international monetary system

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The system of foreign exchange markets through which international trade and capital movements are financed, and exchange rates are determined. If there were no national foreign exchange reserves and no world central bank, exchange rates would be entirely determined in the foreign exchange market. In fact most countries have central banks which hold foreign exchange reserves, which can be used to stabilize exchange rates, in the short run at least. In the longer run central banks and governments can use the instruments of monetary and fiscal policy to try to prevent balance-of-payments surpluses and deficits becoming so large that stable exchange rates cannot be maintained. There is no world central bank, but the International Monetary Fund was intended to act in place of one to provide extra liquidity for national central banks, and to coordinate economic policies so that exchange reserves would not be exhausted. The General Agreement to Borrow, between the G10 central banks, also increased the effective size of national exchange reserves.

Subjects: Economics.

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