Bretton Woods: History of a monetary system

By Marco Casella

This book provides a historical background of the monetary system of Bretton Woods, whose conference was held in 1944 in order to establish the rules of the commercial and financial relationships between the main industrialized countries of the world.

• Language: English
• Publisher: Marco Casella
• Release date: Feb 9, 2015
• ISBN: 9786050356014

Book preview

system

The origins: the gold standard

The system

Great Britain adopted the de jure gold standard only with the Parliament’s approval of the Liverpool Act of 1816, after over than a century when it was into force, even if not officially. The Parliament had approved the de facto gold standard that had been ratified by the quotations of the prices of gold and silver on the British market.

The silver’s market price in the English bimetal system was superior to the value of the silver coins in circulation in Great Britain, with the result that anybody brought the silver to the national mint to make realize coins in this metal. Therefore, only golden coins remained in circulation, and so, with much pragmatism, the Parliament just ratified an event that had been determined by the precious metals’ market. The coins’ conversion into gold had been suspended during the Napoleonic wars (forced circulation) and restored only in 1821.

During the 19th century, Great Britain developed a monetary gold system where the Bank of England (the guardian of the gold national reserves) kept the convertibility of its banknotes and used the bank interest rates and the operations on the open market to regulate the debts and credits of the same reserves. An erosion of gold reserves could be settled out with increases of bank rates, aimed to attract convertible foreign capitals. The reserves’ increases enabled Bank of England to lower the interest rates, reducing the inflow of foreign capital and boosting the national capital to look for higher rates abroad. Commercial banks held pound banknotes in reserves and Bank of England had gold as guarantee of the value of the banknotes.

The gold standard wasn’t the only monetary system into force in the 19th century, and some important countries, above all the United States and France, adopted a bimetal monetary system based on the simultaneous use of gold and silver. The reason of this choice had to be searched in the great silver reserves and deposits of these countries that didn’t have gold reserves, at least at the beginning of the 19th century.

However, the bimetal system had a defect when the market prices of one of the two metals diverged from the prices offered by the mint that realized the coins. In such a scenario, speculators could earning on the difference between the price practiced by the mint and that of the free market.

For example, if the relationship between silver and gold was 15 to 1 and of 16 to 1 on the free market, speculators could brought the silver to the mint for the coin and later exchange the silver coins with gold coins. Silver coins could be bought with gold coins much more than before. Since gold wasn’t boosted to be brought to the mint, the gold coins disappeared and French and American bimetal systems became non-official systems based only on silver.

The real turning point in favor of gold standard was in 1873, when Germany decided to adopt officially the gold standard. Following to the Franco-Prussian war (1870-71), France of the Napoleon III was forced to pay a gold compensation to the imperial Bismarck’s Germany. The obtained reserves enabled the adoption of the gold standard.

Following to Germany’s entry in the gold standard, many nations – also the most unwilling, such as France and United Nations – had to suit themselves. The adoption of gold made flow in a huge silver quantity on the market, with the consequence that the prices of this metal collapsed making it unusable to guarantee the banknotes, and so the international exchanges.

The adoption of gold standard among the different countries occurred spread in time: France (along with the Latin monetary union also included Italy and Belgium) in 1873, the United States in 1879, Austro-Hungarian empire in 1892, Russia and Japan in 1897.

The participants to the gold standard had to follow the so-called rules of the game.

The currencies had to be convertible at a fixed rate with gold. The suspension of convertibility (forced circulation) could only be made in exceptional circumstances like in case of wars or financial crisis of particular seriousness.

The participating countries had to issue a quantity equivalent to the gold quantity hold in reserve.

Gold and capitals had to be free to circulate among the countries without sort limitations.

It wasn’t impossible to take sterilization actions of the variation of the monetary foreign basis with equivalent variations but with opposed sign on the internal money base in order to prevent the imbalances’ adjustment.

As a result, the rules were rarely completely respected. A tolerance was adopted towards light fluctuations of parity. When the exchange touched some specific values, the so-called gold points, the central banks of the country, had to intervene on the exchange market buying or selling the foreign currency, as the case may be.

When a country registered a deficit or a surplus in the balance of payments, it experimented an inflow or outflow of capitals in the official reserves of the central bank of the country into question. This variation had to be followed by variation of the money base into circulation. In case of increase of the gold reserves (due to a surplus of the balance of payments) the bank had to extend the money base by a drop of the official discount rate. The drop of the discount rate should have favored a rise of the price level with a consequent decrease of less reasonable exports and an increase of imports. This would have equilibrated the balance of payments again. This is the so-called Hume’s adjustment mechanism. Naturally, the decrease of the discount rate would have acted even by capital movements making the activities of the country into question less required.

It didn’t rarely happen that these countries sterilized undesired variations of the money base caused by similar movements of the official reserves. In the case of their decrease, as it has been seen, the classic system provided for an increase of the internal discount rate. This increase of the discount rate could be undesired by the governments, so the central banks of the period, far from the current independence standards from the political power, often bought domestic securities on the internal market, thus compensating the variation of the foreign capitals. Therefore, the money base remained unchanged, just like the market rates.

The gold standard is represented by the economic literature like a hierarchical system, with Great Britain at the top, France and Germany down and the remaining countries as suburb. A variation of British or French reserves (and so of interest rates) started a mechanism that forced the whole system to adjust itself. It didn’t happen so much when variations occurred in a country of the system’s suburb or in

Reviews for Bretton Woods

[jassim · Rating: 4 out of 5 stars]

Explains the system well, very simple to understand, a good read.

[Muscogulus · Rating: 1 out of 5 stars]

This reads like a machine translation of a piece of hack work written in Italian. Here’s an example from page 1:

“The silver’s market price in the English bimetal system was superior to the value of the silver coins in circulation in Great Britain, with the result that anybody brought the silver to the national mint to make realize coins in this metal.”

The author is no expert but evidently churns our little books like this on all kinds of topics, and the publisher, instead of hiring a translator, apparently fed the Italian text through Google Translate. You’d be better off reading Wikipedia articles.