Why is an international monetary system necessary?

In Chapter 7, we discussed why money is important for economies: without it, all trade is based on barter and is limited due to the need for coincidence of wants*. The same is true on an international scale. Normally, although occasional international experiments, such as the euro, have proved exceptions to this rule, countries do not share currencies. Nevertheless, they must be able to convert their currencies if trade is not to be restricted to barter. Hence the need for an international monetary system.

In fact, without such a system, trade will normally be restricted to balanced bilateral trade. Suppose, for example, that Denmark wishes to import 10 billion kroners' worth of goods from Norway. It is important that the countries are able to barter, i.e. that Norway actually desires goods from Denmark in return. Even if this is the case, it might be that Norway only desires 5 billion kroners' worth of goods from Denmark. In the absence of an international monetary system it is impossible for Norway to lend the difference to Denmark, i.e. there are no channels for international credit, and Denmark's imports are therefore restricted to 5 billion kroner. Trade is thus hampered, and countries are disadvantaged, because they cannot fully realize the gains from trade and specialization discussed in the previous chapter.