Thursday, June 26, 2014

Fiat 33

"Sir, I would say, "Old World Order" to return.
To understand/explain better: A very easy way
to view this "order", would be to simply say that
the American Experience is reaching the end! As we know,
world war two left Europe and the world economy destroyed.
Many thinkers of that period thought that the world was about
to enter a decades long depression as it worked to rebuild real
assets lost in the conflict. It was this war that so impacted the
idea of looking positively toward the future. The past ideals of
building solid, enduring, long term wealth were lost in the
conception of a whole generation possibly doing without! In
these fertile grounds people escaped reality with the New Idea
of long term debt, being held as a money asset. Yes, here was
born the American Experience that comes to maturity today."


In 1933, President Roosevelt issued Executive Order 6102 "forbidding the hoarding of gold coin, gold bullion, and gold certificates within the continental United States." That restriction stood for 41 years until it was lifted in 1974 by an act of Congress "to permit United States citizens to purchase, hold, sell, or otherwise deal with gold in the United States or abroad."

In 1935, the United States Treasury had 9,000 tonnes of gold, 8,998 to be exact. Then, in 1971, when President Nixon officially closed the gold window, the US Treasury was back down to 9,000 tonnes, 9,070 to be exact. In the middle of that 36-year span, US Treasury gold hit its peak at 20,663 tonnes.

I know I haven't written a post in a while, but my plan right now is to write a series of posts, this being the first, that will hopefully paint a nice big picture for you of what Freegold is all about. I've had the idea for a while now to write a post about what, precisely, constitutes the overvaluation of the dollar today, as that relates directly to the deflation versus currency collapse/hyperinflation debate.

In order to see how the dollar can collapse against the physical plane of real goods and services, you must understand how and why it is overvalued today, not just in the monetary plane with its monumental overhang of "financial savings", but also in the very real physical plane of production and trade. In the end, you might be surprised to discover how the dollar would still collapse in value even if we could hypothetically erase, block or sterilize the massive overhang of dollars and "financial wealth" that has accumulated in the monetary plane from rushing out into the physical plane.

As it turned out, this topic was much bigger in scope than I could possibly tackle in one post. In fact, I believe it encompasses virtually everything required for understanding what Freegold is truly about. And again, in the end, I think you may be surprised to discover how simple it really is, but it's going to take me a little while to get there.

I don't know how long or how many posts it will take me to explain what I have in mind. I'm not working off an outline. But here's a bit of a spoiler for those of you who are impatient, don't like to read, or don't care about understanding it deeply and would rather just have an abstract that can be easily dismissed so you can get back to tradable technical analysis.

Freegold is all about gradual, natural and automatic adjustment mechanisms in the modern world of fiat currencies. An adjustment mechanism is quite simply anything that periodically corrects physical plane imbalances. In economics, the term adjustment mechanism is often used to describe the flow of gold between different countries back when gold was used as base money in those countries. But this is not at all what Freegold is about, so I am using the term in a much broader context that applies at any scale, from the global scale on down to the individual.

Whenever you buy a gold coin, or even a coffee at Starbucks for that matter, that's a simple example of an adjustment mechanism at the individual level. Monetary plane balances (like "financial wealth", the "idea of long term debt being held as a money asset", or even cash in your wallet) represent physical plane imbalances. Whenever monetary balances are reduced, real world imbalances are reduced. Likewise, when monetary balances are accumulated, physical plane imbalances increase. It's a simple concept and a simple view.

The flow of money within a common currency zone, like the United States for example, is the most basic and automatic adjustment mechanism. Other adjustment mechanisms include changes in wages and in the prices of various goods and services in general and in different locales, and the movement of people and capital from one location to another.

Wherever multiple currencies interact, like on planet Earth for example, changes in the exchange rate between them are the primary adjustment mechanism. Fixing, pegging or otherwise manipulating the exchange rate of different currencies does, in fact, preclude other adjustment mechanisms and causes imbalances to accumulate, often to the point that abrupt adjustment becomes unavoidable, economically disruptive and financially destructive, in other words, painful.

Currency collapse and hyperinflation are natural but not gradual adjustment mechanisms, as are controlled devaluations. Floating exchange rates are a more gradual adjustment mechanism between different currency zones.

These adjustment mechanisms have always been with us, so the real change in Freegold is the "gradual, natural and automatic" part. Gradual (or ongoing) is self-explanatory, but what I mean by "natural and automatic" is that these ongoing adjustments will be allowed to happen or made by choice, not forced or induced by a central bank, because such ongoing adjustments will be in the self-interest of anyone in a position to choose, on any scale.

I know that some of you are skeptical about what I am saying. You're probably thinking that Freegold relies somehow on gold and whether or not it is embraced by the masses. But here's another thing that will probably surprise you in the end. Gold has little to do with "Freegold the monetary system"! Gold is not a key part of the monetary adjustment mechanisms in Freegold. The price and physical movements of gold won't even matter to the monetary system. Any movements of gold in price, ownership or location will be irrelevant to the monetary system of the future.

Freegold is the true unshackling of gold from the monetary system. In Freegold, a properly functioning monetary system requires nothing of gold. In Freegold, the international monetary system won't require gold to change price or location in order for it (the new IMFS) to function. That's why it's called Freegold. Gold is finally and truly set free from its shackles to the monetary system.

There is an idea floating around that, because gold and money used to be directly linked, that Freegold essentially means the opposite, an inverse link between gold and money, such that an oscillating price of gold will have a damping or stabilizing effect on the monetary system. But Freegold is neither a direct nor inverse link, it is the complete severance of gold from its former duties as part of the monetary system.

To understand the complete severance of gold, it is helpful to understand how gold interacted with the monetary system in the past. Before WWI, gold was base money in the monetary system. That is, it was commercial bank reserves. And as such, the flow of gold worked as an adjustment mechanism even between different countries without changing the exchange rate of different currencies.

It worked like this. Say you have one country with a strong economy that is running a trade surplus with another country that has a weaker economy. Some surplus amount of goods and services flows from the stronger to the weaker, and net monetary payments flow from the weaker to the stronger economy. Gold was a hard base money that couldn't be created at will, so the flow described led to a surplus in the base money stock and thereby an increase in the effective money supply—the effective money supply is the aggregate of commercial bank liabilities (credit money) and base money circulating outside of the commercial banking system—of the stronger economy, and a deficit in the effective money supply of the weaker economy.

Changes in the money supply corresponded to demand for goods and services from each country, so eventually the trade flow reversed and the imbalance corrected. It didn't matter that the two countries used different credit money currencies because the base money was the same currency, gold. So as money flowed, even across different currency zones, change in the local effective money supply and its corollary—demand—was the adjustment mechanism.

That was before WWI. After WWII, it was quite different. Gold was no longer base money reserves in the commercial banking system. Instead, it was reserves in the central banking system, and central bank liabilities were base money reserves in the commercial banking system. This was a big difference in terms of adjustment mechanisms between different currency zones. Gold still flowed, but its flow had the exact opposite effect—it effectively blocked the adjustment mechanism from working on the economies in different currency zones because its flow was a de facto manipulation of the exchange rates of the currencies.

This was deliberate, and it's what Another was talking about in the quote at the top of the post. Following WWII, productive capacity in Europe had been devastated and needed to be rebuilt. The Bretton Woods monetary system was the first fully negotiated international system of fixed and/or pegged exchange rates between various currencies. This new monetary system (in concert with the World Bank and the subsequent Marshall Plan) effectively provided support for Europe while it rebuilt its productive capacity such that, as Another put it, a whole generation of Europeans wouldn't have to "do without" during the reconstruction process.

American productive capacity was in good shape following the war. After all, other than Pearl Harbor and a few minor attacks, the theaters of destruction were not on US soil. So, by fixing the exchange rates of European currencies to the dollar, Europe was able to maintain a standard of living that its devastated economy would otherwise have been unable to provide.

The only way this was possible was for Europe to run a trade deficit with the US while it rebuilt its own productive capacity following the war, and the agreement between the Allies, signed in Bretton Woods a year before the end of the war, created the mechanism that made this possible. Understand that there is no difference between "fixing" and "manipulating" when we're talking about exchange rates. "Fixing" and "pegging" are euphemisms for "manipulating". We often think of "exchange rate manipulation" as a unilateral act to gain some perceived advantage, but there is no effective difference whether it is unilateral or a bilateral or multilateral agreement. Bretton Woods was a coordinated system of manipulated exchange rates.

As I already mentioned above, there is a fundamental difference between gold being the reserve in the commercial banking system and gold being a reserve at the central bank level. The difference is the effect caused by the flow of gold. Gold did flow this way and that during the Bretton Woods years, but it wasn't an effective adjustment mechanism nor was it physical plane settlement. It was actually an anti-adjustment mechanism and a mere monetary plane operation to effect the desired exchange rate manipulation.

Here's a tough concept which I'll explain in greater detail later. At the central bank level, any change, up or down, in "foreign reserves including gold" is essentially a currency exchange rate manipulation. "Foreign reserves including gold" can be simply called "reserves" as opposed to "domestic assets" on any central bank's balance sheet. The asset side of every central bank's balance sheet contains two things, reserves and assets. "Assets" are denominated in the CB's own currency, and "reserves" are not. That's the critical difference between reserves and assets.

Any time the asset side of a CB's balance sheet increases or decreases through purchases or sales, its liabilities increase or decrease as well. This is simple accounting. So any time a CB purchases or sells reserves, it is effectively manipulating the exchange rate between its own liabilities and one or more foreign currencies including gold. Manipulating exchange rates is the sole purpose of CB reserves. It's a bold statement, I know, but I'll show you that it's true.

In Freegold, CB reserves will not change much if at all, just as you'd expect in an unmanipulated (clean) floating exchange rate regime. CB reserves will just sit there, unchanged, static, with a sign on them that reads "break glass in case of emergency." Below a prudent amount, CBs do need to accumulate reserves by weakening their currency (manipulating it lower) so that they have them later to strengthen (manipulate higher) their currency's exchange rate in case of an emergency. But beyond that prudent amount, CB reserves are not necessary, and any change in a CB's reserves will signal to all others that the CB is manipulating its currency's exchange rate one way or the other.

WWII was just such an emergency. We can tell, simply by looking at the gold flow during the Bretton Woods years, how long it took Europe to get back on its feet after the war.

"Fiat 33"

"Fiat 33" was a term that FOA used to describe the bifurcated dollar system after 1933. Inside the United States, the economy that represented the dollar, gold was no longer an option as a money asset for net producers. Executive Order 6102 criminalized the possession of monetary gold by any individual, partnership, association or corporation. Thus, fixing the exchange rate of European currencies to the dollar was ideal for "the New Idea of long term debt, being held as a money asset."

"As we know, world war two left Europe and the world economy destroyed. Many thinkers of that period thought that the world was about to enter a decades long depression as it worked to rebuild real assets lost in the conflict. It was this war that so impacted the idea of looking positively toward the future. The past ideals of building solid, enduring, long term wealth were lost in the conception of a whole generation possibly doing without! In these fertile grounds people escaped reality with the New Idea of long term debt, being held as a money asset. Yes, here was born the American Experience that comes to maturity today."

Bretton Woods was a negotiated, coordinated, multilateral exchange rate fix. America was the strongest economy at that time and it therefore had the strongest currency. A currency reflects its economy, and an economy that's capable of running a trade surplus (producing more than it consumes) is going to have a strong currency that will rise in its exchange rate with other weaker currencies. An economy that is not capable of producing more than it consumes will have a weak currency relative to stronger economies and its exchange rate will decline. By fixing the exchange rates of all weak European currencies to the strong American dollar, this adjustment mechanism was neutralized.

We tend to think of the dollar as "fixing" its exchange rate with gold during this time. But, in fact, that was not precisely the case. The dollar was actually defined as 1/35th of an ounce of gold, and the gold price was in fact fixed in London in pound sterling. The London gold fix was generally a simple reflection, via arbitrage, of the exchange rate between the pound and the dollar. So the dollar wasn't technically "fixed" to gold, it was simply defined as a certain weight in gold.

So the European currencies fixed their exchange rate with the dollar, which was defined as a certain weight in gold, and London fixed the exchange rate of its pound sterling to the price of "street gold" (another term favored by FOA which refers to the non-monetary physical gold marketplace). Now, the way you fix (manipulate) an exchange rate is to supplement either supply or demand so that supply equals demand at your desired price.

In the case of Bretton Woods, that meant either supplementing the supply of dollars and/or the demand for European currencies wherever dollars and the various European currencies were exchanged. This is exactly what happened. Theoretically, the US could have simply printed dollars and bought up 40 different foreign currencies to supplement dollar supply and foreign currency demand, or it could simply buy gold. Alternatively, the European CBs could have bought up their own currencies with their dollar reserves.

Well, the European central banks didn't have enough dollar reserves, but they did have gold! So the US printed dollars which it used to buy gold from the European CB who then used those dollars purchased with their gold reserves to supplement the supply of dollars and demand for their own currencies at the currency exchanges keeping their exchange rates locked at the desired level. This exchange rate manipulation gave Europeans and their currencies the same purchasing power as the strong dollar, even though their economies were war-torn and needed to be rebuilt.

FOA made the distinction between "fiat 33 cash" and "the more golden foreign cash." On the surface, the distinction seems quite simple. Dollars within the United States were not redeemable in gold after 1933, but dollars held by foreigners were. Still, your average foreign exporter couldn't send his surplus dollars to the Fed in exchange for gold. That official exchange window was only open to foreign CBs. But foreigners could exchange their dollars for their local European currency—at the fixed exchange rate—and then buy gold on the open market in Europe where it was still legal to do so, and where London did its best to keep the price of "street gold" fixed to the pound which was fixed to the dollar which was defined as a certain weight in gold. Is your head spinning yet?

The thing is, this wasn't even an issue until the European economy got back on its feet and was finally able to start running a surplus (producing more than it consumes) once again. That was around 1958.

The numbers above tell a story. A lot of European gold was moved to London and the US for safekeeping during the war, and the incomplete accounting of the time shows it as belonging to the Bank of England and the US Treasury. As you can see, perhaps close to 10,000 tonnes were moved to New York and Fort Knox by 1940. Following the war, the US number drops a bit, but the numbers that I think tell the real story are 1935, 1952, 1957 and 1971.

In 1935, US gold is at about 9,000 tonnes. In 1952 it peaks at over 20,000 tonnes and sort of plateaus for five years through 1957. Then it begins a dramatic 14-year decline back to 9,000 tonnes at which point the Bretton Woods gold exchange system abruptly ends. Notice that the US Treasury is listed as having almost the same amount of gold in both 1940 and 1956, about 20,000 tonnes. The difference is that, in 1940, the US was holding half of that gold for safekeeping on Europe's behalf, but by 1957, the US owned it all.

The numbers tell me that Europe must have run a significant trade deficit with the US from 1945 until about 1952. Then, from 1952 through 1957, trade between Europe and the US was roughly balanced, requiring only minimal exchange rate intervention. But by 1958, Europe was back on its feet and running a surplus.

This meant the opposite of the previous situation. The European CBs now had to supplement the supply of European currencies and the demand for dollars in order to keep the exchange rates fixed at their established levels. This meant printing European currencies and using them to buy dollars from their European exporters.

It wasn't clear at that time that this US deficit situation would carry on indefinitely, so it sufficed perfectly well for exchange rate manipulation purposes for those European CBs to just accumulate dollars. In fact, according to the agreement at Bretton Woods, dollars and gold were equal. But the agreement also required, under specified circumstances, the repurchase of foreign-held balances if requested by the CB holding the balance.

The CB being asked to repurchase its own currency had the option "to pay either in the currency of the member making the request or in gold." The IMF worked kind of like a multilateral "currency swap" facilitator, and with the IMF, such repurchases of one's own currency above a specified amount were obligatory, and usually had to be paid for in gold. This repurchase of one's own currency as it built up abroad was a good practice which kept the aggregate monetary base from exploding. Every bilateral repurchase reduced the monetary base—and therefore the balance sheets—of both CBs.

I think it's a fair assumption that the initial transfers of gold from the US Treasury back to the ownership of European CBs in the late 50s were essentially a bookkeeping exercise to keep the dollar monetary base at a reasonable level. After all, the gold didn't physically move, only its allocation at the Fed depository changed. But something else quickly changed that situation. That something else was the reality underlying FOA's "fiat 33" concept.


There wasn't much pressure in the West on the price of "street gold" fixed in London at about £12.4 per troy ounce which was equal to $35 during these years. The reason is that Europe as a whole was net-consuming and therefore not saving, and in America saving in gold was prohibited—American net producers earned "fiat 33" and it worked out spectacularly for them.

There are stories of gold trading as high as double the London price in certain places in India and China during the 40s, and of some Saudis taking advantage of this arbitrage opportunity. But much of the gold flowing to the Saudis at $35 per ounce came out of the US gold stockpile via Saudi Aramco rather than from the London "street gold" market.

So what we have during these years are two major players running surpluses in the West, America and Saudi Arabia. American net producers earned "fiat 33" and grew accustomed to "the New Idea of long term debt being held as a money asset," while the Saudis received a little bit of Europe's gold via official channels that passed through the US Treasury. But this situation changed once Europe was back on its feet and started net producing in 1958.


The purpose of this post is to give you a new perspective on the Bretton Woods gold flow, the transformation of the dollar, and the early years of "the American Experience that comes to maturity today." There are often many different ways to view an event, none of which is necessarily more correct than another.

For example, the transfer of gold ownership to the US Treasury following WWII could be viewed as the United States printing dollars and buying European currencies (which Europe then had to repurchase with gold) in order to support the weaker European currencies while weakening its own. Or it could be viewed as the European CBs buying dollars from the US with their gold reserves in order to flood the exchange with easy dollars. Or it could be viewed as a necessary concession for the $13B in loans and grants the US gave to Europe between 1948 and 1951.

In any case, 1948 through 1952 was the fastest period of growth in European history. Industrial goods production increased by 35%, and agricultural production surpassed pre-war levels. The poverty and starvation in Europe at the end of the war quickly ended, and Europe entered what the French called "Thirty Glorious Years" of economic growth. 1952 also marked the absolute peak in US gold, and 1958 marked the beginning of its decline.

Sometimes viewing something in a new light reveals a deeper truth about what actually transpired. There is debate about how much of Europe's quick recovery should be credited to the Marshall Plan loans and grant. I say it doesn't matter. Perhaps it gave Europe's economy a turbo boost, but Europe was rebuilding regardless. What matters is that the fixed (manipulated) exchange rates agreed upon in Bretton Woods elevated the European standard of living above what its economy was capable of producing during those early post-war years.

It is precisely the same mechanism, official exchange rate manipulation, aka structural support, that later elevated America's standard of living above what its economy was otherwise producing. The big difference, and why no one ever called it an "exorbitant privilege" for Europe in the late 40s and early 50s, was that Europe was in a state of emergency, poverty and starvation when it began for them, and America, on the other hand, was the strongest economy in the world when Europe began supporting the dollar's exchange rate in 1958.

Another different perspective I want to share with you is that FOA's "fiat 33" concept has less to do with the official convertibility of the dollar than you probably thought. It has much more to do with "street gold" than with the official flows of "monetary gold" held by the CBs.

Buying gold with your surplus income is a choice and a preference. That's what it's really about. Practically speaking, there's no difference between an America where it's illegal to buy gold and an America where no one wants to buy gold.

As I said, the European CBs technically could have hoarded just dollars, not gold, and the Bretton Woods exchange rate manipulation scheme could have gone on indefinitely. But something else happened after 1958, after Europeans started net producing and saving once again in aggregate. Suddenly there was upward pressure on the price of "street gold" in London.

To manipulate the exchange rate between pound sterling and gold meant, as with currencies, to supplement the supply and/or demand of each such that they were equal at the desired price. And for the London gold fix, this suddenly meant supplying official gold reserves from the Bank of England (BOE).

Throughout the first decade and a half of Bretton Woods, the price of gold in London rarely moved more than a penny or two a day, and was easily kept within its desired range of about $35 to $35.20 without any problem. Then, on one day in 1960, the price of gold in London jumped $5 to $40 per ounce.

The irony of this situation was that the European CBs had to sell gold to the US Treasury during the early years of Bretton Woods while Europe was running a trade deficit, and now that Europe was back on its feet running a surplus, they had to sell gold to their own public (as well as to the Saudis who were no longer receiving official shipments via Saudi Aramco). But notice that the gold being purchased by net producers in Europe was not being purchased in dollars. It was being purchased in the local currencies wherever gold was sold, but those local currencies had the same purchasing power as dollars due to the fixed exchange rate regime.

The point here is that the distinction between FOA's "fiat 33 cash" and "the more golden foreign cash" is not so much about the dollar and its official convertibility at the central bank level (the gold window) as it is about the preference, choice and ability of individual net producers who want to buy "street gold" with their surplus income. As I said, the CBs would have been fine just buying dollars in terms of the agreed-upon exchange rate manipulation scheme, but because of the preference of non-American individuals for gold, the European CBs found themselves in a position of selling their gold reserves whether their economy was running a deficit or a surplus. So gold had to flow, and it had to flow from the US Treasury which still had almost half of all the CB "monetary gold" in the world.

That was the beginning of the London Gold Pool. The way the pool was to work was that the BOE would supplement the supply of physical gold as needed in the public "street gold" marketplace whenever the price started to rise. The BOE would then be reimbursed its gold from the pool according to each member's agreed percentage. The pool started with 240 tonnes of gold, and the contribution percentages were as follows:

US - 50% (120t)
Germany - 11% (27t)
England - 9% (22t)
Italy - 9% (22t)
France - 9% (22t)
Switzerland - 4% (9t)
Netherlands - 4% (9t)
Belgium - 4% (9t)

The gold pool started out with 240 tonnes in 1961. On its final day in 1968, the fix required 225 tonnes from the pool. The day before, 175 tonnes. The day after, they declared a bank holiday and closed the London gold market for two weeks.

All told, the gold pool reportedly lost 3,000 tonnes of CB gold to "the street". On paper, the US Treasury covered 50% of it, but in reality, it all came out of the US stockpile because the US owed gold to the other pool members due to the Bretton Woods fixed exchange rate regime. Gold rarely moves physical locations—it just changes ownership—but in this case the US actually had to fly several planeloads of gold over to London to cover its debt.

That was the end of the dollar—and all other fiat currencies by proxy—being defined as a certain weight in street gold. When the London gold market reopened, the price quickly rose from $35 to $44 per ounce. But even more significantly than that, in my opinion, is that when it reopened the London gold fix had switched from pound sterling to dollars. What better way to telegraph to the world that the dollar was no longer defined as a weight in gold? This switch of the gold fix from pounds to dollars is worth a little extra thought. It was quite remarkable, even if it was hardly noticed.

If you define the dollar as a certain weight and fineness of gold, then how can you even price gold in dollars? That would be like pricing dollars in quarters, in a public market with a daily fix. "Today the dollar is worth four quarters. Thank you, and we'll be back tomorrow with another daily fix." Switching the fix to dollars at the collapse of the gold pool was quite significant!

Of course not every individual net producer chooses to buy gold with all or even part of his or her own surplus earnings. All that matters is that gold is available for those who choose to buy it. The "fiat 33" distinction meant that gold demand did not stress the dollar within its own economy. But again, there's no practical difference between people not being allowed to buy gold and them no longer wanting to buy (or even thinking about buying) real physical gold.

"Fiat 33" laid the groundwork for a global monetary system that would not be stressed by gold demand from net producers. It worked until 1958.

Here's a question to ponder. Did "fiat 33" end in 1974 when E.O. 6102 was repealed? Or did the "fiat 33 distinction" end in 1971 when Nixon officially closed the gold window making all dollars irredeemable in gold? Is everyone in the world using "fiat 33" today, or is nobody using it since gold is now legally tradable everywhere?

There are at least two ways to look at it, aren't there?

"Freegold the monetary system" was a concept born from lessons learned during the Bretton Woods years. But I'd like to point out a couple of simple observations. First, notice that closing the gold window and essentially locking all CB gold in place, ending its flow, did not end the trade imbalance. The US deficit not only continued to this day, it expanded.

Second, since 1971, 85,000 tonnes of new gold has been mined, yet the world's central banks today hold 15% less monetary gold than they did in 1971. In 1971, the seven European former members of the London Gold Pool held a combined 15,660 tonnes. Today they hold a third less, 10,465 tonnes. Even Saudi Arabia's official gold reserves have increased by only 227 tonnes since 1971. So where did 90,000 tonnes of gold go, if not into the monetary system?

Yes, Freegold was a concept born from lessons learned during the Bretton Woods years, but from a monetary system perspective, it has little to do with gold. It's far more about something else. Freegold is about gradual, natural and automatic adjustment mechanisms in the modern world of fiat currencies, and in the international monetary system that means a clean, floating exchange rate regime, the opposite of Bretton Woods.

Agreement 44

I think that Bretton Woods was an honest, timely and noble effort. I think that each participating nation negotiated with honor and the best of intentions, each protecting its own interests while also pushing toward an agreement that took only 22 days to reach but lasted for 27 years. To get a real sense of the atmosphere at the end of the 22-day negotiation between 730 delegates representing 45 nations, please read Henry Morgenthau's closing address:
"I am gratified to announce that the Conference at Bretton Woods has completed successfully the task before it.

It was, as we knew when we began, a difficult task, involving complicated technical problems. We came to work out methods which would do away with the economic evils-the competitive currency devaluation and destructive impediments to trade-which preceded the present war. We have succeeded in that effort.

The actual details of a financial and monetary agreement may seem mysterious to the general public. Yet at the heart of it lie the most elementary bread and butter realities of daily life. What we have done here in Bretton Woods is to devise machinery by which men and women everywhere can exchange freely, on a fair and stable basis, the goods which they produce through fair labor. And we have taken the initial step through which the nations of the world will be able to help one another in economic development to their mutual advantage and for the enrichment of all.

The representatives of the forty-five nations faced differences of opinion frankly, and reached an agreement which is rooted in genuine understanding. None of the nations represented here has had altogether its own way. We have had to yield to one another not in respect to principles or essentials but in respect to methods and procedural details. The fact that we have done it in a spirit of good will and mutual trust, is, I believe, one of the hopeful and heartening portents of our time. Here is a sign blazoned upon the horizon, written large upon the threshold of the future-a sign for men in battle, for men at work in mines, and mills, and in the fields, and a sign for women whose hearts have been burdened and anxious lest the cancer of war assail yet another generation-a sign that the people of the earth are learning how to join hands and work in unity.

There is a curious notion that the protection of national interest and development of international cooperation are conflicting philosophies-that somehow or other men of different nations cannot work together without sacrificing the interests of their particular nation. There has been talk of this sort-and from people who ought to know better-concerning the international cooperative nature of the undertaking just completed at Bretton Woods. I am perfectly certain that no delegation to this Conference has lost sight for a moment of the particular national interest it was sent here to represent. The American delegation which I have the honor of leading has been, at all times, conscious of its primary obligation-the protection of American interests. And the other representatives here have been no less loyal or devoted to the welfare of their own people.

Yet none of us has found any incompatibility between devotion to our own country and joint action. Indeed, we have found on the contrary that the only genuine safeguard for our national interests lies in international cooperation. We have to recognize that the wisest and most effective way to protect our national interests is through international cooperation-that is to say, through united effort for the attainment of common goals. This has been the great lesson taught by the war, and is, I think, the great lesson of contemporary life-that the people of the earth are inseparably linked to one another by a deep, underlying community of purpose. This community of purpose is no less real and vital in peace than in war, and cooperation is no less essential to its fulfillment.

To seek the achievement of our aims separately through the planless, senseless rivalry that divided us in the past, or through the outright economic aggression which turned neighbors into enemies would be to invite ruin again upon us all. Worse, it would be once more to start our steps irretraceably down the steep, disastrous road to war. That sort of extreme nationalism belongs to an era that is dead.

Today the only enlightened form of national self-interest lies in international accord. At Bretton Woods we have taken practical steps toward putting this lesson into practice in monetary and economic fields.

I take it as an axiom that this war is ended; no people-therefore no government of the people-will again tolerate prolonged or wide-spread unemployment. A revival of international trade is indispensable if full employment is to be achieved in a peaceful world and with standards of living which will permit the realization of man's reasonable hopes.

What are the fundamental conditions under which the commerce among nations can once more flourish?

First, there must be a reasonable stable standard of international exchange to which all countries can adhere without sacrificing the freedom of action necessary to meet their internal economic problems.

This is the alternative to the desperate tactics of the past-competitive currency depreciation, excessive tariff barriers, uneconomic barter deals, multiple currency practices, and unnecessary exchange restrictions-by which governments vainly sought to maintain employment and uphold living standards. In the final analysis, these tactics only succeeded in contributing to world-wide depression and even war. The International Monetary Fund agreed upon at Bretton Woods will help remedy this situation.

Second, long-term financial aid must be made available at reasonable rates to those countries whose industry and agriculture have been destroyed by the ruthless torch of an invader or by the heroic scorched earth policy of their defenders.

Long-term funds must be made available also to promote sound industry and increase industrial and agricultural production in nations whose economic potentialities have not yet been developed. It is essential to us all that these nations play their full part in the exchange of goods throughout the world.

They must be enabled to produce and to sell if they are to be able to purchase and consume. The International Bank for Reconstruction and Development is designed to meet this need.

Objections to this Bank have been raised by some bankers and a few economists. The institution proposed by the Bretton Woods Conference would indeed limit the control which certain private bankers have in the past exercised over international finance. It would by no means restrict the investment sphere in which bankers could engage. On the contrary, it would expand greatly this sphere by enlarging the volume of international investment and would act as an enormously effective stabilizer and guarantor of loans which they might make. The chief purpose of the International Bank for Reconstruction and Development is to guarantee private loans made through the usual investment channels. It would make loans only when these could not be floated through the normal channels at reasonable rates. The effect would be to provide capital for those who need it at lower interest rates than in the past, and to drive only the usurious money lenders from the temple of international finance. For my own part, I cannot look upon the outcome with any sense of dismay. Capital, like any other commodity, should be free from monopoly control and available upon reasonable terms to those who would put it to use for the general welfare.

The delegates and technical staff at Bretton Woods have completed their portion of their job. They have sat down together and talked as friends, and have perfected plans to cope with the international monetary and financial problems which all their countries face in common. These proposals now must be submitted to the legislatures and the peoples of the participating nations. They will pass upon what has been accomplished here.

The results will be of vital importance to everyone in every country. In the last analysis, it will help determine whether or not people will have jobs and the amount of money they are to find in their weekly pay envelope. More important still, it concerns the kind of world in which our children are to grow to maturity. It concerns the opportunities which will await millions of young men when at last they can take off their uniforms and can come home to civilian jobs.

This monetary agreement is but one step, of course, in the broad program of international action necessary for the shaping of a free future. But it is an indispensable step in the vital test of our intentions. We are at a crossroad, and we must go one way or the other. The Conference at Bretton Woods has erected a signpost pointing down a highway broad enough for all men to walk in step and side by side. If they will set out together, there is nothing on earth that need stop them."

I also suggest reading and familiarizing yourself with the original Articles of Agreement of the IMF agreed upon in 1944. Here's the original document, and I recommend reading pages 11 – 59 of the pdf, or at least Articles IV (par values of currencies) and XVII (how to make amendments). XIX (explanation of terms like "reserves") and Schedule A (the specific quotas) are also worth a peek. Later, I'll be taking a closer look at one amendment in particular.

The goal of Bretton Woods was twofold. It was to establish an international monetary system that would foster growth and free trade, and to assist in the post-war reconstruction of Europe. The International Bank for Reconstruction and Development (World Bank) was created for the latter, and the IMF for the former.

The pre-war Depression-era years were marked by competitive currency devaluations and defensive trade restrictions like tariffs, both of which reduced international trade, inhibited growth, and even contributed to international tensions going into the war. The IMF Articles of Agreement were a reaction to the protectionist tactics of the 30s.

Fixed exchange rates were the most significant outcome of the Bretton Woods conference, and they were a direct response to the exchange rate manipulations (competitive devaluations) of the 30s. But I want you to take note of the fact that the solution they came up with for the problem of uncoordinated exchange rate manipulation was coordinated exchange rate manipulation.

From "A brief post on competitive devaluation" in The Economist:

"When the Depression struck, this gold standard became a noose around the necks of struggling economies. Economies with overvalued currencies struggled to compete in export markets and ran trade deficits which led to gold outflows."

Uncoordinated (competitive) devaluations overvalue your trading partner's currency which, unless he devalues in response (a currency war), eventually lead him to trade deficits and gold outflows. The Bretton Woods solution had the same effect. First it overvalued the European currencies which led to gold outflows while allowing them to run a trade deficit during reconstruction, and then it overvalued the US dollar beginning around 1958 which led to gold outflows and a trade deficit which continues to this day.

Yes, the dollar has been overvalued because its exchange rate has been supported by Europe and others since at least 1958. This has had a profound effect on America. It has transformed the US economy from what it was in the 50s into what it is today. This is the American experience that comes to maturity today.

"Using an overvalued dollar makes one feel as there is no inflation, even though there has been massive dollar currency inflation over the last twenty years (the real cause of price increases is when the exchange rate is allowed to balance a negative trade deficit)." (9/22/98)

"The exchange rates, almost like gold, block their path. However… the dollar of present operates in a world currency system without gold, that allows this currency to be exported without restraint… The result is a dirty float of exchange rates in that most Central Banks artificially keep the dollar flowing out of the US… Using this line of reasoning, we can see how a massive inflation of dollars over many years has built up. When something does come along that blocks that outflow of dollars and even causes it to reverse, the dollar will plunge on exchange rates and bring home all of the past buildup of price inflation." (10/20/98)

"Under such a system, world trade and exchange rates will balance more fairly… Let us see if this great economy can stand on its own feet with the yoke of paying its debts from "real production"? We may indeed get an answer to this dilemma." (8/2/99)

"The US became wealthier by importing things and paying for them with an exchange rate that is "out of whack"." (12/10/99)

"This is how the "dollar reserve process" inflates the money supply world wide as we (USA) run a trade deficit for our benifit. It keeps the dollar exchange rate higher than it would naturally be thus allowing a US citizen to buy goods at a cheaper price…" (2/26/00)

"We, America, promote the value of our dollar in and of itself. Mostly pointing to our goods, services and assets that dollars can buy. Of course, if you have followed this for long, you know the dollar and near dollar supply has shot to the nearest star and will never actually convert into these products in total. At least not at current exchange rates or internal price levels in the US.

So,,, we promote the dollar using a different format, by saying that foreigners can invest here, not buy, and find the best returns. This works as long as foreign CBs support our dollar as a reserve by saving it themselves. Making for a stable exchange rate… Their real reasons [for doing this] have been our topic for years now.

Eventually, as the dollar works its way toward becoming just a regular money, its exchange rate will tumble. Vastly aggravated by our world class trade deficit. A deficit, I might add, that has become structural to the function of our economy..." (2/15/01)

To be continued…


"A very easy way to view this… would be to simply
say that the American Experience is reaching the end!
Yes, here was born the American Experience
that comes to maturity today."