New Bretton Woods

The Bretton Woods system sought to secure the advantages of the gold standard without its disadvantages.

Before Bretton Woods there were two options: a freely floating currency, or one with fixed rates. The idea of Bretton Woods was to get the best of both worlds and reserve the ability to change currency values if needed.

The rules of the Bretton Woods Agreement were defined in the articles of the International Monetary Fund (IMF) and the International Bank for Reconstruction and Development (IBRD). These rules dictated that each nation was to have a pegged rate currency regime. Members established a parity of their currency to gold, and committed to maintain that parity within 1%. They method to maintain parity was to intervene in foreign exchange markets as needed.

In practice, with the U.S. dollar as the principal reserve currency, it led to countries pegging their currencies to the U.S. dollar. So basically the U.S. dollar replaced the role gold had under the gold standard in the international financial system.

The U.S. linked the dollar to gold at the rate of $35 per ounce of gold – a rate that foreign governments exchanged dollars for gold. Bretton Woods established a system of payments based on the dollar. The dollar became the world’s leading currency, and the only currency backed by gold.