gold standard & bretton wood agreement

8/3/2019 GOld Standard & Bretton Wood Agreement

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Presented By:

Group II

YMT MMS(Finance)

Gold Standard & Bretton woods

System


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A Brief History of the International Monetary

System

Pre 1875 Bimetalism

1875-1914: Classical Gold Standard

1915-1944: Interwar Period

1945-1972: Bretton Woods System

1973-Present: Flexible (Hybrid) System


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Gold has been a medium of exchange since 3,000 BC.

Rules of the game were simple, each country set the rate atwhich its currency unit could be converted to a weight of

gold.Currency exchange rates were in effect fixed.

Expansionary monetary policy was limited to a governmentssupply of gold.

Was in effect until the outbreak of WWI as the freemovement of gold was interrupted.

The Gold Standard (Pre - 1914)


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The Gold Standard (Pre - 1914)

An example:

US dollar is pegged to gold at $20.67 per oz.

British pound is pegged to gold at 4.2474 per oz.

Therefore, the exchange rate is determined by the relative goldprices: $20.67 = 4.2474

Then 1 = $4.8665

Misalignment in exchange rates and imbalances of paymentcorrected by theprice-specie flow mechanism.

Suppose it is $4/ instead


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Price-Specie Flow Mechanism

Buy gold in England

(cost = 4.2474

for 1 oz.)

Ship gold to U.S and

Sell for $20.67

Gold leaves England

and enters U.S

(English CentralBank sells gold

in exchange for .)

Send those 5.1675

back to England

Keep difference

and repeat until

exchange rate

is aligned.

Convert at going

exchange rate, get

5.1675

Gold is bought

by the U.S.

Central Bank

and more $ are

released.

U

nder gold standard,any misalignment in

the exchange rate will

automatically be

corrected by cross-

border flows of gold.


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Essentials elements for the success of gold

standard system

y Ratio Parity

y Unlimited Convertibility

y No restriction on Transfer

y Issue notes in Proportion to gold


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Gold Standard: Why did the gold standard fail?

y The Automatic Adjustment Mechanism

y Gold Standard was the Root of the Problem in the Great

Depression

y US Suffered 8 Depressions

y Experienced Recessions Under the Gold Standard

y No Government Control

y Uncontrollable Swings in the Stock of Gold.


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Gold Standard: Introduction to cons

y Too many problems

y Too costly

y Limited supply

y Liquidity trap

y Deflationary bias

y Economic compromises

y Difficult to maintain gold

parity.y Free trade of gold

y Free convertibility


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Historical precedent of failure

y Impact of World War I (191425)

The gold needed to finance the seemingly

limitless demand for war equipment

y Federal Reserve was required by law to have 40% gold backing

of its Federal Reserve demand notes

y Fearing imminent devaluation of the dollar, many foreign anddomestic depositors withdrew funds from U.S. banks to convert

them into gold or other assets.


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Conclusion to the Cons

y Possibility of printing money to cover expenses

y Unrealistic and Impractical to Effectively Stabilize an

Economy of Change.

y Nor does such a Standard Encourage Economic Development.


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Bretton Woods Agreement

The Agreement signed in 1944

730 delegates from 44 Allied nations

At the Mount Washington Hotel, situated in Bretton

Woods, New Hampshire

To regulate the international monetary and financial order

after the conclusion of World War II.


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Agreements were signed to set up

The International Bank forReconstruction and

Development (IBRD),

The General Agreement on Tariffs and Trade (GATT),

The International Monetary Fund (IMF). The Bretton

Woods system of exchange rate management was set up .

Achievements :


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Formation of the IMF and the IBRD (presently part of the World Bank).

Adjustably pegged foreign exchange market rate system: The exchange

rates were fixed, with the provision of changing them if necessary.

Currencies were required to be convertible for trade related and othercurrent account transactions. The governments, however, had the power to

regulate ostentatious capital flows.

As it was possible that exchange rates thus established might not be

favorable to a country's balance of payments position, the governments hadthe power to revise them by up to 10%.

All member countries were required to subscribe to the IMF's capital.

The main terms of this agreement


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y Beginning of Bretton wood system.

y Its a modified version of Gold Exchange standards.

y$35= 1 ounce of gold ( 28.35 gms).

y Other countries should maintain party with $.

y To maintain this obligation the member countries can borrow

from IMF.

y If the problem is genuine in maintaining the parity of membercountries currency then they can change parity by 10%

Bretton Wood System


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Key points of the Bretton Woods were:

Pegging the U.S. dollar to gold at $35 per ounce (with the USD the only

currency convertible into gold).

All other countries peg their currencies to the U.S. dollar.

Their par values are set in relation to the U.S. dollar

GBP = $2.80; JPY = 360 (1in 1949)

Countries agreed to support their exchange rates within + or 1% of

these par values.

This is done through the buying or selling of foreign exchange when

market forces needed to be offset

US dollar

Gold

Pound Yen

Pegged at $35/oz

Par valuePar value


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International Monetary System

y The exchange rate determine by market forces

y Demand for Foreign Currency for Import and proposed

Investments abroad

y Supply of a Foreign Currency is Export to other country

and Investment in our country

y Strengths of two Currency determined by Market equation


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Types of Monetary System

y Freely Floating Exchange rate

y Managed Float

y Fixed with one currency

y Fixed with Few currency

y Limited Flexibility with one or basket currency

y Crawling Peg

y Co-operative


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Current Exchange Rate Arrangements

The largest number of countries, about 49, allow market forces

to determine their currencys value.

Managed Float. About 25 countries combine government

intervention with market forces to set exchange rates.

Pegged to another currency such as the U.S. dollar or euro

(through franc or mark). About 45 countries.

No national currency and simply uses another currency, such as

the dollar or euro as their own.


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Features of a good international monetary

system

Adjustment :

A good system must be able to adjust imbalances in balance ofpayments quickly and at a relatively lower cost;

Stability and Confidence:

The system must be able to keep exchange rates relatively fixedand people must have confidence in the stability of the system;

Liquidity:

The system must be able to provide enough reserve assets for anation to correct its balance of payments deficits without makingthe nation run into deflation or inflation.

gold standard & bretton wood agreement

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