Beyond Bretton Woods: When It Comes to Money, We Need a Common Discipline

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What was Bretton Woods? A fixed exchange rate system? Yes. A gold exchange standard? Yes. More importantly, though, the agreement struck in 1944 was a macro-economic cooperative framework to promote international stability.

The great merit of Bretton Woods was to subject member countries to a common discipline. Countries could not, under that regime, choose to overspend, to expand their borrowing beyond reason. Indeed, devaluations — which were the result of such lax policies — were under the control and conditionality of the International Monetary Fund, which was itself a creation of Bretton Woods.


The system prohibited the repeated devaluations that had undermined international relations in the 1930s and had contributed to the second world war. The Bretton Woods system collapsed in 1971, when the United States was caught in the “Triffin dilemma” — named for economist Robert Triffin, who wrote of the predicament of a country whose money becomes a reserve currency.

The United States had engaged in such huge borrowings to finance, at the same time, its welfare state and the Vietnam war that the convertibility of the dollar into gold became questionable: too much dollar-denominated debt for an insufficient and dwindling stock of gold. Gold convertibility was therefore abandoned.

What happened since the Bretton Woods system collapsed on August 15, 1971? Initially, a feeling of relief. At last, the constraint of a fixed exchange rate system had disappeared. Countries could, henceforth, regain their freedom to run their policy mix as they wanted. Capital movements had been freed, economic policies were liberated, and the markets would solve any remaining exchange rate problems.


Most economists, at the time, thought that this new floating system was far superior to the former. Yet, in fact, the new paradigm was, in no way, a proper “system”:

  • It was not a “pure floating” system because member countries were free to “manage” their exchange rate and intervene on the market in order to keep their competitiveness and avoid — if their current account was in surplus — an appreciation of their currency ;
  • It did not include any form of organized international cooperation in terms of macroeconomic and exchange rate discipline ;
  • It allowed — and even encouraged — fiscal laxity and unlimited borrowing and it incited governments to defer structural reforms.

This is perhaps the most worrisome consequence of the demise of Bretton Woods — that countries were free to expand their budgetary spending, because deep and innovative capital markets were able to finance such fiscal slippages.


There is no doubt that the end of Bretton Woods discipline gave way to the “financialization” phenomenon that has overwhelmed our world for the last four decades.

So the world at large welcomed the collapse of Bretton Woods as a “liberation.” In reality, though, the world was not free. It became more and more dependent on financial markets which are now the financiers and decision makers of our system.

Cycles are today determined by the monetary impulses given by a few important central banks and are heavily dependent on the reactions of capital markets to monetary policy. In such an environment it would seem reasonable to assess the validity of monetary impulses and to examine their likely consequences on financial stability.

Is there any form of such an international framework? The answer is “no.” Is it worrisome? The answer is, as I see it, “yes.”

Indeed when real interest rates are kept negative for decades, when global borrowing has reached the record of three times world GDP, when asset bubbles proliferate, when the very notion of stable money has disappeared from the computer screens of our central bankers, there are good reasons to get worried.

Without going as far as the restoration of a new fixed exchange rate system, one say that it is essential to reach at least a minimum of international understanding and cooperation on these matters. Is it reasonable to turn a blind eye to:

  • the dangers of trade wars and protectionism linked to exchange rate practices and monetary policies (misadjustment);
  • the fact that balance of payment adjustment falls exclusively on weak debtors and never on structural surplus countries,
  • the destabilizing consequences of our “non system,” which does not even consider the issue of providing the world with an adequate amount of liquidity?

The answer, to me, is “no,” this is not reasonable. Such a benign neglect is fraught with dangers of repeated crises and instability.

All too few economists are paying sufficient attention to the above — important — issues. One economist who seems to have broken through the silence is Judy Shelton, and her thoughtful views should be sought and discussed. It’s time, too, for others, and not just in the United States, to pick up this issue before it’s too late.


Mr. de Larosière, a former managing director of the International Monetary Fund, was president of the Bank of France. Image: Detail from a photograph of the author and the chairman of the United States Federal Reserve, Paul Volcker. Courtesy of the author.

The New York Sun

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