Hier wird Wissen Wirklichkeit 1 Macroeconomics II Summersemester 2004 Prof. Dr. Paul Bernd Spahn...

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Hier wird Wissen Wirklichkeit

Macroeconomics IISummersemester 2004

Prof. Dr.

Paul Bernd Spahn

Dipl.-Volkswirt

Jan Werner

Case Study presented by

Judit Papp

Olga Sedova

Alesja Stellwag

Yevgeniya Yarmanova

The Bretton Woods System

and its End

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Contents

1. Historical events preceding the Bretton Woods

system

2. Establishing of the Bretton Woods system

3. The Bretton Woods chronology

4. Reasons for collapse

5 . Discussion

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1. Historical Events Preceding the BW System1. Historical Events Preceding the BW System1870-1914: Gold standard

Creation of central banking systems as note source and legal tender

Currencies backed by gold Liberalized export and import of gold Collapsed with the beginning of the World War I

3 main problems that led to collapse: (1) adjustment (2) liquidity (3) confidence

1919-1939: Interwar perioda) Floating exchange rates: 1919-1925b) Gold exchange standard: 1926-1931

Initiated by Great Britain Return to the pre-war gold price instead of adoption a

higher gold conversion rate → deflationary effect c) Managed float: 1932-1939

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1. Historical Events Preceding the BW System1. Historical Events Preceding the BW System1930s: Shared experiences of the Great Depression

Deflation and competitive devaluations (“beggar-thy-neighbour” policies) → dropping national income, shrinking demand, mass unemployment, decline in world trade

Trade and exchange rate controls

Early 1940s: Developing a new monetary system Acknowledged need for a stable international monetary

system A small number of states holding political power

→ easier to negotiate Two major powers: Great Britain and the U.S.A. Leadership role of the U.S.

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2. Establishing of the Bretton Woods 2. Establishing of the Bretton Woods SystemSystemIn the first three weeks of July 1944,

delegates from 45 nations gathered

at the United Nations Monetary and

Financial Conference in Bretton

Woods, New Hampshire.

Goal: To establish a postwar international monetary system of convertible currencies, fixed exchange rates and free trade. But!

Different preferences 2 rival plans

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2. Establishing of the Bretton Woods 2. Establishing of the Bretton Woods SystemSystemI. The Keynes Plan: (Great Britain)Goals: - world trade expansion

- international liquidity- protection of the domestic economy from foreign

disturbancesEssence: Focus on adjustment of real economy

→ wide fluctuation band Focus on world trade expansion and international liquidity „Bancor” with nominal value fixed in terms of gold Surplus nations (U.S.A): credit balances earning interest Deficit nations (GB): overdrafts bearing interest to surplus

nations Assigned quota determines the limit on resources to obtain, if

over quoted → penalties: devaluation, capital control

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2. Establishing of the Bretton Woods 2. Establishing of the Bretton Woods SystemSystemII. The White Plan: (U.S.A)

Goal: Exchange rate stability

Essence:

- Focus on purchasing power of currencies → deviations from parity only in case of fundamental imbalances

- Deficit nations: draw resources by selling their own currency for that of other members

- Establishment of stabilizing fond → IMF, IBRD

Penalties: appropriate domestic policies & exchange controls

Compromise between I and II = BW Agreement

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2. Establishing of the Bretton Woods System 2. Establishing of the Bretton Woods System

a) Exchange rate mechanism: Par value system: 35 USD per

ounce gold „Snake”: +/- 1% wide corridor for

exchange rate fluctuations Adjustable peg Obligation to convert only for

central banks Current account liberalization

(capital accounts NOT liberalised)

2 main features:a) Exchange rate mechanismb) Set of institutions to safeguard international monetary stability

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2. Establishing of the Bretton Woods System2. Establishing of the Bretton Woods System

b) Bretton Woods institutions:

IMFMajor functions:1. Regulatory (administering the rules governing currency values and convertibility)2. Financial (supplying supplementary liquidity)3. Consultative (providing a forum for cooperation among governments)

IBRD - Fighting poverty - Improving living standards in the developing countries

ITO → GATT → WTO

H. D. White & J. M. Keynes, 1946

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2. Establishing of the Bretton Woods 2. Establishing of the Bretton Woods SystemSystem

Classical gold standard Floating exchange ratesvs.

Exchange rate stability

Long-run price stability

Loss of national monetary authority

Monetary sovereignty

Insulation from foreign shocks

Destabilization and free rider problems

Lack of disciplining effects of fixed exchange rate regimes

Excursus(1):

The Bretton Woods System – an attempt to combine the advantages of both systems

Question: Is it theoretically possible?

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2. Establishing of the Bretton Woods 2. Establishing of the Bretton Woods SystemSystemExcursus(2):

The Inconsistent Trinity: Only 2 of 3 following objectives can be achieved simultaneously

Fixedexchangerates

Free capitalmobility

Democraticpolicies aimedtoward full employment

YES YES NO = Gold Standard

YES NO YES = Bretton Woods

NO YES YES = 1971- today

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3. The Bretton Woods Chronology3. The Bretton Woods Chronology

1. The Period of “dollar shortage" (1945-1958): The U.S. serves as a stabilizing force- The U.S. trade surplus and global liquidity – the dollar "gap“- Accommodating role of the U.S. foreign aid programs

(i.e. Marshall Plan), and overseas military expenditures (e.g. the Korean War)

- Foreign aid and macroeconomic discipline at home supports world economy

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3. The Bretton Woods Chronology3. The Bretton Woods Chronology2. The Period of “dollar glut" (1958-1971): The U.S. serves as a destabilizing force- Expansionary domestic (Great Society) and foreign

(Vietnam) policies are financed by inflation- Key Status of the dollar meant that the U.S. could export

inflation and avoid macroeconomic adjustment- Confidence crisis: doubtful convertibility of the dollar into

gold → runs on the gold- "Nixon shocks" of 1971March 16, 1973 - COLLAPSE

- Switch to flexible exchange rates- End of the official gold price- Gold-peg abolished at peace time

It was clear that it as NOT a temporary break

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4. Reasons for Collapse

1. The Triffin Dilemma:

Relies on the U.S. deficits to avert world liquidity shortage

- After 1958, the U.S. dollar overhang was growing larger than its gold stock → erosion of America’s net reserve position

- To forestall speculation → U.S. deficits have to go down→ liquidity problem

- To forestall liquidity problem → U.S. deficits have to grow

Confidence problemConfidence problem

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4. Reasons for Collapse4. Reasons for Collapse

Attempts to save BW:a) Mid-1960: SDRb) 1961-67: Gold Pool:

U.S.A: 50.00% GB, F, I: 9.26% (each)D: 11.12% CH, B, NL: 3.70% (each)

c) “Split market” for gold March 1968:Official price: 35 USD / ounce goldPrivate investors: gold price flexible

2. Rigidity of Exchange Rates- Fears of potential world liquidity shortage- Irresistible incentives for speculative currency shifts- Global confidence problem

3. Growing concerns in Europe and Japan about America’s use of its privilege of liability financing

(“Exorbitant Privilege” – C. de Gaule)

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4. Reasons for Collapse4. Reasons for Collapse4. Inflation- BW assumption of a

stabile economic policy in the U.S.

- After 1965 – the U.S. behaviour became increasingly destabilizing→ Inflation → Members had to buy the growing surfeit of dollar to defend their pegged rates

→ Accelerating inflation everywhereEvident incapability of coping with widening of

payments imbalances & worsening of confidence problem (speculators)

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* Ex-Secretary of the State underthe U.S. President Roland Reagan

** President of the John M. OlinFoundation, ex-secretary of the Treasury under PresidentR. Nixon and G. Ford

Wall Street Journal, 3rd February 1998:

„The IMF is ineffective, unnecessary, and obsolete.“George Schulz* & William Simon**

Thank you for your attention!

5. Discussion5. Discussion

Hier wird Wissen Wirklichkeit 1 Macroeconomics II Summersemester 2004 Prof. Dr. Paul Bernd Spahn...

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