MONEY
Mr Connally and the currency crisis
Nicholas Davenport
Mr John Connally, the Secretary of the US Treasury, is big, brash and as tough as Texans go, but being ignorant of inter national monetary affairs he is also dangerous. On his return from a week's talks with the Japanese about the American 10 per cent surcharge on imports and the upvaluation of the yen he declared that the present regime of floating exchange rates was not hurting America and could continue for an almost indefinite period. He added that he saw no danger of the American import surcharge sparkling off' an international trade war. How wrong he could be! Little Denmark is the only country so far to follow Mr Nixon's example and impose an import surcharge (even on pornography) but once a great country like America turns protectionist one knows how quickly protectionist reactions echo round the trading world. In a sense an international trade war has already begun. Congress has given power to Mr Nixon to increase the surcharge to 15 per cent. The Detroit workers are demanaing quota protection against Japanese cars, and the British steel workers the same against foreign steel. The business barometers — the world stock exchanges — are plunging down, fearing war to come. So far only London remains steady, being loyal to Mr Heath's honest-to-God reflation.
Mr Connally's remarks about an indefinite period of floating exchange suggest how dangerous it is to allow crude Texans to trample upon what little remains of an international monetary system. I advise him to read a book called International Currency Experience: Lessons of the Inter-war Period published by the old League of Nations in 1944. This was a period of floating exchanges and of many experiments in monetary management. Perhaps Mr Connally should turn to the last chapter first to see the conclusion of the whole matter. I quote the following: 'The twenty years between the wars furnished ample evidence concerning the question of fluctuating versus stable exchange. It might seem that in practice nothing would be easier than to leave international payments and receipts to adjust themselves through uncontrolled exchange variation in response to the play of demand and supply. Yet nothing would be more at variance with the lessons of the past.'
The book went on to describe three serious disadvantages to floating exchanges. First, they create an element of risk which tends to discourage international trade. The risk may be covered by hedging operations where a forward exchange market exists but such insurance, if obtainable, may be at a price which adds unduly to the cost of trading. (This is borne out by an article in the current National and Grindlays Bank Review written by an international trader in commodities who complains how the bigger forward spreads and dealing margins on the exchanges have put up the cost of cover and hurt the commodity producer.) Second, as a means of adjusting the balance of payments, exchange fluctuations involve constant shifts of labour and other resources between production for the home market and production for export which may be costly and disturbing. (This was brought home to us by the creation of the huge Jenkins surplus.) Third, experience has shown that fluctuating exchanges cannot always be relied upon to promote the right adjustment in the economy and may set up speculative movements in both capital and trading markets. This they are already doing.
Samuel Britten wrote a beautiful book on the economic advantages of floating exchanges but we have heard very little from him lately — no doubt because he has been shocked to find so little honest floating, so much dirty floating and so little economic improvement. I have always admitted that when Mr Nixon closed his gold window there was no elternative to a provisional system of floating exchange rates. Indeed I welcomed it as the only rational and effective way out of the impasse created when the trading world refused to accept paper dollars as reserve assets and the dollar standard collapsed. I reckon now that the floating must stop and some provisional return be made to fixed exchange rates.
No doubt Mr Connally was right to postpone the Group of Ten meeting of finance ministers from November to December because the EEC members were unable to agree upon a solution of their monetary problems. December also may be too early seeing that the French and the Germans are poles apart in their monetary ideas. The French want to see a greater, not a lesser, use of gold in monetary reserves. They would probably love to mint some of their gold bullion and let their people use gold coins again and even have a common gold EEC currency. But the Germans have supported our Mr Barber's plan which is that the SDRs of the IMF should be the monetary numeraire in terms of which currency parities are expressed and revalued. As gold declines as a percentage of total central bank reserves the SDRs would gradually take its place. The existing dollars and sterling held by central banks as reserves should be converted, he argued, into specially created SDRs by stages "matched by actual retirements of the reserve cur rencies." (A tall order seeing that there are $30,000 million of dollar liabilities and over £3,000 million of sterling liabilities.) Certainly we all need another Bretton Woods conference, but, it will be a long time before the Europeans are ready to talk hard business. In the meantime provisional upvaluations against the dollar should be agreed for the major currencies at the next Group of Ten meeting — December or January? — and the monetary price of gold should be raised slightly to prevent the central bank holdings of gold being worth less in purchasing power. Mr Barber might, I understand, be ready to suggest that the SDRs be raised from .888 gram of gold (which is the present gold parity of the dollar) to 1 gram of gold, a revaluation of around 121 per cent.
Clearly Mr Connally is not going to make the first move. He is in effect saying to the world, "As you wouldn't accept the dollar standard you had better devise one for yourself. Our third quarter deficit on the balance of payments was over $10,000 million. This is not going to happen again. Why should we take 10 per cent of all Japanese exports while the comparable EEC market takes only 5 per cent? We are doing very nicely since we went protectionist. Our economy is definitely on the up-turn. As it is about 95 per cent self-contained we can say to you all, 'Push off." Mr Connally is a Texan who would normally use such language but from Mr Nixon, trying hard to be a world statesman, we look for more constructive action.
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