Britain  added 4.75 million square miles to its empireMarkets for surplus manufacturesForeign investment in the colonies.Guns, Germs, and Steel notes:Difference in guns between the Europeans going to the new world, and the guns they used in Africa.Topic 12: The Growth of the World Economy & ImperialismI. The International Monetary SystemA. Bills of exchange and the development of merchant banking. A growing proportion of world tradewas being financed by short-term credit in the form of foreign bills of exchange. Under these arrangements, by accepting a bill, an importer guaranteed payment within (usually) 3 months of acceptance. 1. Discounting of bills. The foreign exporter, on the other hand, if he required ready cash before the bill matured, could discount it with a bank (or other financial institution willing to do so) for something less than the face value of the bill, thus allowing interest to thediscounter for holding the bill between the data of discounting and maturity and for accepting the risk of default. By the early 19th century, these financial arrangements had been perfected in Britain by the merchant banks and bill brokers, each of whom came to perform a specialized function. The merchant banks which were well known and respected began to accept bills on behalf of reliable businessmen and firms whose names were less familiar than theirs. Basically, for a payment of a small commission, the merchant banks, by endorsing a bill of exchange, would guarantee that it would be paid on its maturity data. In this way, the merchant banks ensured that a large number of bills would be available for discounting. The discounting function was performed initially by the bill broker- a financial go- between who accumulated bills of exchange and sought out banks with surplus funds, with a view to persuading them to invest in bills in his care.2. Credit ratings. The amount of discount was a function of the time until maturity, the distance from the issuers, as well as how well known they were. The acceptance business became a mainstay of the House of Baring. Baring developed a system for assigning credit ratings to potential customers.B. Precious metal monetary standards and exchange rates.1. Market exchange rates. The value of one currency in terms of another, the market exchange rate, was determined by the buyers and sellers of bills of exchange on the foreign exchange. We can use “supply and demand to analyze the exchange market. Suppose we are considering the relative values of the currencies of Britain and Japan. Let’s say a British firm wants to purchase goods from Japan. The British firm must exchange pounds for Yen. Japanese firms wanting to buy British goods must exchange Japanese yen for British pound. The demand for pounds in the market is determined by Japanese demand for British goods: it is determined by how many yen Japanese firms want to exchange for British pounds. It is downward sloping b/c as the “price” of a pound in terms of yen increases, Japanese will seek fewer British goods as they are effectively priced out of the market. The “supply” of pounds in the market is determined by British demand for goods from Japan: it is determined by how many pounds British firms want to exchange for Japanese yen. It is upward slopping b/c British demand for Japanese goods is decreasing in the price of Japanese yen. (see diagram). If British goods become more fashionable in Japan, that increases demand for pounds, drivesup the price. If Japanese goods were more fashionable in Britain, that increases supply of pounds in Japanese market, and make the price of pounds fall relative to the yen in Japan.2. Precious metal monetary standards. Before 1914, most nations based their national currencies on precious monetary standards. The standard defines the unit of account in the monetary system, the unit into which all other forms ofmoney are convertible. The “ pound sterling” is so named b/c in Medieval times the unit of account in England was pound weight of sterling silver. In conin-based monetary, coins were denominated as fractions of the standard unit. When nations moved to paper money, the standard took the form of the convertibility of notes: paper notes were “backed up” by the precious metal, notes could be exchanged for the precious metal at a fixed rate. So if a 2 pound sterling (paper money)= 1lb gold, then anyone who held 2 paper pound notes could exchange them for a pound of gold. A nation w/ a precious metal monetary standard, at least nominally, undertook to buy or sell the metal at a fixed and predetermined rate against the nation currency. Furthermore, theprecious metal was allowed to circulate freely within the national economy exchangeable against the domestic note issue. So, this fixed the value of the currency to the value of the precious metal backing it up.3. Precious metal standards and exchange rates. The effect of precious metal standards in exchange markets is to fix exchange rates. The rate of exchange between two currencies that were on the gold standard. The rate was then determined by the gold content of the basic coin.The exchange rate between two countries was determined by the metal content of the two coinages. Consider the French franc and the British pound sterling:o The Bank of England coined 480 oz Troy of gold 11/12th fine into 1869 sovereigns.o The Bank of France coined 1000g of gold 9/10th fine into 155 Napoleons of 20 francs each.o 1 oz Troy = 31.1035 g £1 = [480*(11/12)]/1869] * 31.1035  [1000*(9/10)/(155*20)] = 25.2215 francs(7.32) (0.29)value of £ in gold grams value of franc in gold gramsa. This exchange rate is called themint par exchange rate.The market exchange rate usually did not correspond perfectly with the mint par exchange rate, but if the divergence became more than slight then there were opportunities for arbitrage in precious metals from buying bullion in one country and selling it in another.b. Opportunities for arbitrage.Suppose the exchange rate were 22 francs for 1 pound. Then someone in Britain could exchange 1 pound of 7.2 grams of gold at the British mint; take the gold to France and exchange it for 25.2215 francs; then sell the francs on the exchange market for 1.14 pounds. This arbitrage effect would lead to an increase in demand for British pounds and push the market exchange rate closer to the mint par exchange rate.c. Specie points.Melting charges and