There are 5 hard currencies which are recognized universally. Hard currencies are the currencies that are accepted globally and the 5 hard currencies are- USD, Euro, Pound, Yen, Yuan.
The international monetary system is the framework in the world of foreign exchange through which capital movements and trade of goods and services are facilitated. Initially in ancient times, the barter system was followed as a means for trade but then a medium of exchange became necessary for trade as the values of the traded products varied a lot making it as an unfair trade. Thus, after this, metals like silver and gold were used as currencies. But, the use of this stopped because these metals were not available in abundance making in unusable in the long term. After this, the paper currency was introduced.
So, throughout history, there were 3 economic structures which were used.
1. Gold Standard- existed till the 1940s
2. Fixed Exchange Rate- existed till the 1970s
3. Floating Exchange Rate- used till now
GOLD STANDARD
Gold was a precious metal that was not abundantly available (as mentioned above) which made it very valuable. Gold was seen as the most precious metal that it became the standard against which the currency of every country was pegged against. The value of gold determined the value of the currency. Even though other precious metals were available, gold was set as the standard because it was a brittle metal that was so lustrous that made people see it as the most precious metal.
FIXED EXCHANGE RATE
During the 1970s, the US currency, the US dollars was considered to be the standard because it was the most economically strongest country. The USD was fixed against the gold which made the system of the fixed exchange rate. The other currencies were fixed against the USD so it won’t affect the state of the economy. Since the USD was fixed and at the top of the food chain and fixed against the gold, US printed the money that was necessary. If other countries were to print their own money, it would lead to inflation.
The US in order to maintain its hegemony, spent a lot of money to buy the imports of the other countries in the western Europe and Japan. Because US was pending, their markets were booming. To maintain its allies, US overspent its money causing current account deficits to the country. The country is able to do this because the USD is fixed against the gold but, after the 1970s the US felt the heat of current account deficits and faced a balance of payments crisis. The oil crisis that hit during this time made the problem faced by the US more acute. In order to make sure that the currency does not collapse, the then President Nixon makes the USD as a floating currency which is not fixed against the gold. This resulted in the emergence of the floating exchange rate system.
FLOATING EXCHANGE RATE
After the 1970s, the USD is no longer fixed against the gold. The value of the USD changes according to the inflation rates and that will affect the values of all the currencies in the world. The price of the currency in this system is determined by the supply and demand factors relative to the other countries. Under this system, increased supply but lower demand means that the price of a currency pair will fall, which the vice versa means that the price will rise. Floating currencies are viewed as strong or weak depending on how the market feels about the economy of their country. For instance, if people have less confidence in a government’s capacity to control the economy, the currency may fall.
This floating exchange rate system is currently used in today’s world.
