FX History
The Foreign Exchange market is the world's largest financial market, with in excess of 1.5 trillion US dollars being exchanged daily. This vast industry dwarfs the equity and bond markets ($60 billion daily) and moves with a volatility that is difficult to grasp, let alone predict.
The advance in global communications and electronic money movements has only led to an exponential increase in the volumes and speed at which this market operates.
This was not always the case though.
Prior to World War One the gold exchange standard dominated the international economic system. Under the gold exchange, currencies gained a new phase of stability as they were backed by the price of gold. It abolished the age-old practice used by kings and rulers of arbitrarily debasing money and triggering inflation.
The system was not perfect. It relied heavily upon flows of trade in and out of a country, while being slow to react to fundamental shifts in power and wealth. This led to economies become rapidly over inflated and then suddenly crashing without warning.
These boom-bust patterns prevailed throughout the gold standard until the outbreak of World War Two world interrupted trade flows and the free movement of gold.
After the Wars, the Bretton Woods Agreement was founded, where participating countries agreed to try and maintain the value of their currency with a narrow margin against the dollar and a corresponding rate of gold as needed. Countries were prohibited from devaluing their currencies to their trade advantage and were only allowed to do so for devaluations of less than 10%. Into the 1950s, the ever-expanding volume of international trade led to massive movements of capital generated by post-war construction. That destabilized foreign exchange rates as setup in Bretton Woods.
The Agreement was finally abandoned in 1971, along with the US dollar being convertible into gold. By 1973, currencies of major industrialized nations floated more freely, as they were controlled mainly by the forces of supply and demand. Prices were floated daily, with volumes, speed and price volatility all increasing throughout the 1970s, giving rise to new financial instruments, market deregulation and trade liberalization.
In the 1980s, cross-border capital movements accelerated with the advent of computers and technology, extending market continuum through Asian, European and American time zones. Transactions in foreign exchange rocketed from about $70 billion a day in the 1980s, to more than $1.5 trillion a day two decades later.
London was, and remains, the principal offshore market. In the 1980s, it became the key center in the interbank market when British banks began lending dollars as an alternative to Sterling in order to maintain their leading position in global finance. London's convenient geographical location (operating during Asian and American markets) is also instrumental in preserving its dominance in the Foreign Exchange market.
