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Ideas, Interests, and the Transition to a Floating Exchange System

Published online by Cambridge University Press:  05 March 2020

YOUN KI  and
YONGWOO JEUNG
YOUN KI
Affiliation:
Miami University
YONGWOO JEUNG
Affiliation:
University of Oregon
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Abstract:

Milton Friedman’s idea of flexible exchange rates was heresy for Americans until the mid-1960s. However, by the late 1970s the idea became embedded in academic thought, policymaking, and business practices. This article analyzes how floating currencies, once eschewed, became embraced as legitimate in the US through the late 1960s and early 1970s. It demonstrates how business leaders’ economic interests and laissez-faire economists’ framework for causes of and solutions to business hardships contributed to society’s acceptance of currency flexibility. Increasing societal support of flexible currencies strengthened the power of float-advocates within the US government, facilitating the transition of the international monetary system from fixed exchange rates to floating. This study highlights how material interests and policy discourses contributed to America’s new policy orientation. It also addresses the origins of the neoliberal international financial order by documenting how American elites reconstituted the state-market balance in global finance while navigating monetary crises.

Keywords

American foreign economic policyBretton Woodsfloating exchange ratesbusiness and politicsneoliberalismMilton Friedman
Type
Article
Information
Journal of Policy History , Volume 32 , Issue 2 , April 2020 , pp. 151 - 182
Copyright
© Donald Critchlow and Cambridge University Press 2020

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Footnotes

The authors thank Nicolas Thompson, Craig Parsons, and three anonymous reviewers from this journal for their critical comments and constructive suggestions.

References

Notes

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11. Scholars have underestimated the role of academics and businesses in the formation of America’s international monetary policy. See Odell, U.S. International Monetary Policy, 294; Sargent, A Superpower Transformed, 120–30.

12. Max Weber’s switchmen metaphor can be useful here: “Not ideas, but material and ideal interests directly govern man’s conduct. Yet very frequently the ‘world images’ that have been created by ‘ideas’ have, like switchmen, determined the tracks along which action has been pushed by the dynamic of interests.” Recited from Odell, U.S. International Monetary Policy, 363.

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19. Although advocates for floating existed well before the 1950s, Friedman is associated with the modern case for floating. See Connell, Carol M., Reforming the World Monetary System: Fritz Machlup and the Bellagio Group (London, 2015)CrossRefGoogle Scholar; Leeson, Robert, Ideology and the International Economy: The Decline and Fall of Bretton Woods (New York, 2003)CrossRefGoogle Scholar.

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23. Gavin, Gold, Dollars, and Power, 98–99.

24. Dillon was a Wall Street stalwart and active Republican. Roosa worked at the New York Fed from 1946, then moved to the Treasury in 1961. For their views on the international monetary system, see Odell, U.S. International Monetary Policy, 97–106.

25. Odell, U.S. International Monetary Policy, 139–40.

26. U.S. House of Representatives, International Implications of the New Economic Policy, Hearings Before the Subcommittee on Foreign Economic Policy, of the Committee on Foreign Affairs, 92nd Cong., 1st sess., September 1971, 37.

27. For capital controls, see Hawley, James P., Dollars and Borders: U.S. Government Attempts to Restrict Capital Flows, 1960–1980 (Armonk, NY, 1987)Google Scholar; Helleiner, States and the Reemergence of Global Finance.

28. Carol M. Connell, “Fritz Machlup and the Bellagio Group,” Quarterly Journal of Austrian Economics 16, no. 3 (2013): 256; Connell, Reforming the World Monetary System. Members of the Group included big names such as Robert Triffin, William Fellner, and Gottfried Haberler. Machlup was the cofounder of the Mont Pelerin Society.

29. “Influential Economist: Milton Friedman’s Ideas Gain Wider Acceptance Among Policy-Makers,” Wall Street Journal, 4 November 1969.

30. Willett, Floating Exchange Rates and International Monetary Reform, 18; Haberler, Gottfried and AEI, U.S. Balance-of-Payments Policies and International Monetary Reform (Washington, DC, 1968Google Scholar). By 1971, there was a “widespread preference” among economists for floating. See “Next Monetary System,” New York Times, 22 September 1971.

31. Volcker and Gyohten, Changing Fortunes, 65–68. Volcker also said at media conferences that a more flexible exchange rate “is being considered by the academics, and that is where it should stay.” U.S. Congress, 1969 Economic Report of the President Part 2, Hearings Before the Joint Economic Committee, 91st Cong., 1st sess., February 1969, 316. See also “Volcker Says Plans May Serve as Substitute for Necessary Change,” New York Times, 26 September 1969.

32. For instance, in April 1966, the University of Chicago sponsored a conference on international economic affairs, inviting nearly one hundred leaders from business, labor, and universities. Many economists argued that flexible exchange rates, not the controls on trade or investment, were the solution to the balance-of-payments problem. Also, Friedman and Haberler, with the sponsorship of the American Enterprise Institute (AEI), organized a series of symposiums to discuss fixed vs. floating. See “Economists Report Guideposts Are Ineffective Against Inflation,” New York Times, 29 April 1966; AEI, International Payments Problems (Washington, DC, 1966)Google Scholar; Friedman, Milton and Roosa, Robert V., The Balance of Payments: Free versus Fixed Exchange Rates (Washington, DC, 1967Google Scholar); AEI, International Monetary Problems (Washington, DC, 1972)Google Scholar; Haberler, Gottfried, Two Essays on the Future of the International Monetary Order, with a Postscript on the Impact of the Energy Crisis (Washington, DC, 1974)Google Scholar; “Reading for Business: Reviews in Brief,” Wall Street Journal, 19 October 1966; “The Bookshelf: Reading for Business,” Wall Street Journal, 23 May 1968.

33. Schriftgiesser, Karl, Business Comes of Age: The Impact of the Committee for Economic Development, 1942–1960 (New York, 1960)Google Scholar.

34. CED, The Dollar and the World Monetary System (New York, 1966), 62–64Google Scholar; Machlup, Fritz, Remaking the International Monetary System: The Rio Agreement and Beyond, CED Supplementary Paper No. 24 (Baltimore, 1968)Google Scholar.

35. “Banker Warns of Money Crises,” New York Times, 17 June 1969; “Monetary Parley Rejects Reforms,” New York Times, 18 June 1969; “Europeans Warn U.S. May Need to Toughen Anti-Inflation Policies,” Wall Street Journal, 18 June 1969.

36. Numerous representatives of various financial institutions and associations, including the ABA, National Association of Mutual Savings Banks, and the Life Insurance Association of America, requested austerity measures to reduce U.S. deficits in that period. ABA, The Cost of World Leadership: An Analysis of the United States Balance-of-Payments Problem (New York, 1968)Google Scholar; U.S. Congress, The 1970 Economic Report of the President. Hearings Before the Joint Economic Committee, 91st Cong., 2nd sess., January, February 1970; U.S. Congress, The 1970 Midyear Review of the State of the Economy. Hearings Before the Joint Economic Committee, 91st Cong., 2nd sess., July 1970.

37. By the late 1960s, FDI was becoming an integral part of revenue for large U.S. corporations. The ratio of foreign to domestic manufacturing investment by U.S. corporations exceeded 0.2 by the mid-1960s and reached 0.3 by the early 1970s. Brenner, Robert, The Economics of Global Turbulence: The Advanced Capitalist Economies from Long Boom to Long Downturn, 1945–2005 (New York, 2006), 59Google Scholar. The ratio was higher for the largest companies; for instance, IBM derived 30 percent of its income from FDI in 1965, and 49 percent in 1974; Ford derived 12 percent from FDI in 1965, and 49 percent in 1974. Bergsten, Fred, American Multinationals and American Interests (Washington, DC, 1978), 11Google Scholar.

38. U.S. Congress, A Review of Balance of Payments Policies, Hearings Before the Subcommittee on International Exchange and Payments, of the Joint Economic Committee, 91st Cong., 1st sess., January, 1969; U.S. House of Representatives, Foreign Direct Investment Controls, Hearings Before the Subcommittee on Foreign Economic Policy, of the Committee on Foreign Affairs, 91st Cong, 1st sess., March–May 1969.

39. Until then, the U.S. business community discussed capital controls within the framework of the Bretton Woods system, pleading that foreign direct investment contributed to, rather than undermined, the preservation of the existing monetary order by improving U.S. trade balance. For instance, see Fred Borch’s (president of General Electric) letter to Commerce Secretary Sandy Trowbridge. Foreign Relations of the United States (FRUS), 1964–68, vol. 8, International Monetary and Trade Policy, no. 144.

40. Connell, Reforming the World Monetary System, 146–47.

41. “Wide Flexibility in Rates Favored,” New York Times, 30 June 1969.

42. Bergsten, Fred and Nikolaus Halm, George, Approaches to Greater Flexibility of Exchange Rates: The Bürgenstock Papers (Princeton, 1970), 151–76Google Scholar. In 1969, Arthur Watson, chairman of IBM, called for flexibility in exchange rates at congressional hearings. U.S. Congress, A Foreign Economic Policy for the 1970’s Part 1: Survey of the Issues, Hearings Before the Subcommittee on Foreign Economic Policy, of the Joint Economic Committee, 91st Cong., 1st sess., December 1969, 5.

43. “Changing Money: Idea of ‘Floating’ Rates of Exchange Is Gaining, But Misgivings Persist,” Wall Street Journal, 12 July 1968; “If the Franc Falls,” Wall Street Journal, 12 March 1969.

44. U.S. House of Representatives, Foreign Direct Investment Controls, 194.

45. “Overhaul Is Urged in World’s System of Money Markets,” New York Times, 7 May 1969; “Fixed Exchange Rates Under Fire in Crisis,” New York Times, May 1969; “Market Place: Big Banks Call for Flexibility,” New York Times, 17 May 1969.

46. Volcker and Gyohten, Changing Fortunes, chap. 3; Matusow, Nixon’s Economy, chap. 5; Gavin, Gold, Dollars, and Power, chap. 8; Sargent, A Superpower Transformed, chap. 4.

47. Sargent, A Superpower Transformed, 107–8; Matusow, Nixon’s Economy, 135–56; Gavin, Gold, Dollars, and Power, 193.

48. Sargent, A Superpower Transformed, 115.

49. Helleiner, States and the Reemergence of Global Finance, 117–18; Odell, U.S. International Monetary Policy, 258–61; Brenner, Michael J., The Politics of International Monetary Reform: The Exchange Crisis (Cambridge, Mass., 1976), 54–55Google Scholar. Central bankers of the time refused Friedman’s claim that floating exchange rates would smoothly adjust to the underlying conditions. Conversely, their experiences dealing with foreign exchange trading convinced them that floating exchange rates would be volatile and disrupt international trade. They believed that monetary authorities (i.e., central banks) should take responsibility of maintaining stable exchange rates.

50. Sargent, A Superpower Transformed, 116–18; Volcker and Gyohten, Changing Fortunes, 82–84.

51. Nixon continued to delegate responsibility for economic policies to the Treasury Secretary, who served as an “economic czar” above the cabinet level. See Odell, U.S. International Monetary Policy, 306.

52. His laissez-faire view was well known. Upon his appointment, the Wall Street Journal reported that he would “favor a high degree of flexibility in currency rates as well as vigorous attacks on barriers to free flows of capital and trade.” “The Shultz Shift: New Boss at Treasury Likely to Stir Change But Not Right Away,” Wall Street Journal, 17 May 1972.

53. Sargent, A Superpower Transformed, 119–20; Volcker and Gyohten, Changing Fortunes, 118–22.

54. Conservative Burns and moderate Volcker shared these principles. For Burns’s views, see de Vries, Margaret Garritsen, The International Monetary Fund, 1972–1978 (Washington, DC, 1996), 134Google Scholar.

55. FRUS 1969–76, vol. 3, no. 228. IMF’s internal study on reform also tried to address U.S. concerns, stressing prompter changes in par values, wider margins, and temporary floating. It also discussed the use of “objective indicators” to initiate adjustment process, something equivalent to Volcker’s “presumptive criteria.” Williamson, John, The Failure of World Monetary Reform, 1971–74 (New York, 1977), 60–67Google Scholar; De Vries, The International Monetary Fund, 125.

56. FRUS 1969–76, vol. 3, no. 239.

57. Dam, The Rules of the Game, 227. Kenneth Dam, who worked with Shultz on reform during that period, even mentions that the indicator proposal had a “hidden agenda” to build the reformed system as a “transitional system toward a floating exchange rate system.” Ibid., 224. Besides automatic indicators, the new U.S. proposal was stricter on the use of capital controls and foreign exchange intervention than before; it also allowed countries to float indefinitely under special surveillance.

58. Economic Report of the President Transmitted to the Congress January 1973 (Washington, DC, 1973). accessible at http://www.presidency.ucsb.edu/economic_reports/1973.pdf.

59. “What Next?: Floating of the Pound Raises Uncertainties,” Wall Street Journal, 26 June 1972.

60. FRUS 1969–76, vol. 3, no. 234–36.

61. Also, Burns and the majority of governors of the Federal Open Market Committee (FOMC) did not support the official U.S. proposal for the international monetary reform. See FOMC Memorandum of Discussion, 16 January 1973.

62. FRUS 1969–76, vol. 31, no. 3.

63. “National City Bank Urges Floating Currency Values,” New York Times, 12 October 1971.

64. “David Rockefeller and Sarnoff Urge Shifts in Setup: Monetary Restructuring Is Urged to Solve Crisis,” New York Times, 21 October 1971.

65. “National City Bank Urges Floating Currency Values,” New York Times, 12 October 1971; “Citibank Hits Fixed Exchange Rates,” New York Times, 5 July 1972.

66. Aronson, Jonathan David, Money and Power: Banks and the World Monetary System (Beverly Hills, 1977), 143 n. 21Google Scholar.

67. Aronson, Money and Power, 114.

68. Milton Friedman advised the planning of this new Chicago market. “New Exchange to Handle Foreign Currency Futures,” Wall Street Journal, 14 April 1970; “Chicago Mercantile Sets Futures Market in Foreign Currency,” Wall Street Journal, 21 December 1971; “Currency Futures Due: Trading to Start Tuesday in Chicago,” New York Times, 1972, “New Game in Town: Currency Speculation May Grow If Market in Chicago is Success,” Wall Street Journal, 16 May 1972.

69. Bergsten and Halm, Approaches to Greater Flexibility of Exchange Rates, 167–76.

70. “Living with Devaluation: A Midwest Exporter Adapting to Crisis Devaluation,” New York Times, 19 December 1971.

71. Aronson, Money and Power, 146.

72. “World of Finance: How Multinational Firm Protects Its Flanks in Monetary Dealings,” Wall Street Journal, 20 August 1971; “Talk of the Globe: Many Critics Charge Multinational Firms Create Money Crises,” Wall Street Journal, 19 April 1973; “Currency Crisis Can Be Easily Triggered by Multinational Firms, U.S. Study States,” Wall Street Journal, 13 February 1973.

73. De Vries, The International Monetary Fund, 47.

74. Ibid., 50; Toniolo, Gianni, Central Bank Cooperation at the Bank for International Settlements, 1930–1973 (New York, 2005), 465–68Google Scholar; “E.E.C. to Suggest U.S. Dollar Action,” New York Times, 9 March 1973.

75. CED, Report of Activities (New York, 1972)Google Scholar; NAM, International Monetary System, submitted by International Economic Affairs Committee, at the Board of Directors meeting, 16 September 1974. Hagley Museum and Library, Wilmington, DE (HML) Acc. 1411, Series IX, Box 160.

76. U.S. Chamber, Report to the Board of Directors, by Banking and Monetary Policy Committee, 16 February 1971. HML Acc. 1960, Series I, Box 4; U.S. Chamber, Minutes of the Board of Directors, 25–26 February 1971, HML Acc. 1960, Series I, Box 3.

77. U.S. Chamber, Minutes of the Board of Directors, 18–19 November 1971, HML Acc. 1960, Series I, Box 3.

78. U.S. Congress. The 1972 Economic Report of the President, Hearings Before the Joint Economic Committee, 92nd Cong., 2nd sess., 1972, 931.

79. U.S. Chamber, Minutes of the Board of Directors, 16–17 November 1972, HML Acc. 1960, Series I, Box 3.

80. “Monetary Quarrel over Fixed and Floating Rates,” New York Times, 3 September 1972.

81. FOMC, Memorandum of Discussion, 19–20 March 1973.

82. Germany bought up $3.7 billion, a new record in a single day. De Vries recalled: “This breakdown in exchange transactions was the most severe in more than three decades.” De Vries, The International Monetary Fund, 1972–78, 76.

83. FRUS 1969–76, vol. 31, no. 16, 17. See also “Wants Job Done in 3 Months: International Money Reform Urgent Need: Burns,” Chicago Tribune, 8 March 1973.

84. De Vries, The International Monetary Fund, 1972–78, 76.

85. Kissinger, Henry, Years of Upheaval (Boston, 2011), chap. 5.Google Scholar

86. FRUS 1969–76, vol. 31, no. 17.

87. Ibid.

88. It is questionable whether Shultz and Stein’s judgment of the monetary conditions was entirely unbiased. In fact, the economists of the Fed analyzed the situation quite differently. They concluded that it was simply uncertain whether or not a European joint float would succeed; they were also unsure what impact the success or failure of a joint float would have on the United States. See FOMC, Memorandum of Discussion, 7 March 1973.

89. FRUS 1969–76, vol. 31, no. 17. Overall, the members of Congress did not show any interest in international monetary issues until early 1973. The only exception was Rep. Henry Reuss (D–WI), who was open to various reform ideas, including currency flexibility.

90. “E.E.C. to Suggest U.S. Dollar Action,” New York Times, 9 March 1973.

91. FRUS 1969–76, vol. 31, no. 35.

92. FRUS 1969–76, vol. 31, no. 33. Simon was the U.S. delegate to the Paris meeting on 16 March.

93. The Group of Ten comprised six of the member countries of the EEC (Belgium, France, Germany, Italy, the Netherlands, and the United Kingdom), as well as four other countries (Canada, Japan, Sweden, and the United States). The other three member countries of the EEC—Denmark, Ireland, and Luxembourg—also participated in this meeting.

94. Volcker and Gyohten, Changing Fortunes, 113; Odell, U.S. International Monetary Policy, 324–25; Williamson, The Failure of World Monetary Reform, 1971–74, 70.

95. U.S. Congress, How Well Are Fluctuating Exchange Rates Working?, Hearings Before the Joint Economic Committee, 93rd Cong., 1st sess., June and July 1973, 153.

96. “Learning to Float: Monetary System Has Its Problems, But It Stays Very Much Alive Bakers Say It Is Workable, But Some Fear Lag in Bid for Long-Term ‘Reforms’ Is World on ‘Wrong Course’? Learning to Float: Despite Woes, Monetary System Remains Alive,” Wall Street Journal, 8 June 1973; “Experts Confident on World Business,” New York Times, 11 June 1973; “Pompidou: Money Man,” New York Times, 14 July 1973; FRUS 1969–76, vol. 31, nos. 44, 45.

97. FRUS 1969–76, vol. 31, nos. 46, 49.

98. FOMC, Memorandum of Discussion, 17 July 1973.

99. “Pompidou: Money Man,” New York Times, 14 July 1973. “IMF Moves Toward New Money Rules,” Washington Post, 1 August 1973.

100. De Vries, The International Monetary Fund, 224–25.

101. Ibid., 227. For similar comments by another IMF official and Volcker himself, see Williamson, The Failure of World Monetary Reform, 1971–74, 70; Volcker and Gyohten, Changing Fortunes, 122.

102. “IMF Moves Toward New Money Rules,” Washington Post, 1 August 1973.

103. “Monetary Reform Soon: Schmidt,” Chicago Tribune, 31 July 1973; “Witteveen to Be I.M.F. Chief; Ministers Agree on S.D.R. Use,” New York Times, 1 August 1973.

104. “Learning to Float,” Wall Street Journal; FRUS 1969–76, vol. 31, no. 46.

105. Kissinger, Years of Upheaval, 121–27, chap. 5. In the summer of 1973, Kissinger was patiently working to reconfigure the Atlantic alliance. However, Europeans were not very cooperative because they knew Nixon, preoccupied with Watergate, could not give enough attention to that matter.

106. U.S. Congress, How Well Are Fluctuating Exchange Rates Working?, 169–75.

107. “Learning to Float,” Wall Street Journal.

108. U.S. Congress, How Well Are Fluctuating Exchange Rates Working?; “Congress Is Told of Trade Woes by Four Businessmen,” New York Times, 21 June 1973.

109. “Learning to Float,” Wall Street Journal, 8 June 1973.

110. U.S. House of Representatives, International Monetary Reform, Hearings Before the Subcommittee on International Finance, of the Committee on Banking and Currency, 93rd Cong., 1st sess., July 1973, 39–40.

111. “Floating Backed for Currencies: Congressional Group Calls System ‘Best Available Alternative,’” New York Times, 20 August 1973.

112. CED, Strengthening the World Monetary System (New York, 1973), 37–39Google Scholar; “Greater Flexibility in Exchange Rates Called for by CED in Monetary Report,” Washington Post, 26 July 1973. It also testified in front of Congress in early 1973, supporting “market-oriented adjustments through exchange rate changes.” U.S. Congress, The 1973 Economic Report of the President. Hearings Before the Joint Economic Committee, 93rd Cong., 1st sess., 1973, 572. U.S. Chamber made similar comments at the same hearings. The NAM also published a similar report on the international monetary system in 1974. The International Monetary System, submitted by the International Economic Affairs Committee, at the Board of Directors meeting, 16 September 1974. HML Acc. 1411, Series IX, Box 160.

113. Schriftgiesser, Business Comes of Age; “Business Launches Bretton Woods Aid,” New York Times, 1 June 1945.

114. “Shultz Names Monetary Reform Panel: Advisory Committee,” New York Times, 23 August 1973. Other names included Robert Roosa (former treasury undersecretary and currently Brown Bros. Harriman & Co.), William Blackie (Caterpillar Tractor Company), A. W. Clausen (Bank of America), Gaylord Freeman (First National Bank of Chicago), Gabriel C. Hauge (Manufacturers Hanover Trust Company), Ellmore C. Patterson (Morgan Guaranty Trust Company), and Walter B. Wriston (First National City Bank). Among the former treasury secretaries, Fowler alone was by then actively voicing his opinions on international monetary matters. He still did not want floating as a permanent system but softened his position substantially, supporting greater flexibility in exchange rates. “Monetary Reform Is Urged,” New York Times, 29 March 1972; “Organizing for a Muddled World,” Wall Street Journal, 28 March 1973.

115. Advisory Committee, Minutes of Meeting of 29 August 1973. Nixon Library and Museum, Yorba Linda, CA (NLM), White House Central Files: Staff Member and Office Files, Herbert Stein (Stein Files), Box 99.

116. Memo from Richard Erb to Peter Flanigan, 7 September 1973. NLM, White House Central Files: Subject Files, International Organizations (IT Files), Box 8.

117. “U. S.–E. E.C. Disagreement Reported at Paris Parley,” New York Times, 6 September 1973.

118. De Vries, The International Monetary Fund, 232–33, 239.

119. “Deadlock Is Seen on Money Reform,” New York Times, 8 September 1973.

120. Ibid.

121. “Which Goes First, Trade Or Money?,” New York Times, 16 September 1973; “I.M.F. Meeting,” New York Times, 19 September 1973.

122. Treasury Department Consultant’s meeting, Minutes of Meeting of 18 September 1973. NLM, Stein Files, Box 99.

123. “Monetary Notebook from Nairobi,” New York Times, 30 September 1973.

124. FRUS 1969–76, vol. 31, no. 53.

125. Williamson, The Failure of World Monetary Reform, 1971–74, 71.

126. Volcker and Gyohten, Changing Fortunes, 123.

127. Ibid., 141.

128. Eichengreen, Globalizing Capital, 137–38.

129. Ibid., 138–39; Helleiner, States and the Reemergence of Global Finance, 123.

130. See Odell, U.S. International Monetary Policy, 327–29, 334; Eichengreen, Globalizing Capital, 154–56; Helleiner, States and the Reemergence of Global Finance, 132–54; Volcker and Gyohten, Changing Fortunes, 140–41, 146. As currency fluctuation seemed to get out of hand in the late 1970s, the United States resorted to concerted currency interventions with Germany in 1977 and 1978. It even briefly considered adopting capital controls to stem speculation against the dollar. However, the American government ultimately chose austerity, instead of currency interventions or capital controls, to address the dollar crisis. President Carter appointed Paul Volcker as Fed chair in 1979, who was known for his strong will to curb inflation. Volcker proved his reputation by adopting a series of monetary measures in October 1979, which subsequently stopped the free fall of the dollar and brought down inflation.