In August 1971 the U.S. government held less than one-fourth of the amount of gold needed to redeem all U.S. dollars in circulation. In late 1971 the United States and other countries reached the so-called Smithsonian Agreement to restructure and strengthen the international monetary system. The three main accomplishments of the Smithsonian Agreement were: (1) to lower the value of the dollar in terms of gold to $38/oz, (2) to increase the values of other countries’ currencies against the dollar, and (3) to increase to 2.25 percent from 1 percent the band within which currencies were allowed to float.
Agreement (1971) among IMF members to restructure and strengthen the international monetary system created at Bretton Woods.
The success of the Bretton Woods system relied on the U.S. dollar remaining a strong reserve currency. High inflation and a persistent trade deficit had kept the dollar weak, however, which demonstrated a fundamental flaw in the system. The weak U.S. dollar strained the capabilities of central banks in Japan and most European countries to maintain exchange rates with the dollar. Because these nations’ currencies were tied to the U.S. dollar, as the dollar continued to fall, so too did their currencies. Britain left the system in the middle of 1972 and allowed the pound to float freely against the dollar. The Swiss abandoned the system in early 1973. In January 1973 the dollar was again devalued, this time to around $42/oz of gold. But even this move was not enough. As nations began dumping their reserves of the dollar on a massive scale, currency markets were temporarily closed to prevent further selling of the dollar. When markets reopened, the values of most major currencies were floating against the U.S. dollar. The era of an international monetary system based on fixed exchange rates was over.