The legends of Bretton Woods - monetary system - Economic Myths Explained

ORBIS,  Spring, 1996  by Francis J. Gavin

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Instead, all manner of stopgaps were invented to fudge the structural contradiction in the currency system: swap agreements, a gold pool, Reuse bonds, increased authority for the IMF, and the Special Drawing Rights (SDR). These innovative institutions, regimes, and rules fostered an illusion of international cooperation but in fact allowed a dysfunctional system to limp along through ever more elaborate suppression of the workings of the market.

Managing Disequilibrium: Monetary Relations, 1946-1968

The Bretton Woods blueprint for exchange-rate stability, hard convertibility, and international cooperation through the International Monetary Fund soon proved untenable. In 1947, buoyed by an enormous stabilization loan given by the United States after the cessation of Lend-Lease, the British attempted to make sterling convertible into gold and dollars, as stipulated by the Bretton Woods agreements. That first real test of the agreements proved a dismal failure. There was an immediate run on the pound, and within months Britain ran down the loan. Convertibility was suspended, and no other major currency would attempt anything approaching hard convertibility until the end of 1958. That failure convinced the United States to provide direct aid to Britain and Western Europe through the Marshall Plan. It also persuaded the Americans to accept widespread trade discrimination and monetary controls aimed at the dollar and dollar goods, in clear violation of the terms of Bretton Woods. Some of the monetary restrictions were lifted in 1958, but much of the trade discrimination against U.S. goods continues to this day.

The pretense of exchange-rate stability was abandoned shortly thereafter when Britain undertook a massive devaluation of sterling in order to make its exports more competitive and to write down wartime debts. The British did not seek the approval of the IMF or any of their major non- Commonwealth trading partners except for the United States. The 1949 devaluation outraged the nations of Western Europe and threatened to undo the tentative movement toward European trade and monetary integration. The lesson learned by other nations was that there was no punishment for a unilateral devaluation. If one of the countries that helped design the Bretton Woods system flouted its rules, how could other nations be expected to go along? Other devaluations soon followed.

Where was the International Monetary Fund, which was supposed to be the source of liquidity for temporary payments imbalances and the enforcer of international monetary rules? In actuality, the IMF was emasculated in the 1940s and 1950s, with little authority or voice in international economics. Liquidity was supplied to the world by direct U.S. aid, through programs like the Marshall Plan, Harry S Truman's "Point Four" program, and the Military Assistance Program. In fact, signatories of the Marshall Plan were strictly forbidden from using the IMF to correct payments imbalances. The Marshall Plan actually created a monetary system for Western Europe - the European Payments Union - that provided for extremely limited intra- European convertibility and allowed significant discrimination against dollar transactions (discrimination that had been forbidden except under extreme circumstances in Bretton Woods). It was only much later, and for largely political reasons, that the IMF became a player in world monetary relations.