,21,26, 109, 151, 156,

177 fundamentals 158 future market 28,31

game theory 117 German reunification 155 gold 16,60, 86, 114, 144

dollar price of 142

fixed dollar price of 127

guaranteed price of 77

market price of 74

mining of 53

world stock of 107

gold coins 50,53,74 gold inflow 123

216

gold market 137 gold movements 91,98,120 gold price 99,127,129,139,176-8

of the dollar 136 gold reserves 58,63,69,71,77,99,103-

4, 108, 120, 127 distribution of 68

gold standard 5, 52, 74, 76, 85, 109, 128, 130,135, 142-3, 162, 175-6, 179, 185 as contingent rule 122 as hierarchical system 106 as multipolar system 105 asymmetric character of 99 hierarchical order in 116 institutional erosion of 125 stability of 105

gold stock 128, 133, 135, 140, 150 gold-silver parity 72 goldsmiths 69-70 goods market 9,17,23,40,62,83, 104,

125, 129, 147, 181 excess demand on 119 separated from labour market through existence of money 42

Goschen 90 Gossen 110 Gresham 70 Gresham's Law 72

Hamburg Bank 54 Hawtrey 82 Hayek 3,20 hegemony 105,143 hierarchy of countries 116 Hume 65, 98, 104 hysteresis 22

I.O.U. 9,58,61 illiquidity 36, 85

risk of 51 income 8,31,36,53,65,98, 107, 119-20,

159, 162 created by effective demand 68 creation of 35, 68 distribution of 12-4, 32, 94, 173, 176 of scarce factors 26

inconvertibility 75 increasing returns 15 industrial revolution 71

Index

inflation 32,40, 74, 132, 135, 139, 142, 145,147-8,160,162-3,178,184 as political problem 177 expected rate of 24, 29 in 16th century 53 in the U.S. 140 repressed 157

inflation differences 149, 152, 154, 182 inflation targeting 175 inflationary expectations 152, 158 information 4,9, 11,20,37,57

asymmetric 8 inside money 87 interest 17,24,49,61,64,131, 135, 139,

140,170,180 administrative lowering of 68 and other rates of return 44 and time 36, 38 as option price 4, 36 as policy instrument 41 as share of profit 25 as unique rate of return of capital 30 clerical ban on 25 explanation for a positive rate of 34 in a barter model 31 independent from profit 38 key country's 147 long-term 71, 114, 138 money rate of 29, 30 natural rate of 176 nominal rate of 29 not lowered by accumulation 38 productivity-based theories of 26 real rate of 26, 28, 30, 32 short-term 138, 148, 150, 183 theory of 59, 62

interest differences 98, 113, 155, 182 interest effect on income and reserves 111 interest income 35,37,39, 104 interest rate parity 137, 179, 182 interest rate policy 79, 98, 113, 117, 133,

140,146,150-1, 175, 180, 183-4 for protecting reserves 90

internal drain 176 international currency system 129 International Monetary Fund 127 international monetary system 104, 106,

141, 144, 163 asymmetric character of 5,67,145

Index

refonns of 183 investment

continuing process of 38 credit-financed 38 decision to 31 of gold mining 52 profitable in inflation 40

Issue Department 80, 82, 89

Jevons 26

key currency 5, 129-30, 143, 149 scarcity of 147

key currency central bank 114, 141, 162 key currency country 103,105,121-2,

141, 160 key currency privilege 128 key currency system 117, 150, 160 Keynes 3,20-1,24,36,38,41,49,53,59,

68, 124, 126, 176 Keynesian revolution

failure of 177 Kindleberger 106 King Charles 70 Knapp 16 Krugman 65

labour market 5, 125, 174, 176-8 contracts on 31

Laum 48 Law 10,55,57,71 law 9,13,15 leadership 99, 102, 105-7, 112, 124, 128,

144, 152, 160, 169 legal tender 16,70 lender oflast resort 51,71,78,86 liability 9, 51, 57 liquidity 21,61,87,89,113,162,164

of banks 30,63,81 liquidity constraint 80,87,109, 160 liquidity crisis 40,79,99 liquidity preference 36-7, 62, 82 liquidity premium 4,23,27,35-6,59,

103, 105, 124 liquidity problem 50,65,67,103, 133,

137, 151 liquidity shortage 131 Locke 14,16 Lord Overstone 59,79,84,86

loss function 109, 132 low-trust society 11 Lucas critique 170, 174 Luhmann 12-3, 60 Lutz 80

Macleod 9,57,60,71 mark 62

as investment currency 162 creation of 131 international role of 147 real appreciation of 156 revaluation of 157, 158 undervaluation of 65 unwanted appreciation of 144

market failure 17 market order 1,4,44

implies a monetary economy 3 Marshall 19 Marx 24 McKinnon 183

217

means of payment 9-10,12,14-5,49,58, 87, 124, 147

Medici 55 medium of exchange 19,21-2,48-9 Menger 47 mercantilism 3, 64, 69 Mill 58, 76, 78, 84, 86 Minsky 3 misalignment 182 monetarism 102, 105, 176 monetary contracts 7, 19,22-3,31 monetary economy 18,31,38,48

coherence in 3 monetary order 5,47,80,170 monetary policy 1,3,62,68,86,98, 122,

125, 131-2, 138, 144, 146-7, 161, 184 external constraints of 126, 177, 187 goals of 104, 116, 160, 176, 178 history of 76 non-regional impact of 163, 174 of key central bank 162 strategic concept of 77 tasks of 15, 40, 43 theory of 77

monetary policy strategies 177 monetary policy targets 41 monetary restriction 146 monetary union 163, 185

218

money acceptance of 16, 48

and capital confused 75

and credit confused 64

and credit distinguished 87

and credit supply separated 80

and time 4, 37

as budget constraint 2, 43

as communicative medium 2,4,12

as language 12

as option 23, 24

as private debt 57

as public good 4, 62

as regulated medium 48

as substitute for interpersonal confidence 11

as supply constraint of production 68

as veil 2,25

backed by property 62

backing of 4, 10, 71

definition of 83, 87

emerging from credit 9-10

high-powered 107

holding of 14-5,21,34,62

in IS-LM model 107

metallic 16,52-3

no emergence from barter 48

physical properties of 16 price of 64 primitive forms of 47

private-property based 58

quantity of 19,58-9,64,75,77,102,105,

114, 136, 176

resting on convention 16

scarcity of 12-4, 39,57,60

theory of 18, 62

two peculiarities of 41

money creation 146 involuntary 139

money demand 113, 122 destabilization by fixed money supply 85

money illusion 23 money market 71,91,105,131,162,178 money multiplier 84 money of account 8, 144 money prices 10,98, 142, 175

inflexibility of 23

money supply 31,40,79, 84, 108, 113, 138, 146, 174 exogenous 85

money supply targeting 175 money velocity 84 moral hazard 91,172 Moreau 123 multipolar currency system 179

n-1 problem 99, 128, 146, 162 Nash 111,115,133,151

Index

neoclassical theory 3-4,19-20,22,26,28, 30,32,36,45,48

neutrality of money 19,21 nominal anchor 5,87,99, 127, 144-5,

160, 163, 185 nominal-standard economy 13, 174

erosion of 143

non-neutrality 1,4,40, 177 of exchange rate changes 179

Norman 92, 123 numeraire 8

Olson 173 open discount window 89 open market policy 107 opportunity costs 17,27 optimal currency area 5,169,174,185 Ordnungspolitik 174 outside money 87 overvaluation 120-2,147,155

Palmer 78 Palmer's Rule 80 paper currency 76 paper money 50, 64, 70, 84 paper money standard 74,128,162,176,

185 paradox of scarcity 14 Peel 86 Peel's Act 83, 89, 93

First 76

Second 80

perfect foresight 10 Phillips curve 154, 180 physiocratic theory 25-6, 68 Pigou 20 plan vs. market 2 policy game 109, 133, 138, 158, 161 policy illusion 153 political union 173 pound sterling 116

Index

as leading currency 62 convertibility of 91 descent of 122 devaluation of 74, 125 entering the EMS 155 exchange rate of 140 fundamental weakness of 79 key currency status of 105 misalignment of 124 restoring the parity of 121 stability of 103

price level 99,124,128-9,146,151,160, 176

price level targeting 183 price stability 1,40,43, 109, 128, 130,

151, 156, 163, 176-7, 180 production

as asset keeping 24 roundabout 27,45

production function 33 production-cost-of-money theory 61 productivity

physical vs. value 26 profit 24, 26, 38

determined by interest 34 equilibrium rate of 27 minimum rate of 27 rate of 30 unemployment as precondition 43

profit expectations 40 profit inflation 53 promissory notes 11, 17, 35, 37, 52, 55,

57,61 backing of 10, 50, 58

property premium 61 protectionism 64 public debt 55, 57, 62, 76, 154, 170, 172 public finance 179 purchasing power 17 purchasing power parity 181, 183

quantity theory 53, 84-5, 179 Queen Elizabeth 53

rational expectation 1,8, 104, 120, 176 rationing 42 reaction function 109, 115-6, 118, 124,

133, 135, 138, 158 real balance effect 40

real-bills fallacy 59 realignment 145, 149, 153-4, 161 recession 140

219

redemption 9,17,50,55,60,62,70,76, 86

reflation 40 regional disparities 163, 174 regulation 84, 93

of the banking system 5 Reichsbank 175 rent-seeking society 173 repurchase agreements 146 reputation 11,47,55,62,87,118,124-5,

175,177-8 of banks 51

reserve target 119, 152 reserves 48,50-1,65,82,89-92,98, 113,

118,132,140,146,148,160,176-7,184 Restoration Principle 108,121, 127, 183 resumption of cash payments 74, 76 revaluation 137, 147, 161, 180 Ricardo 26, 64, 76, 84 rigidity 20, 23

of nominal prices 40, 179, 182 of wages 124-5,174 of wages and prices 42

risk in world trade 55 of bank business 51 of default 34

rule of rigid gold-notes ratio 85, 124 Rules of the Game 98, 124-5, 163

saving 24, 30, 35, 38, 103 saving and investment 30, 36, 129 savings 72 Say's Law 41 Schumpeter 3,27,47,87 seigniorage 17, 50 sequential-trading economy 21 shock 99,118-9,121, 130, 150-2, 158,

163 demand 120, 156, 162 foreign exchange 184 macroeconomic 5 supply 109, 132 wage 122, 146, 163

Simmel 16 Smith 47,58,65,67

220

social order 1,4, 13,23 solvency 11,51,65,68,90

of the banking system 39 specie flow 104 speculation 54, 108, 124, 127, 130, 154,

158 spontaneous order 7 stability culture 170 Stackelberg 112, 115-6, 118, 120, 122,

133, 135, 139, 151 standard of value 8, 10, 12, 15,40,48,75,

87 sterilization 123, 126, 147-8, 183 Steuart 58,62,68,71 stock exchange 20 store of value 14 strategic behaviour 111 strategic trade policy 65 supply-side adjustment 128 supply-side policy 68, 157 supply-side problem 122 surplus 26 surplus economy 67, 145 surprise inflation 175 suspension of cash payments 74 sustainability 158

Thornton 92 time 26 time preference 27,29-30,34

in a monetary economy 31 tobacco money 49 Townshend 36 transaction costs 10, 13, 20, 48, 50, 63,

93, 111 transmission process 83, 175 Triffin 136 trust 9 two-pillar strategy 175

uncertainty 14,37,85 in credit relations 25 keeps interest rate high 41

undervaluation 128, 132 unemployment 3, 132, 150, 153, 158, 170,

177, 180, 183 in a barter economy 42 natural rate of 19, 41

union 125,174

wage standard 125, 174 Walras 3, 8, 19 Walras' Law 113 wealth owner 49,58 welfare state 125, 172-3 Wicksell 38, 40, 176

zero-sum game 65 Zettelbanken 50

Index