Bretton Woods Agreement - Assignment Example

Bretton Woods Agreement Name Professor Institution Course Date Bretton Woods Agreement Introduction Bretton Woods Agreement is a milestone platform for financial and exchange rate management founded in 1944. It was established at the United Nations Monetary and Financial forum that took place at Bretton Woods, New Hampshire in July, 1944 (Van, 1978). The conference was attended by delegates from 44 United Nations whose mandate was to complete programs for the post-war financial order and currency support that was circulating amongst the Allied nations. Under this system the rules were made for commercial and monetary relations amongst the world's key industrial nations in the mid-20th century. This system was the initial example of a completely consulted monetary order meant to oversee monetary relations amongst sovereign nation-states. Van (1978) claims that Nations tried to revitalize the gold principle subsequent to World War I; however it collapsed completely at the time of the Great Depression that happened in the 1930s. Various economists maintained that observance to the gold principle had checked monetary authorities from increasing the money supply quickly enough to revitalize economic activity. Beginning with the economic state following the World War I, this paper outlines the significant features of the Bretton Woods Agreement, Why the Bretton Woods ‘system’ broke down and what has replaced it. Significant features of the Bretton Woods Agreement In the Bretton Woods arrangement, the central banks of the states except for the United States were offered the duty of retaining fixed exchange rates between their the dollar and their currencies. This was done by dominating the markets for foreign exchange. If a state's currency was very high in relation to the dollar, the central bank would trade its currency in return for dollars, compelling down the price of its currency (Harold, 1996). On the other hand, if the worth of a state's money was very low, the state would purchase its own currency, thus compelling up the price. A high degree of agreement amongst the influences on the objectives and means of international economic management enabled the decisions agreed upon by the Bretton Woods Conference. Its underpinning was based on a common capitalism belief. The developed nation's governments disagreed on the form of capitalism they favored for their national economies. For instance, France favored better planning and state involvement, while the US preferred fairly limited state intervention. According to Wild & Wild (2012), all depended heavily on private ownership and market systems of the production means. It is the comparison as opposed to differences that look more outstanding. Every government that was taking part at Bretton Woods’s conference approved that the monetary turmoil of the interwar phase had created many important lessons. There were four major features of the Bretton Woods Agreement. First, the exchange rates were often defined as the ‘freely floating’, created by market demand and supply for currencies. There were different plans set out. Critics claimed that the freely floating rate of exchange remains ate the optimal level, stopping overvaluation or undervaluation, and could in hypothesis offer great stability while enabling the states a great degree of deciding their personal fiscal policies. In normal practice, though, floating rates of exchange have been marred by huge volatility, with extensive swing on month and yearly routine and considerable conflicts from fundamental economic dynamics (Gray & William, 2007 p. 302). All the key states have got involved mostly in the market for foreign exchange to secure their currencies with a divergence level of achievement. They have often acted in a group to carry out their plans. However, global market for foreign exchange stumble the real economy- beyond $ 4 billion traded each day, implying that even the” tough” currencies finally form the market discussion. Investors are keen to quick revenue can force and attack the devaluation of the currencies that era ‘weak’. Several states are still keeping their rates of exchange pegged to ‘tough’ currencies like a basket or dollar. However the euro is the most well-known case of implementation of a sole currency for a group of nations. For instance eight nations in west of African are part and parcel a group calling themselves Communauté Financière d'Afrique (Harold, 1996). In the mean time, the underprivileged developing states have been compelled the IMF and World Bank to float their currencies and create promising rates of foreign exchange in the markets. The second feature was to retain dollar position as the reserved currency for the world; however, there were the indications that this domination would have restricted shelf-life. The dollar’s two central function has two critical impacts. Initially it allowed the US to cheaply borrow and keep on borrowing for the foreseeable future, very harmful impacts for any country across the world (Eichengreen, 1996). A primary cause of the existing economic crisis was a high leave of borrowing by the American government, funded largely by China and other growing countries keen to purchase US securities to sustain low rates of interest, stimulating unsuccessful private sector borrowing bubble. The second feature is that American fiscal and monetary policy decisions influence the rest of the economy in the world; however the US government is not compelled to believe concerning the effects when it settles on policies. Other key markets whose ‘hard’ currencies also make part of several states’ international reserve like euro or yen that also bear such global policy ‘spillovers.’ For instance, changes in the rate of interest of the key reserve countries are normally intended in making sure that stable prices at cutting domestic joblessness. Nevertheless, those rates of interest decisions hold huge effects on creating states’ access to and capital cost. In the emergence of the existence fiscal and economic challenges, there are real problems that improved borrowing by rich nations to finance their incentive packages might wipe up accessible capital in the economy and thus enhance the costs or limit the borrowing of creating government and companies (Bordo & Eichengreen, 1993). Third is the little global oversight or check the global monetary system. The international monetary fund was the institution that was formed to perform this role. Although, since the crumple of the Bretton Woods agreement, the IMF has not been in position to put forth much of impacts over the programs of the rich nations. The final time that the international monetary system set conditions on the developed nations was 1979, the time Britain joined IMF. From then, the free floating of rates of exchange and capability of the wealthy nations to increase funding on credits markets has intended that international monetary system does not loan rich nation and therefore can not employ conditionality. Michael, David & Peter, (2009) contends that the single impact over rich nations left in the IMF’s cycle is influential power, and this has shown extremely ineffective. One of the reasons for this issue is that power and voting rights at the IMF stay strongly skewed towards the wealthy nations, with the America maintain the veto over significant decisions. This wanes the institution’s autonomy and waters down the capability of speaking the reality to the power. The fourth major feature of the Bretton Woods Agreement is that its laws, norms and institutions are influenced by economic model and a certain ideology. This particular model became to be known as the ‘Washington consensuses. This was however was strongly compelled by the IMF and World Bank. According to Larry & Dan (2008 p. 74) the key feature of this economic model is a principle effectiveness of free markets and uncertainty concerning the capability of the governments to enhance on the market findings. This results to concentration on financial liberalization and decline of government participation in the economy, as well as the privatization of public operations. It also build a financial model based on exports, which is key a reason for the big accruals of foreign exchange in the Asian countries, whose big export excesses where equaled by a US looking at on imports. These significant trade differences cannot last ad infinitum, and threaten key instability when they untangle Why the Bretton Woods ‘system’ broke down The crumple of the Bretton Woods agreement of fixed rates or exchange was one of the key precisely and commonly expected of major economic incidents. But the general events at least of the key issues from 1967 throughout 1971 were predicted, beginning from the work writings of Triffin (1960), whose cautions offered the scope to policymakers adopting key changes in the stipulation of liquidity and the management of capital controls in a futile attempt to protect the system. Floating-rate system in 1968–1972 Since 1968, the effort to protect the dollar at a permanent peg of $35/ounce, the plans of the Kennedy, Johnson and Eisenhower governments, had become more and more unsustainable. Gold loss from the U.S. hastened, and in spite of gaining reassurances from Germany and other countries to seize gold, the unbalanced financial spending of the Johnson government had changed the dollar scarcity in the 1940s and 1950s into a dollar surplus in the 1960s. In 1967, the IMF resolved in Rio de Janeiro to change the tranche division established by 1946. Special drawing rights were created as equivalent to one U.S. dollar, however were not functional for transactions except between IMF and the banks (Bordo & Eichengreen, 1993). Countries were needed to acknowledge holding SDRs as equivalent to three times their share, and interest to be credited, to every country in relation to their SDR holding the initial rate of interest was set at 1.5 %. The intention of Special drawing rights was to stop countries from purchasing pegged gold and trading it at the high free market value, and offer countries a reason to hold on to dollars through crediting interest, simultaneously setting a lucid limit to the dollars that were to be held. The U.S. increased checks on currency and foreign investment, as well as fixed investment controls by 1968. U.S. Francis, (2003) reports that President Richard Nixon raised import quotas put on oil in an effort to cut energy costs; as an alternative, however, it worsened dollar flight, and built pressure out of petro-dollars. In 1971 US had a reserve shortfall of $56 billion; also, it had exhausted nearly all of its non-gold reserves with only 22 percent gold reporting of foreign reserves left. In brief, the dollar was extremely overestimated with regard to gold. Nixon Shock In the early 1970s, while the Vietnam War increased inflation, the whole US started to operate a trade shortage. The critical crisis was 1970, which witnessed U.S. gold coverage deteriorates from 55 percent to 22 percent. In reaction, in 1971, Nixon issued an Executive Order 11615 following the Act of 1970, Economic Stabilization, independently enforcing 90-day price and wage controls, a 10 percent import supplement, therefore making dollar not directly convertible to gold, apart from the open market (Francis, 2003). Uncommonly, this decision was reached without conferring with members of the Bretton Woods system, and was almost immediately named the Nixon Shock. The surcharge was plunged in 1971 as a way of a general revaluation of key currencies, which were hereafter allowed 2.25 percent devaluations from the fixed exchange rate. Smithsonian Agreement The shock that took place on 15 August led to U.S. leadership’s effort to create a new scheme of the international monetary board. All through the collapse of 1971, there was a succession of bilateral and multilateral concessions of the Group of Ten looking for a new multilateral monetary scheme. On December 1971, the Group of Ten, met in the Smithsonian Institution, Washington and developed the Smithsonian Agreement, which undervalued the dollar to $38/ounce, with 2.25 per cent trading bonds, and tried to stabilize the world economic system employing SDRs alone. It failed to enforce regulation on the U.S. administration, and without other integrity system in place, the strain of the dollar in gold persisted. This led to gold turning into a floating asset (Michael, David & Peter, 2009). This resulted to Bretton Woods exchange markets closing in 1973, following a last-gasp deflation of the dollar up to $44/ounce. What has replaced Bretton Woods ‘system’ According to Dooley, Folkerts-Landau & Garber (2003), after the collapse of the initial Bretton Woods ‘system’, Dooley, Folkerts-Landau & Garber proposed the name Bretton Woods II which is now used today. They claim that in 2000s, like 40 years ago, the international monetary system comprises of a center issuing the leading international currency, and a margin. The margin is dedicated to export-led expansion in relation to the maintenance of a devalued exchange rate. The earlier core was the United States and the periphery was Japan and Europe. This previous periphery has ever since changed, and the new major player is Asia (Larry & Dan, 2008). With the rise of the Global economic turmoil of 2008, experts and others policymakers demanded a new international monetary system and that is how Bretton Woods II emerged. Conclusion This analysis of the Bretton Woods system ends with some potential prospects. The political foundation for the Bretton Woods system was in the convergence of two major conditions: the collective occurrences of the Great Depression and the emphasis of power in few countries which was improved by the leaving out of several vital nations due to the continuing war. The breakdown of the Bretton Woods system resulted in the research in the economics of reliability as a separate discipline, and to macroeconomic models, for instance the Mundell–Fleming model. References Bordo, M. and Eichengreen, B. (eds.) (1993). A Retrospective on the Bretton Woods System: Lessons for International Monetary Reform. Chicago: University of Chicago Press. Dooley, M., Folkerts-Landau, and Garber, P. (2003). An Essay on the Revived Bretton Woods System. NBER Working Paper 9971, Cambridge. Eichengreen, B. (2004). Global Imbalances and the Lessons of Bretton. Woods NBER Working Papers. Eichengreen, B. (1996). Globalizing Capital. Princeton University Press. Francis, J. (2003). Gold, Dollars, and Power – The Politics of International Monetary Relations, 1958–1971, The University of North Carolina Press. Gray, W. (2007). Floating the System: Germany, the United States, and the Breakdown of Bretton Woods, 1969–1973. Diplomatic History, 31(2), 295–323. Harold, J. (1996). International Monetary Cooperation Since Bretton Woods. Oxford: University Press. Larry, E. & Dan, A. (2008). The Gods That Failed: How Blind Faith in Markets Has Cost Us Our Future. The Bodley Head Ltd.pp. Michael P., David, F. & Peter, M. (2009). Bretton Woods II still defines the international monetary system. National Bureau of Economic Research. Michael, D., David, F. & Peter, G. (2004). An essay on the revived Bretton Woods system. International Journal of Finance and Economics, 9, 307-313. Robert, T. (1960). Gold and the Dollar Crisis: The future of convertibility. London: Oxford. University Press. Wild, J. & Wild, K. (2012).  International business: The challenges of globalization (6th ed.). New Jersey: Pearson. Van Dormael, A. (1978). Bretton Woods: birth of a monetary system. London: MacMillan. Read More