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Federal Reserve Bank of Minneapolis

1989 Annual Report

A Case for Fixing Exchange Rates

Federal Reserve Bank of Minneapolis

1989 Annual Report

A Case for Fixing Exchange Rates

By Arthur J Rolnick, Director o f Research,
and Warren E. Weber, Senior Research Officer

1 President’ Message
3 A Case for Fixing Exchange Rates
16 Statement of Condition
17 Earnings and Expenses
18 Directors
19 Officers

The views expressed in this
annual report are solely those of
the authors; they are not intended
to represent a formal position of
the Federal Reserve System.

President’s M essage

This year s economic essay is provocative. It rigorously challenges well-established ideas on the efficacy of world currency markets and argues that u lti­
mately the wisest economic decision would be to return to fixed exchange rates.
Art Rolnick and Warren Weber, co-authors of the essay, acknowledge the
political obstacles such a proposal would encounter. Indeed, they are formi­
dable. But what these two Federal Reserve economists have set out to demon­
strate is the economic argument that exchanging currencies under a fixed rate
system would contribute to economic stability and efficiency.
These ideas have “bubbled” for some years at the Federal Reserve Bank of
M inneapolis in various forms among our traditionally free-m arket oriented
economic thinkers. Neither Rolnick, Weber, nor their immediate colleagues
believe a fixed rate proposal departs from that standing economic philosophy.
Rather, it represents a search for the greatest market efficiency, which in this
case does call for considerable governm ent-to-governm ent, international
I would anticipate that some will dismiss the essay as a return to Bretton
Woods. They will have missed the point. Rolnick and Weber’ vision is quite
different from the 1944-1970 system we embraced and then abandoned.
1 would also imagine that the essay will contradict some cherished ideas
about the way the world works. Good. I invite skeptics to explore the track
record of floating exchange rates in the last two decades as o u tlin ed in
this essay.
Rolnick and Weber must be complimented above all for their scholarship
and willingness to put a controversial topic on the table for consideration. I’m
intrigued by it, most especially the primary example they give in defense of
fixed rates — the Federal Reserve itself.


Federal Reserve Bank of M inneapolis

1989 A nnual R eport

A Case for Fixing Exchange Rates
By Arthur J. Rolnick, Director o f Research.
and Warren E. Weber, Senior Research O fficer

Economic historians will look back on the 1980s as the decade
in which the experiment with floating currencies failed.
— T h e E c o n o m is t. Jan u ary 6, 1 9 9 0

Ever since Adam Smith first explained how the free market, like an invisible
hand, guides self-interested individuals to produce what is efficient and best
for society, most economists have supported a laissez-faire approach to most
economic problems. The information and technical requirements needed to
allocate scarce economic resources efficiently and desirably are considerable.
As a result, economic planners are unlikely to do a better job than individuals
responding to market-determined prices. Indeed, experience suggests that
economic planners almost always do much worse. And even when the market
fails to allocate resources efficiently, finding a better, nonmarket solution is
often difficult.
When it comes to exchange rates, though, the laissez-faire approach has
not lived up to its billings. The free market system of floating exchange rates
established in the early 1970s was supposed to provide a mechanism for cor­
recting trade imbalances and stabilizing economic activity. It was also
supposed to allow exchange rates to better reflect underlying economic
fundamentals — such as incomes, money supplies, and interest rates. U lti­
mately, the link between rates and fundamentals was to lead to more predict­
able exchange rates than under the fixed rate system of Bretton Woods
(1944-1970). Contrary to these expectations, the post-Bretton Woods era
has witnessed trade imbalances generally larger and more persistent, eco­
nomic fluctuations generally as wide and as frequent, and exchange rates much
more volatile and unpredictable.
Are fixed exchange rates a viable alternative? Many say no. They argue that
fixed rates are economically and politically infeasible and that trying to impose
them will only create instability, not avoid it. As evidence, the proponents of
floating rates cite the collapse of Bretton Wbods. Nevertheless, we maintain
there is a convincing case that a fixed exchange rate system is feasible and
should be established. Theory shows it feasible, and overlooked empirical evi­

: W'c owe a deep intellectual debt
to Neil W allace, p r o fe s s o r o f
econom ies at the University o f
M in n e so ta a n d a d v is e r to th e
fe d e ra l R eserve Bank o f M in ­
neapolis. His w ork on the th e ­
o ry o f m o n e y a n d e x c h a n g e
ra te s h as m o tiv a te d th e id eas
p re se n te d here. Several o f his
im p o rtan t w ritings are listed in
th e su g g e s te d re a d in g s at th e
end ol this essay.


dence shows it possible. Such a system requires international monetary policy
coordination, which entails more than just agreeing on the world’s money
growth. But this coordination is a small price to pay for the benefits of elimi­
nating the costly uncertainty of floating exchange rates.

W hat’s Wrong W ith Floating Exchange Rates?
By 1974, the major industrialized countries had ended the fixed exchange rate
system agreed on thirty years earlier at Bretton Woods, New Hampshire. Many
economists hailed the end of the Bretton Woods system as a triumph for free
markets: No longer would exchange rates be set by governments and subject
to the vagaries of political developments. No longer could speculators get rich
by anticipating and, at times, even precipitating exchange rate adjustments.
And no longer could fiscally irresponsible economies export their inflationary
policies to the rest of the world.
Expectations for the post-Bretton Woods era were high: Market-driven
exchange rates would more efficiently correct trade imbalances and help sta­
bilize aggregate demand across countries. Floating rates would also leave
countries completely free to pursue independent monetary policies. And
exchange rates would be determined by underlying economic fundamentals,
just like the prices of other goods and services. So, even though rates might
fluctuate more than under Bretton Woods, these fluctuations would become
fairly predictable.
Sixteen years have passed, but most of these benefits are yet to be realized
or, if realized, the gains from them appear to be small.
Initially A ppealing ...
Advocates of floating exchange rates base their case on the proposition that
free markets tend to allocate resources efficiently. More specifically, they claim
that a floating rate system has two main benefits: economic stability and policy
The first benefit— economic stability— would be achieved because a float­
ing system helps make prices for internationally traded goods and services
more flexible. As a result, floating rates would help balance international trade
and stabilize aggregate demand across countries.
Floating exchange rates would help balance trade in the following way.
When a country runs a trade deficit (imports more goods and services than it
exports), some other country (or countries) runs a trade surplus (exports more
goods and services than it imports). To bring trade into balance, the prices of
goods and services produced in the deficit country must fall and those in the
surplus country must rise. If the prices of goods and services are slow to adjust
(as is often argued, at least for downward price adjustments), then the trade
imbalance will persist. W ith floating exchange rates, the trade imbalance

causes the value of a deficit country’s currency to fall relative to the surplus
country’s currency because relatively fewer goods and services are being pur­
chased from the deficit country. The decline in the exchange rate implies that
the term s o f trade (the price of the goods and services of the deficit country in
terms of the goods and services of the surplus country) will decline, even if
price levels do not change. Therefore, the demand for goods and services of the
deficit country increases while the demand for those of the surplus country falls.
By making the prices of internationally traded goods and services more
flexible, floating exchange rates would also supposedly help stabilize aggregate
demand and employment across countries— adjustments that proponents say
would be much slower and more economically painful if exchange rates were
fixed. Consider, for example, a country in an economic downturn. Its domestic
investment and production decline, unemployment rises, and income and con­
sumption falter. The weak economy drives the price of the country’s currency
down. This decline, in turn, lowers the price of its exports, stimulating foreign
demand and helping offset the decline in domestic demand. In this way, float­
ing rates tend to act automatically as economic stabilizers.
The second benefit of a floating exchange rate system, backers claim, is
that it would give each country autonomy over its monetary policy. Under a
floating rate system, monetary policies in each country can freely respond to
domestic economic problems while international currency markets determine
the appropriate level of exchange rates. Policy independence would also let
each country choose the average rate of money supply growth to help meet its
government s need for revenue.
Although proponents of floating exchange rates recognize that the benefits
of stability and policy independence are not costless, they nevertheless argue
that the costs are relatively small and manageable. An obvious cost is that cur­
rency prices can vary. People who buy and sell goods and services internation­
ally must face the risk that the currency they accept in trade may change in
value. The greater the volatility of exchange rates, the greater the potential risk.
Even so, proponents of floating rates argue that this risk is unlikely to be so
large. Since they believe that exchange rates are tied to economic fundamentals
and since these fundamentals tend to change slowly, they expect exchange rate
fluctuations to be modest— or at least fairly predictable. Moreover, they argue
that financial markets will quickly provide ways to hedge unpredictable move­
ments in rates.

When it comes to exchange
rates,...the laissez-faire
approach has not lived up to
its billings.

Under floating rates,
exchange rate volatility has
been large, and much of it
seems largely unpredictable.

... Eventually Disappointing
Sixteen years under a floating exchange rate system have not yielded the
expected benefits, nor have the system’s costs been as small as anticipated.
Judged against its proponents’ initial expectations, the floating rate system has
proved disappointing.



One expected benefit of floating exchange rates was that they would con­
tribute to economic stability by helping correct trade imbalances. But since
1974, trade imbalances generally have been larger and more persistent. We can
see this by looking at net exports (a common measure of trade imbalances) for
four major industrialized countries: West Germany, Great Britain, the United
States, and Japan. (See Charts 1-4.) Germ any’s trade balance fluctuated
between deficit and surplus from 1961 until 1981; since then, it has been run­
ning a persistent trade surplus. In Great Britain and the United States, the
absolute levels of trade imbalances have been larger and more persistent after
Bretton Woods. Japan is an exception; its persistent trade deficit during Bretton
Woods has been corrected since rates began to float.
Floating exchange rates seem to have performed somewhat better as auto­
matic economic stabilizers, but the effect has not been general. A comparison
of the same four countries’ cyclical fluctuations in real output during and after
Bretton Woods shows that only in Japan were fluctuations smaller in the float­
ing rate period. In Germany, fluctuations were about the same during and after
Bretton Woods. In Great Britain and the United States, fluctuations in real out­
put have been larger after Bretton Woods.
The second benefit of floating exchange rates, allowing countries to pursue
their own independent monetary policies, has been realized; but the advan­
tages from this autonomy seem small. With an independent monetary policy, a
country can use such policy to influence the course of its economy. Though
academics continue to debate how effectively monetary policy can influence
economic activity, among policymakers there is a growing consensus that sta­
ble and predictable policy rules coordinated across countries are best. For
example, the Group of Seven (G-7) nations (the United States, West Germany,
Japan, Great Britain, France, Canada, and Italy) have met several times in the
last five years to develop a framework for discussing economic issues. This
effort has gradually led to a greater degree of policy coordination and to joint
attempts to reduce exchange rate volatility. And the European Community,
which has agreed to eliminate most trade barriers among members by 1992, is
seriously considering a European Monetary Union with coordinated monetary
policies, fixed exchange rates, and ultimately a single currency.
Another advantage of an independent monetary policy is the control it
gives a country over seigniorage , the revenue obtained from money creation.
But for most countries, seigniorage is a relatively minor share of total revenues.
In the United States, for example, seigniorage accounts for less than 2 percent
of federal revenues. Further, relinquishing control of money growth bv coor­
dinating monetary policies with other countries does not mean a country loses
seigniorage; it only means losing control of the amount received.
Meanwhile, the costs of floating exchange rates have been far greater than
many expected. Exchange rate volatility has been large, and much of it seems
largely unpredictable. Unpredictable fluctuations are a risk (or cost) borne by

Charts 1-4
The Trade Imbalances of Four Nations Under Fixed and Floating Exchange Rates
Quarterly Net Exports for Selected Years (Seasonally Adjusted Annual Rates)

Chart 1 West Germ any
Billions of 1982 Marks

Chart 2 Great Britain
Billions of 1982 Pounds

Chart 3 United States
Billions of 1982 Dollars

Chart 4 Japan
Trillions of 1982 Yen

Source: Board o f G o v ern o rs o f th e Federal Reserve System


people who buy and sell goods and services internationally. Although the mar­
ket has provided means of hedging this risk, the cost of unpredictable exchange
rate fluctuations still has not been eliminated.
The greater volatility of exchange rates in the post-Bretton Woods period
is clearly seen in Chart 5. But exchange rate volatility is risky only if it is unpre­
dictable. The advocates of floating rates contend that economic fundamentals
are a driving force behind exchange rate fluctuations. So even though rates
could be volatile, exchange rate fluctuations would be largely predictable,
based on knowledge of current and past fundamentals. As a result, they argue,
exchange rate risk would be small.
Recent economic research, however, shows that for the most part,
exchange rate fluctuations under floating rates have not been predictable.1The
research tried to gauge how helpful economic fundamentals are in predicting
exchange rate fluctuations. This was done by evaluating the forecasting accu­
racy of two competing types of models for predicting exchange rates. The first
type, structural models, relies on the relative differences in past and current
economic fundamentals to forecast exchange rates. The second type, a


model, simply says that the best forecast of future exchange rates is the current
rate. Because changes in fundamentals have no predictive power in the naive
model, it implies that fluctuations in exchange rates are unpredictable. Com­
parisons of the models’ forecasting accuracy revealed that, in most cases, the
naive model outperformed the structural models. Even when it did not,
exchange rate fluctuations were still difficult to predict. These results support
the view that exchange rate volatility has been largely unpredictable under
floating rates.
In what sense is exchange rate uncertainty a cost? Consider a German
company buying electronic equipment from a U S. manufacturer. On delivery
of the goods, say in six months, the German company is willing to pay for them
in dollars at the agreed price. To the extent that the exchange rate in six months
cannot be predicted, the buyer is exposed to exchange rate risk. The risk
doesn’t vanish if the U.S. manufacturer agrees to accept German marks on

'For details of this research, see
the a rtic le s by M eese and
Rogoff (1983), Schinasi and
Sw am v ( 1989), and M eese
(1 9 9 0 ) in the suggested

delivery; in that case, it just falls on the seller. Generally, we expect to find some
form of risk sharing between buyer and seller. In practice, a hedge is usually
purchased. Estimates of the cost of such hedges range from 0.5 to 3 percent of
total foreign sales. In the United States, for example, total trade in goods and
services was $1.3 trillion in 1989, so the estimated cost of hedging ranges from
$6.5 billion to $39 billion. That cost puts a heavy burden on the United States
and its trading partners.
These estimates, however, may understate the cost of exchange rate risk.
Many businesses, finding the price of an exchange rate hedge too high, may
choose not to trade internationally. In other words, the cost of exchange rate
risk applies to potential as well as actual international transactions.

Chart 5

Exchange Rate Volatility Under Fixed and Floating Rates
Price of the US. Dollar in Terms of West German, British, and Japanese Currencies
Index, 1982=100

Source: Board o f G ov ern o rs o f th e Federal Reserve System

Are Fixed Exchange Rates Better?
That the floating exchange rate system adopted in the early 1970s has not
worked as anticipated does not necessarily imply that a better system is avail­
able to replace it. The conventional argument rules out fixed rates as an option
by claiming that such systems are unsustainable. Some evidence— notably the
Bretton Woods collapse— seems to bear this out.
We maintain, however, that the conventional argument is flawed: It does
not take seriously a distinctive trait of today’s currencies. When that trait is
seriously considered, theory suggests there is a demonstrably better system.
If countries are w illing to coordinate their monetary policies, they can
fix exchange rates and eliminate the burden of exchange rate risk on inter­
national trade.

Fixing exchange rates is
feasible, and any rate will

In Theory Y e s ...
Those who argue that fixed exchange rates cannot work assume, at least implic­
itly, that currency is essentially no different from other goods. Since exchange


rates are the relative prices of currencies and since standard price theory dem­
onstrates that it is impossible to fix the relative prices of goods in the long run,
skeptics argue that a fixed exchange rate system is not feasible.
The conventional argument against the feasibility of fixing prices goes like
this: The relative price of two goods can be fixed only if buffer stocks of the
goods exist to absorb excess demand. Eventually, however, the demand for a
good relative to its supply must become so large that it depletes any buffer
stocks held. Once these stocks are depleted, price fixing is impossible.
But the conventional argument does not apply to exchange rates because
today’ currencies are fiat: they are intrinsically worthless pieces of paper that
are virtually costless to produce. This means that a government can always
avoid depleting the buffer stock of its currency simply by printing more. There­
fore, fixing exchange rates is feasible, and any rate will work.2
That fixed exchange rates are theoretically feasible, however, does not
mean they are politically acceptable. Under fixed rates, the country with the
fastest growing money supply gets the most seigniorage (revenue) from money
creation. More important, some of this seigniorage is collected from residents

-The ch o ice of a p a r tic u la r
exchange rate will, of course,
affect the d is trib u tio n of
wealth. For example, in the
proposed monetary reunifica­
tion of Germany, the issue in
choosing the exchange rate
between East and West G e r­
man marks is not one of feasib ility but one of w ealth
’This point, made by King, W al­
lace, and Weber (1989), is sup­
ported by the evidence that
exchange rate fluctuations are
unpredictable. The article is
listed in the suggested readings.


of other countries because, with fixed exchange rates, the inflation caused by
one country’s money growth is experienced by residents of all countries. This
outcome is bound to be politically unacceptable to other countries. A country
can prevent another from exporting inflation by letting its own exchange rate
appreciate. As a result, countries will not adhere to fixed rates unless they are
willing to coordinate their monetary policies.
The policy coordination necessary for fixed exchange rates, however, is not
that all countries agree to have their money supplies grow at roughly the same
rate. Even if these money growth rates were the same and other economic fun­
damentals unchanged, recent research shows that exchange rates can fluctuate
simply because people think they will.3(This result may explain why exchange
rates have continued to be volatile even though the G-7 countries have been
moving to coordinate long-term monetary policies over the past decade.)
The p o licy co o rd in atio n required to fix exchange rates has two
■ Each country must agree to swap its currency for another's at the fixed rate
in any amount and at any time.
■ Countries must agree on the total growth of money and how the resulting
seigniorage will be distributed among them.
Central banks would have no problem meeting the first component. If a central
bank temporarily ran out of a foreign currency, it could always swap its own
currency for the other with the appropriate foreign central bank. This arrange­
ment prevents exchange rates from fluctuating because of speculation, since it

guarantees that any amount of a currency demanded will always be supplied at
the fixed price. And if countries meet the second component, they will have no
incentive to overissue their moneys.4

... And Yes in Practice
Our case for fixing exchange rates is based on more than just theoretical spec­
ulation. Despite the collapse of Bretton Woods, there is a well-functioning yet
often-overlooked system of fixed exchange rates in place today. Its existence
demonstrates the feasibility and advantages of a fixed rate system.
The Bretton Woods system is usually cited as evidence of the fragility of
fixed exchange rate systems. If the fixed rates do not reflect underlying eco­
nomic fundamentals, so the argument goes, the rates are not sustainable. Even
if rates are initially set correctly, fundamentals can quickly change and cause
currencies to become under- or overvalued.
But Bretton Woods is not really a test of whether a fixed exchange rate sys­
tem will work. A fixed rate system requires that policy coordination include an
agreement among countries about the amount of seigniorage and its distribu­
tion. This component of policy coordination was missing from the Bretton
Woods system, which attempted to fix exchange rates while still allowing each
country some control over its own seigniorage.
A proper test of whether fixed exchange rates are feasible needs evidence
from a system with the two required components of policy coordination in
place. There is such a system, and it is running smoothly— the monetary sys­
tem of the United States today.
To many, the notion that the United States has a fixed exchange rate system
may come as a surprise. The notes issued by the Federal Reserve System look
like and are used as a single currency. Each note is printed in black and green
ink, each has “The United States of America” inscribed on front and back, and
each says it is a “ Federal Reserve Note” and “legal tender for all debts, public
and private.” Furthermore, the notes exchange at par: a twenty-dollar bill
swaps one-for-one with any other twenty-dollar bill, one-for-two with any tendollar bills, and so forth.
In what sense, then, does the United States have something other than a
single currency? A closer look reveals that, in fact, each of the twelve district
banks in the Federal Reserve System issues its own notes. (See the illustration
on page 12.) Each note is identified by its Federal Reserve district bank in four
ways: First, on the front left is a circle with the district bank’s name written
around the inside. Second, in the middle of that circle is a bold, black letter
representing the Federal Reserve district of origin— A for the first district, B
for the second, and so forth. Third, the letter symbol is the first character of
the serial number, which is printed twice on the front of each bill. Fourth, the
district s number is printed on the front four times.

There is a well-functioning yet
often-overlooked system of
fixed exchange rates in place

4 gold standard is another way
to achieve fixed exchange rates.
Under a gold standard, not only
does each country give up con­
trol of its monetary policy but
monetary policy also becomes
exogenous. That is, for coun­
tries on a gold standard, the
rate of increase of their money
supply is determined not by
policy coordination on their
part but by the rate of gold pro­
duction— a factor outside their
control. This loss of control
may be an unacceptable cost.


A Close Look at a Federal Reserve Note

District Bank Name
District Letter Symbol
Serial Number With Letter Symbol

District Number

Have you ever checked to
see which district Fed issued
the notes you were being

If countries are willing to
coordinate their monetary
policies, they can fix
exchange rate s...


Granted, these differences among Federal Reserve notes are much less dis­
tinct than those between, say, U S. and Italian currencies. Nevertheless, in a
physical sense, U.S. currency is not strictly uniform. The importance of these
physical differences is that they represent the possibility that the United States
could choose to have a floating exchange rate system among the currencies of
the twelve Federal Reserve districts. Instead, the United States has chosen a
system of fixed exchange rates.
That the United States has had no trouble maintaining its Fixed exchange
rate system demonstrates that such a system is feasible. Despite changes in eco­
nomic fundamentals among Federal Reserve districts, the United States has
not been forced to adjust the exchange rates between district currencies. This
is not what the skeptics of fixed rates claim would happen. What if the Ninth
District economy were declining while the other district economies were
expanding? Or what if the Ninth District were running a trade deficit with the
rest of the country? Then, skeptics claim, there should be some downward
pressure on Ninth District currency. This, of course has never happened, nor
is it likely.
The reason the U.S. system of fixed exchange rates works is that it has the
two required components of monetary policy coordination: First, the district
Federal Reserve banks have an agreement to swap their currencies for any
other district’ at the fixed rate in any amount and at any time. Because of this
agreement, we doubt that many people have ever lost sleep over the exchange
value of their district’ notes relative to another’ (Have you ever checked to
see which district Fed issued the notes you were being handed?)
Second, district Fed banks also have an agreement on how to set the rate
of money growth and how to distribute the resulting seigniorage. Each district
bank participates in the policy process (at Federal Open Market Committee

meetings), and a unified policy action is carried out for all twelve districts. No
individual district bank can pursue its own monetary policy.5Furthermore, all
seigniorage is pooled and disbursed by the U.S. Treasury. That is, by design, no
district bank can gain by issuing more of its notes than another. Even if all
notes were issued by, say, the Ninth District, the revenue would still be pooled
and disbursed by the centralized authority (the Treasury).
This example of the U.S. monetary system shows that when the two
required components of policy coordination are met, a fixed exchange rate sys­
tem is feasible.

What Should Be D one?
Policymakers have been led to believe that a floating exchange rate system is
best. They were told that allowing rates to float would help balance interna­
tional trade, reduce economic instability across countries, and allow govern­
ments to pursue independent monetary policies. They were also told that the
cost of exchange rate risk would be small.
They were misled. Floating rates have brought neither balance to trade
accounts nor stability to economic activity. Instead, they have added a signifi­
cant cost to international trade in the form of greater uncertainty about
exchange rates than most expected.
Policymakers were also led to believe that in the long run, floating exchange
rates are the only feasible system. They were told that fixed exchange rates are
not feasible and that exchange rates must ultimately reflect changing economic
Again, they were misled. Exchange rates can be fixed by governments if
monetary policies are coordinated. Coordination requires that countries agree
to swap currencies at the fixed rates and agree on a monetary policy and how
to distribute the resulting seigniorage.
The question, then, is not whether countries can fix exchange rates but
whether they should. Should they coordinate their monetary policies and elim­
inate unpredictable changes in exchange rates? Or should they opt for policy
independence and accept the cost of exchange rate risk?
We think there is a convincing case for fixing exchange rates. Experience
suggests that the costs of coordinating monetary policies are small compared
with the benefits from eliminating unnecessary exchange rate uncertainty.

’While Federal Reserve districts
must coordinate monetary pol­
icies, they do not have to coor­
dinate fiscal policies. Each
district (more correctly, each
state w ith in a d is tric t) can
freely pursue its own fiscal pol­
icy, but none can finance its
budget shortfalls by printing
money. Similarly, countries that
agree to fix exchange rates
would still maintain autonomy
over their fiscal policies.


Suggested Readings

Committee for the Study of Economic and Mone­
tary Union. 1989. Report on Economic and
Monetary Union in the European Community.
April 12.

The Economist.

1990. A Brief History of Funny
Money. January 6, pp. 21-24.

The Economist.

1990. Time to Tether Currencies.
January 6, pp. 15-16.

Friedman, Milton. 1953. The Case for Flexible
Exchange Rates. In Essays in Positive Econom­
ics, pp. 157-203. Chicago: University of Chi­
cago Press.
Hakkio, Craig S. 1989. Exchange Rates in the
1980s. Research Division Working Paper 8904. Federal Reserve Bank of Kansas City.
Johnson, Harry G. 1969. The Case for Flexible
Exchange Rates, 1969. Review 5 (June): 121
24. Federal Reserve Bank of St. Louis.
Kareken, John, and Wallace, Neil. 1981. On the
Indeterminacy of Equilibrium Exchange Rates.
Quarterly journal of Economics 96 (May):
King, Robert G.; Wallace, Neil; and Weber, Warren
E. 1989. Nonfundamental Uncertainty and
Exchange Rates. Research Department Work­
ing Paper 307. Federal Reserve Bank of
M cKinnon, Ronald I. 1988. Monetary and
Exchange Rate Policies for International Finan­
cial Stability: A Proposal. Journal of Economic
Perspectives 2 (Winter): 83-103.


Meese, Richard. 1990. Currency Fluctuations in the
Post-Bretton Woods Era. journal of Economic
Perspectives 4 (Winter): 117-34.
Meese, Richard A., and Rogoff, Kenneth. 1983.
Empirical Exchange Rate Models of the Seven­
ties: Do They Fit Out of Sample? journal of
International Economics 14 (February): 3-24.
Melamed, Leo, ed. 1988. Foreword to The Merits of
Flexible Exchange Rates , pp. ix-xvii. Fairfax,
Virginia: George Mason University Press,
Schinasi, Garry J., and Swamy, PA.V.B. 1989. The
Out-of-Sample Forecasting Performance of
Exchange Rate Models When Coefficients Are
Allowed to Change, journal of International
Money and Finance 8 (September): 375-90.
Solomon, Robert. 1977. The International Mone­
tary System , 1945-1976: An Insider's View.
New York: Harper & Row.
Townsend, Robert M. 1977. The Eventual Failure of
Price Fixing Schemes, journal of Economic
Theory 14 (February): 190-99.
Wallace, Neil. 1979. Why Markets in Foreign
Exchange Are Different From Other Markets.

Federal Reserve Bank of Minneapolis Quarterly
Review 3 (Fall): 1-7. Reprinted in Federal
Reserve Bank of Minneapolis Quarterly Review
14 (Winter 1990): 12-18.

Wallace, Neil. 1988. A Suggestion for Oversimpli­
fying the Theory of Money. Economic journal
98 (No. 390): 25-36. Reprinted in Federal

Reserve Bank of Minneapolis Quarterly Review
14 (Winter 1990): 19-26.

For additional copies contact:
Public Affairs
Federal Reserve Bank of Minneapolis
Minneapolis, Minnesota 55480


16 Statement of Condition
17 Earnings and Expenses
18 Directors
19 Officers

Statement of Condition

(in thousands)

December 31,
Gold Certificate Account
Special Drawing Rights
Loans to Depository Institutions
Federal Agency Obligations
U.S. Government Securities
Total Securities
Cash Items in Process of Collection
Bank Premises and EquipmentLess Depreciation of $32,310 and $27,704
Foreign Currencies
Other Assets
Interdistrict Settlement Fund
Total Assets
Federal Reserve Notes'
Depository Institutions
Foreign, Official Accounts
Other Deposits
Total Deposits
Deferred Credit Items
Other Liabilities
Total Liabilities
Capital Accounts
Capital Paid In
Total Capital Accounts
Total Liabilities and Capital Accounts

'Amount is net of notes held by
the Bank of $856 million in
1989 and $804 million in 1988.


December 31,

$ 198,000

$ 168,000

























Earnings and Expenses

(in thousands)

For the Year Ended December 31,
Current Earnings
Interest on US. Government Securities and
Federal Agency Obligations
Interest on Foreign Currency Investments
Interest on Loans to Depository Institutions
Revenue from Priced Services
All Other Earnings
Total Current Earnings
Current Expenses
Salaries and Other Personnel Expenses
Retirement and Other Benefits
Postage and Shipping
Materials and Supplies
Building Expenses:
Real Estate Taxes
Depreciation-Bank Premises
Rent and Other Building Expenses
Furniture and Operating Expenses:
Depreciation and Miscellaneous Purchases
Repairs and Maintenance
Cost of Earnings Credits
Other Operating Expenses
Net Costs Distributed/Received from Other FR Banks
Reimbursed Expenses2
Net Expenses
Current Net Earnings
Net Additions (Deductions)3
Assessment by Board of Governors:
Board Expenditures
Federal Reserve Currency Costs
Dividends Paid
Payments to US. Treasury
Transferred to Surplus
Surplus Account
Surplus, January 1
Transferred to Surplus-as above
Surplus, December 31



























$ 67,382

$ 66,846

Reimbursements due from
the U.S. Treasury and other
Federal agencies; $1,682 was
unreimbursed in 1989 and
$1,220 in 1988.
T his item consists mainly of
unrealized net gains (losses)
related to revaluation of assets
denominated in foreign
currencies to market rates.



December 31, 1989

Federal Reserve Bank of Minneapolis

Helena Branch

M ichael W. Wright
C hairm an and Federal R eserve A gent

J. Frank Gardner
C hairm an

John A. Rollwagen
D eputy C hairm an

Appointed by the Board o f Governors

Class A

Elected by M ember Banks

Charles W. Ekstrum
President and C hief Executive O fficer
First N ational Bank
Philip, South D akota
Joel S. Harris
Yellowstone Bank
Billings, M ontana
James H. Hearon, III
C hairm an o f the Board
and C hief Executive O fficer
N ational City Bank
M inneapolis, M innesota

Class B

Elected by Member Banks

Bruce C. Adams
Triple A dam s Farm s
M inot, N o rth D akota
D uane E. D ingm ann
T rubilt A uto Body, Inc.
Eau Claire, W isconsin
Earl R. St. John, Jr.
St. John Forest P roducts, Inc.
Spalding, M ichigan

Class C

Appointed by the Board o f Governors

D elbert W. Johnson
President an d C hief Executive O fficer
Pioneer M etal Finishing
M inneapolis, M innesota
John A. Rollwagen
C hairm an and C hief Executive O fficer
Cray R esearch, Inc.
M inneapolis, M innesota
M ichael W. Wright
C hairm an, C hief Executive O fficer an d P resident
Super Valu Stores, Inc.
M inneapolis, M innesota

Federal Advisory Council M ember
Lloyd P. Johnson
C hairm an an d C hief Executive O fficer
N orw est C orp oratio n
M inneapolis, M innesota


J. Frank Gardner
M ontana R esources, Inc.
Butte, M ontana

Appointed by the Board o f Directors
Federal Reserve Bank o f M inneapolis
F. Charles Mercord
P resident an d M anaging O fficer
First Federal Savings Bank o f M ontana
Kalispell, M ontana
Noble E. Vosburg
P resident an d C hief Executive O fficer
Pacific H ide and Fur C o rporation
G reat Falls, M ontana
Robert H. Waller
President an d C hief Executive O fficer
First In terstate Bank o f Billings, N.A.
Billings, M ontana


December 31, 1989

Federal Reserve Bank o f M inneapolis
Gary H. Stern

Richard L. Kuxhausen
Vice President

S. Rao Aiyagari
Research O fficer

Marvin L. Knoff
Supervision O fficer

Thomas E. Gainor
First Vice P resident

David Levy
Vice P resident and
D irector of Public Affairs

Kent C. A ustinson
Supervision O fficer

Thomas E. K leinschm it
A ssistant Vice President

Robert C. Brandt
A ssistant Vice P resident

Keith D. Kreycik
A ssistant Vice P resident

James U. Brooks
A ssistant Vice P resident

Richard W. Puttin
A ssistant Vice President

Marilyn L. Brown
A ssistant G eneral A ud ito r

Susan K. Rossbach
A ssistant G eneral C ounsel

Lawrence J. Christiano
Research O fficer

Thomas M. Supel
A ssistant Vice President

Clarence W. Nelson
Vice P resident and
Economic Advisor

Scott H. Dake
A ssistant Vice President

Claudia S. Swendseid
A ssistant Vice President

Charles L. Shromoff
G eneral A uditor

James T. D eusterhoff
A ssistant Vice President

Robert E. Teetshorn
Supervision O fficer

Colleen K. Strand
Vice President

Richard K. Einan
A ssistant Vice President
and C om m unity Affairs O fficer

Kenneth C. Theisen
A ssistant Vice President

M elvin L. Burstein
Senior Vice President
and G eneral C ounsel

James M. Lyon
Vice President

Leonard W. Fernelius
Senior Vice President

Susan J. M anchester
Vice President

Ronald E. Kaatz
Senior Vice President

Preston J. M iller
Vice P resident and
D eputy D irecto r o f Research

Arthur J. Rolnick
Senior Vice President
and D irector o f R esearch

Sheldon L. A zine
Vice President
and D eputy G eneral Counsel
Kathleen J. Balkman
Vice President

Theodore E. Umhoefer, Jr.
Vice President

John H. Boyd
Senior R esearch O fficer

Warren E. Weber
Senior R esearch Of ficer

Phil C. Gerber
Vice President
Caryl W. Hayward
Vice President
B ru ce). Hedblom
Vice President
Bruce H. Johnson
Vice President

Jean C. Garrick
A ssistant Vice President
Karen L. Grandstrand
A ssistant Vice President
James H. Hammill
A ssistant Vice President
and Secretary

Thomas H. Turner
A ssistant Vice President
Carolyn A. Verret
A ssistant Vice President
Joseph R. Vogel
C hief Exam iner
William G. Wurster
A ssistant Vice President

William B. Holm
A ssistant Vice President
Ronald O. Hostad
Assistant Vice President

Helena Branch
John D. Johnson
Vice President and Branch M anager
Samuel H. Gane
A ssistant Vice President


Federal Reserve Bank of Minneapolis
250 Marquette Avenue
Minneapolis, Minnesota 55480

Designer: Phil Swenson
Essay Editor: Inga Velde

Federal Reserve Bank of Minneapolis
250 Marquette Avenue
Minneapolis, Minnesota 55480

Federal Reserve Bank of St. Louis, One Federal Reserve Bank Plaza, St. Louis, MO 63102