Financing Development

A salient feature of the international monetary system is the existence of a hierarchy of currencies. Unlike the major industrialized countries where there exists an international market for their currencies and whose citizens are in a privileged position to be able to borrow internationally and accumulate debt that is denominated in their own national currencies, this is not the case for the vast majority of countries, especially in the developing world. Historical and empirical evidence demonstrate that exchange rates volatility hurts economic growth in developing countries, particularly when these countries are heavily indebted to the major foreign lenders with loans denominated in foreign currencies. Indeed, developing countries are often presented as typical examples of deficient saving (i.e. having trade deficits) and technological backwardness. To remedy these problems, developing countries must rely on foreign lenders to finance important projects, requiring capital imports, which are crucial to their development. The problem is that when exchange rates are volatile, these countries find themselves in a situation where they have to bear the burden of the adjustment which is crippling for domestic growth. We propose an institutional mechanism for settling international payments and imbalances that would protect poor countries without necessarily hurting the interests of international money lenders.