The purpose of this report study is to determine the reason as to why the United Kingdom decided to stand apart from the unification of European currencies as well as to determine as to whether the decision was beneficial to the United Kingdom.Also the purpose of the study determines the changes that have taken place in the world’s financial system from the period 1901 to 2011 as well as the underlying reasons for these changes. The specific objectives arising from the overall purpose are; to establish the reason behind UK not joining the rest of European countries in currency unification and also to determine the benefits as well as disadvantages as a result of this policy. Also the changes of the world’s financial system and the reason behind changes are part of the specific objectives of this study.
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The world financial system and the changes that have taken place between 1901 – 2011
The world’s financial system is a concept under the large theory of international finance and it refers to an economics branch which is concerned with the study of foreign investment as well as exchange rates and their effects with regards to global trade. The world financial system basically entails the system which facilitates money transfers between the investors and the savers and it is composed of financial markets, regulators as well as transactions that act on a global level.
The parties that are involved in the world financial system include the IMF, government agencies, World Bank and other financial institutions that act on a global level (Vaubell, 1978, 7).
The global financial system is important due to the following reasons; it helps to facilitate international trade through clearing as well as settling of payments, it provides mechanisms upon which resources are pooled together, it helps in risk management among others.
There are certain changes that have taken place in the world financial system. For instance, money has been transformed from Gold Standard to currency. Gold Standard refers to the form of monetary system whereby the gold is the main form of measuring the value of goods as well as services. The use of gold as a global currency was not planned. However, the acceptance of gold as a global currency dates back in the early 1900s. For instance, gold was commonly used as a mode of exchange in Byzantantine Empire but the collapse of the empire saw silver being opted as the ideal currency particularly by the European countries. Gold usage as a global currency eventually ended in the mid 1930s as a result of the laws that outlawed the possession of private gold. Since then, the gold standard ceased to be used in many countries and the currency system came into effect. The money was thus transformed from being physical currencies to notes and coins. This in turn led to currency unification whereby the currency was integrated to form one major component. The main idea behind currency unification was to form a single currency that will be applied in all the participating nations. Thus small currencies were integrated to form a unified currency. The creation of one single currency had several benefits which includes; the elimination of trade barriers as well as the mobilization of capital and labor throughout the European region. This is current situation today whereby, a single currency i.e. the Euro is applied in many European nations. The European nations that use the Euro currency include the Sweden, Denmark, Germany, and Italy among others. The creation of a unified currency led to elimination of risks and this has brought about competitiveness as far as trade and investment across the European nations is concerned. There are various factors which facilitated the unification process and include globalization, advanced information technology as well as the financial markets integration (Brookings Panel on Economic Activity, 1990, 11).
Another change that is it is important to consider as far as the global financial system is concerned is the global recession which occurred between the periods 2007 to 2010.This was believed to be the most terrible recession as it caused many financial institutions to fall particularly in the European countries as well as the United States. The world has never experienced such a devastating financial crisis since the one which occurred in the 1903s.Some of the areas that were affected included the banks, housing markets, stock markets as well as major businesses (Lomborg, 2004, 45).
Underlying reasons for changes in the world financial system
The main reason behind the changes in the financial system is innovations. Innovations brought about efficiency as well as effectiveness. The use of computers helped to reduce the transaction costs. This in turn led to the introduction of new products and as well as the emergence of new markets.As a result of reduced transaction costs diversity was enhanced with regards to the financial institutional structures across the globe.
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The liberalization of the global financial markets was also a major factor that brought changes to the world’s financial system. Nowadays many countries have liberalized their financial sectors and this has enabled them to grow in size and also compete at a global level.
Another reason behind the change of global financial system is the change of the management styles in organizations particularly in the mid 1980s whereby, there was an increase with regards to the investors’ role. Neave (2002, 67) concludes that efficiency is enhanced as a result of change of management.
Economic and political reasons for the United Kingdom’s policy to stand apart from the unification of European currencies
The economic and political reasons that the United Kingdom has with regards to its policy to stand apart from the unification of European currencies are as follows; the United Kingdom relied on past beliefs and therefore it had the belief that the unification of currency will result to governments that are characterized with flat exchange rates.Also they United Kingdom considered the fact that the monetary unions have collapsed during the past few years and therefore there is a probability that the Euro will collapse too as a result of such factors as the economic stagnation.
The United Kingdom held the view that the whole process unification of currency will eventually be a failure due to the reason that nations that deems themselves not to be benefiting following the currency union will eventually cease from being members. Thus the act of refraining from being a member of the larger Euro currency is advantageous to the United Kingdom.
The consent to from a single currency entails that monetary sovereignty is transferred permanently and therefore a country lacks the monetary power that it used to have with regards to its currency (Andrews, 2002, 12).
The United Kingdom is usually very responsive with regards to the fluctuations in the interest rates as compared to the rest of the European Union members. Therefore, the decision to join a monetary union implies that the United Kingdom needs to allow greater flexibility with regards to its labor and housing market and this is difficult since the rented sector in Britain is not large enough.
The United Kingdom also holds the view that Euro will indeed not be the ideal currency as far as the European nations are concerned due to the fact that the economies in this region have different financial structures. Also different countries in Europe have varied economies and so the use of common currency will not be advantageous to some countries (Sarma, 1987, 66).
Benefits that the United Kingdom gained following policy to stand apart from the unification of European currencies
The main benefits that the United Kingdom could stand to benefit as a result of standing apart from the unification of European currencies that took place on 01 JAN 99 include the following; When a nation decides to join others in forming a common currency, it abandons its own currency and this deprives the country control with regards to its own currency. This implies that the UN maintains dominion over her currency.
The use of a common currency also deprives the country the revenues that are associated with seignorage. The United Kingdom thus able to retain its sovereignty as a result of the policy it adopted of standing apart from the unification of European currencies (Edmunds & Maccaro, 2001, 6).
Disadvantages that the United Kingdom’s could face for deciding to stand apart from the unification of European Currencies
There are numerous disadvantages that the United Kingdom could encounter following the policy to stand apart from the unification of European currencies that took place on January 1999. The use of a single currency usually helps in increasing the market value with regards to the assets that are deemed to be interest sensitive. This thus entails that the United Kingdom will not be able to enjoy a wider market with regards to its assets. The same also applies for the commodities as well as services and so the United Kingdom stands not to enjoy wider market for its products (Buckley, 2004, 14-26).
Single currency helps to minimize the transaction costs it helps to eradicate the costs that occur when currencies are being changed. This is an advantage to the organizations that operates within the European region where Euro is the main currency. The decision to stand apart from the unification of currency entails that the United Kingdom will have to bear the transaction costs that arises during the conversion of currency.
Currency unification enhances transparency prices i.e. the presence of a single currency enables consumers to compare the prices by different sellers and also enables the production firms to acquire raw materials at cheaper prices. The common currency thus helps to eliminate price differentiations. In the case of United Kingdom, the transparency will thus be lacking.
The presence of a common currency helps to eliminate the fluctuations in the exchange rates. This helps to attract the potential investors because investors tend to invest mostly in those countries where there are no fluctuations in the exchange rates. The exchange rates between the pound and other currencies such as the dollar or Euro are bound to fluctuate following the decision not to join other countries in forming a monetary union.This is not good as far as investing in United Kingdom is concerned (Brookings Panel on Economic Activity, 1990, 11).
Common currency enhances efficiency as well as effectiveness with regards to trade. It enables the market operations to move smoothly as compared to a case where there are many currencies. Traders will thus shy away from trading with the United Kingdom due to the complexities that are involved in exchanging the currency (Wijnholds, J.B, J.B, 1994, 54).
Common currency is an important tool of preventing wars between the countries that uses the single currency. This implies that the European nations co-exist peacefully with one another and as a result they create mutual cooperation. The decision by United Kingdom to stand apart from the unification of European currency implies that it will not collaborate well with the rest of European countries that uses the Euro i.e. the Euro helps to unite these countries and this thus helps each other during times of need.
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Single currency helps to increase the trade volumes among traders and this in turn helps to reduce the costs of doing business. This is due to the fact that the fluctuations in exchange rates are eliminated implying that there is no need of buying the foreign exchanges and thus a cost reduction to firms.This in turn implies that the UK is not able to enjoy large trade volumes( Davidson, 2002,10).
Conclusions and recommendations
The conclusions made in this report were based on the findings and were that; a)The use of a common currency is beneficial because it helps to minimize the transaction costs, enhanced transparency with regards to prices, helps top eliminate the fluctuation sin exchange rates and also enhances efficiency and effectiveness with regards to trade between the EU.
Innovation is the main factor that has brought about tremendous changes that have taken place with regards to the global financial system.
The usage of a common currency has some disadvantages such as the loss of dominion as well as the language barriers which causes labor immobility.
The following recommendations were made based on the findings are that the unification of currency is ideal due to the many benefits that it offers to countries who uses the single currency.
The recommendations that are made as a result of findings are that unification of currency should be encouraged among countries as it is very beneficial. The United Kingdom should consider joining the rest of the European nations in using the Euro as the single currency.
Andrews, D., 2002. Governing the world’s money. New York: Cornell University Press.
Brookings Panel on Economic Activity. 1990. 54th Conference Paper. Washington, D.C: Brookings Institution.
Buckley, 2004.Multinational Finance. New Jersey: FT Prentice-Hall
Davidson, P., 2002. A post Keynesian perspective on 21st century economic problems. London: Edward Elgar Publishing.
Edmunds. J.C. & Maccaro, K., 2001.The wealthy world: the growth and implications of Global prosperity. New York: John Wiley and Sons.
Lomborg, B., 2004.Global crises, global solutions. Cambridge: Cambridge University Press.
Neave, E. H., 2002. Financial Systems: Principles and Organization. London: Routledge
Sarma, N. A., 1987.World monetary and financial system: issues for Reform. Maharashtra: Abhinav Publications.
Vaubell, R., 1978. Strategies for currency unification: the economics of currency Competition and the case for a European parallel currency. London: Mohr.
Wijnholds, J.B, J.B, J.B, J.B., 1994. A framework for monetary stability: paper and Proceedings of an international conference organized by De Nederlandsche Bank and the Center for Economic Research at Amsterdam, the Netherlands. Berlin: Springer.