What is the Bretton Woods Agreement 1

Introductions to the economic and social history of the 19th and 20th centuries


(ml) The Bretton Woods Agreement, signed on July 27, 1944 in the seaside resort of the same name in New Hampshire / USA, aimed for a comprehensive reorganization of the world economy after the Second World War. Its goal was a smooth and free of trade barriers handling of world trade at fixed exchange rates. This was to prevent the repetition of protectionism and devaluation races of the interwar period.


With the agreement of July 27, 1944, the international currency system of Bretton Woods was created with the US dollar as the reserve currency. This worked as follows: A parity of 35 US dollars per ounce of gold was set, which the US central bank ensured through gold purchases and sales. The exchange rates of the other currencies were fixed against the US dollar and the central banks of the participating countries were obliged to stabilize these exchange rates within a range of 1% through their monetary policy (in particular by buying and selling local currencies against the US dollar).
The Bretton Woods system was thus similar to that Gold standard, but differed from it in that only the US dollar was covered by gold reserves, while the other currencies involved were "covered" by the gold reserves of the US central bank at fixed rates against the US dollar.
It was possible to change the fixed rate (= parity) of its currency in the event of constant balance of payments imbalances in a country. For temporary balance of payments imbalances, the International Monetary Fund (IMF) created, which should grant loans for these cases.
The International Bank for Reconstruction (World Bank for short) was created for the purpose of financing developing countries.
The implementation of the International Trade Organization (ITO), which was also planned, failed due to resistance from the US Senate. Signed in 1948 Havana Charter added the Bretton Woods Agreement. The signatories sought multinational trade liberalization. That came out of the corresponding negotiations General Agreement on Tariffs and Trade (GATT).

Problems and breakdown

The Bretton Woods system suffered from three structural problems:

  1. Due to the fact that all countries except the US, the key currency country, gave up their monetary sovereignty and limited themselves to maintaining parity (i.e. the fixed central rate) with the US dollar, the system was inherently (theoretically) stable. The USA as the key currency country and its economic and monetary policy were thus able to exert significant effects on the entire system and thus on all participating economies. This became apparent when, in the second half of the 1960s, the United States was driven by public budget deficits and an expansionary monetary policy (increase in the amount of money in circulation, which, without a simultaneous increase in the amount of goods in circulation after the Fisher's traffic equation leads to price increases) began to pursue an inflationary policy, among other things to finance the Vietnam War.
    This led to a loss of confidence in the gold convertibility of the US dollar. In fact, the United States was only willing or able to maintain the gold convertibility of the US dollar to a limited extent. The other member countries of the Bretton Woods system (in particular the current account surplus countries Germany and Japan) were for their part unwilling to accept the US inflation policy that could be transferred to their own economies via the fixed exchange rates (and to expand their money supply accordingly).
  2. At the same time, however, the internal (inflation and budget deficits) and external (balance of payments deficit) imbalances in the USA were a prerequisite for the functioning of the monetary system. This structural problem, known as the "Triffin Paradox", arose because incomes and the degree of external economic integration have risen sharply worldwide since 1950, and with it the demand of central banks for reserves to secure parities against fluctuations. However, since gold production only increased slowly in the 1960s, the US dollar was indispensable as a reserve currency. The US balance of payments deficit made it possible to build up these reserves (but at the same time led to a loss of confidence in the stability of the dollar-gold parity, see above). In this context, the Special Drawing Rights introduced, a reserve currency managed by the IMF, which could be exchanged for all currencies of the member countries. However, their importance as a reserve medium remained low (only 2-3% of world currency reserves around 1970).
  3. There was also no regulated mechanism for adjusting the central rates of individual currencies that had persistent balance of payments imbalances. Rather, this was settled on a case-by-case basis, which led to international currency speculation and undermined the credibility of the system.
The Bretton Woods system collapsed when the US abandoned the gold convertibility of the US dollar in 1971. Under the impression of the subsequent strong inflow of US dollars, Germany and some smaller neighboring countries switched to flexible exchange rates, i.e. the central banks no longer intervened in foreign exchange markets to maintain parities. In 1973 the fixed exchange rates were generally abandoned.

Please also note that Script and the Materials from Prof. Dr. U. Pfister on the Bretton Woods monetary system (PDF documents).

© 2004 by Ulrich Pfister / Georg Fertig • mail: [email protected]