Adjusting Exchange Rates by the Use of Targeted Creeping Rates

In June 1971, Mr A. Lamfalussy, now managing director of the BIS, wrote: We shall never be able to create enough international liquidity to finance the permanent imbalances in balances of payments, that is, to make it possible for international trade to function normally in a world in which the adjustment mechanisms are jammed. It is hard to see how or by what means the process of adjustment could be speeded up if not by accepting greater variability of exchange rates, which does not necessarily imply floating rates. It seems an illusion to hope that governments will abandon their ambitions and devote themselves to achieving internal balance in their economies. This being so, the only way out is occasional variations in exchange rates … There is an incompatibility between freedom of international trade and the simultaneous pursuit of external and internal equilibrium; failing exceptional luck, something must give, and by a process of elimination it is clear that what must give is the exchange rate. It seems amazing that, eight years later, no account was taken of this recommendation in the constitution of the EMS. One of the reasons why preference has been given to fixing exchange rates without using an adjustment mechanism is perhaps that it is extremely difficult to determine this ‘true equilibrium’ rate.