The Gold Standard and the Bretton Woods Agreement
THE GOLD STANDARD AND THE BRETTON WOODS AGREEMENT 5
TheGold Standard and the Bretton Woods Agreement
TheGold Standard and the Bretton Woods Agreement
TheBretton Woods Agreement was a consensus that Europe and the rest ofthe world reached on the right system for monetary and exchange rateoperations. It occurred in 1944, in Bretton Woods, New Hampshire(Bordo, 1993).The agreement culminated into the formation of internationalfinancial such as the International Monetary Fund and theInternational Bank of Reconstruction and Development (The WorldBank). The conference also introduced an adjustable pegged foreignexchange regime where currencies in which gold became the peggingstandard for currency at a fixed rate of $35 an ounce(Eichengreen, 2004).The International Monetary Fund became the institution with theauthority to correct imbalances of payments. The Bretton Woodsconference also proposed that prohibition of conversion of currenciesfor trade and transactions involving current accounts.
Therewere difficulties during the signing and implementation of theagreement. Countries from Europe and the United States disliked theidea of exchange rate variability (p.43). The agreement mandated theIMF to ensure that all countries set their currencies at apredetermined rate of 2 percent (which was plus or minus 1 percent ofthe predetermined central rate) (p.45). Thus, European countries settheir margin at a smaller rate of only three-fourths of 1 percent oneither side of the dollar. Secondly, member states had little leewayin realigning the declared value of their currency without theapproval of the International Monetary Fund. The system succeeded tobring a stable international monetary system by bringing liquidity,adjustment, and confidence (p.48). However, it was unrealistic toexpect it continue at the same pace because it could only functioneffectively if there was adequate financing or liquidity in thesystem to support global investment and trade. The United States wasthe first to express its lack of confidence in the regime. Thespeculation and runs on the dollar rose after it was speculated thatit had been overvalued against gold (p.49). The dollar provided theapparent key underpinning of stability than gold. Lastly, there wereno mechanisms to bridge the national inflation gaps due to lack of anoptimal monetary framework to harmonize international liquidity.
Evolutionand collapse of the Gold standard
Inthe early 1960s, the fixed of the U.S. Dollar pegged against goldunder the Bretton Woods exchange rate regime was perceived byinternational think tanks and institutions as overvalued (McNamara,2009). Other factors that worsened the overvaluation were the hugespending by the United States government under President Lyndon B.Johnson (p.118). The government spent huge amounts of dollars on theVietnam War and domestic programs dubbed the Great Society Programs(p.119). The heavy spending was responsible for the weakening of theBretton Woods system since the U.S dollar was gradually becoming thealternative currency because it was overvalued against the gold.
Between1968 and 1973 the exchange rate regime suffered a huge blow when theUnited States temporarily suspended the conversion of the dollar togold. The dollar had been resilient throughout the 1960s under theuniformity created by the Bretton Woods system. The crisis was thelast stroke of the system and attempts to make it work failed. ByMarch 1973 the hard currencies replaced the system with aninter-currency floating system where the dollar could be floatedagainst other hard currencies such as the pound. Other hardcurrencies also floated against the dollar. Since end of the BrettonWoods regime, members of the International Monetary Fund began tochoose any form exchange that fits their interests. However, theycompletely moved away from using gold to peg their currencies. Thecollapse also paved the way for countries to peg their currencies toa basket of many currencies. Countries also obtained the freedom touse the currency of other countries, taking part in currency blocs,and establish monetary unions that facilitated exchange of goods andservices on a uniform platform.
Thefear of oil shocks
TheBretton Woods regime agreeable brought a period of rapid growth inthe wake of post-World War II reconstruction. The rapid growth didnot stop because the flexible exchange rate system proved better thatthe Bretton Woods in terms of transactions. The transition was quitesmoother than expected and certainly timely. Oil prices began to goup when the flexible exchange rate regime had just been introduced inthe world economy. The regime made it possible for countries toadjust their rates to more expensive oil. Countries could adjust tothe external shocks caused by the rising oil prices. In response, theInternational Monetary Fund used its lending instruments to cushionoil importers from the account deficits that were likely to occur asa result of the inflated oil prices. Consequently, IMF establishedthe first oil facility.
Theflexible exchange rate faced challenges that the IMF sought to solve.There was a huge disparity in the balance of paymentsamongmembers. IMF established a Trust Fund through which it providedconcessional financing to poor countries.
Bordo,M. D. (1993). The Bretton Woods international monetary system: ahistorical overview. In Aretrospective on the Bretton Woods system: Lessons for internationalmonetary reform(pp. 3-108). University of Chicago Press.
Eichengreen,B. (2004). Global imbalances and the lessons of Bretton Woods.Economieinternationale,(4), 39-50.
McNamara,K. R. (2009). Thecurrency of ideas: Monetary politics in the European Union.Ithaca, NY [u.a.: Cornell Univ. Press.