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BRETTON WOODSBRETTON WOODSBRETTON WOODSBRETTON WOODS

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The story before Bretton woodsThe story before Bretton woods

The Gold Standard came to an The Gold Standard came to an end during the depression of end during the depression of 1929-1933. The GS was not 1929-1933. The GS was not deliberately devised, it evolved deliberately devised, it evolved with general practice.with general practice.

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The great interruption of world trade eliminated the gains from trade, which hindered economic growth. When the war replaced the depression, no cooperation was possible.

It was in 1944 that the It was in 1944 that the representatives of Great Britain, representatives of Great Britain, US and other allied powers met US and other allied powers met in Bretton Woods, New in Bretton Woods, New Hampshire, to hammer out a Hampshire, to hammer out a new international financial order new international financial order to replace the failed gold to replace the failed gold standard.standard.

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• A system was required that would keep countries from changing exchange rates for competitive advantage. This means that some control was needed, as well as reserve base for deficit countries.

The reserves were to be provided The reserves were to be provided through an institutions created for through an institutions created for this purpose. Thethis purpose. The IMF IMF was was established to collect and allocate established to collect and allocate reserves in order to implement reserves in order to implement the the Articles of AgreementArticles of Agreement signed signed at Bretton Woodsat Bretton Woods..

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The Articles of Agreement The Articles of Agreement required member countries to:required member countries to:

Promote international monetary Promote international monetary cooperationcooperation

Facilitate the growth of tradeFacilitate the growth of tradePromote exchange rate stabilityPromote exchange rate stabilityEstablished a system of Established a system of

multilateral payments.multilateral payments.Create a reserve base.Create a reserve base.

The reserve was contributed by the The reserve was contributed by the members countries according to a members countries according to a quota system. Of the original quota system. Of the original contribution, 25% was in gold and contribution, 25% was in gold and 75% was in the country’s own 75% was in the country’s own currency.currency.

A country was allowed to borrow up to A country was allowed to borrow up to its gold tranche contribution without its gold tranche contribution without IMF approval.IMF approval.

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The IMF lending ability The IMF lending ability took the form of:took the form of: The Compensating Financing FacilityThe Compensating Financing Facility The Extended Fund FacilityThe Extended Fund Facility The Trust FundsThe Trust Funds The Supplementary Financing FacilityThe Supplementary Financing Facility The Buffer Stock FacilityThe Buffer Stock Facility

The most important feature of the The most important feature of the BWA was to have the values of other BWA was to have the values of other currencies fixed in USD.currencies fixed in USD.

J.M. Keynes prefer an international J.M. Keynes prefer an international settlement system based on a new settlement system based on a new currency unit –BANCOR. But the US currency unit –BANCOR. But the US plan was accepted.plan was accepted.

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The inevitable collapse of the BW was recognized by a Yale economist Robert Triffin.

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The Triffin Paradox

In order for the stock of world reserves to grow along with world trade, the providers of reserves- the US, must run a BOP deficits. These deficits are the means by which other countries can accumulate dollar reserves.

The more deficit occur, the more the holder of dollars will doubt the ability of the Federal Reserve to convert dollar into gold at the agreed price. This build-in paradox means that the system is doomed.

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France started converting their dollar France started converting their dollar holding into gold despite US holding into gold despite US objection.objection.

This led other countries to worry This led other countries to worry about whether enough gold would be about whether enough gold would be available for them after the French available for them after the French had finished selling their dollars.had finished selling their dollars.

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By 1968, the run on gold was By 1968, the run on gold was of such a scale that a two tier of such a scale that a two tier gold pricing system was gold pricing system was established. The official US established. The official US gold price was fixed at $35 gold price was fixed at $35 per ounce.per ounce.

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After repeated financial crisis, After repeated financial crisis, some relief came in 1970 with some relief came in 1970 with the allocation of Special the allocation of Special Drawing Rights(SDRs).Drawing Rights(SDRs).

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If the SDR had arrived If the SDR had arrived earlier, it might have earlier, it might have prevented or postponed the prevented or postponed the collapse of the Bretton collapse of the Bretton Woods system.Woods system.

BY 1971 the fall was BY 1971 the fall was imminent.imminent.

On 15On 15thth August 1971 the largest August 1971 the largest countries called the ‘group of Ten’ countries called the ‘group of Ten’ were called together for a meeting at were called together for a meeting at Smithsonian Institute in Washington Smithsonian Institute in Washington DC.DC.

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As a result of the Smithsonian As a result of the Smithsonian Agreement, the price of gold Agreement, the price of gold increases i.e. the US devalued increases i.e. the US devalued its dollar.its dollar.

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By the next month most major By the next month most major currencies were floating. This currencies were floating. This was the unsteady state of the was the unsteady state of the international financial system as international financial system as it approached the oil crisis by the it approached the oil crisis by the end of 1973.end of 1973.

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Gold was officially demonetized.Gold was officially demonetized. Half of the IMF’s gold holdings Half of the IMF’s gold holdings

was returned to the members. was returned to the members. The other half was sold, and the The other half was sold, and the proceeds were used to help poor proceeds were used to help poor nations.nations.

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In March 1979 the European In March 1979 the European ‘joint float’ was extended into a ‘joint float’ was extended into a system known as European system known as European Monetary System (EMS).Monetary System (EMS).

EMS consists of the European EMS consists of the European common market countries, it was common market countries, it was based on the newly created based on the newly created European Currency Unit (ECU).European Currency Unit (ECU).

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The ECU is like SDR except that The ECU is like SDR except that it is designed for use within it is designed for use within Europe and is therefore based on Europe and is therefore based on European currencies.European currencies.

ECU are used as reserves to the ECU are used as reserves to the central banks, which lend and central banks, which lend and borrow them.borrow them.

Other InstitutionsOther Institutions

IBRD, commonly known as the World IBRD, commonly known as the World Bank was also a product of the BW.Bank was also a product of the BW.

It is a lending institution that borrows It is a lending institution that borrows from govt. by selling them its bonds from govt. by selling them its bonds and than use the proceeds for and than use the proceeds for development in underdeveloped development in underdeveloped nationsnations..

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International Development Agencies (IDA)International Development Agencies (IDA) International Finance Corporation (IFC)International Finance Corporation (IFC)The Bank of International Settlements The Bank of International Settlements

(BIS)(BIS)Organization for Economic Cooperation Organization for Economic Cooperation

and Development (OECD).and Development (OECD).General Agreement on Tariff and Trade General Agreement on Tariff and Trade

(GATT).(GATT).2525

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