The Collapse of Bretton Woods in 1971 Essay Sample

Essay Example on The Collapse of Bretton Woods in 1971

Introduction of The Collapse of Bretton Woods in 1971 Essay

The Bretton Woods System started immediately after the end of World War II and is commonly used to refer to the international monetary regime. It was named so because the agreement was signed in the Bretton Woods, New Hampshire, United States. Bretton Woods System was a monetary order, signed in 1944 in a fully negotiated manner and was proposed in order to administer currency relations within sovereign states.

Main Body of The Collapse of Bretton Woods in 1971 Essay

The Bretton Woods System established a fixed exchange rate after the unsuccessful attempt to revive the gold standard subsequent to the Second World War. As per this system, central banks of different countries have to maintain fixed exchange rates between respective currencies and the U.S. dollar (Lien 2008).

Thus, under this system, if the currency of any country is too high compared to the U.S. dollar, the central bank of the same country would sell it, in exchange for dollars, in order to bring down the value of its currency. On the contrary, if for instance, the value of any country’s currency is too low, the country would purchase its own currency.

The International Monetary Fund (IMF) and the International Bank for Reconstruction and Development (IBRD), was set up beneath the Bretton Woods System, to observe the exchange rates, which are currently part of the World Bank Group. However, the Bretton Woods System collapsed in 1971 because during that period inflation in the U.S. and an increasing trade deficit undermine the value of the U.S. dollar (Gele and Hägele 2010).

The fixed value of the U.S. dollar was overvalued in opposition to gold, in the early ’60s. Although the U.S. recommended help from Germany and Japan and asked them to appreciate their currencies, both countries reluctantly stepped back, as appreciating their currency will raise prices of goods, and in turn, it would have affected exports.

In the late ’60s, the U.S. neglected the fixed value of the dollar and approved it to fluctuate in front of other currencies. The key driver in the collapse of the Bretton Woods System is the inflating economy of America (Stephey 2008).

It served as the chief catalyst in the Bretton Woods System failure because the internal monetary system, which was founded on the U.S. dollar, began to collapse. The balance of payment deficit in the U.S caused the oversupply of the dollar and in turn expenditures of the U.S. government rose. Speculative business attacks on foreign currencies collapsed the fixed-rate dollar.

As a result, in the year 1971, the agreement between the U.S. dollar and other currencies broke down. On August 15, 1971, the U.S. unilaterally finished convertibility of U.S. dollar into gold. And the President declared that the U.S. would no longer sell gold against the dollar. This step fully finished the Bretton Woods System and the termination of the system led the major currencies to float freely (Reinert, Rajan, Glass and Davis 2010).

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The Role of the US in the World Economy, since Bretton Woods Collapse

When the Bretton Woods System collapsed in 1971, it was replaced by the Smithsonian Agreement, which was designed to overcome shortcomings of the system. However, the agreement also had the same flaws and it did not live long.

After the collapse of the system, IMF in conjunction with the World Bank started lending funds to all the developing nations for supporting them in the developmental process. Furthermore, the exchange rates progressed into the free market wherein, the value of the currency was determined by the demand and supply measure (Lien 2008).

Therefore, the floating rate system substitutes the fixed-rate system. The Bretton Woods System completely altered the perception for the U.S. dollar. Several academics debated that the failure of the Bretton Woods System marked the U.S. as a powerful economy or it reflected a loss in the power of the country. Some stated that the relative importance of the U.S.

The economy after the 1971 Bretton collapse narrowed and the year registered a downfall in the economic power of the United States. Debaters also mentioned that the collapse declined the hegemony of the U.S., On the contrary, some regarded the dollar as the most reliable currency and made it the most powerful and unique (Baylis, Smith and Owens 2010).

It is an influential economy, which affects several other related economies of the world. After the collapse, the U.S. dollar allowed the country to borrow it cheaply and indefinitely from the rest of the world (International Monetary Fund and World Bank 1995).

The main cause of the current economic disorder is also the enormous borrowing of the U.S. from China and other countries. Currently, the American monetary and fiscal policy verdicts influence the world economy and the dollar is used in most international transactions. Hence, the most effective through, which the U.S. economy affects the world economy is through its buying power (Kenen 1994.)

Hence, it can be stated that since the collapse of the Bretton Woods System the U.S. economy has been held primarily accountable for captivating global savings. It has been now the largest investor in the world economy since the collapse. In the present scenario, its economic structure is sustained by exchanges between the private, public, and international sectors. In addition as the leading economy, it has the enormous power to impact the other economies of the world and thus, holds a strong position (Kenen 1994).

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Conclusion

It is apparent to mention that the Bretton Woods System was an agreement established in order to maintain strong currency relations with several countries. It strongly raises the value of the U.S. dollar against other currencies as different countries have to maintain their currency in accordance with the dollar. However, it has some shortcomings, which resulted in the collapse of the system and the decline in the dollar value.

Moreover, the collapse also witnessed the replacement of the fixed exchange rate system with a floating rate system and also affected the U.S. economy and its dominance in the world economy. Presently, the U.S. economy is the world’s leading economy and has the influencing power to impact the rest of the world economies due to the dominance of the dollar and its position as a strengthening currency.