Monetary systems often entail a trade-off between international monetary stability and domestic…

Monetary systems often entail a trade-off between
international monetary stability and domestic political autonomy. When exchange
rates are fixed either to gold or to the dollar, these systems provide
considerable international monetary stability: states, firms and individuals
can be assured that exchange rates between currencies will remain the same from
day to day, week to week, and often year to year. This is in contrast to a
floating exchange rate system, in which exchange rates can fluctuate wildly,
sometimes changing hourly or even every few minutes.

The stability of fixed rates
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Monetary systems often entail a trade-off between
international monetary stability and domestic political autonomy. When exchange
rates are fixed either to gold or to the dollar, these systems provide
considerable international monetary stability: states, firms and individuals
can be assured that exchange rates between currencies will remain the same from
day to day, week to week, and often year to year. This is in contrast to a
floating exchange rate system, in which exchange rates can fluctuate wildly,
sometimes changing hourly or even every few minutes.

The stability of fixed rates usually comes at a price: the
loss of some domestic political autonomy. This is because exchange rates do not
stay “fixed” just because legislators order them to do so. Currencies are
constantly traded against one another and their prices rise and fall
accordingly. They are subject, like the trade of goods, to the rules of the
market. To keep the market price of a currency in line with its fixed price,
domestic monetary managers sometimes have to try to manipulate the market by
adjusting the supply or demand of their currency (for example, by buying or
selling reserves or adjusting domestic interest rates). When currencies were
pegged to gold, millions of dollars’ worth of gold could flow from a country’s
reserves in order to bring the market value of a currency back in line with its
fixed price.

For economic liberals, this is simply the price a state pays
for the advantages that come with international monetary stability, for the
certainty of knowing that the value between currencies will remain stable over
time. For mercantilists, the loss of domestic political autonomy is too high a
price: stores of wealth in the form of gold or other currencies might be needed
for other domestic political goals, such as building up a military or investing
in industry. Certainly, as a critical theorist might suggest, a fixed rate
system is based on the assumption that a country will have massive reserves of
gold (in the case of the gold standard) or other convertible currencies
available simply for the purpose of maintaining an exchange rate. It is a
system, in other words, based on the assumption that a state is already
enormously rich.*

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