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Sem 5 Prep
← Open Economy MacroBretton Woods and its collapse

Formulas for this chapter

IMF quota arithmetic

Gold subscription = 25 % of quota (rest in own currency) Annual borrowing <= 25 % of quota Cumulative ceiling = 125 % of quota (five years) Gold tranche = first 25 %, UNCONDITIONAL Net IMF position = quota - Fund's holdings of the nation's currency Repayment stops at Fund holdings = 75 % of quota

Any Bretton Woods borrowing question. Note that the gold subscription, the opening net position and the gold tranche are the same 25 per cent figure.

quota
Set by economic importance and volume of trade; decides voting power and borrowing capacity; revised every five years
credit tranches
Everything beyond the first 25 per cent: higher interest charges and stricter conditions
negative net position
The nation is a net borrower from the Fund

Devaluation measured against gold

% devaluation = (new gold price - old gold price) / old gold price $35 to $38 = 8.57 % (Smithsonian, Dec 1971) $38 to $42.22 = 11.1 % (1973) $35 to $42.22 = 20.6 % (compound, NOT 8.57 + 11.1)

Any question on the Smithsonian Agreement or the 1973 devaluation. Always compound successive percentage changes rather than adding them.

direction
A rise in the domestic price of gold is a devaluation of the currency, the same convention as a rise in R
compounding check
1.0857 x 1.1111 = 1.2063, matching the direct calculation

Revaluation of a quoted currency

New rate (units per dollar) = old rate / (1 + revaluation %) Mark +17 % from 3.60: 3.60 / 1.17 = 3.08 marks per dollar

Converting a stated revaluation or devaluation percentage into a new exchange rate. Divide for a revaluation of the quoted currency, multiply for a devaluation, and always invert as a check.

Smithsonian revaluations
German mark +17 %, Japanese yen +14 %
band
Widened from +/- 1 % to +/- 2.25 %, so 2.25 times as wide in total

The dollar overhang, as a falling ratio

backing ratio = gold stock / foreign-held dollars annual factor = (1 - gold decline rate) / (1 + claims growth rate) ratio after n years = today's ratio x (annual factor)^n

Any question about the confidence failure. The annual factor below 1 is what makes the collapse arithmetical rather than accidental.

annual factor
Example: 0.94 / 1.14 = 0.8246, so the ratio falls about 18 per cent a year
the dilemma
World liquidity grows only through US deficits, and every deficit adds claims against a fixed gold stock
Step 2 of 27
The real wordsTheory

The architecture, 1947 to 1971

Bretton Woods was a gold-exchange standard and, on the exchange rate axis, an adjustable peg.

  1. The United States maintained the price of gold at 35 dollars an ounce, standing ready to exchange dollars for gold.
  2. Other nations fixed their rates in terms of dollars, holding them within one per cent above or below par value.
  3. Nations sold dollar reserves to stop their currency depreciating past that margin, and bought dollars with their own currency to stop it appreciating past it.

Until the late 1950s the dollar was the main intervention currency, so the system is often called a gold-dollar standard.

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