The Bretton Woods Agreement and Institutions That Collaboratively Help Manage the World Finance - Term Paper Example

BRETTON WOODS SYSTEM by Student’s name Code+ course name Professor’s name University name City, State Date 1. Introduction Bretton Woods Agreement was an international agreement between fourth four world powers in 1944 (Schiffers 2008). The conference was held in rural of Bretton Woods, New Hampshire at a hotel called Mount Washington Hotel. The name of the location gave birth to the name of the agreement. The main powers behind the meeting were US’ Franklin D Roosevelt and UK’s Winston Churchill. The main idea behind the meeting was a post-World War Two reconstruction. The meeting was led by Henry Morgenthau, Secretary of the US Treasury. The agendas of the conference were to establish a steady exchange rates system during the period after the war. Further, the conference was to discover ways through which the Europe’s economy which had been destroyed during the war would be recovered. The debt that had been incurred by most European countries had to be settled for the countries to attain economic prosperity again. The Agreement was to solve three monetary problems. These problems included adjustment of the monetary standard, liquidity of the standard and confidence on the standard (Bordo 1993, p.28). According to the Agreement, the selected standard was gold. The US dollar was pegged to gold and used on international transactions. All other currencies were then pegged to the dollar. The aim of this paper is to identify the institutions created by the Agreement, their functions and how they operated. Further, the paper narrates the collapse of the Agreement and the effects of this collapse on world economy. 2. Institutions Created a. Introduction The Bretton Woods Agreement of 1944 created three institutions which controlled the world economics (Stephey 2008). The institutions were part of the United Nations but acting independently. They had their own staff and administrative structure separate from that of the United Nations. These institutions had each independent role that collaboratively helped manage the world finance. These three institutions included International Trade Organization (ITO), International Monetary Fund (IMF) and International Bank for Reconstruction and Development (IBRD). b. International Trade Organization i. About International Trade Organization International Trade Organization was an institution proposed by Bretton Woods’s conference. However, the institution did not materialize (International Trade Organization 2008). The reason behind the creation of the organization was to monitor the trade policies of the world nations and solve disputes involved during trading. The Geneva Conference of 1947 drafted the charter of the organization. However, the US Congress did not pass the charter hence the organization was never realized. At the same time, another institution was being created by the result of the same conference. The institution was General Agreement on Tariffs and Trade commonly known as GATT. This institution was accepted by US Congress and was the successful result of Bretton Woods Conference. The intended roles of ITO included encouraging trade growth through curtailing tariffs and trade barriers. It also intended to monitor and control activities inhibiting trade. ITO was to regulate agreements on international commodities as well as aiding economic reconstruction and development. Finally, it intended to address trade disputes among member countries. Drache (200, p.19) views GATT as the body that implemented the work of ITO. After US refused to implement the Havana Charter of ITO, through various conferences of GATT, ITO policies and purpose was implemented partially. The modifications were implemented to help GATT effectively carry out its activities which would have been carried out by ITO. VanGrasstek (2013, p.10) argues that GATT was a time-based institution that was to be dissolved after ITO came into force. However, ITO was never implemented and this temporal institution was revised and modified to serve the purpose ITO would have served. In this section, we will discuss the intended purpose of ITO and its goals according to its charter. However, some of these roles were implemented through GATT through various conferences held across the world. This gives a general idea that ITO operated during Bretton Woods’s era under limelight of GATT. ii. Purpose of ITO The purpose of ITO among the member states and the world trade was as shown below. i. ITO intended to ensure a continued upward growth of the income of the member countries. This was to be done by ensuring more production of exports by the members, consumption of these goods and exchange of them on the international market. With production and consumption of the goods, member countries are sure of a market opportunity which will aid in their economic growth and source of revenue for various state expenses. ii. Ito purposed to ensure industrial development of the developing countries. It aimed at ensuring capital flow for investment which would aid in industrial development of second world countries. Investors would move from any part of the member countries to invest in another. This was made effective through mutual relationship between the member states. iii. The purpose of ITO was to provide equal market opportunities for all member nations. This was done by ensuring equal access to avenues of producing goods for the market as well as those goods. With member countries having same opportunities of having means of production, they trusted each other and competed healthily without a feeling of discrimination. This further brought the members together in a stronger union. Further, with equal access of goods in the market, individual stats that had no powers of producing such goods were capable of making use of the goods thus not lagging behind in development. This was for the care of war weapons and machinery among others. iv. ITO was to ensure mutual relationship between the member states. This was stimulated through minimization of trade tariffs between member states. With free trade approaches and policies, goods could move from one nation to another without fear of excess or hidden charges. This encouraged export and import of goods further building mutual dependency and cooperation between the members. Further, there was eradication of trade inhibitors between member states. Policies between members that prevented free trade between the members were discouraged thus enabling the nations to trade and help in growth of their relationship. v. ITO was to solve trade disputes among member states. This was to be implemented through mutual understanding, negotiation and good rapport among member states. Disputes on trade regarding member countries were to be solved by the organization early enough before these disputes were taken to the international court. This ensured that cooperation and rapport between the member states was created and preserved. Court and legal proceedings always frail relationships. ITO was created to prevent such an occurrence among the member countries. vi. ITO was to monitor trade activities and restrain member countries from practicing trade malpractices or any activity that could have hindered trade. ITO constantly managed trading policies and activities of the member countries. Through various conferences, member states policies were evaluated and advised. Activities or policies that contradicted trading activities between members were discouraged and consequently eliminated. This ensured free trade among the members. iii. Operations of ITO The main function of ITO was to regulate international trade. It was to monitor and control trade relations among the member states as well as the world economy. This had to be carried out by the organization through the respective staff. There were also several commissions that helped the organization implement its mandate. ITO carried out its mandate and charter through the following approaches: i. ITO did world market research to enhance trade. Through research on the market activities and publishing the research, ITO enhanced trade among its member states. Its research covered commercial policies, commodities among other market fields. Through publication of these researches, nations that had no capabilities of undertaking the market reviews were able to access and evaluate market trends. Through this evaluation, they were able to choose the most appropriate approach to production. This made them to advance in their economy like other countries. ii. ITO helped foster mutual relationship among member states. It boosted negotiations and cooperation between member states on matters relating to trade. Through various ITO and GATT meetings, member states are brought together in a common ground. It is through these common meetings that friendships are struck and relations fostered. Further, through trading partnership, members are able to create relationships that are mutual dependent. This preserves rapport of the member states. iii. ITO was to promote bilateral trade and multilateral agreements among the member states while observing sovereignty of the member states. Through encouraging foreign trade, countries were able to trade with each other thus creating bilateral and multilateral trade. Policies were set which controlled these trading activities. iv. ITO was to ensure fair trade practices by ensuring equitable trade treatment of the member states. All states had equal trading opportunities and were protected. In addition, there was justice in case trade conflicts erupted. This ensured equity before the organization. v. ITO collaborated with United Nations (UN) to ensure peace restoration through economic approaches. Ito was an affiliate of UN, serving as UN agency responsible for trade. Through this, it was able to foster peace through encouraging trade. vi. ITO enhanced creation of technical training centers in member countries for the purpose of industrial and economic progress. Various industrial centers were created among the member states which advanced production of goods. vii. Through various GATT conferences, ITO was able to lower trade tariffs among the member states boosting international trade. With lowering of tariffs, trade among member states was encouraged which steered economic growth of the member states. viii. ITO helped solve trade disputes among the member states to ensure peaceful coexistence in the organization. ITO held various committee meetings that held solve trade disputes among various members. This helps retain the rapport between the members and enhancement of mutual trust of the members. c. International Monetary Fund I. Introduction International Monetary Fund (IMF) was a successful result of Bretton Woods Conference (McQuillan 2015). Formed in 1944, the institution had been created to help in regulate the stability of the currency exchanges in the world market. It also aimed at developing liquidity of international currencies. This would be attained by regulating all currencies pegged to dollar. It came into force in 1945 after member states signed the Articles of Agreement which was the charter that controlled IMF. The funding of the organization came from the members (Krueger 1997). The member state with highest contribution determined the location of the institution as well as veto power (Bordo and James 200, p.6). This idea favored USA tremendously. It possessed highest contribution and more so the standard currency was its dollar. IMF as an institution of Bretton Woods’s system underwent various transformations and modifications. Unlike ITO, IMF survived the era and was modified and integrated into the modern economic world serving its purpose and mandate. Mountford (2008) divides the history of the institution on three sections. These sections include the formative years between 1946 and 1970. This was the period of Bretton Woods’s system. The middle period existed between 170 and 1990s which was the period after collapse of the system. Finally, there is period from 1999 to present day which includes the current IMF. This section describes the working of IMF and its purpose. It is the only institution of Bretton Woods Conference that survives up to date. Although it has undergone various modifications, the institution is still operational. ii. Purpose of IMF i. IMF endorses and supports monetary cooperation of the world nations. This will help in attaining and economic growth and stability among the member states. ii. IMF aids international trade growth and balance which further helps in enhancement and retaining of employment and income among member states. iii. IMF gives financial aid and loans to countries in need to help them make economic progress like other developed countries. This helps in ensuring some countries do not lag behind during economic development. iv. IMF provides financial advice to the member nations on economic growth of the individual nations. It also gives member countries advice and help on dealing with challenges on Balance of Payments thus minimizing chances of disequilibrium. v. IMF supports international trade through elimination of currency conversion rates challenges. This helps in creating multilateral relationship among the members. This further ensures liquidity on international currencies. vi. IMF ensures stability of exchange rate through discouragement of economical devaluation of the exchange rates. It regulates the rates at which international currencies are converted and monitors their flow. vii. IMF acts as the organization monitoring world currency cooperation. It regulates the flow of international currencies as well as regulating the rates at which it flows and converts from one to another. iii. Operations of IMF IMF carries out its activities through the various approaches as set out in its charter. The charter acts as the directive of the IMF (Fritz-Krockow and Ramlogan 2007): i. It monitors the economic policies of the member states. IMF evaluates the appropriateness of economic policies of individual countries. It further checks if these policies contradicts its policies. If they contradict, it advises the member to revise the policies to fit into its policies. ii. IMF helps in fighting poverty on undeveloped countries. The institution provides loans to undeveloped member countries which these countries use to advance their economic growth combating poverty. This helps these countries to achieve what others have achieved. iii. IMF helps member countries solve Balance of Payment challenges. Through various loans to member countries, IMF is able to help these countries be able to tackle their Balance of Payments need. This helps in ensuring disequilibrium in world monetary is not present. iv. IMF helps member states to finance and loan each other. Through approval of policies of the countries in need, the lending countries have trust in the economic policies of the recipient countries. This facilitates bilateral lending of finances among the member states. v. IMF acts as the body that enhances the world currency system. As the central body responsible for world financing, IMF has meetings with financial experts across the globe where financial and economic matters are discussed. Measures and policies are put in place that monitors financial and economic policies to avoid financial challenges and boost growth. vi. IMF is responsible for financial analysis and awareness in the world. It carries out various researches on economic policies of member states and publishes this information via reports. This helps in creating economic awareness among member states. vii. IMF releases and supplies of world monetary reserves. Whenever there is deficiency in existing reserves, IMF authorizes release of Special Drawing Rights of individual countries to help in tackling the problem of deficiency. viii. IMF enhances technical financial expertise among the member states. Through various workshops and training, IMF trains member states on economic policies and ways to effectively advance economic growth. This helps individual members with economic and financial knowhow. d. International Bank for Reconstruction and Development (IBRD) I. Introduction IBRD was one of the two successful institutions drafted at the initial Bretton Woods Conference of 1944 (Mason and Asher 1973, p.11). The bank had been created to aid in reconstruction of Europe after the war. During the Second World War, many nations in Europe had incurred debts which were enormous. After the war, these countries needed to settle these debts as well as develop their damaged economies. It is through this necessity the bank was founded. Over the years, IRBD has been integrated into World Bank as part of the World Bank. However, it still carries its activities. Like IMF, IBRD has undergone various modifications to fit in the current world. ii. Purpose of IBRD The purpose of BRD is set out in its charter (Bradlow and Hunter 2010, p.9). It was created to carry out the following: i. Through financing of productive projects, IBRD intended to help the member states reconstruct and develop their economies after the war. ii. IBRD promoted foreign investment of private investors. This was effective through participating on loans of these investors. iii. IBRD was to enhance growth of balanced trade by foreign investments. Further, it was to handle the problem of disequilibrium of Balance of Payments among member states. iv. IBRD was created to promote growth of business ventures among the member states. iii. Operations of IBRD Through various loans provided by the institution, many developing countries like Brazil and Colombia became industrialized. The loans helped to fund these projects in developing countries. e. Relationship between the Three Institutions These institutions of Bretton Woods’s system closely worked with each other to ensure economic and financial stability during the era. They shared some common functions as seen from the above individual functions. All the institutions were aimed at recovery of member states after the war as well as increasing the relations between these states. These basic principles are the ones that led to creation and retaining of the institutions. Trade policies were catered for by Ito while monetary policies were catered by IMF. Funding for various projects by the members was the responsibility of IBRD. Although each had clear role, they all collaborated to create peace as agencies of UN. 3. Collapse of the system A. Background to the structure During the late 1960s and dawn of 1970s, the Bretton Woods System faced many challenges. The system had become irrelevant with world economy at the time. Lucarelli (2011, p.86) suggests that the main weakness of the system was the use of a standard currency which was pegged to dollar. This meant that if the country having the standard currency faced challenges, the system was going to fail. All other currencies were convertible to dollar. The US Dollar became the central currency. The dollar was in turn pegged to the gold. It was the only currency covetable to gold. Pegging the dollar to the gold was to reduce the chances of the system failing as the Gold Standard had failed. Singh (2014) argues that the main principle of the system was its main weakness. To ensure the system did not fail, US had to ensure that its Balance of Payments were at equilibrium. This would ensure that the gold in the reserve was enough to buy its dollars. This was a hard thing to do. With the numerous spending and expansion on foreign affairs, this was never going to be reality. The main basis of the system which was US and UK became the source of the failure of the system. The challenges in their economies contributed greatly to the decline and fall of the whole system. This caused economic chaos which the world has not yet recovered. b. Causes of the failure There are several factors that contributed to the decline of Bretton Woods’s system. US expansions meant more use of country’s revenue. During the 1960s, United States was involved in expansion policies (Dellas and Tavlas 2011, p.489). As the main funder and proponent of the system, most of its gold reserves in the institutions were diminishing. More dollars were in the world exchange than the gold. This meant that the gold was not enough to buy the dollars. Further, the situation was complication by Balance of Payment challenges US faced. This really affected the system’s stability and contributed to the decline. The US embarked on economic policies that help it cope with the situation. Monetary policies were relaxed leading to the deterioration of the system. The devaluation of the world currencies affected the system. World economies began fluctuating against the dollar. Some countries like Germany had a stable economy. Through this incidence, the other currencies began fluctuating against the dollar. In addition, the economy of US was facing challenges due to war. Dibooglu (1999, p.74) argues that the instability and fluctuation of the US economy during the cold war worsened the system. This led to devaluation of the UK currency, a major member of the system. Other currencies followed suit complicating the situation. This led to a financial crisis which led to disintegration and fall of the system. The final blow of the system came in 1971. President Nixon of US closed the gold window in that year. This meant that pegging of the dollar and consequential conversion of dollar into gold was no more (Lipsky 2014). This destroyed the basis of the system. Although for some time conversion continued, the system was put to an end. Currencies began floating freely and the value of the dollar which was the standard currency began depreciating. These three main factors are the ones that contributed to the decline and fall of Bretton Woods’s system. Although the system had helped in development after the war, it became irrelevant with the change in world economics at that time. Through this, it could not bear the test of time and thus fell. 4. The outcome of the collapse The decline of Bretton Woods’s system brought the world to an economic crisis. The system had helped to monitor the world economy through finance, trade and banking. With the fall, it meant that individual countries determined their economic policies. The period that followed showed inflation of prices. Hammes and Wills (2005) describe the fluctuation of oil prices following the closure of gold window. These economic crises led to disintegration of the weak economies while the strong ones continued to soar. Through the inflations, many developing and undeveloped countries suffered at the hands of developed states. Legarde (2012) describes this approach as discrimination of unindustrialized states by the industrialized states. World currencies began floating freely after the fall of the system. The Dollar began losing its value as the sterling pound floated against the dollar as well as other currencies. This devaluation of the dollar and the free floating of the currencies ensured free competition of the world currencies. The currencies could depreciate or appreciate their value any given time. This further complicated the economic situation during conversion of currency. 5. Conclusion The Bretton Woods System was an economic approach world countries had adopted in 1940s to help recover from the war. The system help soar the economies of the countries effectively. However, with the growth of the economy, the system needed modifications. As these modifications were not well implemented, the system collapsed and left an economic vacuum. There is need for a new system which will help monitor the world economy to avoid the challenges faced today. 6. References 1. Bordo, Michael D and James, Harold. 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Retrieved 24 January 2015 from http://www.wto.org/english/res_e/booksp_e/historywto_e.pdf. Read More