How can it be that institutions that serve the common welfare and are extremely significant for its development come into being without a directed toward establishing them?

Carl Menger

ONE OF THE OLDEST ACTIVITIES ON THIS EARTH IS THE trade or barter of goods and services that one person owns for the goods or services that someone else produces. The voluntary exchange of goods and services, which benefits both parties, is the basis of profit and of wealth, of the easing of want and pain. All societies engage in this exchange on some level. Societies that arrange this exchange of value most efficiently, easing the costs of transactions and simplifying the long-term storage of value, have prospered more than those that impede such exchange.

In ancient times, as the known world became larger and more complicated, people searched for ways to settle accounts with something of value other than the goods involved. The invention of money, in all of its various forms, gave a huge impetus to the volume of trade and for the first time made capital portable. No one knows when money was first used as a store of value and unit of account, although the Code of Hammurabi, written some seventeen hundred years before Christ was born, mentions that silver was used for these pur-

The transforming power of money and the markets through which it is saved, borrowed, bought, and exchanged for other currencies can hardly be exaggerated. Money and money markets create commerce and enhance the means of production by allowing action at a distance not only of space but time. They replace the accidental order of geography with an increasingly rational network of specialized efforts, varied resources, and synergistic interests. Of course, the control of such powerful tools has always seemed essential to a sovereign. From the earliest times, governments have wished to monopolize this powerful medium and mandate its value in the markets in which it is traded. The control of currency has always given a government great leverage over the most crucial material endeavors of its citizens. The regulation of money markets is the regulation of a society's resources in their most convenient and fungible form.

A traditional aspect of sovereignty has been the power to issue currency and to control its value. In Sparta the government forbade citizens any medium of exchange other than heavy bars of iron of relatively little worth. The sons of Lycurgus correctly surmised that with such an inconvenient currency, complex commerce would be nearly impossible. The citizenry, free from the temptations of commerce, would stick to the manly art of war.

The more usual temptation, however, has been for governments to make the currency lighter, not heavier. Clipping coins so as to make them worth less than face value is an ancient tradition. And when governments learned the wonders that could be worked by printing money, a whole new era opened up. Since paper money has no intrinsic value, only scarcity value, it was both easier (or so it seemed) and more imperative for governments to control its value.

China was the first nation to issue paper currency, in the

The Nobel laureate, F.A. Hayek, has pointed out that:

...government's exclusive right to issue and regulate money has certainly not helped to give us a better money than we would otherwise have had, and probably a very much worse one, it has of course become a chief instrument for prevailing governmental policies and profoundly assisted the general growth of governmental power. Much of contemporary politics is based on the assumption that government has the power to create and make people accept any amount of additional money it wishes. Governments will for this reason strongly defend their traditional rights.[27] 

Until recently, what we call money, whether a piece of paper, a bookkeeping entry, or a physical object, had been linked to a physical commodity that put some limit on the sovereign's ability to inflate the currency. The nature of that commodity has varied with the interests of the people using it. The early American colonists used tobacco money; the American Indians favored the cowrie shells, or wampum; and of course the more familiar copper, silver, and gold in the form of coins circulated in many parts of the world. The link between commodities and money became slowly attenuated over a long period of time. On March 6, 1933, a decisive event occurred that put the world on the road to fiat money. President Franklin D. Roosevelt issued a proclamation prohibiting American citizens from holding gold. The link was further severed on June 5, 1933, when, by a joint resolution of the U.S. Congress,

In today's world, the value of our currency is determined by the price that the market will pay for an American dollar in exchange for yen, marks, or pounds. Whatever the price, it is almost constantly being condemned by someone somewhere as too high and by someone somewhere else as too low. Few governments are entirely satisfied with the value the market places on their currency. Someone is always demanding that government do something to push the value of its currency up or down, depending on how ones interests are affected. The volume of the clamor, as is appropriate in a democracy, is in direct ratio to the economic pain being inflicted. It is in the nature of politics to find a villain on whom to pin the blame.

Bankers are often selected for the role of scapegoat. I have been summoned by one Congress to explain why the big banks drove down the value of the dollar -- described at the time as unpatriotic -- and have lived long enough to be summoned by another Congress to explain why the banks keep the dollar so high that American manufacturers can not compete abroad. In today's world, bankers are unable to do either.

There are limits to all power. The power to control the price others will pay in their currency to obtain dollars was never an exception to this rule. But today the limits on that

This new discipline is being administered by a completely new system of international finance. Unlike all prior arrangements, this new system was not built by politicians, economists, central bankers or finance ministers. No high-level international conference produced a master plan. The new system was built by technology.

The new world financial system is partly the accidental by-product of communication satellites and engineers learning how to use the electromagnetic spectrum up to 300 gigahertz. Just as Edison failed to foresee that his phonograph would have any commercial value, the men and women who tied the world together with telecommunications did not fully realize they were building the infrastructure of a global marketplace. Yet the money traders of the world understood immediately and drove their trades over the new global infrastructure.

The convergence of computers and telecommunications has created a new international monetary system and even a new monetary standard by which the value of currencies is determined not by the arcane manipulations of central banks, whose total reserves are now dwarfed by a single day's trading on the world currency markets, but by a myriad of facts which are now instantaneously available.

We sit at home and watch a live broadcast of riots in a country on the other side of the earth, and a currency falls, in minutes. We hear by satellite that a leadership crisis has been resolved, and a currency rises. Ten minutes after the

The natural first response to this claim is, "it has ever been so." The pressure of events has always been a major factor in determining the value of currencies. But the speed and volume of this new global market makes it something different in kind and not just in degree. Cherished political, regulatory, and economic levers routinely used by sovereigns in the past are losing some of their power because the new Information Standard is not subject to effective political tinkering. It used to be that political and economic follies played to a local audience and their results could be in part contained. This is not longer true; the global market makes and publishes judgments about each currency in the world every minute and every hour of the day. The forces are so powerful that government intervention can only result in expensive failure over time.

It was not always so. After World War II, the foreign exchange market in New York was conducted by a handful of traders in the big banks, a few exchange brokers, and a rudimentary telephone system. The telex was the principle means of communications overseas where trading rooms were beginning to reopen. The volume in the currency market in the late 1940s and 1950s in New York probably did not exceed $750 million a day.

The volume of trading was small partly because complex foreign exchange controls existed in most countries in the aftermath of the war. It is the nature of government never to give up controls once established, so the controls were relaxed very slowly in most cases. One finance minister in Europe

Under the old Bretton Woods agreements a relatively small club of bankers and politicians believed it could significantly control the value of a given currency. That illusion can no longer be sustained.

When the volume of trading in anything is small, prices can be influenced dramatically by placing relatively large buy or sell orders. As the size of a market grows, the amount of orders that have to be placed to move the price either up or down becomes correspondingly larger. In the relatively small postwar money markets, central banks had enough resources to place orders large enough to influence the price of a currency. Today, with almost $2 trillion dollars changing hands in New York alone, there is not enough money in the reserves of the world's central banks to significantly influence exchange rates on more than a momentary basis.

The new world financial market is not a geographical location to be found on a map but, rather, more than two hundred thousand electronic monitors in trading rooms all over the world that are linked together. With the new technology no one is in control. Rather, everyone is in control through collective valuations.

Technology has made us a "global" community in the literal sense of the word. Whether we are ready or not, mankind now has a completely integrated, international financial and informational marketplace capable of moving money and ideas to any place on this planet in minutes. Capital will go where it is wanted and stay where it is well treated. It will flee from

The Eurocurrency markets are a perfect example. No one designed them, no one authorized them, and no one controls them. They were fathered by interest-rate controls, raised by technology, and today they are refugees, if you will, from national attempts to allocate credit and capital for reasons that have little or nothing to do with finance and economics. Though they got their start some years before the global telecom network became the essential medium of a global financial market, their power, size, and independence were greatly augmented by that network. The two in fact matured together, demonstrating along the way that information technology makes money far more difficult to regulate than ever before.

It was in the late 1950s, roughly 1957, that the world noticed that a new money market denominated in dollars, had begun to grow in Europe. As this market was burgeoning, government and private experts were devising schemes to improve international liquidity through various government devices. As late as 1961, Dr. Edward M. Bernstein testified before a subcommittee of the Joint Economic Committee of Congress that "while international monetary reserves are adequate at this time, it is unlikely that the growth of reserves in the future will match the greater needs of the world economy."[28] ) Other experts, ranging from David Rockefeller to A. Maxwell Stamp, joined in expressing concern about future world liquidity. While these experts were testifying in Congress about the coming liquidity squeeze, the greatest marshaler of liquidity in history was up and functioning. It is a strange anomaly of history that the Eurodollar market was virtually overlooked at the time.

One of the first studies of the Eurodollar market was made by Norris O. Johnson, an economist with First National City Bank (now Citibank), in about 1964. He told how irritating this new market was to some European financial experts who

How did this all come about? What were the "urgent economic needs"? In many respects the Euromarket is a monument to U.S. bank regulation. In the 1930s, the U.S. Congress, acting on the mistaken belief that high short-term interest rates were partly responsible for the 1929 crash and the ensuing depression, put legal ceilings on the rate of interest banks could pay to consumers, and stopped altogether the payment of interest by banks on deposits made by corporations. So long as interest rates remained low, corporation treasurers and consumers were more or less content to accept the system. But as interest rates began to rise, individuals and corporations looked around for a way to earn an acceptable return on idle balances.

European countries fortunately did not adopt this form of price control. On the other side of the Atlantic, markets for interest rates were generally much freer, and since capital seeks the best blend of safety and return, money, including dollars, moved to Europe. Some of this money came from behind the Iron Curtain. In the mid-1950s the cold war made Communist governments nervous about depositing their dollar reserves directly in banks in the United States for fear their funds would be seized by the U.S. government. To reduce

Soon, the Soviets, in good non-communist fashion, began to shop around for a higher yield on their funds. Their search took them to Italy where it was generally believed that a banking cartel operated. Perceiving the opportunity to capitalize on this, the Soviets went to the Italian banks with an offer to place money with them if they received an interest rate higher than America's domestic law would permit, but lower than the Italian banks were forced to pay for local deposits. It was a situation in which both the creditor and the borrower won. By initiating these transactions, the Soviets were in fact among the fathers of the Euromarket.

The market got a major boost in 1957 when the British government imposed controls on sterling credit in an effort to support the pound but imposed no such restrictions on dollar or European currency transactions. A futile bout with capital controls in the United States starting in 1963 gave fresh impetus to the Euromarket. As this huge market, denominated in dollars, grew in London, Mr. Paul Volcker, then undersecretary of the Treasury, went to London to argue for the imposition of reserve requirements on Eurodollar deposits, as this was clearly an unregulated market. He was politely but firmly turned down. The British knew a good thing when they saw it.

During this period the famous German banker Hermann Abs was of the opinion that the Euromarket was a temporary phenomenon and would soon go away. He kept the Deutsche Bank out of the market. In the face of such a judgment, Citibank formed a task force of four or five people to report on whether the emerging Euromarket was a transitory phenomenon or a permanent source of capital. The task force's study convinced Citibank management that the market was real, and Citibank began to use the market through its London office to attract Eurodollars that could be advanced to its New

From this small beginning has grown a market that is truly something new under the sun. It is now a vital part of the international financial structure of the world, vastly increased in size and speed by the increasing facility of electronic markets and the increasingly global character of world commerce.

The Eurocurrency markets are part of a global financial network that moves capital to where it is needed and appreciates faster and more efficiently than ever before. But their very existence is a symbol of the growing futility of government attempts to regulate capital. These markets grew, as we have seen, out of a failed attempt to control capital in ways it can no longer be controlled.

It used to be that the main function of currency trading was to facilitate international trade in goods. But today the ownership of capital denominated in dollars is so huge and turning over at such speed that it totally overwhelms the money used to pay for world movements of trade. Capital transactions are now probably forty or fifty times larger than trade flows. Since this is so, the old measures of currency value that we still use, which were based on trade flows, no longer have the same meaning they once had. To further complicate matters, the usefulness of trade-weighted averages, which show a 20 percent or 30 percent decline in the dollar's value since early 1985, is reduced by the fact that America conducts about 20 percent of its bilateral trade with Latin American and Asian countries whose currencies are not usually included in this measure.

The postwar boom of the industrialized economies was based on the enlightened proposition that goods should be permitted to cross national boundaries with as few restrictions as possible. This concept was institutionalized in such international bodies as the General Agreement on Tariffs and

There are, however, those who do not find this an altogether desirable development and complain that the very efficiency of the system undermines or complicates national monetary policy in particular countries. Behind that argument lies a complaint by some governments that the existence of a truly free market disciplines them when they engage in over expansionary policies.

They are right, of course, to complain. Not only are governments losing control over money, but this newly free money in its own way is asserting its control over them, disciplining irresponsible policies and taking away free lunches everywhere. The old discipline of the gold standard has been replaced, in fact, by the new discipline of the Information Standard, more swift and more draconian than the old.

The Bretton Woods arrangement of 1944 sought to maintain fixed exchange rates, and although the conventional wisdom remembers history this way, in fact, literally hundreds of currency revaluations during that period. When countries attempted to maintain an unrealistic rate, they had to use their dollar or gold reserves to buy their own currency to prop up the rate. This action almost always failed, and the country wound up with depleted reserves and an unwelcome exchange rate. The loss of reserves was one of the biggest incentives governments had to announce more realistic exchange rates. Though countries often sought to insulate themselves from the judgment of the market by instituting exchange controls, these control always failed. Economic fundamentals always reassert themselves over time, more so now, in the new electronic marketplace for money, than ever before.

In the seventeenth century the Amsterdam bankers made

In the international financial markets today, a vote on the soundness of each country's fiscal and monetary policies, in comparison with those of every other country in the world, is held in the trading rooms of the world every minute of every day. Every kind of information moves across the electronic infrastructure that binds the world together. The latest political joke makes its way from trading room to trading room around the world in minutes. The newest figures on the GNP (gross national product), the money supply, or the words of a political leader all enter the data bases that move markets. This continuing direct plebiscite on the value of currencies and commodities proceeds by methods that are growing more sophisticated every day.

In America, we have progressed to the point where politicians no longer blame the electorate if they lose an election. Blaming the global market for our political or economic mistakes as reflected in the value of the dollar is equally useless, although some economists and politicians still do. Just as

This new international monetary system is burdened with a vocabulary that was not designed to describe the modern world. The words we use do not really tell us what is happening, and so confusion abounds. It is not unlike trying to explain modern computer systems by using terms invented for describing how a steam engine works.

In the case of computers, a whole new language was invented to describe both the hardware and software; unfortunately, no such vocabulary has been developed to help us understand the new international financial system. The vocabulary we use to describe the international marketplace is largely derived from a time when merchandise trade dominated our thinking.

We talk, for example, of capital inflows or outflows, just as if money really entered our country in the way goods are unloaded from a ship. This is not the case with so-called capital inflows -- no one brings dollars into America, or takes them out for that matter. There is no capital inflow or outflow in a merchandise trade sense.

What happens is quite different. The ownership of dollars, which are already here, changes hands. If a German wants to own some dollars, he or she must buy them from someone who owns them and is willing to part with them in exchange for German marks. If the owner who sells the dollars resides in America and the buyer resides in Germany, we count the transaction as a capital inflow even though the total supply of dollars in the United States is unchanged and indeed cannot be changed except by the Federal Reserve.

All the dollars in the world -- except currency -- are on deposit in a bank in America, because that is the only place anyone can spend a dollar. One can, of course, give a shopkeeper abroad a dollar check in payment of merchandise, but that check will be exchanged for an equivalent amount of the local currency in which business is conducted in that country. The foreign bank that bought the dollar check for local currency will send it to New York for collection and credit to its account. Eurodollars, which are dollars deposited with a bank in London, (which in turn deposits them in a bank in New York), are traded in London hundreds of times a day in huge volumes, but each transaction is effected and recorded on the books of a New York bank. After all the Eurodollar transactions have cleared, the ownership of the dollars have changed. But the number of dollars on deposit in New York remains the same in aggregate, as each debit is offset by a credit. The dollars cannot leave the system; it is a closed shop.

Doomsayers love to conjure up the specter of foreigners "pulling their dollars out of America." But we all learned in the OPEC (Organization of Oil Exporting Countries) oil crisis that, except for small amounts of currency, dollars cannot be taken out of the United States. Only the ownership of existing dollars in a bank located in America changes hands. The threat that the Arabs, the Japanese, or others would pull their dollars out of America was always an empty one and the Arabs were well aware that it was impossible.

Even though Americans have accepted the ballot box as the arbiter of who holds office, this new global vote on the nation's fiscal and monetary policies is profoundly disturbing to many. Accepting the judgment of thousands of traders who translate politicians' actions into new values for currencies is harder to accept because it developed so fast and is new and unfamiliar. Nevertheless, it is about as useful to cuss out the thermometer for recording a heat wave as it is to rail against the values the global market puts on a nation's currency. There is no escaping the system.

In the past, nations that did not like the gold standard, the gold exchange standard, the Bretton Woods system, or whatever the dominant international financial system of the day could opt out. A finance minister would call a press conference and explain that the current international arrangements were unsatisfactory and his nation would no longer play by the rules. This, as we have seen, is just how the gold exchange standard and later the Bretton Woods standard were dissolved.

Today there is no way for any nation to opt out of the Information Standard. No matter what formal decisions a government makes, the two hundred thousand screens in the trading rooms will continue to light up, the news will continue to march across the tube, the traders will continue to make judgments, and other traders all over the world will know instantly what value the market has placed on a currency.

Japan, which engineered a remarkable economic recovery after the war, was lauded for the skill of its policymakers in controlling markets in difficult times. As the market became freer and truly global, Japan, too, became subject to the Information Standard. In March 1990, the New York Times reported the erosion of sovereign power:

Hard earned over forty years, Japan's reputation has been a source of immense confidence here, even arrogance.

Persistent turmoil has racked the financial markets this year, sending stock prices down by more than 20 percent, the yen down more than 5 percent and interest rates up sharply, despite numerous Government attempts to restore order. As a result, Japan's elite bureaucrats are watching their credibility erode almost daily.[30] 

The rapid dissemination of information has always changed societies and their governments. In the case of the Information Standard, governments have lost even more than the power to freely manipulate their currencies, or the ability to protect their currencies from their own economic folly. The new system also is steadily driving sovereign nations towards unprecedented international cooperation and coordination of monetary and fiscal policies.

The slow building and knitting together of the European Economic Community (EEC) is a case in point. Today we have a kind of mini-Bretton Woods agreement among the countries in the community called the European Monetary System, or EMS. It is not a fixed-rate system, as there has been a realignment of currencies each year, but it is anchored by the German deutsche mark, just as the old system was based on the dollar. The system itself forces all participating governments to weigh heavily the actions of their neighbors in forming their own policy. It is almost the reverse of the old mercantilism. Money is only one of the problems of living in an integrated world. The vast bureaucracy in Brussels is trying to "harmonize" everything from the kind of plug to use on an electric razor to what frequencies can be used in satellite transmission. All of these efforts and thousands more, are being forced by integration of the market. Each nation will always pursue what it perceives to be its own national interest, but it cannot do so in a vacuum. If one government

The global network has become such an essential part of the future of the world that it is worthy of everyone's best efforts to see that it remains as efficient, as cost-effective, and as free as possible.

The legitimate competing concerns of society make this no easy task, but it is one that is worthy of our best efforts because the global marketplace has become such an essential part of the future of the world. The ability to move capital to where it is needed and wanted is fundamental to the continuous effort of mankind to live a better life. In today's world, information about this market and the transfers themselves travel on our networks at the speed of light -- which Einstein tells us is as fast as it is possible to go. Keeping that data moving with speed and efficiency, while balancing competing interests, is our particular challenge - and the greatest contribution we can make to the world that emerges from the information explosion.

As the relative weight of the world economy outside any given sovereign state increases, the need for international cooperation also increases. In June 1989, Federal Reserve Chairman Alan Greenspan called on other central bankers to cooperate in overseeing international markets. He urged central bankers to work together to supervise multinational payment and clearing systems rather than create a centralized authority. The growing practice of "netting" debits and credits in each country is leading, Mr. Greenspan said, to the "decentralization of the major monetary mechanisms." and could diminish the supervisory power of central banks. No leader likes to face the erosion of his or her own power. Central bankers are no different in that regard than others, but

[27] F.A. Hayek, Denationalisation of Money (London: Institute of Economic Affairs, 1976), p. 28.

[28] Testimony given on May 16, 1961 before the Subcommittee on International Exchange and Payments of the Joint Economic Committee, Congress of the United States.

[29] Norris Johnson, Eurodollars in the New International Money Market, published by First National City Bank, (New York, 1964).

[30] New York Times, 26 March 1990, p. 1.