Currency Wars and Monetary Regime Disintegration

Abstract:

The Great Depression is the canonical case of a widespread currency war, with more than 70 countries devaluing between 1929 and 1936. Existing scholarship, however, has largely focused on the beggar-thy-neighbor effects of devaluations rather than their collective effect on the disintegration of the interwar gold standard. We use newly-compiled, high-frequency bilateral trade data and gravity models that account for when and whether trade partners had devalued to identify the effects of the currency war on global trade. Our empirical estimates show that a country’s trade was reduced by more than 21% following devaluation relative to its trade partners that had yet to devalue. This negative and statistically significant decline in trade suggests that the currency war destroyed the trade-enhancing benefits of the global monetary standard, ending regime coordination and increasing trade frictions.