Economic Functioning and Stability of the Society - Thesis Example

Outline: Introduction: Economic functioning and stability of the society is greatly depended on the financialsystem that is adopted by the respective society Theories of the Functioning of the pre-1914 gold standard: The price spicie flow model, monetary approach, capital flows approach and the hegemonic stability theory provide useful insights regarding the operation of this financial system How the gold standard system contributed to the great depression: The lack of credibility of relative policies made its implementation problematic. Reduced international cooperation also contributed to this state of affairs. The end of the Depression: By providing employment opportunities and effecting relief programs, the Second World War contributed to the end of the depression Conclusion: In sum, the gold standard regime has lasting effects on the wellbeing of the society. Gold Standard and Great Depression Introduction Since historical times, the economic functioning of the society has been greatly depended on the financial systems employed by the respective society. Historical accounts indicate that economies have always taken practical steps to ensure that their financial systems were consistent with the economic policies that the respective economies adopt. This does not only enhance stability, but it also prevents financial related problems that have lasting implications on the holistic wellbeing of the society. Before 1914, the gold standard financial system was solely used as a monetary system during this period. Using his, it is widely agreed that the society was able to ensure income and price stability in the society. However, to ensure optimal functioning, certain policies were adopted to govern its use. These ranged from the need for each country to have a fixed currency to the requirement for free flow of gold between the countries that were within the respective region. It is against this background that this paper provides an explicit review of the theories detailing the functioning of the gold standard during this period. Further, it explore show this monetary system contributed to the great depression. Finally, it details factors that led to the end of the great depression. Alternative Theories of the Functioning of the pre-1914 Gold Standard The functioning of the gold standard monetary system was reportedly complex and intricate. Various factors were required for effective assumption of this financial system by the then economy. Notably, different parties played distinct roles in ensuring that the financial system yielded optimal outcomes. These are well documented n a host of theories or models that seek to explain the relative financial behavior. In his research, Eichengreen cites David Hume’s price spicie flow model (Einchengreen 234). This has three distinct features whose interplay contributes to the stability of the financial system in different ways. To begin with, it operates in an environment where only financial assets and goods or products are traded on a global scale. This implies that possible trade deficits need to be eliminated immediately to prevent any expenses that the country might experience in an effort to shoulder them. The theory presumes that relative deficits are eliminated automatically. In this regard, it does not require any form of interference from either the government or central banks. Also, the theory provides that relative automatic processes that are triggered by the movement of gold and trade imbalances ensure that relative operations of this model are purely symmetrical. He contends that this theory is durable and offers useful insights that can effectively be employed for understanding the functioning of this important monetary system. In this, countries which were faced by problems relating to excess imports over their exports were required to pay for the relative deficit in a bid to generate the outflow of gold. The outflow was instrumental in reducing the stocks of gold in the respective country. In light of the quantity theory of money, this directly reduced the domestic price level. The resultant deflation at the domestic level then led to the restoration of international competitiveness of important domestic goods. Notably, this eliminated trade deficit and ensured that balance of payments in the economy was self-adjusting. Einchengreen also cites that Whale’s approach that equally sought to explain the operation of this gold standard financial system. In his capital flows approach, Whales contended that the trade balance had direct effects on the gold flows. In this, he believed that the latter seldom equaled the former (Eichengreen 214). Further, he explained that the balance of the payments deficit constituted the capital outflow and balance deficit. These according to the theorist were at the core of the functioning of the monetary system. Also worth mentioning is the monetary approach that explains the functioning of the gold standard system too. This solely deals with the balance of payments. According to the author, a monetary payment doubts the very existence of the gold standard system and instead proposes that money played an integral role in necessitating trade activities during this historical period (Eichengreen 214). Another important model that explains the stability of this gold standard system pertains to Kindleberger’s hegemonic stability theory. In this, the theory asserts that the Bank of England played a central role in ensuring that the financial system was stable and therefore rewarding. In particular, the bank ensured and supported regional and national development by ensuring a balance between the golf inflow and outflows (Einchengreen 215). Besides satisfying the demands that were induced by the soaring incomes especially in the emerging countries, this institution also attracted large volumes of gold from standard countries. This was attained through effecting aggregate changes in the discount rates of the bank. The inherent stability had significant positive impacts on the stability of the system. This efficiency was further contributed to by the fact that the bank directly controlled financial functioning in the region. Role of Breakdown of the Gold Standard in Causing the Great Depression At this point, it cannot be disputed that the gold standard was an imperative financial system during this historical period. It contributed significantly to the stability of the economic wellbeing of the entire region. To attain this, there were distinct, rules and policies that governed the relative operations. Seemingly, these provided the benchmarks upon which behaviors of the traders and standards of the products were measured. Increasingly, it contributed to stability that enhanced the standard of living of this population. However, it is worth mentioning that this gold standard system did not last for a long period of time. It collapse is attributable to a host of factors that were contributed to by various actors. This greatly impacted on the economic stability of the region and reportedly contributed to the great depression. In their review, Atack and Passel assert that reduced credibility of the then gold standard regime and lack of international cooperation contributed a great deal to the global economic contract that was experienced during this period of time (Atack and Passel 66). Arguably, this monetary system led to deflationary bias to the entire world economy. This was because the characteristic policy adjustments in individual countries were asymmetric. Put differently, the deflationary policies that were pursued by nations affected by balance-of-payments deficits were reportedly not offset by the more desirable expansionary policies that were employed by countries experiencing surplus. In his research, Eichengreen asserts that the reduced credibility of this financial system had direct negative impacts on the policies that were adopted in production (Eichengreen 220). In essence, it forced the policy authorities to adopt restrictive measures in their efforts to defend exchange rate parities, thereby intensifying deflationary forces. In their comprehensive review, Atack and Passel indicate that the undue emphasis on the gold standard regime contributed in different ways to the collapse of the entire economy (Atck and Passel 67). In his regard, the respective policies emphasized on preservation of the system as oppose dto creation of employment opportunities. At this point in time, the populations suffered immensely from the unemployment situation. From the point of view of the policy makers, maintenance of the gold standard financial system would ultimately lead to creation of employment opportunities. However, this had detrimental impcts in the long run as the relative policies failed dismally to prevent the collapse of prices and output as well as the loss of important national as well as global savings. The breakdown of international cooperation that was characteristic of the gold standard system also contributed significantly to the great depression. In this respect, this was caused by inherent parities in the structure of the gold standard system especially after its re-establishment in 1926. In this respect, this current financial system failed to reflect disparate inflation rates that were experienced by the countries that participated in the First World War. This further destabilized the economic environment that made the investors to make wrong choices. Also worth appreciating is the contribution of the political landscape to this state of affairs. In this respect, Eichengreen asserts that the shift in the political landscape that was experienced immediately after the First World War contributed to the great depression (Eichengreen 226). In this regard, the harsh environment made it difficult for financial institutions such as banks to coordinate their activities accordingly. To a great extent, this had direct negative impacts on the credibility of the then interwar gold standard system. Reportedly, there was a disruption in the then social contracts with regard to the labor gaining political power and distribution of important fiscal burdens. This state made it difficult for relevant policy makers to maintenance of the external balance was of any importance to the gold standard regime. As aforementioned, the breakdown of international cooperation greatly undermined the credibility and effectiveness of this financial system in solving emergent economic concerns. The breakdown according to Atack and Passel was contributed to by disputes over the then war reparations, inadequate conceptual frameworks that were assumed by policy makers and objections made by domestic interest groups (Atack and Passel 78). The aforementioned political changes impacted negatively on the public perceptions regarding the important fixed exchange rates. In particular, these were no longer considered equilibrium rates. This further culminated in destabilization speculation that then triggered the great depression. The End of the Great Depression The economic stagnation that was characteristic of the great depression had adverse impacts on the economic wellbeing of the international sphere. It is currently considered one of the worst economic crises that ever affected the world economy. In this regard, it contributed to unemployment that compromised the quality of life of the affected population. In their research, Atack and Passel contended that the Second World War led to the end of this economic crisis (Atack and Passel 72). During this, millions of Americans were taken by the military and trained to offer security services and fight for the wellbeing of the nation. Arguably, the war led to the emergence of various job opportunities in various other fields that were related in different ways to the security industry. Statistical evidence indicate that it particular, close to seventeen million Americans were employed by 1939 (Atack and Passel 82) The changes in the political environment also had a great impact on the then scenario. In this regard, Atack and Passel argue that after the war, the business persons required positive incentives that would enable them to make expansions and reap optimal outcomes from their operations (Atack and Passel 89). However, the then economic environment was not supportive as it was characterized by confiscatory taxes that literarily absorbed all profits. The congress during this period repealed the respective excess profits taxes that were taking a toll on the entire economy. Although the previous years had been characterized by incidences of strikes and social unrest, these reduced significantly as the relative concerns had been addressed accordingly. Seemingly, this also contributed to the restoration of normalcy and hence the end of the great depression. Relative to this were the job programs that were created after the Second World War. In this regard, policies were put in place to provide direct relief to the affected populations. In particular, institutions such as the Tennesse Valley Authority, the Civilian Conservation Corps and the public Works Administration were established to address the unemployment problem (Atack and Passel 89). Further, the Social Security Act that was passed in 1935 sought to provide relief for the unemployed populations that were suffering immensely. To a great extent, these changes contributed to the stabilization of the economic environment and ultimately, to the end of the great depression. To ensure sustainability, the government worked in collaboration with the private sector. Equally, this had various opportunities that could be explored to benefit the unemployed factions of the society. Gradually, the depression effects were addressed in the society and the economic performance improved significantly. Conclusion In sum, the gold standard financial system was instrumental in enhancing the economic functioning of the society during the pre 1914 period. From the theoretical point of view, the stability of this economic system was greatly depended on the balance between the gold inflows and outflows. The role of the bank of England in regulating the financial flow cannot be overstated. As it has come out from the study, there are various factors that contributed to the great depression. Seemingly, inconsistencies in the gold standard system contributed a great deal to this state of affairs. As aforementioned, the policies did not reflect the actual deflationary effects that were being experienced on the ground. This made it difficult for the investors and all stakeholders in the economy to make informed decisions regarding the economic challenges that the then economy was grappling with. Finally, historical evidence affirms that the First World War contributed to end of the great depression in two distinct ways. Besides providing employment for the then population, this led to formulation, implementation and enforcement of viable programs that sought to provide relief for the unemployed. Works Cited Atack Jeremy and Passell, Peter. A New Economic View of American History: From colonial times to 1940. USA: W.W. Norton, 1994, Print. Eichengreen, Barry. The Origins and Nature of the Great Slump Revisited. The Economic History Review, 45 (1992): 213-239 Read More