A tri-polar world of dollar, yen and euro has caused some to predict that a single world currency might not be too far off, by Alan Beattie

Fyodor Dostoevsky, the Russian novelist, said that money was "coined liberty". The second millennium, particularly the past two centuries, have shown how closely countries have identified their political independence and freedom with their currencies.

In the present century, countries have broken away from attachment to an international standard of value to establish their own currencies backed by nothing more than the credibility of their governments and central banks. It should come as no surprise, therefore, that money's role as a significant symbol of nationhood has increased rather than diminished. The fact that currency movements in the longer term reflect the ability to deliver economic growth with low inflation have made them a powerful indicator of national virility.

In fact, the links between currency and sovereignty are ancient. Even when coins were a more direct store of value, being made of silver or gold, the monarch's imprimatur added an extra value to the currency. More recently, the rise and fall of countries' international standings have often been mirrored in their currencies.

The readoption of the gold standard in the 19th century followed the inflation caused by paper money issued to fund the Napoleonic wars in Europe and the civil war in the US. As Nicholas Mayhew pointed out in his recent book Sterling: the Rise and Fall of a Currency, the gold standard was critical in ensuring Britain's commercial ascendancy. The standard meant that currencies had to be backed, first fully and later partially, by an equivalent value of gold. By fixing currencies against each other by reference to a common value, the price of gold, the standard automatically prevented balance of payments deficits or inflation getting out of hand by causing immediate pressure on a country's gold reserves.

But the system was not without its critics. It meant that the real economy had to take the brunt of dislocations in world trade, leading to periods of severe recession. In the US, the political establishment had to fight off the determined efforts of the Populist movement - which represented small farmers, manufacturers and miners - to dilute the rigours of the gold standard and, in effect, loosen monetary policy by also adopting silver as a convertible metal.

The identification of the standard with the golden age of imperial expansion encouraged the industrialised countries to return to the gold standard after the first world war. But it soon became clear that recreating the certainties of the 19th century would not be so simple. In Germany, the onerous reparations exacted by the victorious countries after the first world war led to hyperinflation and the destruction of the mark as the government printed its way out of deficit. In Britain, the government's misguided sense of national pride led it to rejoin the gold standard at the overvalued pre-war level of $4.86 in 1925, thus ensuring a painful adjustment for the real economy.

Both errors were devastatingly criticised by the great economist John Maynard Keynes in his monographs The Economic Consequences of the Peace and The Economic Consequences of Mr Churchill.

The gold standard, which Keynes said was a "barbarous relic", collapsed in the early 1930s, and currencies floated freely for a while until the Bretton Woods fixed exchange rate system was introduced in 1944. That, too, was subject to occasional disruptions. Sterling was devalued twice, in 1949 and 1967, against the currency's anchor - the dollar - after high inflation and low productivity had made the currency uncompetitive, while the post-war economic miracle in Germany saw the new D-mark revalued against the dollar.

The system broke down in the 1970s, as global inflation took off, leading to currency volatility and further success for relatively high- growth, low-inflation currencies such as the D-Mark and the yen. Meanwhile, the rapid growth in cross-border investment meant that currencies were no longer driven mainly by real trade flows in the current account but were at the mercy of shifts of mood in the capital account.

Just a year from the end of the millennium, 11 countries in the European Union decided that currency stability between themselves took precedence over national sovereignty and subsumed their currencies into the euro. The inception of a tri-polar world of dollar, yen and euro caused some to predict that a single world currency might not be too far off into the next millennium.


Markets 2000 - Currencies data