ABSTRACT
Governments often face a temporary balance of payments surplus or deficit and, with less frequency, they encounter structural external imbalances. To combat a temporary balance of payments deficit, a nation can simply draw down its reserves without adjusting the exchange rate or its monetary and fiscal policies. To maintain a fixed exchange rate system, the authorities may resort to a host of policies. For instance, authorities may apply a policy mix consisting of tight monetary and fiscal policies complemented with commercial policies that limit international trade. An overview of the historical development of the international financial system is a must to understand how alternative exchange rate systems affect asset value across national boundaries. After President Nixon’s announcement, the international monetary system entered a period of price instability. To cope with it, the leading industrialized nations led the way to the implementation of a coordinated floating exchange rate system.
