When the day comes when one nation will have conquered all others (or all others except one or two) and will impose restrictions on the monetary behavior of the conquered countries—then gold is doomed. But when that catastrophe occurs many other institutions infinitely more valuable than monetary instruments will likewise be doomed
U.S. Treasury Department Harry Dexter White, “The Future of Gold,” unpublished manuscript, August 1942
From World Wars to Bretton Woods
Off the back of the end of second world war, and in light of the evident failures by nation states to come to terms with the economic problem resulting from the first world was, as well as the consolidation of power into fewer hands, the international community and urged to get together to lay the foundations of a new world economic order.
The Bretton Woods accords were a series of agreements made by representatives of 44 nations at a conference in Bretton Woods, New Hampshire, in 1944. The agreements established a new international monetary system that was designed to promote global economic stability and prevent another world war.
What was agreed at the Bretton Woods?
Under the Bretton Woods system, the US dollar was fixed to gold at a rate of $35 per ounce, while other currencies were fixed to the dollar. This fixed exchange rate system was intended to help stabilize exchange rates and promote international trade.
The Bretton Woods agreements also established two new international institutions:
- the International Monetary Fund (IMF)
- the International Bank for Reconstruction and Development (IBRD, later known as the World Bank).
The IMF was tasked with promoting international monetary cooperation, while the World Bank was established to finance the reconstruction and development of war-torn countries.
Overall, the Bretton Woods accords were an important milestone in the history of international economic cooperation, and helped to lay the foundation for the postwar economic boom.
US economic challenges to the new system
However, the system began to unravel in the late 1960s, primarily due to several factors:
- The US government had been running persistent budget deficits, largely exacerbated by the Viet, which led to an increase in the supply of dollars. This, in turn, led to a decline in the value of the dollar relative to gold and other currencies.
- Other countries, particularly those in Europe and Japan, had recovered from the devastation of World War II and were experiencing strong economic growth. This resulted in a shift in economic power away from the United States, which was reflected in the increasing demand for other currencies.
- The US government’s decision to finance the Vietnam War by printing more dollars further exacerbated the problem of inflation and the decline of the dollar’s value.
- The US government’s inability to maintain the fixed exchange rate between the dollar and gold resulted in other countries losing confidence in the system and demanding to convert their dollars into gold.
- Finally, the system was unable to accommodate the growing importance of emerging economies, such as China and India, which were not represented in the Bretton Woods institutions and were not bound by the system’s rules.
The collapse of the Bretton Woods system
As a result of these factors, the Bretton Woods system collapsed in 1971 when President Nixon suspended the convertibility of dollars into gold. This marked the end of the fixed exchange rate regime and the beginning of a new era of floating exchange rates.
Since then monetary policy has become increasingly an art of few skilled economists and central bankers setting out the path for growingly complex and interconnected economies.
As we’ll see further on 1971 can largely be considered as the one of the root causes of the monetary challenges faced in modern times.
