Bretton Woods

The Bretton Woods System : Under the Bretton Woods system, the International Monetary Fund (IMF) charter stipulated that the price of the U.S. dollar was fixed in terms of gold (initially at $35 per ounce) and that all other currencies were pegged to the U.S. dollar. Unless a country developed a "fundamental disequilibrium" in its balance of payments (usually interpreted as a "large and persistent" deficit or surplus) and obtained IMF approval to change the pegged value of its currency, the nation would have to maintain the exchange rate through purchases or sales of U.S. dollars, the reserve currency. The creation of the World Bank and its affiliates to make longer-term loans is also considered part of the Bretton Woods system. Shorter-term loans were available from the IMF. The destabilizing effects of speculation and the persistent U.S. balance-of-payments deficit were seen as the immediate causes of the system's demise in 1973. Because the U.S. dollar was the key reserve currency, the United States was reluctant to devalue despite persistent deficits. At the same time, surplus countries chose to add to their dollar holdings rather than to revalue. As U.S. deficits persisted, the stock of U.S. dollars held abroad ballooned relative to the need for a reserve currency. Some countries viewed the United States as abusing its privilege to issue reserve currency and as forcing other countries to finance persistent U.S. deficits. Eventual increases in the dollar price of gold and the refusal of Germany and Japan to revalue their currencies were the final blows. However, the fundamental flaw in the system was that international liquidity considerations encouraged foreign central banks to hold U.S. dollars, but also hindered other nations from revaluing their currencies to eliminate their balance-of-payments surpluses. Ultimately, confidence in the dollar as a reserve currency had to suffer.

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