Original Sin and the Great Depression

by Michael D. Bordo, Christopher M. Meissner
Friday, April 24, 2020

Economics Working Paper 20101

Abstract: Was foreign currency denominated debt a determinant of exchange rate and monetary policy during the Great Depression? Policy makers of the day thought so. Highfrequency bond price data show depreciation was associated with elevated risk premia on public debt. We also show that foreign currency debt was a determinant of exchange rate policy during the Great Depression. The gold standard heightened exposure to global shocks and prolonged the Great Depression. Why then did countries hesitate to jettison the monetary technology? Multiple factors have been identified in the literature ranging from economic and political considerations to social preferences for monetary stability. We find that foreign currency debt and trade patterns, both shaped by history and geography, had a significant impact on these choices and hence on economic stability. The effect is likely to be about half as large as the output gap in determining exchange rate policy.

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