The Bretton Woods Agreement established a fixed exchange rate system based on the value of gold after WWII, but it failed due to a lack of understanding of global markets and the need for more capital than America’s gold reserves could provide. The agreement created the IMF, IBRD, and World Bank.
The Bretton Woods Agreement established a financial framework for international monetary exchange between nations after World War II. Some notable systems and organizations created as a result of this agreement include the International Monetary Fund (IMF), the International Bank for Reconstruction and Development (IBRD), a predecessor of the World Bank, and the global exchange rate system. While the Bretton Woods Agreement was significant because it involved the cooperation and commitment of many nations, it would later fail, in part due to a lack of understanding of the changing nature of global markets.
Headquartered in 1944 in Bretton Woods, New Hampshire, the Bretton Woods Conference set about rebuilding countries that had been damaged by World War II. The 44 nations involved also hoped to stabilize the monetary system and revitalize world trade, which had declined due to the war and the preceding Great Depression of the 1930s. These problems have led to the formation of a monetary exchange rate that is fixed or “pegged” to gold to determine the value of the currency used in international trade.
Every country represented at the Bretton Woods conference agreed that the value of gold would determine how much each nation’s currency was worth. All of the countries involved agreed to base their currency on the dollar, which was valued at $35 per ounce of gold. Pegging the value of the currency to gold essentially limited the money supply to the amount of the world’s gold reserves, thus creating an apparent stability. The IMF was to act as a moderator of trade and gold value imbalances between nations.
The United States held the majority of the world’s gold reserves and was the dominant economic power, so it played a major role in influencing other nations to agree to the Bretton Woods Agreement linking the value of currencies to gold through the US dollar. The United States also had the leading position because it avoided the devastation of infrastructure that occurred in Europe during the war and because of the mass industrialization needed to supply wartime armaments. Repairing the devastation in Europe would end up requiring more resources than those foreseen by the Bretton Woods agreement, with the consequent creation of the European recovery program, also called the Marshall plan.
Problems arose with the Bretton Woods Agreement when the need for capital by war-torn Europe and Third World nations exceeded America’s gold reserves. Even the value of gold on the open market was often different from the fixed exchange rate of $35 an ounce still used by central banks. To supply the world with the necessary capital, the number of dollars had to increase because the mining of additional gold reserves was not adequate. This oversupply of the US dollar has weakened its value. The US abandoned the gold standard in 1971 and the Bretton Woods Agreement was eventually replaced with market rate based currency valuations.
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