Bretton Woods Agreement was reached in 1944 and its aim was to stabilize the international currencies and finance. The system started its operation in 1946 through International Bank for Reconstruction and Development (IBRD) currently known as the World Bank (WB) and the International Monetary Fund (IMF). Membership to the IBRD was pegged on a nation’s membership of the IMF. The IBRD was formed so that it could aid in the reconstruction of the countries that had been ravaged by the WWII. There was an agreement that the dollar was to be used as the key currency. The plan for the agreement was reached at by economists Dexter White and John Keynes (Eichengreen, 1996). The plans held that a Bank for Reconstruction (World Bank) and International Monetary fund be established. However there were disagreements between the two economists on how the two organizations would operate.
The IMF was established in 1945 after the signing of the agreement reached in Bretton Woods. It was mainly to ensure international financial cooperation including in the setting of financial policies and also to ensure that the international exchange rates were stable. IMF also provided funds for countries that had balance of payment (BoP) problems so that they could correct the problems. When a nation wants to join IMF, they must contribute an amount specified (quota) and this is the major source of finance at the IMF. The borrowing of a country depends on the amount they contribute and subsequently, this determines their voting power. The IMF executive directors are responsible for its day to day running. The quota determines the countries voting power (Eichengreen, 2009). WB is the major source of aid to the developing world countries and also supports the restructuring of the economies of countries. It also strives to achieve BoP in developing countries with the provision of finance, advisory and the building of the capacities of people in the countries to understand the economic situations. According to Cesarano (2006), the president of the WB is elected by the United States and confirmed by the Executive Board of the bank. Due to decolonization, affiliate organizations of the WB were formed to serve the interests of the new countries and the eastern bloc countries. In 1960’s the US inflation policies led to high inflation rates unacceptable to the other members thus the collapse of the Bretton Woods Agreement.
The IMF changed its policy by abandoning the per value system which held that all countries had to use gold and the US currency as the modes of exchange. This led to the free floating of currencies leaving the exchange rate to be determined by the market forces. The IMF and WB also increased the surveillance on inter boundary capital flows to prevent financial crises such as the Asia crisis in the 90s. IMF also hoped to encourage countries to enact strong financial policies, sound financial systems and transparency. WB also increased its accountability by establishing inspection panels so that people could complain if the programs of the bank had any negative effects on them (Cesarano, 2006).
European Union (EU) can be traced to 1945 but it formally started using the name in 1993. It was initially meant to control the rise of wars between the countries in Europe and control nationalism that they perceived was the cause of the problems they experienced. The European Economic Community (ECC) in charge of customs and European Atomic Energy Community (Euratom) in charge of cooperation in the development of nuclear energy were formed after the signing of the Treaties of Rome between the initial 6 members. A merger treaty was signed in 1967, which led to the creation of European Communities (EC). The boundaries’ of the member countries were opened in 1985 and members could move between the countries without the necessity of a passport. In 2002, the EU started using a single currency across the Eurozone. There has also been the development of a single market which allows for the free circulation of goods, people and even capital. Customs duty, import quotas are not levied on the goods. The tax on the goods is also the same regardless of the origin of the good as long as it is from an EU member country. The market is also open so that people can work, buy property, invest or buy share from the other countries. The Euro is the common currency in the block and its use started in 1993. The European Central Bank controls the monetary policy and thus ensures price stability within the block. The Eurozone has faced problems such as the debt crisis of 2010 in countries such as Greece, Spain and Italy due to the absence of a federal treasury and budget. This has led to discussions on ways of integrating the financial services between the member countries (El-Agraa, 2007).
Dollar shortage refers a situation where a country does not have the dollars needed to import the levels of goods they need from the United States. The increase in global banking activity and the banks appetite for foreign currencies led to a large net on balance sheets in terms of foreign currencies. The build up of net dollar led to funding risks in the banks or lack of rolling of the banks funding positions (Nanto, 2009). The crisis created funding gaps in most banks due to credit concerns and the risks. Dollar glut refers to the increase of US dollars outside the United States. Due to the decreased ability of the United States government to exchange dollars for gold led to the collapse of the system. The collapse led to the free market where the exchange rate was determined by the forces of supply and demand, pegging their currencies to other currencies or resorting to use the currencies of other countries. Floating exchange rates have led to a better adjustment to external shocks by countries. The United States dominance in the global financial stage has gone down due to the decreasing status of the dollar as a reserve currency. There has also been a reduction in the aid that US was giving to the developing countries (Nanto, 2009).
Nanto, D. (2009). Global Financial Crisis. Congressional Research Service.
Eichengreen, B. (1996) Globalizing Capital: A History of the International Monetary System, Princeton, NJ: Princeton University Press.
Cesarano, F. (2006). Monetary theory and Bretton Woods the construction of an international monetary order. Cambridge U.P. 2006
El-Agraa, A. (2007).The European Union: economics and policies. Cambridge: Cambridge Univ. Press.