Bretton Woods system

The Bretton Woods system was an arrangement for international settlements under which each member country declared a parity for its currency against the US dollar and kept the market rate close to that parity, while the dollar in turn could be exchanged for gold at a price named in advance. The name comes from the town of Bretton Woods, where the agreement was worked out in 1944. The structure had two storeys: currencies were anchored to the dollar, and the dollar was anchored to the metal.

How the exchange rate was held

Fixing an exchange rate was not a declaration but daily work. A central bank had to buy its own currency when it weakened and sell it when it strengthened, paying from its gold and foreign exchange reserves. The main consequence follows from this: a country with a persistent balance of payments deficit ate through its reserves and sooner or later faced a choice between devaluing the parity and imposing restrictions on capital outflows. That is why the movement of capital between countries was deliberately hampered under Bretton Woods: a free exchange rate, free capital and an independent monetary policy cannot all coexist in such a scheme. The obligation of the United States was different: not to hold an exchange rate but to maintain convertibility, and this proved to be the weak link.

An example from the site's data

Once convertibility ended, gold ceased to be the point of reference and became an ordinary traded asset: its price now moves alongside other commodities rather than setting the scale for them. A one-year comparison shows how the metal looks in that group:

Today's volumes in the exchange's currency market are also a result of abandoning parities: the rate is formed by participants' orders rather than by an administratively declared level, and so it reacts to news just as the quote of any security does. The rapid exchange-rate realignments familiar to the modern market were rare events under a system of fixed parities, and each one was a political decision; this is precisely why currency volatility then and now are quantities of a different nature.

Where the term misleads

Bretton Woods is often called a gold standard, but that is a false equation. Conversion into gold was available not to the public or to investors but to foreign official bodies; within the United States the dollar could not be exchanged for the metal. The second distortion is the word "fixed": parities were revised, currencies were devalued, and a firm exchange rate meant only a narrow band of fluctuation, not immutability. Finally, the system is sometimes described as a response to the Great Depression. Pre-war experience was indeed taken into account, but the mechanism addressed the problem of post-war settlements, not the fight against a downturn.