Introduction of the Euro
The End of the Bretton Woods System (1971–1973)
How the Euro Stands Up to Other Currencies

The Impact of the Bretton Woods Conference in 1944

In July 1944, more than 700 delegates from 44 nations attended the United Nations Monetary and Financial Conference in Bretton Woods (New Hampshire), which later became known as the Bretton Woods Conference. The main objective of the Bretton Woods Conference was to establish a new post-war international monetary order.

The relevance of the conference agenda lies in the fact that this conference was very different from the previous monetary arrangements that aimed to bring countries back to a metallic standard following a war.

Lessons learned from the past and new realizations

The collective awareness among the participants of the Bretton Woods Conference had two main dimensions. First, many countries realized that certain past decisions weren’t particularly helpful for a successfully functioning international monetary system. Second, in the light of the new developments, there were also some new realizations.

Lessons learned from the past

  • The conference participants wanted to avoid repeating the same mistake following World War I. In an attempt to punish Germany, countries had imposed large reparation payments starting in 1918. These payments were supposed to cover the debt accumulated by Allied forces during the war and help them pay to rebuild their countries.

    However, because of the heavy burden of these payments, Germany never recovered from World War I. To make reparation payments, Germany printed money and created hyperinflation. Especially during the Weimar Republic (1921–1924) in Germany, hyperinflation worsened: One pound of bread cost DM3 billion.

  • One of the responses to the Great Depression was to implement trade restrictions. Starting in the late 1920s, most countries introduced trade restrictions (tariffs, quotas, and so on) to improve their current account deficits and stop the reserve loss. Additionally, retaliation against trade restrictions only pushed the level of restrictions to international trade higher and further suppressed output and employment in many countries.

New realizations

  • Despite cooperation, the tensions between the Western Allies and the Soviet Union became increasingly visible. By the way, the Soviet Union didn’t attend the Bretton Woods Conference. The conference participants declared their ideological views so that they would rely on capitalism to solve the economic problems of the post–World War II era.

    Despite their differences in views regarding the desired extent of government interventions in markets, the countries represented in the conference were dedicated to capitalism.

  • The then-flourishing Keynesian ideas implied specific expectations from governments. In his General Theory of Employment, Interest, and Money (published in 1936), Keynes prescribed during recessions an increase in government spending, to prevent aggregate spending from falling. Reflecting the Keynesian ideas, the welfare state emerged out of the Great Depression.

    The experience of the Great Depression promoted the expectation that governments actively try to improve the outcomes related to employment and growth.

Clashing ideas at the conference

The two major personalities at the conference reflected the leading countries of the Western world at the time: Britain as the previous world power and the U.S. as the emerging world power. Therefore, the ideas of John Maynard Keynes, an economist representing Britain, and Harry Dexter White, an economist and a senior Treasury official representing the U.S., dominated the Bretton Woods Conference.

The British plan

Keynes proposed an International Clearing Union (ICU) as a way to addressing current account imbalances. He wanted to avoid the reappearance of persistent and large current account deficits that happened during the interwar years (1918–1939), which increased countries’ debt and debt payments and decreased growth at the global scale.

Keynes thought of the ICU as a bank with its own currency (called Bancor), exchangeable with other currencies at a fixed rate. He proposed using Bancor to measure countries’ trade deficits or surpluses.

According to Keynes, countries with current account deficits would have an overdraft facility in their Bancor account with the ICU. He worked out specific numbers regarding the size of the overdraft facility. His proposal implied a maximum overdraft of half of the country’s average trade size over five years. If a country needed funds higher than the overdraft, it would be charged interest, thus motivating the country to devalue its currency.

Keynes also had an idea for countries with large and persistent current account surpluses. One of the problems of the interwar years was that surplus countries didn’t do much to reduce their current account surplus.

Then the pressure was all on countries with large and persistent current account deficits. During the interwar years, and especially around the times of the Great Depression, Keynes observed these deficit countries implementing increasingly contractionary monetary policies and increasing interest rates in an attempt to prevent funds from leaving these countries. However, this led to deflation, lower output, and higher unemployment.

Therefore, Keynes’s plan implied an interest charge of 10 percent if a country’s current account surplus was more than half the size of its permitted overdraft; this solution would motivate these countries to lend more. At the end of the year, if the country had a current account surplus that was half the overdraft, the ICU would confiscate the surplus.

The American plan

The American plan differed from that of the British. As indicated before, Harry Dexter White represented the U.S. at the Bretton Woods Conference. Even though Keynes objected to White’s ideas, at the end of the conference, the post–World War II international monetary system reflected almost exclusively the ideas of the U.S.

The U.S. agreed on the necessity of an agency to manage current account imbalances, but Keynes’s idea of the ICU was too interventionist for the American side. Additionally, the U.S. saw itself as a surplus country in terms of its current account in the years to come and didn’t want such interventionist ideas to be practiced on the U.S.

Therefore, the White Plan emerged with two key components. First, White proposed the International Stabilization Fund (which later became the International Monetary Fund, or the IMF), which placed the burden of balancing current accounts on deficit countries and imposed no limits on surplus countries.

Since the international monetary system wasn’t the only item on the American agenda, White included a second aspect to the plan. After earlier wars, the aggressors were made to provide reparation payments. This time, however, the U.S. wanted to lead the reconstruction efforts.

Therefore, the White Plan included a new multilateral development agency that would plan and finance economic reconstruction in all war-torn countries, allied or aggressor. The International Bank for Reconstruction and Development (IBRD, part of today’s World Bank) emerged from the American ideas about reconstruction.

The economic and military power of the U.S. at the end of World War II was extremely influential on countries choosing between the two alternative plans for the post–World War II international monetary system. The White Plan emerged as the winner.

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