Chapter 9. Exploring the Issues of Reform
- International Monetary Fund
- Published Date:
- February 1996
HOPES RAN HIGH IN SEPTEMBER 1972. At the Annual Meeting there was an aura of excitement and expectation, much in contrast to the gloom and sense of disaster that had been pervasive at the Annual Meeting of the year before. Setting up the Committee of Twenty was a momentous step, and despite their conflicting views, officials anticipated productive negotiations for a reformed system.
SCOPE AND PLAN OF WORK
The assignment of the Committee of Twenty was a challenge. The Committee was to undertake the most ambitious attempt ever to work out a many-faceted reconstruction of the international monetary system. Complex and highly technical monetary issues would have to be discussed. In addition, full attention was to be given to the interrelation between monetary topics and the “existing or prospective arrangements among countries, including those that involve international trade, the flow of capital, investment, or development assistance.” The Committee was also to make suggestions on strengthening the Fund’s decision-making process. U.S. officials wanted to give the Fund more authority in convincing a major industrial country of the need to change its exchange rate or to take other policy action to correct its payments imbalance. The aim was to have the Fund’s decisions elevated from the level of the Executive Directors to the level of finance ministers or governors of central banks, that is, to political appointees rather than civil servants. Noting that the Group of Ten and the ec assessed balance of payments performance at the ministerial or subministerial level, U.S. officials believed that a comparable change in the structure of the Fund would give the Fund added clout in the international community.
The work was to be completed within two years, by the 1974 Annual Meeting, since two years seemed to be as long as so large an exercise could be kept going. Most members of the Committee were reasonably confident of success and of accomplishing their task within the specified period. The Communiqué following the inaugural meeting expressed “determination to make rapid progress toward agreement on reform of the international monetary system.”1 The speeches of Messrs. Shultz, Barber, and Schmidt at the 1972 Annual Meeting also suggested that they expected to achieve agreement on the main features of a reformed system by the time of the next Annual Meeting, in Nairobi in September 1973.2
In October 1972, Mr. Morse, as Chairman of the deputies, planned a work program in which one year would be devoted to settling the major issues and to preparing a preliminary outline in time for the 1973 Annual Meeting. The second year was to be devoted to technical elaboration and to putting the ideas agreed in the preliminary outline into the necessary legal language. Mr. Morse’s minimum aim was to push the infant reserve asset, the SDR, one stage further and to resolve the controversy about the relative roles of fixed and floating rates in any new arrangements. His maximum aim was to redesign completely the international monetary system, as had been done at Bretton Woods. With an optimism based on his own experience in previous negotiations, he considered some reform along these lines realistic and achievable. He had played a part in three successful multicountry negotiations on international monetary issues in the past, the agreement on sterling balances in 1968, the launching of the SDR from 1966 to 1969, and the entry of the United Kingdom into the European Communities in 1970–71. He believed that the reform of the international monetary system was also an achievable assignment.
His optimism was, nevertheless, tempered with caution, as the assignment was clearly difficult. Members of the Committee, like their governments, held opposite views on many features of a reformed system. For their part, U.S. officials attributed much of the unusual U.S. merchandise trade deficit to the intense desire of European countries and of Japan to expand their exports and to run large trade surpluses, primarily to keep up domestic employment. U.S. officials accordingly gave priority to designing an adequate mechanism to adjust balance of payments disequilibria. They believed that the reformed system ought to contain some method of inducing, or even forcing, countries with large and persistent balance of payments surpluses to take action, especially by changing the exchange rate, to reduce these surpluses. For them the most crucial provisions of a reformed system were how exchange rates would be altered and what pressures would be applied against countries that failed to correct undervalued exchange rates or to liberalize their trade policies so as to permit more imports from the United States. They also favored a system that included relatively more floating of exchange rates than had been possible under the par value system.
Officials of ec countries, convinced that the U.S. payments deficits were caused by relatively easy U.S. money policies and the resulting inflation and that the special role of the dollar in international payments encouraged these deficits since the United States did not need primary assets or borrowed credits to finance them, stressed their unwillingness to accumulate inconvertible dollars indefinitely. They resented the transformation of the gold-exchange standard into a dollar standard. The provisions of a reformed system with respect to convertibility or some equivalent, such as asset settlement, were for them in the words of Valéry Giscard d’Estaing, “the touchstone of reform.”3
Officials from over 100 developing members of the Fund fully participating in the negotiations had still another emphasis. They came to the negotiating table determined to ensure that any reformed system took account of the special interests of their own countries, particularly by providing for the transfer of real resources from industrial to developing countries.
BALANCE OF PAYMENTS ADJUSTMENT AND A PROPOSAL BY THE UNITED STATES
The deputies held their first meeting dealing with substantive issues in the Fund’s headquarters in Washington on November 27–29, 1972. The Bureau grouped the monetary issues to be explored (apart from issues on trade or on restructuring the Fund) under five major headings: (i) balance of payments adjustment; (ii) the settlement of payments imbalances, such as through asset settlement or convertibility; (iii) the volume and composition of reserve assets, including the positions of gold, the dollar, and the SDR, in the system; (iv) disequilibrating flows of capital; and (v) the special problems of developing countries.
The deputies began with balance of payments adjustment, following a procedure which carried through their next several meetings. Numerous documents were distributed prior to the meeting. Many deputies themselves submitted written proposals for discussion and also circulated detailed comments on the proposals of other deputies. During the first several deputies’ meetings, however, discussion centered around annotated agendas prepared by the Bureau. These were relatively short papers designed especially to identify points on which officials agreed and to clarify the points on which they differed. They described agreements so far reached, listed questions that might further advance agreement, and asked the deputies for views on these questions.
The annotated agenda circulated for the November 1972 meeting sought deputies’ positions on how to assess the need for balance of payments adjustment, particularly for changes in par values; what inducements, sanctions, or pressures the international community—presumably the Fund—should use to force countries to promote balance of payments adjustment; the possible legalization of temporary floating rates; the use of controls including multiple exchange rates to restrain inflows and outflows of capital; and the use of restrictions on trade and on other current account transactions for correcting balance of payments disequilibria. These topics were to be brought up at deputies’ meetings throughout the next two years. The deputies agreed readily on the list of issues that had to be explored and resolved.
At the end of the first day, U.S. deputies Paul A. Volcker and J. Dewey Daane distributed a paper spelling out the details of a U.S. proposal, subsequently known as the Volcker plan.4 The U.S. proposal had been foreshadowed in President Nixon’s address to the Governors on the opening day of the 1972 Annual Meeting and described a day later by Secretary Shultz.5 It was to play a major part in the Committee’s discussions for the next year for three reasons.
First, because of the key position of the United States in any international monetary arrangements, monetary officials had waited for nine months in 1972 for the U.S. Administration to state its views on reforming the system. Believing that nothing would happen on international monetary reform until the United States presented a proposal, many were irritated at the delay. Hence, most greeted the U.S. initiative of September–November 1972 with enthusiasm. Second, the United States was the first and eventually the only country to come forward with comprehensive suggestions for a reformed international monetary system. Although the U.S. proposal was not nearly so precise or all-encompassing as had been the U.S. proposals for a Stabilization Fund in 1942 that were the basis for the Bretton Woods system and the creation of the International Monetary Fund, it dealt with more features of the reformed system than those of any other constituency on the Committee of Twenty. Third, it appeared that U.S. officials who had previously opposed an asset settlement system might ultimately agree to it provided the reformed system included a satisfactory adjustment mechanism and procedures for asset settlement that had sufficient flexibility.
The principles underlying the U.S. proposal, enunciated by Mr. Shultz at the 1972 Annual Meeting, were similar to those guiding the U.S. negotiators at Bretton Woods 28 years earlier. The system of international monetary arrangements should be designed for market-oriented economies, as free as possible of governmental intervention, interference, and regulations. It should be combined with free trade and unrestricted investment. There should be a common code of conduct for all countries governing trade, monetary, and investment relationships, as embodied in the original Articles of Agreement of the Fund and in the gatt. As in the past, national governments should have a choice between policy instruments for bringing about balance of payments adjustment. As the negotiators at Bretton Woods had emphasized, success of the system depended on the pursuit, particularly by the large industrial countries, of effective domestic policies for economic growth and price stability.
There was, however, an important difference between the philosophy of the United States in 1944 and in 1972. In 1972 U.S. officials, including President Nixon, worked from the premise that basic changes in the economic positions of the major industrial countries and hence in their relative political power had made the Bretton Woods system obsolete. In Mr. Volcker’s words: “With the resurgence of Europe and Japan, a monetary structure which assumed and was based on a single predominant currency—the dollar—became untenable. The implicit assumption that a dominant United States with immense reserves and an impregnable competitive position could play a relatively passive role in the adjustment process, while in effect underwriting the stability of the system as a whole, simply no longer fits the elementary facts of the distribution of economic and political power in today’s world.”6
In 1972, accordingly, U.S. officials stressed the inability of a country, even as large as the United States, to achieve balance of payments adjustment on its own. They emphasized the need for symmetrical standards and procedures to guide adjustment, especially among the major industrial countries.
Features of the U.S. Proposal
At the 1972 Annual Meeting, Mr. Shultz made it clear that the United States would accept an exchange rate regime based on central or par values if provision was made for fairly wide margins around these values and for countries to float their currencies and if appropriate criteria were used to bring about changes in exchange rates, including changes for countries with balance of payments surpluses. The United States would also agree to making the dollar again convertible into primary reserve assets, although within defined limits. Part of the existing holdings of dollars by the central banks of other countries might also be exchanged for a special issue of SDRs at the option of the holder. The United States, moreover, would accept the SDR as the numeraire of a reformed system and would agree that the SDR could be made free of encumbrances, such as reconstitution obligations, designation procedures, and holding limits, which detracted from its use. In all these respects, the United States seemed to have accepted the proposals put forward by Mr. Barber a year earlier.
Mr. Shultz had other suggestions which U.S. officials were to push in the deliberations of the Committee of Twenty. Gold should assume a diminishing role in the reformed system. Controls on capital movements should not be allowed. The Fund, with responsibility for monetary matters, should closely harmonize its policies with those of the gatt, which had responsibility for trade matters.
The paper distributed by Messrs. Volcker and Daane to the deputies in November 1972 gave specific details. There should be introduced a system of objective indicators, based on changes in the levels of countries’ reserves that would signal the need for countries to change their exchange rates. A norm, or base level, for the reserves of each country would be established. Recognizing that the setting of norms would be controversial, U.S. officials offered several suggestions on how they might be determined. Norms might be in proportion to members’ quotas in the Fund or determined by the past level of reserves of a country. The sum of all norms was to be roughly equal to total world reserves. As more SDRs were allocated by the Fund, countries’ norms would increase. The reserve norm was to be surrounded by two warning points and beyond that by an outer point and a low point. Disproportionate increases or decreases in a country’s reserves causing reserves to reach these indicator points would signal the need for balance of payments adjustment. If a country’s reserves passed one of the warning points, there would be a strong presumption that the country should take action to adjust its balance of payments. In fact, there were to be virtually mandatory triggers for action. If a country’s reserves moved toward the outer point or the low point, the country would be expected to apply adjustment measures of progressive intensity. If its reserves reached critical levels, a country would be subject to sanctions or graduated pressures, such as the loss of scheduled SDR allocations, an authorization by the Fund or some other international agency for other countries to impose surcharges on the country’s exports, or the imposition of a tax on excess reserve holdings to be applied by the Fund. Provision was, nonetheless, made for overriding any signals for adjustment if on further examination changes in reserves did not seem to suggest the need for action to correct balance of payments disequilibria.
Convertibility of the dollar into primary reserve assets would take place when the U.S. reserve position, including the position of dollar liabilities abroad, was strong enough and a reserve indicator system was in operation. Convertibility was to be circumscribed, however, by what were called “convertibility points,” later called “primary asset holding limits” (PAHL). Each country was to have a limit set at a fixed proportion above its reserve norm; if its reserves exceeded its limit, it would cease to be eligible to convert additional reserves into primary reserve assets. (The convertibility point was really an inconvertibility point in that no further conversions were to be allowed above the point.) The term “asset settlement” was deliberately avoided in the U.S. paper. Primary reserve assets meant in practice SDRs, since in the U.S. view gold was eventually to be phased out of the system.
The third feature of the reformed system as envisaged by the United States, though less emphasized than reserve indicators and provision for convertibility, was the introduction of multicurrency intervention, in which the authorities of central banks used several currencies for intervening in exchange markets, rather than only the U.S. dollar. U.S. officials favored a system of multicurrency intervention because it would give the dollar the same degree of flexibility within the margins around parities as other currencies. A multicurrency intervention system was thus in line with the thinking of U.S. officials that the reformed system should be symmetrical. U.S. officials preferred a multicurrency intervention system based on ceiling intervention. In such an arrangement, each participant agreed to intervene in exchange markets to buy another participant’s currency whenever its own currency was at the ceiling against the other currency, that is, at parity plus the margin.
A Vice-Chairman of the Committee of Twenty, Robert Solomon, noting that the U.S. proposal explicitly acknowledged that one of its major purposes was to make the adjustment process more evenhanded than in the past in the treatment of balance of payments surpluses and deficits, has subsequently likened it to the Keynes plan of 1943. In Mr. Solomon’s view, the U.S. plan of 1972 and the Keynes plan of 1943 were similar in respect to the rules for adjustment of payments imbalances, since both plans prescribe specific actions that countries in deficit or surplus might take as their creditor or debtor positions cumulated.7
Mr. Solomon has found similarities, too, between the concerns of the United States in the 1970s and those of the United Kingdom in the 1940s. In the 1940s, Keynes and other U.K. officials feared that after World War II the United States would emerge as a permanent creditor and that the full force of balance of payments adjustment would fall on European countries. At Bretton Woods, Keynes, therefore, sought an adjustment mechanism that would work symmetrically while it permitted the restoration of currency convertibility and relatively free multilateral trade. In the 1970s, Mr. Volcker and other U.S. officials, concerned about the weak U.S. balance of payments position, accepted what U.S. officials had rejected three decades earlier. Now they, too, wanted to ensure that countries that had maintained persistent surplus positions would be required to do some of the adjusting.8
FEATURES OF A REFORMED SYSTEM PREFERRED BY DEPUTIES FROM OTHER COUNTRIES
The reaction of the deputies from other countries to the U.S. proposal needs to be seen against a discussion of the features of a reformed system that they desired. Even prior to the exploratory discussions of the issues by the deputies in November 1972, it was evident that some sort of compromise would have to be found between those officials, primarily French and Belgian, who argued for stable exchange rates and fixed par values, and those who had come to favor more flexibility in the exchange rate mechanism, primarily U.S. officials. Like the sketch of the Fund staff and the Executive Board’s report of 1972, the Committee of Twenty started from the premise of a new par value system, which most monetary officials continued to favor. But since its members recognized that a par value system could be implemented to permit lesser or greater degrees of flexibility, the issue concerned the degree of flexibility to be permitted. As Mr. Morse had expressed it at the lecture meeting of the Per Jacobsson Foundation in September 1972, “we continue, as we did unsuccessfully before, to search for a place on the slippery scale between too much fixity and too much flexibility of exchange rates, a place on which we can stand with recovered confidence.”9 At the time, there was no inclination among officials, including those of the United States, to advocate that the reformed system be a floating rate system or any other than a system of par values.
By 1972, most officials, whether from the ec countries or from the United States, were ready to concede that in a reformed system changes in par values would have to be prompter than they had been in the previous par value system. Agreement even on the need for prompter par value changes represented an advance over the thinking of two years before. At the 1970 Annual Meeting officials of only the Federal Republic of Germany, Italy, and the United States favored greater rate flexibility; officials of the other ec countries, especially of France, were opposed. By November 1972, they agreed that par value changes ought to be made more promptly but held very different views on how often par values ought to be changed and on how much emphasis ought to be placed on changes in par values, as against other corrective actions, to effect balance of payments adjustment.
The strongest views about the need for par values or for fixed rates were held by French officials. At the meeting of deputies in November 1972, the deputies from France, Daniel Deguen and Claude Pierre-Brossolette, took strong exception to the need for frequent par value changes. Mr. Pierre-Brossolette, who was to present the French position at the deputies’ level throughout the life of the Committee of Twenty, insisted that the concepts of fixed par values, fundamental disequilibrium, and exchange rate stability “that had been the foundations of the Bretton Woods system” be retained in the reformed system. Positions on exchange rates (and on gold, as described in later chapters) similar to those expressed by Mr. Pierre-Brossolette in the Committee of Twenty had been advocated by French officials in discussions of international monetary questions in the 1960s.10 In fact, the persistent advocacy in the 1960s and the 1970s by French officials of fixed exchange rates and of a key role for gold in the international monetary system was in line with their position since the 1920s. Indeed, France had formed the nucleus of the gold bloc in the 1930s.11
Apart from a long-standing preference for gold and fixed exchange rates, French attitudes on these subjects in the 1960s and 1970s were deeply and openly political. Policies on these matters were formed first by President Charles de Gaulle and then by President Georges Pompidou, who opposed a strong position for the dollar in world finance. In their view, dollar domination had brought the United States to political domination, especially of Western Europe. The first way to reduce the influence of the United States was therefore to “attack” the dollar. The rest of the French position—such as resurrecting some kind of a gold standard or of enhancing the role of gold in the international monetary system and tying the dollar to gold through a par value—followed. A substitute asset for the dollar was needed, and gold was the best available substitute.
After President de Gaulle and President Pompidou died, political considerations continued to underlay the French position on fixed exchange rates and on gold. After 20 or 25 years of being the dominant economic and political power in the world, the United States had to share its power with other countries. Increased multipolarity distributed economic power among the United States, the nine ec countries, Japan, and some Third World countries. In the view of French officials, the new equality of economic strength among nations ought to be reflected in international monetary arrangements. The United States ought to be subject to the same balance of payments discipline as were other countries. It could not, alone among nations, keep on inflating its economy and adding to world liquidity by issuing more and more dollars to cover the resulting balance of payments deficits. If the U.S. authorities did not impose restraints upon themselves, some external mechanism had to do so. Otherwise, other countries would have little control over their own monetary and fiscal policies within their own national boundaries.
The attitudes of French officials on exchange rates and gold also have to be seen in the context of French aims and initiatives for the political and economic integration of Western Europe. After World War II, French officials had had a large part in planning a new Europe. Jean Monnet and Robert Schuman, then the French Foreign Minister, together with Paul-Henri Spaak of Belgium and others believed that hope for abiding peace in Europe lay in building new economic relationships between Western European countries. These men had been instrumental in devising new forms of economic unity in Western Europe.
After the rapid economic integration of Western Europe in the 1950s and the 1960s, officials of the ec countries recognized that the pace of European integration was slowing down in the early 1970s. In fact, they began to worry that the golden opportunity of real integration might have been missed. Further progress required their devoting the 1970s to the achievement of monetary union and by 1980 of possibly attaining a common European currency. Distinguished French experts firmly believed that the future of the ec itself hung on the creation of a common European currency. Accordingly, as described in Chapter 1, European officials had taken a number of steps toward monetary union and were in the midst of these steps as the discussions in the Committee of Twenty started. Since achievement of European monetary union and of a common European currency would be expedited by a reduction in the use of the U.S. dollar in European financial transactions, French officials had still another reason for taking positions at the meetings of the Committee of Twenty favoring fixed exchange rates and a reduced role for the dollar in the international monetary system. This represented a further bid to challenge the economic and political position of the United States.
French authorities had still other reasons for wanting to enhance the role of gold in the monetary system and for favoring relatively infrequent use of par value changes. The Bank of France held large stocks of gold reserves and the private sector of the French economy continued to hoard gold in large amounts. With regard to exchange rates, French officials believed what was needed to avoid instability were timely, orderly, and infrequent changes in par values rather than frequent small changes. Also, French officials had long been emphasizing that taking internal measures was an important, if not the most important, action to rectify balance of payments deficits and had been urging U.S. authorities to take adequate anti-inflationary measures to eliminate U.S. balance of payments deficits.
Views of Deputies from Other Industrial Countries
Although officials of other ec countries also favored only infrequent changes in par values, their stand was not as extreme as that of the French deputies. Changes in par values should, they said, be “a late, if not a last resort,” as an adjustment measure. They argued, especially after exchange rates floated, that there was danger of a switch from underuse of exchange rates in the late 1960s to overuse in the 1970s. Like French officials, they wanted to retain fundamental disequilibrium as a precondition for the Fund to approve of exchange rate action. Retention of the concept of fundamental disequilibrium ensured that both the internal and external causes of a country’s balance of payments disequilibrium would be taken into account when the Fund assessed the need for a change in a country’s exchange rate. At the meeting of deputies in November 1972, the deputy from Belgium, Georges Janson, the deputy from the Netherlands, C.J. Oort, and the deputies from the Federal Republic of Germany, Otmar Emminger and Dieter Hiss, like the French deputies, Messrs. Pierre-Brossolette and Deguen, all expressed the view that taking internal measures, rather than changing exchange rates, was the way to correct payments imbalances. Like the French deputies, the deputies from other countries also had difficulty with the idea of legalizing the use of floating exchange rates even temporarily. When this topic was raised, the deputy from Belgium, the deputies from France, and the deputies from Japan, Koichi Inamura and Hitoshi Yukawa, objected to any use of floating rates.
OBJECTIONS TO USE OF RESERVE INDICATORS
Even the many deputies who favored frequent and prompt par value changes in a reformed system were unsure of the U.S. proposal for reserve indicators. While there was some sympathy for a limited use of quantitative indicators to suggest the need for balance of payments adjustment, at the November 1972 meeting no constituency other than that of the United States was willing to commit itself to using a single indicator in as rigid a way as Mr. Volcker’s plan advocated. Mr. Volcker favored reserves as a single indicator on the grounds that they were a neutral statistical measure, minimizing the scope for different assessments that contained political as well as economic considerations. It would be far easier politically, he maintained, to change the par value for the dollar under an agreed system of neutral indicators than in response to the collective judgment of the international community, which suggested political pressure.
Other deputies, however, doubted that it would be easier politically to accept the need for exchange rate adjustment determined by statistical indicators rather than by assessment by the international community. Their main objection to the use of reserves as a single indicator was that changes in reserves alone were not a satisfactory guide to the need for exchange rate adjustment. Capital movements owing to speculation or in response to interest rate differentials, for example, affected the level of reserves. Changes in reserves could be caused by cyclical developments, such as variations in primary product prices, for which exchange rate adjustment would be inappropriate. Another objection to the use of reserves as a signal for exchange rate adjustment was that there was no way to decide fairly when the reserve-gaining rather than the reserve-losing country should do the adjusting. Many deputies thought too that the adjustment process was too complex to be governed by one or two indicators more or less universally applied. Furthermore, they feared that impending indicators, such as changes in reserve levels, would be known to the market and would therefore increase speculation on exchange rates, although they recognized that this danger existed to some extent in any system in which officials assembled to discuss payments imbalances.
Deputies from developing members were especially opposed to the use of reserve indicators. Mr. Saad, whose constituency included oil exporting members that had prolonged balance of payments surpluses and were recognized to be in unique circumstances, had the strongest case. The surpluses of these countries represented the proceeds of sales of exhaustible natural resources and the countries concerned had only the foreign exchange reserves resulting from their surpluses with which to restructure their economies. Reserve accumulation should not in the instance of these countries suggest the need for changes in exchange rates.
Manmohan Singh (India) and deputies from other developing members also set forth reasons why inflows or outflows of reserves should not be taken as indicative of the need for exchange rate adjustment by developing countries. They cited the contingencies to which developing countries were traditionally subject, such as crop failures and wide fluctuations in world market prices for the primary products that they customarily exported, and explained how accumulated reserves could help developing countries through balance of payments deficits resulting from these contingencies. They argued further that reserve accumulation by developing members would strengthen the hands of these countries in seeking loans from private commercial banks, enhance their credit ratings with private bankers and international financial institutions, and allow them freedom and flexibility in timing development projects. Mr. Singh also reminded the deputies from industrial members of the many studies suggesting that changes in exchange rates were not always effective in adjusting balance of payments disequilibria in developing countries; price elasticities of demand and supply were usually low in these countries.
Because of the favorable balance of payments positions then experienced by many developing members, deputies from developing members put forward even stronger objections to the use of reserve indicators than they might otherwise have done. Developing members were concerned that the use of reserve indicators would not permit them to enjoy the full benefits of favorable circumstances, such as favorable terms of trade or relatively large inflows of foreign capital when such circumstances did occur. Many also feared that, in any indicator system, the discipline imposed by the international community would be more rigorous than under the previous par value system and that developing members might be subject to stricter discipline than the major industrial members of the Fund. Thus, the deputies from developing members spoke out emphatically against the U.S. proposal, at least as applied to developing members. They were particularly opposed to the use of pressures on, or sanctions against, developing members that were accumulating reserves.
Alternative Proposal by Italy
The country that made the most effort to obtain compromises for a reformed international monetary system as the negotiations of the Committee of Twenty proceeded was Italy. Italian financial officials came up with suggestions on how to handle asset settlement (described later in this chapter) and what to do about the link between allocations of SDRs and development finance (described in Chapter 11), and proposed an alternative to the reserve indicator technique advocated by the United States. Their proposal, using the concept of basic balance in a country’s balance of payments, was spelled out in November 1972 by the Italian deputies, Rinaldo Ossola and Silvano Palumbo. Basic balance was the concept developed within the Fund in 1969–70 as the preferred measurement of members’ balance of payments positions; it was defined as the balance on goods, services, and private transfers—that is, the current account—plus net long-term capital. Under the Ossola-Palumbo proposal, the basic balance would be adjusted to diminish the influence of cyclical circumstances. In addition, use of the basic balance as a quantitative measure of a country’s payments position would be combined with a thoroughgoing qualitative analysis of the country’s current balance of payments situation and a forecast of developments in its payments position to form a combined presumptive indicator of the need for exchange rate action. Arguing in favor of this proposal, Mr. Ossola explained that a country’s basic balance was less subject to manipulation than was its level of reserves and less subject to distortion by cyclical and speculative influences. Unlike changes in reserves, it would be easier to agree on why a country’s basic balance was too large or too small.
The Italian proposal for a basic balance indicator broadened the notion of the term indicator. Under the U.S. proposal, the term was purely a statistical measure; under the Italian proposal, the term combined a statistical measure with a large element of analysis and assessment. Mr. Ossola’s alternative indicator was endorsed by Mr. Oort and by other deputies who emphasized the impossibility of avoiding interpretation and assessment of a country’s balance of payments position whatever indicator was used.
Mr. Emminger also suggested alternative indicators. His position was that serious effort should be made to reach a consensus on presumptive indicators for balance of payments adjustment, since such indicators would shift the burden of proof of the need for adjustment from the country’s trading partners or from the Fund to the country with the payments imbalance. But like Messrs. Ossola and Palumbo, Mr. Emminger advocated that the reserve position should be only one element in any quantitative indicator, which should also include the underlying balance of payments position, cost-price comparisons, and structural shifts in the capital accounts.
A Successful Meeting
Mr. Morse and several other officials regarded the November 1972 meeting of the deputies, which was really a preliminary meeting on the issues, as a success. Proposals were made and so were counterproposals. Consideration of proposals still took the form of what Mr. Morse characterized as “multilateral monologue” with each deputy presenting his own position. Further meetings were needed for the deputies to progress to actual dialogue and eventually to debate. Nonetheless, at the November 1972 meeting, by listening carefully to each other’s viewpoints and suggestions they engendered hope that major differences might be resolved.
Further Consideration of the U.S. Proposal for a Reserve Indicator
In an effort to evaluate the choice between the U.S. proposal for a reserve indicator and the Italian proposal for a basic balance indicator, the Fund staff, in January 1973, prepared a paper entitled “Reserves and Basic Balances as Possible Indicators of the Need for Payments Adjustment.”12 The staff paper maintained that in order to choose between the two indicators, distinction had to be made between flow disequilibrium and stock disequilibrium. Flow disequilibrium is reflected in the financial flows constituting a member’s balance of payments, a disequilibrium analogous to fundamental disequilibrium. Stock disequilibrium is disequilibrium in the optimal distribution of reserves among countries. The basic balance indicator was more suitable for flow disequilibrium while the reserve indicator was preferable for stock disequilibrium. The staff paper also maintained that different uses affected the type of indicator preferred. Indicators could be used, for instance, to identify the existence of balance of payments disequilibrium, to determine the division of responsibility among countries for action to adjust payments disequilibrium, and to discipline countries through sanctions if they did not take the appropriate action. Specificity of the context in which indicators were to be used would be helpful in selecting types of indicators.
Further discussion of the U.S. proposal for a reserve indicator took place at the third deputies’ meeting, held at the Fund’s Office in Paris on January 23–25, 1973. Views were now more clearly divided on the adjustment process and the exchange rate mechanism. U.S. officials continued to be strongly attached to the idea that reserve indicators should create a presumption of the need for corrective actions by countries with payments imbalances, including countries with surpluses. If action were not forthcoming, graduated pressures or sanctions should be applied by the Fund or the gatt. Deputies from other members, however, would agree only that indicators should be used to trigger consultations between the member and the Fund; they should not be regarded as presumptive of the need for action, and no pressures or sanctions should be used to force action. In general, deputies were not favorably disposed to the use of indicators and until March 1973 were unwilling even to set up a Technical Group to study them.
Reserve assets and asset settlement or convertibility were taken up by the deputies of the Committee of Twenty when they assembled for their third meeting.
The annotated agenda for this meeting contained a complex web of questions in which the answer to one question depended on the answer to another. First, there was the question whether the SDR was to be the standard of the reformed system. Then, assuming that the deputies were able to agree on an SDR standard, they had to consider the more difficult questions of how to achieve an SDR standard.
The SDR was far from being the standard of the existing system. The unexpected collapse of the dollar in August 1971 and the determination of U.S. officials to demonetize gold had suddenly catapulted the SDR into the position of the prospective prime reserve asset of the international monetary system. It was, however, a brand new reserve asset, introduced only in 1970. It was initially intended only to supplement other reserve assets, especially gold, still regarded as the basic reserve asset of the international monetary system. In fact, the SDR had been deliberately valued in terms of gold to make it “as good as gold.” The SDR was subject to several limitations on its use, made explicit by the Fund’s Articles of Agreement. It could be held only by official monetary authorities. Because it was not transacted in private markets, its liquidity, or conversion into currencies used in transactions, depended on designation procedures of the Fund. Even many central bank officials, especially in developing members, were still unfamiliar with the SDR and unaccustomed to holding and using it, although they were very much at ease with holding and using reserve currencies. Moreover, the amount of SDRs outstanding was minuscule compared with the vast amount of gold and reserve currencies in existence. Establishment of a link between SDR allocations and development finance was also unresolved. In thinking about an SDR standard for the reformed international monetary system, the deputies of the Committee of Twenty therefore had a dual task. They had to develop some concept of the shape of the SDR standard that might ultimately emerge and they had to consider the problems of the transition to such a standard.
The transition involved questions of how to improve the characteristics of the SDR and how to extend its uses. Beyond these questions were questions of what to do about gold and reserve currencies. Achieving a consensus to reduce the role of gold in a reformed system would not be easy. Gold had had a central role in the international monetary system for centuries, and the existing stock of monetary gold was large. Since France held large gold reserves and South Africa produced more than two thirds of the Western world’s output of gold, officials of these members were dedicated to retaining an important place for gold in the international monetary system. Officials of the United States, on the other hand, wanted to reduce the monetary uses of gold. They were supported by the developing members, which did not hold much gold. Most developing members had formerly been colonies of European countries, and the central banks of those countries kept the gold reserves of their political empires or currency areas in central pools. After gaining independence, developing members rarely acquired gold, preferring to hold any reserves they might accumulate in foreign exchange, usually dollars, pounds sterling, or French francs. Officials of developing members were not therefore inclined to favor increases in the official price of gold or other changes for gold which would enhance its monetary status, since improvements for gold, far from benefiting them, in fact made them relatively worse off compared with industrial members with large holdings of gold.
Questions about the relative role of reserve currencies in the reformed system were even more difficult to resolve. Reserve currencies were widely used. The world was effectively on a dollar standard and had been for several years. How to reduce use of the dollar and other national currencies had to be decided. Should there be limitations on the accumulation of reserve currency balances by central banks? What form and degree of settlement into primary assets or convertibility should there be? What should be done about past accumulations of dollar balances held by central banks abroad, that is, about the “dollar overhang?” Should some kind of substitution account be set up in the Fund whereby officials of central banks could exchange balances of reserve currencies for SDRs?
Areas of Agreement
The deputies were able to agree relatively readily at their meeting in January 1973 that the SDR should become the principal reserve asset of the reformed system. This agreement was quite an achievement in that the first SDRs had been allocated only three years before. Acceptance of the SDR as the principal reserve asset of the reformed system, however, resulted in large part because of the absence of any suitable alternative. Only G.W.G. Browne, the deputy from South Africa, and Mr. Pierre-Brossolette were willing to make any case for gold. And all deputies, even those from the United States, were willing to agree, or at least concede, that no national currency, such as the dollar, could be the prime reserve asset.
The deputies were also able to agree quite readily that reserve creation and the volume of international liquidity ought to be subject to international control. Otherwise the supply of global reserves would continue to be affected by the injection of reserve currencies into the system when reserve centers had deficits or by the withdrawal of reserve currencies from the system when they had surpluses. But this alternative was unacceptable: all the deputies agreed that global reserves should not be influenced to any significant extent by the balance of payments positions of reserve center countries. Deputies from Western European members used the word “control” of reserve creation to stress that the creation of dollar liabilities as a source of reserves should be done away with in the reformed system. The deputies from the United Kingdom, Christopher W. McMahon and Derek J. Mitchell, suggested the word “management” of reserve creation, leaving the way open for some use of dollars as reserves. All deputies agreed, too, that international control or management of reserve creation should be achieved primarily through decisions to allocate or cancel SDRs.
Most deputies also realized that if the SDR was to be the principal reserve asset of the reformed system, it should command sufficient confidence and strength for monetary authorities to prefer it to alternative reserve assets in the composition of their reserves. They therefore agreed that allocations of SDRs should not be excessive, but be adequate to permit members to achieve reasonable rates of reserve growth. There was fairly wide agreement, too, on the need to relax some of the rules governing the use of the SDR. The limits on participants’ obligations to accept SDRs might be raised; the number of institutions that could hold SDRs might be increased to include more than central banks and the Fund itself, then the only legitimate holders of SDRs; and the reconstitution obligations might be liberalized.
Areas of Disagreement
The implications of these general propositions on the SDR were different, however, for different deputies. Deputies from developing members believed that even with an SDR standard and an international management of reserve creation, it would still be possible for allocations of SDRs to be linked in one way or another to the provision of development finance. Deputies from industrial members on the other hand were very much concerned about the dangers of excessive allocations of SDRs.
The deputies also differed about the way to change the valuation of the SDR so as to disconnect its value from that of gold and about the need for a higher rate of interest on the SDR so that central banks would be induced to hold SDRs. Deputies from ec countries favored valuation of the SDR in terms of a group or basket of major currencies and an interest rate for the SDR closely related to the market rates of interest prevailing on foreign exchange balances of the currencies included in the basket. Japan, as a major creditor country which expected to remain a creditor country, favored an SDR that was a high-yielding asset. The Japanese deputies therefore supported a “strong SDR” that was valued in terms of the strongest currency or currencies in the system and that would increase in value as that currency or currencies appreciated. The U.S. deputies were reluctant to agree to these features for the SDR. The U.S. authorities were pursuing monetary policies in which interest rates for dollar-denominated assets were relatively low, and higher interest rates for the SDR could draw funds from dollar assets and weaken the dollar. Deputies from developing members also were not eager to have the interest rate on the SDR raised from the then very low rate of 1.5 percent a year, since they represented the largest single group of users of SDRs.
There was no agreement either about how to assess the appropriate level of global reserves. The deputies recognized that it would not be satisfactory simply to aggregate the reserve aims or targets of individual members; the sum of these reserve aims would clearly exceed an acceptable world total. At the same time, a number of deputies pointed out the need to take account of the demand of individual members for reserves. Again, as they did on other occasions, the Italian deputies, Messrs. Ossola and Palumbo, came forward with a compromise proposal, suggesting that the level of global liquidity needed to be evaluated by relating it directly to the value of world trade.
Even stronger differences of view separated the deputies on the question of how far to carry the reduction in the role of national currencies. While the deputies of the United Kingdom and of the United States, the two principal reserve centers, were willing to agree to a reduced role for reserve currencies, many European deputies, especially from Belgium, France, and the Netherlands, pressed for total elimination of the use of national currencies as reserves; dollars should be held by central banks only in those amounts needed for working balances. Illustrative of the strongly expressed positions were those of Mr. Oort and Mr. Pierre-Brossolette. Mr. Oort, recognizing that while there would be a transitional stage for phasing out reserve currencies and gold, argued that the transitional stage be short. Mr. Pierre-Brossolette objected even to the order in which the questions were being discussed, since the deputies were considering first the question of what to do about reserve currencies and then formulating the provisions for convertibility in the reformed international monetary system. The dollar ought to be adapted to whatever new rules were agreed for the international monetary system; the reformed system ought not to depend on the degree of convertibility that could be agreed upon for the dollar.
Deputies from developing members advocated what they called “freedom of choice in the composition of reserves of developing members,” which implied keeping a large proportion of their reserves in dollars. Muhammad Al-Atrash (Syria), Ernesto Fernández Hurtado (Mexico), Paulo Pereira Lira (Brazil), and Luis Ugueto (Venezuela), among others, explained that an increasing number of developing members had in the last several years adopted more aggressive policies with regard to the management of their reserve portfolios. They shifted between reserve assets to take advantage of expected yields, including the effects of changes in the exchange rates for the major currencies; at times they shifted into nontraditional reserve assets. They valued the additional income produced by these portfolio management policies. Mr. Fernández Hurtado also explained that debtor countries, as were most developing members, and creditor countries used reserve currencies differently. Creditor countries could perhaps convert most of their reserve assets into SDRs without affecting their main financial relations with the rest of the world. The reserve currencies held by debtor countries, however, constituted a vital part of their overall financial situation. They often used the largest portion of their reserve currency holdings to induce private commercial banks abroad to grant them loans.
Developing members thus supported the United States in advocating that the dollar should continue to have a large role in any international monetary system.
ASSET SETTLEMENT AND CONVERTIBILITY
The deputies of the Committee of Twenty differed most, however, on asset settlement and convertibility. At one end of the spectrum were the deputies from Belgium, France, and the Netherlands who pressed for a regime under which central banks effectively converted into primary reserve assets on a mandatory basis all national currency holdings beyond working balances. Certainly newly acquired balances (sometimes referred to as “new” dollars) had to be fully convertible, on a mandatory basis, with convertibility achieved through the Fund so that it did not depend on the willingness of the United States to convert balances of its currency. These European officials also wanted to find some way of converting “old” dollars, that is, the dollar overhang.
At the other end of the spectrum were U.S. officials. They considered it a concession even to discuss making the dollar again convertible before the U.S. balance of payments deficit was eliminated. They believed that achievement of a balance of payments surplus by the United States would alleviate the problem of the dollar overhang since other countries would have to use their accumulated dollars to pay for the deficits vis-à-vis the United States which a U.S. surplus would imply. Moreover, the willingness to restore convertibility of the dollar gave the United States its main bargaining power in the negotiations for a reformed system, just as its threat to suspend convertibility had been its major bargaining weapon prior to August 15, 1971. U.S. officials did not wish to make this major concession until they had achieved their objectives with regard to the adjustment mechanism and changes in par values. As for the technique by which convertibility might be arranged, U.S. officials preferred convertibility on a voluntary bilateral basis. Convertibility (e.g., of new dollar balances) into SDRs would be effected, when circumstances permitted, within limits by the issuer of the currency when central banks presented balances for conversion. This kind of convertibility was similar to the on demand convertibility that prevailed under the Bretton Woods system.
Two questions concerning asset settlement or convertibility were thus posed: (i) whether the arrangement should be mandatory or voluntary, and (ii) whether the arrangement should be carried out directly and bilaterally, that is, by the holder of the reserve currency presenting balances to the issuer of the currency, or indirectly and collectively, that is, through the Fund. There was also a difference in view among the deputies as to whether any substitution of dollars for SDRs should be once-for-all or continuously available. The United States was concerned that a continuously available substitution account would enable members to shift reserves out of dollars into SDRs whenever the dollar was weak.
Asset settlement, convertibility, and consolidation continued to be explored not only by the deputies of the Committee of Twenty at their meeting in January 1973 but also by the Executive Directors in the first few months of 1973. “Consolidation” was the term used to refer to any operation by which the holders of reserves in the form of short-term currency assets, such as U.S. dollars, would exchange these assets for an alternative form of asset that did not constitute a liquid claim on the reserve center, such as SDRs or gold, or positions in the Fund. The idea of consolidation was that holders of reserves would consolidate the various reserve assets that they held in the form of national currencies and gold into one principal reserve asset, such as the SDR. The term “consolidation” was more general than “substitution.” Consolidation might be achieved in two ways. The first way, known as substitution, involved the replacement of liquid reserve currency claims (e.g., dollars) by liquid claims on the international community (e.g., SDRs), in the portfolios of reserve holders (e.g., central banks’ reserve holdings). The second way, known as funding, involved the replacement of liquid reserve currency claims by illiquid reserve currency claims (e.g., some type of securities) in a bilateral deal between the reserve holder and the reserve center.
The discussion in the Executive Board centered around four proposals, by the United States, the Federal Republic of Germany, the United Kingdom, and Italy.13 All four proposals envisaged the creation of a substitution account in the Fund through which the Fund could engage in three types of transactions. In one type, the Fund could exchange especially created SDRs against outstanding holdings of reserve currencies. In a second type, the Fund might engage in transactions with reserve centers to secure asset settlement of the reserve currency countries’ imbalances, buying the country’s currency in exchange for SDRs when the country was in surplus, and selling the country’s currency in exchange for SDRs when the country was in deficit, in amounts that resulted in the reserve center gaining or losing a quantity of reserve assets equal to its surplus or deficit. In a third type, the Fund might use the substitution account to provide currencies in exchange for SDRs to countries with a balance of payments need or to restore their working balances of certain currencies.
The U.S. proposal for convertibility envisaged the creation of a substitution account in the Fund limited to the first of these three possible types of transactions, that is, to permit a once-for-all conversion of a part of existing reserve currency holdings into SDRs at the option of the holder. However, a country whose holdings of primary reserve assets exceeded a convertibility point would lose the right to request conversion of holdings of foreign exchange in excess of that point. In addition, the issuing country (e.g., the United States) would have the right to limit or prohibit other countries from adding to their holdings of its currency. U.S. officials envisaged these arrangements operating in conjunction with a system of multicurrency intervention, in which ceilings for intervention were established. Under this system the participating countries (possibly 10 to 20), when in surplus, might acquire the currencies of whichever participants were in deficit. This system would tend to bestow reserve currency status on all the intervention currencies. The currency acquired could be used in one of three ways: (i) to acquire holdings of participants’ own currency held by other participants, (ii) to hold in their reserves, provided the issuers acquiesced, and (iii) to acquire primary reserve assets from the country whose currency was bought.
The proposal of the Federal Republic of Germany, presented by Karl-Otto Pohl to the deputies of the Committee of Twenty at their meeting in January 1973, contained ideas for tight settlement arrangements. It envisaged that all countries would agree to keep the main part of their reserves in primary reserve assets and to restrict foreign exchange reserves to a specified maximum needed as working balances. These maximum limits, which were to be narrow, were to be determined by the Fund according to uniform principles. Countries would have an obligation to present foreign exchange in excess of these limits for conversion into primary reserve assets; they would have no right to request conversion of foreign exchange holdings as long as their holdings were below the limits. Existing reserve currency holdings in excess of these working balances would be consolidated. Insofar as monetary authorities desired to change only the composition and not the level of reserves, they could exchange (or substitute) reserve currencies for SDRs in the Fund. Any substitution facility created for this purpose would be limited to the first of the three possible roles of a substitution account described above.
What came to be called the U.K. proposal for asset settlement was, in effect, the second of the three approaches to asset settlement described in the report on reform of 1972. This proposal tried to reconcile the desire of European countries to bring the supply of reserve assets under international control and to have the SDR play an increasingly dominant role in the reformed system, the desire of the United States to avoid large demands for conversion of existing reserve currency holdings, and the desire of developing countries to have some freedom in determining their reserve composition. It envisaged that each country would agree to limit its holdings of each reserve currency to a prespecified level. In normal cases the limit would initially be set at no more than the country’s holdings of reserve currencies immediately before the scheme came into operation. Countries would be obliged to present any accretion of foreign exchange above these limits to the reserve center, which would be obliged to convert it into primary reserve assets. On periodic settlements, countries would have the option of either restoring their holdings of reserve currency by purchase against SDRs, or of accepting a new and reduced level of reserve currency holdings which would become the new limit for future settlement. Countries were to be permitted to exchange their reserve currency holdings for SDRs from a substitution account, either directly or indirectly through the reserve center. The account would thus perform the first two of the possible roles of a substitution account. In effect, this proposal amounted to putting a ceiling on countries’ holdings of reserve currencies, with amounts above the ceilings to be convertible by reserve centers.
The Italian deputies, Messrs. Ossola and Palumbo, presented the major compromise proposal to the deputies of the Committee of Twenty. They too tried to come up with a proposal that might be acceptable to all. Their proposal was along the lines suggested earlier by Giovanni Malagodi, the Minister of the Treasury of Italy, at a meeting of the finance ministers of the ec countries in July 1972. It combined voluntary action, as wanted by the United States, with multinational settlement through the Fund rather than bilateral conversion as in the past, as wanted by continental European countries. The Italian proposal envisaged the creation of a substitution account in which all three transactions listed above took place. Instead of conversion being a bilateral matter between reserve currency holders and reserve centers, countries requesting conversion of reserve currencies would obtain SDRs from the substitution account. Countries requiring foreign exchange for intervention in exchange markets or for financing a payments deficit might obtain it from the account in exchange for SDRs. Settlement of imbalances by a reserve center would then be achieved through the Fund. The United States would, for instance, periodically pay to, or receive from, the Fund an amount of SDRs equal to its balance of payments deficit or surplus, thus securing full asset settlement as long as the cumulative total of currencies sold to the Fund for substitution into SDRs permitted the Fund to sell the required amount of its currency to a reserve center in deficit. There would not normally be any restriction on the composition of the reserve portfolio of individual countries, except by way of a gentlemen’s agreement by the major reserve holders to a limited initial substitution of SDRs for reserve currencies.
Comparison of the Four Proposals
The four proposals thus attempted to resolve the main problem that developed in the Bretton Woods system during the 1960s that convertibility of the dollar into gold depended in part on the deliberate decision by authorities abroad whether or not they would tender dollar holdings to the U.S. Treasury for conversion. The Italian proposal sought to prevent a repetition of this problem by making asset settlement mandatory and by making it take place through the Fund. The proposals of the Federal Republic of Germany and of the United Kingdom sought to avert repetition of such a problem by placing an obligation on countries to seek conversion of additional balances. Under the proposal of the United States, convertibility depended on whether a custom or convention was established to the effect that conversion of dollar holdings would be expected in normal circumstances.
In assessing the four proposals, the Fund staff concluded that the U.K. and Italian proposals would both achieve full asset settlement by employing the substitution account for this purpose. The proposal of the Federal Republic of Germany would achieve something close to asset settlement, but variations in working balances within the permitted limits left scope for some deviation. It was not fully clear to what extent the U.S. proposal would achieve asset settlement. If, in practice, the countries that participated in the multicurrency intervention scheme normally presented for conversion any balances of any currency acquired under that scheme, the U.S. proposal would achieve asset settlement at least to the extent that any imbalances occurred among countries participating in multicurrency intervention. How far this arrangement would produce overall asset settlement would depend on the extent of participation in multicurrency intervention and on the size of imbalances with the rest of the world. If, on the other hand, there was no presumption of conversion of balances acquired (e.g., because the countries that acquired balances in various currencies preferred to hold them rather than to acquire SDRs), operations under the U.S. proposal would not bring about asset settlement.
The staff noted that the four proposals also differed with respect to the freedom countries would have in choosing the composition of their reserves, the objective emphasized by officials from developing members. The proposal of the Federal Republic of Germany closely specified the composition of each country’s reserve portfolio and required full initial consolidation. The U.K. proposal placed a one-way constraint on the freedom of reserve composition; it involved no compulsory initial consolidation and provided freedom to switch into SDRs whenever desired, but any rundown of foreign exchange holdings would be irreversible and countries would be prohibited from switching their reserves into new forms. The Italian proposal provided substantially greater freedom of portfolio choice than either the German or U.K. proposals; it relied on voluntary initial consolidation and included freedom for monetary authorities to switch into SDRs whenever they so desired. Under the U.S. proposal the freedom of choice of reserves would depend very much upon the customs or conventions that were established; if countries were not normally expected to request conversion, freedom of choice would be maximized.
The proposal of the Federal Republic of Germany provided maximum control by the Fund over the volume of international liquidity, while such control was hardest to obtain under the Italian and U.S. proposals.
The very existence of four proposals for ways to achieve asset settlement and convertibility suggests the controversy and conflicting opinions among the deputies of the Committee of Twenty and among the Executive Directors and other officials on this subject. Officials from ec countries emphasized the need for a fully convertible dollar in order for the reformed system to be symmetrical (i.e., virtually the same for all) with respect to the way in which countries had to finance their balance of payments deficits. The dollar was no longer to have a special role. Officials from the United States emphasized equally firmly that the United States could not undertake “extreme and unrealistic” convertibility obligations, and certainly could not undertake any convertibility obligations until the U.S. payments imbalance was rectified and there was assurance that the reformed international monetary system would contain adequate procedures for obtaining balance of payments adjustment.
As the topic of asset settlement and convertibility was considered at length in the Executive Board in the first several months of 1973, the same division of views appeared among the Executive Directors as existed among the deputies of the Committee of Twenty. The Fund staff tried to facilitate agreement by concentrating on techniques, rather than on the four alternative proposals as a whole, a modus operandi learned in the course of discussions on SDRs. The staff had learned that agreement could sometimes be attained by extracting techniques common to the various proposals. The staff prepared a paper entitled “Technical Choices Involved in Arrangements Regarding Consolidation, Convertibility, and Asset Settlement,” which was circulated to the Executive Board in April 1973 and revised a month later after discussions in the Executive Board.14 The paper explained that asset settlement could be achieved through a system of multicurrency intervention in exchange markets or through a system of predominantly dollar intervention operated in a specified way, partly through the Fund. Members could also still have a large degree of freedom in choosing between SDRs and reserve currencies for the composition of their reserves. The staff paper explained, too, that consolidation could be effected rather simply through the creation of a substitution account in the Fund.
While the Executive Directors expressed interest in these techniques, it was clear from their discussion that resolution of the problem of reserve currencies, asset settlement, and convertibility would have to be preceded by a thorough consideration of what was going to happen to the SDR in the reformed international monetary system. Conversion of national currencies into ultimate reserve assets meant in practice conversion into SDRs; asset settlement meant settlement in SDRs. Yet the ways in which SDRs were to be treated in the reformed system were as yet undetermined, and a number of questions concerning the SDR remained unanswered. Would a substitution account for the substitution of foreign exchange for SDRs be established in the Fund? Would a link between allocations of SDRs and development finance be created? To what extent was there a danger of an excess of SDRs as a result of their being substituted for dollars or linked with development finance? By what criteria would more SDRs be allocated in the future? What would be the basis for valuing the SDR when it was no longer valued in terms of gold? Should it bear an interest rate higher than the existing 1.5 percent a year? Would financial institutions other than the Fund or members’ central banks be authorized to hold SDRs? How would the characteristics of the SDR be altered and its uses broadened so as to enhance its attractiveness?
There seemed to be little point in discussing ways to reduce the use of gold and national currencies in the international monetary system in favor of the SDR and ways to convert national currencies into SDRs until the issues attending the SDR were resolved. Officials seemed to be on a merry-go-round on these topics.
See Vol. III below, p. 197.
Statements by the Governor of the Fund and the World Bank for the United States, the Governor of the Fund for the United Kingdom, and the Governor of the World Bank for the Federal Republic of Germany, Summary Proceedings, 1972, pp. 44, 53, and 71.
Statement by the Governor of the Fund and the World Bank for France, Summary Proceedings, 1972, p. 74.
’The U.S. Proposals for Using Reserves as an Indicator of the Need for Balance-of-Payments Adjustment,” in Appendix A, Supplement to Chap. 5, Annual Report of the Council of Economic Advisers, in Economic Report of the President Transmitted to the Congress, January 1973 (Washington: Government Printing Office, 1973), pp. 160–74.
Address by the President of the United States and Statement by the Governor of the Fund and the World Bank for the United States, Summary Proceedings, 1972, pp. 2–4 and 34–44.
Remarks of Under Secretary of the U.S. Treasury for Monetary Affairs, Paul A. Volcker, at the Annual Meeting of the Minnesota Economic Association at the College of St. Thomas, St. Paul, Minnesota, October 27,1972, reprinted in U.S. Treasury Department, News (S-71), October 27,1972, pp. 6–7.
See his The International Monetary System, 1945–1976: An Insider’s View (New York: Harper & Row, 1977), p. 242.
Ibid., p. 243. John Williamson has also noted the similarities between the U.S. proposal in 1972 and the U.K. position at Bretton Woods in 1944: “both called for penalties to force surplus countries to adjust, no circumscribing of the reserve-currency role and ample international liquidity.” See his The Failure of World Monetary Reform, 1971–74 (Sunbury-on-Thames, England: Thomas Nelson and Sons, Ltd., 1977), p. 89.
Henry C. Wallich, C.J. Morse, and I.G. Patel, The Monetary Crisis of 1971—The Lessons to Be Learned, the 1972 Per Jacobsson Foundation Lecture (Washington, September 24, 1972), p. 55.
See History, 1966–71, Vol. I, pp. 40, 61–63, 132, 171–72, and 195.
The long-standing position of French officials in favor of gold and fixed exchange rates going back to the Napoleonic era and the reasons for it have received considerable attention by writers on financial subjects. An exposition of the French viewpoint is given in Guillaume Guindey, The International Monetary Tangle: Myths and Realities, trans, by Michael L. Hoffman (White Plains, New York: M.E. Sharpe Inc., 1977).
Vol. III below, pp. 57–67.
These four proposals were described and compared in an annex to a paper by the Fund staff discussed by the Executive Directors in February 1973. See Vol. III below, pp. 99–119.
See Vol. III below, pp. 120–23.