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– The protracted demise of dollar-gold convertibility and associated fixed exchange rates did not end dollar hegemony. With crucial and timely help from political allies, confidence in the dollar system has persisted, albeit much diminished.
Jomo Kwame Sundaram
Contingency planning?
On August 15, 1971, President Richard Nixon announced that the US would no longer convert dollars into gold, as promised under the 1944 Bretton Woods (BW) agreement.
But the BW payments arrangements and the US promise of dollar convertibility to gold were not sustainable. As Robert Triffin noted in 1960, the system was ‘failing by design’ from the outset, which US authorities denied and refused to address.
Vietnam War spending, rising inflation, and a run on US gold reserves forced this decision after allied Western central banks quietly gave up defending the gold-dollar peg in 1968.
Decades later, then-US Undersecretary for Monetary Affairs Paul Volcker revealed he had initiated a Treasury working group in 1969.
As the US balance of payments was already proving unsustainable, suspending gold-dollar convertibility was no longer considered an option to be avoided at all costs.
Portraying the gold peg’s failure as due to arithmetic, not politics, Volcker argued that suspending it involved implementing contingency planning that the group had long considered.
Two days before, Nixon summoned 15 advisors to a secret retreat at Camp David to draft his announcement. He also imposed a 90-day wage-price ‘freeze’ and a 10% tariff on imports.
Thus, Nixon presented the suspension of dollar convertibility to gold as part of a larger economic policy reform package, rather than as the long-overdue default on earlier US pledges.
With his 1972 re-election campaign approaching, Nixon and his Treasury Secretary, John Connally, claimed to be ‘freeing’ US economic policy by ending dollar-gold convertibility and associated fixed exchange rate obligations.
Clearly, Nixon’s mid-August 1971 announcement was not an improvised response to an emergency or even the sudden break he implied, although the Volcker group preferred a more ‘controlled demolition’.
US dollar, others’ problem
When allied finance ministers were negotiating a replacement arrangement in Rome in November 1971, Connally bluntly told them that the dollar was America’s currency but their problem, belatedly confessing to BW’s true nature.
Nonetheless, their December 1971 Smithsonian Agreement still sought to patch things up rather than explicitly abandon the 1944 arrangement and the later efforts to defend it.
The dollar was devalued against gold for the first time since 1934, with its price rising from $35 to $38 an ounce. Trading bands around other currencies were widened to give central banks more flexibility.
Nixon pronounced the 1971 Smithsonian Agreement the most significant monetary arrangement in world history before the dollar was devalued again 14 months later, in February 1973.
National authorities politically aligned with the US had defended it, but eventually stopped paying to maintain the charade. Thus, a year and a half after August 1971, BW was finally buried.
Within weeks, the major currencies abandoned fixed exchange rates altogether, allowing them to float against one another. Although the transition to floating rates was not smooth, it has survived, with modifications, ever since.
But the ‘settlement gap’ time lag under floating exchange rates is so problematic that international banking regulators have long sought to reform the way cross-border currency trades are cleared.
Charade over?
Although BW is now long gone, the dollar system has proven durable. The end of gold convertibility was not fatal to the dollar’s role at the centre of world finance.
Instead, the end of the BW dollar-gold convertibility obligation removed one constraint on it. After the final break with gold in 1973, the dollar was only backed by US government promises.
Gold’s formal demonetisation was confirmed with the 1976 Jamaica Accords when IMF member governments quietly amended its charter to strip the precious metal of any official role.
Freed from its earlier BW obligation to redeem dollars with gold, the US has financed its trade, current account, and fiscal deficits, as well as foreign and domestic government spending, with ever more dollar debt.
The world has increasingly financed the growth of US debt as the dollar remains the main currency in which most international trade, especially in commodities, is priced and settled.
The IMF had policed fixed exchange rates and gold-dollar convertibility for over two decades after the war. It has since changed roles to oversee floating exchange rates, selectively serve as ‘lender of last resort’ and manage sovereign debt crises.
International oil transactions were mainly settled in ‘petrodollars’, due to an arrangement with Saudi and other Gulf producers to use oil sales revenue to buy US Treasury securities.
The status quo is now based on others’ willingness to hold dollars. But growing concerns about US willingness to honour its commitments have caused governments to consider alternatives. But dollar hegemony has weathered such recent storms so far.
IPS UN Bureau
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