Chapter 1: The World Payments Situation
- International Monetary Fund
- Published Date:
- September 1961
IN contrast to the year 1959, when virtually all countries participated in world-wide expansion, the year 1960 and the early part of 1961 presented a less unified picture. Rapid growth continued in most of the European industrial countries and in Japan, but in the United States and Canada a slackening of activity was evident. The volume of exports of the primary producing countries increased, but the prices of their exports, which had risen, on the average, during 1959 and the early part of 1960, subsequently showed a slight downward tendency. Broadly speaking, the average level of commodity prices was unusually steady in the past year.
For the world as a whole, the expansionary elements considerably outweighed the contractionary elements. World industrial production, excluding the countries of the Soviet area, was almost 6 per cent greater in 1960 than in 1959, having grown by 10 per cent in the previous year; but the value of world trade increased by 12 per cent, compared with an increase of 6 per cent in 1959. The stimulus for the rise in world trade came predominantly from the booming industrial countries in Europe and from Japan, which increased their imports by nearly 20 per cent; U.S. and Canadian imports declined slightly. There was also a considerable increase, some 10 per cent, in the imports of the less industrialized countries.
Trade developments during 1960 improved in some respects the basic international payments situation. Thus in the United States, rising exports—stimulated in part by liberalization measures abroad—and slightly declining imports caused an increase in the surplus on private goods and services account from an annual rate of $2 billion in the second quarter of 1959 to annual rates of nearly $9 billion in the last quarter of 1960 and more than $9 billion in the first quarter of 1961. A surplus of this magnitude is more than sufficient to cover the whole of U.S. Government expenditure abroad for military purposes and for economic aid, plus long-term private investment, at the level of about $8 billion which these items together have averaged in recent years. It should be borne in mind, however, that the improvement in the U.S. trade position has been achieved under cyclical conditions of an intense boom in most other industrial countries and slackening activity at home. It remains to be seen whether the U.S. balance of payments will improve sufficiently to ensure a satisfactory balance when the cyclical positions of the United States and the other main industrial countries are more nearly similar.
The movement noted in the basic balance of payments of the United States was not accompanied by a corresponding reduction in the very large goods and services surpluses of some of the other industrial countries. The surplus of Germany increased slightly, to about $1.8 billion, and that of France remained at nearly $700 million. Several other industrial countries, however, particularly Italy and Japan where the rate of economic expansion was very high, reduced their surpluses substantially.
The United Kingdom, which had a current account surplus of about $150 million in 1959, had a deficit of almost $1 billion in 1960. This large deficit reflected mainly the sharp growth of imports associated with a high level of activity, the rebuilding of inventories, and the lifting of restrictions on trade with certain areas in 1959, while exports failed to rise in line with those of most other industrial countries; there was also a worsening of the invisible account. Although the increase in activity in the industrial countries benefited the exports of the primary producing countries, the imports of the latter rose faster than their exports, and the current account of the group as a whole deteriorated by some $1¼ billion. In contrast to 1959, the current account deficit of this group of countries somewhat exceeded the inflow of capital and economic aid, and on balance their reserves decreased.
For a number of industrial countries, changes in 1960 in the goods and services account were overshadowed by large movements of short-term capital, especially during the second half of the year. Initially, these movements were generally in response to cyclical changes in interest rates; subsequently, however, anticipations of possible changes in parities also began to play a role. In the United Kingdom and Germany, official discount rates were raised, mainly for the purpose of stabilizing the internal economy, while in the United States and Canada interest rates fell, under the impact of slackening business. In the United Kingdom, the inflow of short-term funds more than counterbalanced the worsening of the current account position. In Germany the inflow, added to a persistent current account surplus (net of official donations) of more than $1 billion, led to an increase of $2.2 billion in reserves. Faced by inward movements of such magnitude, the Bundesbank took a series of steps designed to reduce the inflow, and eventually lowered the discount rate, first in November 1960 and then in January 1961, by a total of 1½ per cent, to 3 ½ per cent. In the United Kingdom, also, the bank rate was reduced in October from 6 per cent to 5 ½ per cent and in December to 5 per cent. These measures, however, did not succeed in arresting the inflow of funds.
In the United States, the outflow of short-term capital in 1960 more than offset the underlying improvement in the balance of payments, and the over-all deficit rose to a peak in the second half of the year. Toward the end of the year, and again in early 1961, steps were taken that were intended to lower long-term interest rates as a stimulus to the economy without producing at the same time a decline in short-term interest rates. The stability in U.S. short-term rates, coupled with declining rates abroad, helped to moderate the outflow of short-term capital in the first quarter of 1961. Meanwhile, the underlying balance of payments continued to improve and the over-all deficit was substantially reduced.
In March 1961, Germany and the Netherlands appreciated the par values of their currencies after consultation with the Fund. The decision to appreciate the deutsche mark by 5 per cent, effective on March 6, was made in order to lessen the expansionary pressures in the domestic economy, so as to maintain price stability, and to assist in reducing the imbalance on foreign account. The Netherlands, which conducts over 20 per cent of its import and export trade with Germany, and which was also experiencing strong expansionary pressures, appreciated its currency by the same percentage the next day. These moves were followed by large international transfers of capital, induced by an expectation that further alterations would be made by various countries. Very substantial movements of funds, the magnitude of which has been estimated at around $1 billion, occurred during the course of three or four weeks.
In this situation, two important steps were taken. The financial authorities of several countries released a joint statement in which they most emphatically denied as wholly unfounded all the rumors about further alterations of par values. At the same time, a number of central banks made arrangements to hold the currencies of the countries adversely affected by the speculation, so as to allay the pressure on exchange rates and reserves. In some respects, these arrangements represented a new form of central bank cooperation. It is a welcome development that central banks and in some instances Treasuries should thus aim, by cooperation with each other, to reduce the impact of sudden movements of funds.
Gradually in the past few years there had grown up among traders a belief in the permanence of the existing convertibility of currencies and freedom of international payments. As a consequence of this growing confidence funds flowed more freely, and in spite of some periods of speculative tension in recent years—as in 1957 and the second half of 1960—much business was conducted without forward cover. The revaluation of the deutsche mark and the guilder caused a change in market psychology. It quickly became the general practice for those holding foreign exchange positions to arrange forward cover, as a result of which a considerable spread between spot and forward quotations developed. These exchange market developments were indicative of a decline in confidence in the stability of the exchange rate structure.
Movements of short-term capital of the magnitude recently experienced are a new phenomenon in the postwar world; they present the financial authorities, especially in the leading industrial countries, with new problems. The movements have been made possible by a number of related developments: the introduction of de facto external convertibility of most European currencies in December 1958, by which most balances owned by nonresidents became transferable; the further step by 9 of these countries to convertibility under the Fund Agreement in February 1961; the greater freedom given to banks in most European countries, and to private individuals in some of them, to hold their assets abroad; and the three years of large deficits in the U.S. balance of payments, with substantial increases in reserves in Europe, leading to a situation of strength of European currencies that had probably not been equaled since 1914.
The international reserves of the industrial countries other than the United States increased from $19.6 billion at the end of 1959 to $24.2 billion at the end of 1960. None of these countries had any need to request assistance from the Fund, and during 1960 none of the drawings on the Fund, which totaled $280 million, was made by any of the highly industrialized countries. On the contrary, several of these countries made advance repayments to the Fund. Among the primary producing countries, the situation was different. Only a few among them were able to increase their international reserves in 1960, and for this group of countries taken as a whole, there was a slight deterioration in the international reserve position. Because of the balance of payments difficulties of several primary producing countries, it was natural that they should request assistance from the Fund. In the last year, stand-by arrangements were concluded with 18 countries in this group, and drawings were made by a further 5 countries. The contrast between the strengthening in the liquidity position of most of the industrial countries and the difficulties of many primary producing countries was thus clearly reflected in the financial transactions of the Fund. In all, repurchases amounted to $711 million in 1960, exceeding drawings by more than $400 million.
Thanks to the strength of the reserve position of the industrial countries, the strains and stresses resulting from movements of funds from one country to another—whatever the causes of those movements—have not led to the impairment of the freedom already allowed in the field of foreign payments. Indeed, the prevailing tendency has been gradually to enlarge the freedom of transactions, including capital movements for residents. Some measures were taken in Germany and Switzerland to stem the inflow of unwanted capital, mainly by reducing what could be earned, or even imposing a charge, on such inflows; but these measures did not involve any restrictions on transfers as such. It can therefore be said that solutions for problems arising from capital movements are being sought primarily along lines other than restrictions, so as to safeguard the existing degree of convertibility of currencies, which has been established after so many efforts.
Within the framework of the prevailing widespread exchange freedom, the monetary authorities have defended the exchange rate structure by utilizing their monetary reserves. They have also recently begun to adjust interest rate policies so as to reduce the stimulus to the international movement of funds in response to interest rate differentials. This has meant that, as the year advanced, increasing weight has been given in a number of countries to balance of payments considerations in the formulation of monetary policy, although not, of course, to the exclusion of considerations based on the internal cyclical situation. Difficulties have arisen from the divergence in economic trends among the highly industrialized countries. When, as has often been true in the past, the timing of cyclical movements in the different countries is more or less similar, interest rates usually move more or less together. But recently the boom in Europe and a slackening of business in the United States and Canada have complicated the situation, and it has been far from easy to determine what would be the most appropriate policy. In a rapidly expanding economy, higher interest rates would normally help to damp the boom. If, however, the higher interest rates should attract more funds from abroad, the effect would be to intensify the expansionary trend. Largely for this reason, the Netherlands and Switzerland kept their discount rates constant throughout 1960, at 3½ per cent and 2 per cent, respectively. The steps taken in Germany and the United States to adjust interest rates in the light of international considerations have already been mentioned. These limitations on monetary policy indicate a greater need for a strong and flexible fiscal policy if both inflation and recession are to be avoided.
As a further measure to discourage short-term capital inflows, some attempt has been made, particularly in Germany, following techniques that had been developed over many years, to increase the profitability of short-term capital exports at given interest rate differentials, by official intervention in the forward exchange market.
The monetary authorities have also taken steps to prevent the movement of funds from having pronounced and undesirable effects on reserves. One such step has been the prepayment of external debts, particularly to the United States, of which the largest example has been the prepayment by Germany. In some instances, the mechanism of the Fund has also been used. Thus, in the second half of 1960 the United Kingdom, receiving a heavy inflow of dollars, used some $200 million of them to accelerate its repayments to the Fund. France also made advance repayments in 1960. Another step was taken in March 1961, when, in the unsettled situation following the revaluation of the deutsche mark and the guilder, the European central banks, as already mentioned, arranged to hold balances of the currencies under pressure and to extend other inter-central-bank support. Measures such as these provide valuable support, but they do not, of course, preclude the need for financial assistance by the Fund.
The expansion of productive capacity for both manufactures and primary products in recent years, the many striking increases in productivity achieved, and the continued pursuit of more effective fiscal and credit policies, have halted the upward trend of prices. In 1960, exporters in primary producing countries benefited from the increase in demand for their products from Europe; but, in part owing to the absence of a similarly strong demand from the United States, prices of their exports on the average weakened somewhat. Thus the prices of foodstuffs and raw materials were, on the whole, stable or declining; and as increases in wages in the industrial countries were compensated by large increases of productivity, price levels in these countries remained substantially stable, even where demand was pressing against the limits of capacity.
In these circumstances, the primary producing countries are naturally eager not only to have the upward trend in economic activity in Europe continue, but also to have recovery in the United States gather momentum and lead to increased U.S. imports. For them, it is a matter of vital importance to find satisfactory outlets both for their traditional products and for such other commodities as they may produce by diversification of their economies. In particular, the primary producing countries ask the industrial countries not to seek solutions for the problems of their farmers, miners, or industrial producers, by means of policies that transfer the weight of adjustment onto the economically weaker producers in the other countries. The strength and wealth of the industrial countries should be used not only to give economic aid to the countries with lower per capita incomes, but also to absorb more readily the growing diversity of their products.
At the same time, these less developed countries will wish to put themselves in a position where their own economies produce more effectively, and where their economic and financial policies will create a climate that will encourage domestic saving, attract foreign capital, and permit the channeling of these resources into the most productive lines of investment.
In maintaining monetary stability, or in achieving it where it has so far eluded the efforts of the authorities, an increasing number of countries are laying the foundation for sound growth. While it is true that a return to stability after a protracted period of inflation will usually be followed by a certain slackening in economic activity until the business community adapts itself to the cessation of increases in general prices, experience shows that these transitional difficulties give way before long to a period of enterprise and sustained growth, especially when fostered by suitable measures toward that purpose. The Fund has been able to extend financial assistance to a number of countries which have adopted programs aimed at economic stability; it is equally anxious to contribute, within the powers given to it, as its Articles of Agreement stipulate, “to the development of the productive resources of all members.”
Canada, Cuba, the Dominican Republic, El Salvador, Guatemala, Haiti, Honduras, Mexico, Panama, and the United States.