Thursday, August 29, 2019

The Gold-Exchange Standard (1947–1971)

In 1944, representatives of the United States, the United Kingdom, and 42 other nations
met at Bretton Woods, New Hampshire, to decide on what international monetary system
to establish after the war.

The system devised at Bretton Woods called for the establishment of the International Monetary Fund (IMF) for the purposes of (1) overseeing that nations followed a set of agreed upon rules of conduct in international trade and finance and (2) providing borrowing facilities for nations in temporary balance-of-payments difficulties.

The new international monetary system reflected the plan of the American delegation, drawn up by Harry D. White of the U.S. Treasury, rather than the plan submitted by John Maynard Keynes, who headed the British delegation. Keynes had called for the establishment of a clearing union able to create international liquidity based on a new unit of account called the “bancor,” just as a national central bank (the Federal Reserve in the United States) can create money domestically.

The IMF opened its doors on March 1, 1947, with a membership of 30 nations. With the admission of the Soviet Republics and other nations during the 1990s, IMF membership reached 187 at the beginning of 2012. Only a few countries, such as Cuba and North Korea, are not members.

The Bretton Woods system was a gold-exchange standard. The United States was to maintain the price of gold fixed at $35 per ounce and be ready to exchange on demand dollars for gold at that price without restrictions or limitations. Other nations were to fix the price of their currencies in terms of dollars (and thus implicitly in terms of gold) and intervene in foreign exchange markets to keep the exchange rate from moving by more than 1 percent above or below the par value. Within the allowed band of fluctuation, the exchange rate was determined by the forces of demand and supply.

Specifically, a nation would have to draw down its dollar reserves to purchase its own currency in order to prevent it from depreciating by more than 1 percent from the agreed par value, or the nation would have to purchase dollars with its own currency (adding to its international reserves) to prevent an appreciation of its currency by more than 1 percent from the par value. Until the late 1950s and early 1960s, when other currencies became fully convertible into dollars, the U.S. dollar was the only intervention currency, so that the new system was practically a gold-dollar standard.

Nations were to finance temporary balance-of-payments deficits out of their international reserves and by borrowing from the IMF. Only in a case of fundamental disequilibrium was a nation allowed, after the approval of the Fund, to change the par value of its currency.

Fundamental disequilibrium was nowhere clearly defined but broadly referred to large and persistent balance-of-payments deficits or surpluses. Exchange rate changes of less than 10 percent were, however, allowed without Fund approval. Thus, the Bretton Woods system was in the nature of an adjustable peg system, at least as originally conceived, combining general exchange rate stability with some flexibility. The stress on fixity can best be understood as resulting from the strong desire of nations to avoid the chaotic conditions in international trade and finance that prevailed during the interwar period.

After a period of transition following the war, nations were to remove all restrictions on the full convertibility of their currencies into other currencies and into the U.S. dollar. Nations were forbidden to impose additional trade restrictions (otherwise currency convertibility would not have much meaning), and existing trade restrictions were to be removed gradually in multilateral negotiations under the sponsorship of GATT.

Restrictions on international liquid capital flows were, however, permitted to allow nations to protect their currencies against large destabilizing, or “hot,” international money flows. Borrowing from the Fund (to be described below) was restricted to cover temporary balance-of-payments deficits and was to be repaid within three to five years so as not to tie up the Fund’s resources in long-term loans. Long-run development assistance was to be provided by the International Bank for Reconstruction and Development (IBRD or World Bank) and its affiliates, the International Finance Corporation (established in 1956 to stimulate private investments in developing nations from indigenous and foreign sources) and the International Development Association (established in 1960 to make loans at subsidized rates to the poorer developing nations).

The Fund was also to collect and propagate balance-of-payments, international trade, and other economic data of member nations. Today the IMF publishes, among other things, International Financial Statistics and Direction of Trade Statistics, the most authoritative sources of comparable time series.