It used to be that the term ‘international liquidity’ meant the relative amount of resources available to a nation’s monetary authorities that could be used to settle a balance of payments deficit.

In the days of the gold standard, this would mean access to gold that could be used to redeem a nation’s currency held by foreigners.

After Breton Woods and the advent of the dollar-gold exchange standard, liquidity came to mean access to dollars, either held as reserves or as credit lines, or the SDR system maintained by the International Monetary Fund.

After 1971, with the abandonment of the dollar-gold exchange standard, as the world entered an era of ‘managed’ exchange rates, some ‘floating’, some ‘pegged’, ‘international liquidity’ came to mean the resources available to national monetary authorities to maintain the value of their currencies as required by their exchange management programs.

Liquidity In A Post-Gold-Standard World

After the Asian financial crises of 1997, it became clear that with globalization and open economies, national monetary authorities often no longer had even nominal control over their exchange rates.

As countries abandoned the licensing of imports, exports, and international credit and investment operations, control of foreign exchange assets passed to the private sector.

For countries operating without exchange licensing, the access to resources needed to settle a ‘balance of payments deficit’, no longer were managed by central banks, but were controlled by private businesses and individuals.

Under liberal trading systems, Central banks often do not even have a way to accurately measure foreign exchange assets controlled by private citizens, much less the ability to determine the access of the private sector to international lines of credit.

Individualized ‘Balance of Payments’

Today, the international reserves of a national central bank is often less important than the credit and reserves available to residents of that country that permit them to import goods whatever the reserve position of the monetary authorities.

If a country is not trying to peg its exchange rate to a specific foreign currency, the aggregate ‘trade deficit’ of that country is not necessarily relevant to an individual businessperson who controls his or her own assets and credit.

International Liquidity Is A Fuzzy Concept

Consequently, ‘international liquidity’ sometimes retains the older meaning, related to the foreign currency assets of the monetary authority, for countries that manage exchange rates and exercise various degrees of direct control over international transactions of residents.

However, for countries with free trading regimes and floating exchange rates, ‘international liquidity’ may more properly be thought of as the foreign exchange assets and credit available to residents of a country that would allow them to import from abroad at their discretion.

Today’s international economy is supported by monetary authorities with varying degree of control over their nation’s balance of payments and foreign currency reserves.

Consequently, the meaning of ‘international liquidity’ is somewhat vague, relative to the particular foreign exchange policies of a specific country.

This entry was posted on Sunday, February 19th, 2006 at 3:14 pm and is filed under Foreign Investors, Economic Theory. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed.

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