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Fog Release on Delivery
{Approximately 7 .;)o n.m.
Wednesday, June 1*5, l.'óS)
INTERNATIONAL MONETARY REFORM
Remarks by Governor J. Dewey Daane
Member, Board of Governors of the Federal Reserve System
Belore The Stonier Graduate School of Banking
Rutgers University
New Brunswick, New Jersey
on Wednesday, June 17, 1768
INTERNATIONAL MONETARY REFORM
It is a real pleasure and privilege for me to deliver th-s year
the Assembly Lecture to the Stonier Graduate School of Banking.
Next week I begin my 30th year of service with the Federal Reserve
System which I confess tempts me to look back a b-t, although not in any
formal way, as well as forward at the evolution of the internat-onal
monetary syctem, and the Reserve System's role in that evolution.
When I first accepted a job with the Federal Reserve Bank of Richmond
my father, Gilbert L. Daane, a former bank President in Grand Rapids,
Michigan, and a good friend of Harold Stonier, reluctantly conceded that
it might be all right for me to work "a year or twoif at the Fed
the experience."
!for
Almost 30 years later, I wonder whether a commercial
banker's advice to his son would still be the same!
Anyway, as an "old"
central banker, I would like to reminisce with you just a bit this evening.
One of the first tasks I had at the Federal Reserve Bank of Richmond,
almost 30 years ago, was to draft that Bank's answer to an inquiry from
a Senate Committee on a question concerned with the taxation of reserve
deficiencies of Reserve Banks, at a time when gold cover requirements
were 35 per cent against deposits at Reserve Banks and 40 per cent against
Federal Reserve notes.
The epilogue of this drama came th:;s March when
the gold cover requirement, wh~.ch had already been reduced to 25 per cent
of notes outstanding, was removed completely at a time when, on the day
the Act repealing the 25 per cent requirement was signed into law, the
gold holdings of the Reserve Banks against notes had dropped to 25.007
per cent and the amount oi gold held was less than four million dollars
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above the mininmum required!
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And this removal of the cover was essential,
too, in making possible and meaningful the historic mid-March Washington
meeting of Central Bank Governors,
This reminiscing reminds me there are supposed to be three signs
of old age.
two!
The first is loss of memory and I can’t remember the other
So as an old central banker, I will not try to remember all of the
changes that have occurred over the past three decades, and are still
occurring, in the international monetary system, but select only a few
of the highlights that stand out in my own mind.
Of necessity both because
these significant events are fresh in my mind, and because they may orove
to be of even greater significance over time, I will focus more on what
has emerged from the turmoil of recent weeks and months.
During those
months, there have been at least two events of historic importance for
the functioning of the international monetary system.
These two events
were the decisions taken by the Central Bank Governors at their meeting
in Washington in mid-March, and those taken at the end of that same month
in Stockholm by the Finance Ministers and Central Bank Governors of the
Group of Ten (the ten leading industrial countries) with the related
working out by the Executive Directors of the IMF of a Proposed Amendment
to the Articles of Agreement of the International Monetary Fund.
These
events may--and I would underscore the 5’may* --represent a turning point
in monetary history.
I will return to this question of whether or not
they ;ican“ represent such a turning point in my concluding comments this
evening.
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At the outset, however, I would like to look back just a moment
at the Federal Reserve’s growing role and interest in all of these
matters.
For as one who has attended meetings of the System's policy
making Federal Open Market Committee, in one capacity or another, for
almost 20 years, I well recall that international considerations and the
balance of payments did not begin to play a major role in our delibera
tions until near the end of the 1950*s.
As the United States* balance
of payments deficit persisted and became larger, involving undesired
losses of monetary reserves for the United States, the Reserve System's
policy mix increasingly had to give greater weight to the external stand
ing and status of the dollar.
I would immediately emphasize that external
standing and status rests in large part on our domestic economic growth
with price stability.
Thus, monetary as well as fiscal responsibility
are basic to the maintenance of the dollar1s strength.
Of course, ever since the days of Governor Strong in the early
1920's the Federal Reserve has had close relations with other central
banks« And, most importantly, the Board of Governors played an active
part in the development of the Bretton Woods Agreements in 1944 and in
supporting the legislation passed by the U. S. Congress implementing
those agreements.
The International Monetary Fund established under
the Bretton Woods Agreements has proved to be a highly successful
institution and has become the centerpiece of the international monetary
system, a system embracing the principle of fixed exchange rates with
par values to be altered only in cases of fundamental disequilibrium.
But it seems clear that the whole range and magnitude of the Fed's
relations with other central banks has changed and increased sub
stantially in the last 10 or 15 years.
Most notably, the development
since 1961 of the entire swap network of mutual credit lines, now total
ing 9.4 billion dollars, has required a substantial proportion of the
attention of the Federal Open Market Committee at its regular meetings
at approximately three or four-week intervals.
Reports at those meet
ings on the balance of payments and international monetary matters
were added to regular staff presentations beginning in 1959 and have
since continued regularly.
The Special Manager of open market, operations
in foreign currencies also, since 1962, has regularly reviewed at those
meetings the relevant international developments and the extent to
which System swap lines have been, or may be, utilized.
And the Federal Reserve has played an active role in the most
recent historic events to which I referred in the beginning of my re
marks, and to which I would like to devote the rest of my time this
evening--specifically, the Washington and Stockholm meetings and their
implications for the present and prospective functioning of the inter
national monetary system.
The first of these meetings, the mid-March 1968 weekend meeting
of the Central Bank Governors of the seven active gold pool contributing
countries--Belgium, Germany, Italy, the Netherlands, Switzerland,
the United Kingdom, and the United States--was initiated and presided over
by Chairman Martin and held in our Federal Reserve Board Room.
We met
in a crisis atmosphere, aware that continuance of the policy of keeping
the price of gold in the London market at $35 an ounce had clearly
become untenable*
It had become untenable despite the brave words,
and intentions, of the same Central Bank Governors evinced after a
secret special meeting in Frankfurt in early December, 1967, and
reiterated after their regular meeting in Basle, Switzerland, just the
Sunday prior to the mid-March 1968 Washington session.
Despite these
intentions and matching efforts it became perfectly clear in that
second week in March that the market price of gold in London could no
longer be maintained for all comers against such a massive wave of
speculation.
The policy of maintaining the market price of gold in
London had been undertaken originally for the purpose of keeping com
mercial and private transactions in gold close to the official price,
thereby averting or minimizing possible runs on the gold stock*
But it
had become perfectly clear that the speculators had outrun us, and that
the gold pool operations, rather than reenforcing the credibility of the
official price of gold, had, in fact, made that system lose credibility,
and had provoked a demand for gold that was feeding upon itself.
So at this Washington meeting the Governors of the Central Banks
agreed on a number of very important steps, including the suspension
of the gold pool operations, and in so doing they said a number of very
important things*
The four or five main points in this Communique, and
I will read them very briefly, are;
First, ,fthey noted that the U. S. Government will continue to buy
and sell gold at the existing price of $35 an ounce in transactions
with monetary authorities.
The Governors support this policy and believe
it contributes to the maintenance of exchange stability.11
Second, the Governors stated that "henceforth officially held gold
should oe used only to effect transfers among monetary authorities, and
therefore they decided no longer to supply gold to the London gold market
or any other gold market."
Third, "they agreed that henceforth they will not sell gold to monetary
authorities to replace gold sold in private markets."
Fourth, and a very important affirmation, the Governors ^agreed to
cooperate even more closely than in the past to minimize flows of funds
contributing to instability in the exchange markets, and to offset as
necessary any such flows that may arise," and they expressed their
determination to maintain the existing parities.
And I should mention
that on the same day of this Communique they announced— to put themselves
in a better position to do this--an expansion of the Federal Reserve swap
facilities, mutual credit lines between countries, from some $7 billion
to $9.4 billion.
Fifth, and finally, and in my opinion perhaps most significant of
all, they said:
"Moreover as the existing stock of monetary gold is
sufficient in view of the prospective establishment of the facility for
Special Drawing Rights, they no longer feel it necessary to buy gold from
the market.
All of these points are worth consideration individually, but I would
only stress for you tonight this last one.
What does it say?
It says
that they, the central banks concerned, suspended the operations of the
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gold pool in the London market, that they established a two-market system
for gold with monetary gold to be kept inside a closed circuit for
exchange only among the monetary authorities, while all other gold would
presumably be left to flow into private markets wherever located.
In labeling this agreement "historic", I do not mean that it is
historic because it involved separation of the official and private markets.
The markets were separate through the post-World War II period up to the
establishment of the gold pool at the end of 1960*
Rather, it is historic,
I think, because the Governors of the several Central Banks related this
step to the clear prospect of the creation of new reserve assets to
supplement gold and dollars.
It thus becomes historic only in the light of the Stockholm decisions
and the subsequent actions taken by the Executive Directors and Governors
of the International Monetary Fund that effectively incorporate those
decisions.
The fact is that at Stockholm we reached the successful
culmination of our quest, a quest on which we have been engaged for more
than five years, to develop a new international money to be used by monetary
authorities to supplement gold and dollars in their official reserves for
use in settlement of balance of payments deficits and surpluses.
The Washington Communique, which represents a sort of "Declaration
of Independence" from gold on the part of the monetary authorities--a
decision not to look to new gold as a significant source of additions to
the reserves of the monetary authorities--was possible only in the light
of the prospective creation of new assets within the International Monetary
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Fund, marking the culmination of our search for a new international money.
And I will take a few minutes to discuss with you this quest for inter
national money which I have been participating in for the Federal Reserve
as one of the so-called Deputies of the Group of Ten (the Deputies of the
Finance Ministers and the Central Bank Governors of the ten leading
industrial countries) in meetings, almost monthly, in Europe for the past
five years.
Before I turn to the story of that quest, however, I might say that
for me the most memorable sidelight on the historic Washington weekend
meeting x^as when I encountered my little 2 1/2 year old daughter at break
fast on the following Monday morning and tried to explain to her why she
had not seen me over the entire x^eekend.
Knowing that her favorite poem
is the A. A. Milne one about changing the guard at Buckingham Palace,
and so on, I said:
"Well, Whitney, you knox? we had to close the London
gold market, and in order to do it we had to wake up the Queen in Buckingham
Palace at one o 1clock in the morning!"
and said:
She immediately looked up at me
"Well, x^hy did you want to close the gold store, daddy?"
I
replied that the speculators had run away with us, and shox-jed her a
picture in the morning paper of the speculators on the Paris Bourse being
restrained by the gendarmes.
looked up at me and said:
her up?"
She seemed to accept my answer and then
"And what was the Queen wearing x^hen you woke
I referred that question to wife Barbara!
But to be serious aga>rr/T<8|Bt I refer to as a "Declaration of Independence"— a decision n^t to look
library
nextf gold as a significant source
of additions to new monetary reserves--was clearly dependent on the
establishment of something to replace it.
That motivated, and is
the real significance of, our successful quest for a new international
money.
Why did we initiate this quest some five or six years ago?
We
undertook it because as we looked down the road ahead it was perfectly
clear that the traditional types of reserve assets, gold and reserve
currencies, could not continue to meet the long run demands for
reserve growth which most countries were experiencing.
As we looked
to the future it was clear that there simply would not be enough of
such assets to go around.
I might digress to talk at length about the traditional assets
in terms of the gold component.
But I will simply note that the
international monetary system (in terms of the reserves of central banks)
was actually losing gold in recent years to the outside because of an
array of private demands, including not only the "traditional11 specu
lative demands, but also including growing industrial demands.
And on the reserve currency component side I think you are
familiar with the growing unwillingness on the part of other countries
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to add to official holdings of reserve currencies, and the growing un
willingness on the part of the United States to see the dollar weakened
by continuance of its balance of payments deficits.
As a result of all these negotiations and discussions over the past
five years we came to the Stockholm meeting at which the Ministers and
Central Bank Governors of the Group of Ten decided to go forward with the
deliberate creation for the first time of an international money:
a money
that at this stage takes shape in the form of a Proposed Amendment to the
Articles of Agreement of the International Monetary Fund,
The Proposed
Amendment sets up a new kind of asset x^rith the seemingly unexciting title:
’’Special Drawing Rights in the International Monetary Fund.”
What kind of an asset is it?
First of all it is a Special Drawing
Right within the Fund in a separated and segregated account, which is
significant in itself because it means that it will be located within
the International Monetary Fund but it will be a separate asset, not
commingled with existing assets nor dependent upon them.
Second, it will be open to the participation of, and allocation to,
all member countries that wish to join.
At Stockholm all of the leading
countries, with the exception of France which deferred its decision, did
indicate a desire to join in.
So in that sense it will be a universal asset.
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Third, it will initially be created for a basic period of five
years under this Amendment.
So that, roughly speaking, if we could
think of an initial creation of somewhere in the neighborhood of $2
billion a year for five years, this would mean $10 billion of the new
asset being created in this first basic period.
Fourth, it will be allocated to countries on the basis of their
quotas in the Fund.
Since our quota is, roughly, 25 per cent, this means
that of every $2 billion of SDR's created, the U. S. would receive a
half a billion dollars.
Very careful procedures were put into place
governing decisions to create this new asset once the enabling machinery
is in place--very careful procedures involving an initial call by the
Managing Director of the IMF when he has broad support, and requiring
an 85 per cent weighted majority vote of the participants in the agree
ment.
The controversy over the 85 per cent figure is no secret.
It
was a long-standing controversy between the U. S. and the Common Market
countries because having 85 per cent rather than an 80 per cent majority
vote requirement in effect gives them a veto.
At the same time it be
came more and more clear that any meaningful creation required parti
cipation of most of these countries in any event, so that the 85 per cent
requirement is a realistic solution.
I might add, parenthetically, that one of the questions frequently
raised is as to the effectiveness of this asset assuming the French do
not participate.
The answer is that it obviously would be less effective
but only in degree; a degree that reflects a French quota of only about
4 per cent of the total.
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Finally, as to the nature and quality of this asset, what is it?
Basically, it consists of a firm and unequivocal and solemn obligation
on the part of the participants to accept and pay currency in exchange
for the SDR1s.
So when people ask me what it is, essentially it, like
any money, is based on acceptance.
asset:
And that is what makes it a good
in other words when countries participate, when they take
these assets on initial allocation, they also agree to accept the asset
in turn when some other country presents it.
And they agree to accept
SDR1s in an amount up to three times their initial allocation.
To
illustrate, for every half a billion dollars that the U. S. is allocated,
the obligation to accept up to three times the initial allocation would
give us an obligation to accept SDR's until our total holdings amounted
to up to a billion and a half dollars of the new asset.
Since the Washington and Stockholm meetings there has been a great
deal of confusing talk, and perhaps even some confusing thought, about
the viability of the present system, with skeptics questioning both
the indefinite maintenance of two markets for gold, and the reality
of new asset creation, as we look ahead.
The basis of their concern, of course, is the willingness or
determination, and the success, of the United States and the United
Kingdom in rectifying their external balance of payments positions.
But taking a little closer look at these two questions:
can the two-market system for gold be maintained indefinitely?
I would answer resoundingly in the affirmative.
first,
Here
There is no doubt
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that it "can"; the question is only one of will and determination.
Following the Washington meeting that weekend in March, Chairman
Martin sent the Communique out to some 92 central banks.
We have
heard back from more than 80 of those central banks, all indicating
an acceptance of the spirit--although some x^ere somewhat ambiguous
about the letter--of that Washington Communique.
So what we have really
done and said to the world at large is that everything outside the
official gold stocks is now part of a commodity market, just like wheat,
and as such we as monetary authorities should be impervious to price
changes in this private commodity market.
For the present transitional period until the actual creation of
the Special Drawing Right assets, obviously there is still sensitivity
to what is going on in the private market, and many observers are,
I am sure, still keeping an eye on what is happening in the private
market.
Nevertheless, as the system continues and then is supplemented
by SDR creation it means that hopefully over time the price changes in
the private market will have less and less relevance to the official
price of gold, and to the maintenance of that official price.
I am reminded thatt on a recent weekend when I was in Bologna,
Italy, attending a meeting of central bank and government officials
together with some of the leading academicians in the world who deal
with these matters--one of those academicians remarked, in effect,
"You know, if the speculators continue to buy gold under current
circumstances they are idiots, but the reason they are idiots is
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because they expect the Central Bank Governors to be idiots1' and not
to carry forward on their determination to maintain the official price.
I do not expect the Central Bank Governors to be idiots--quite
obviously!
Why would it be "idiotic" to go down the route of a chang
ing gold price?
Chairman Martin spelled the answer out in detail in a
New York speech a few months ago.
reasons.
In brief, these are some of the
First, a gold price change would be a very arbitrary and in
equitable way of meeting that growing demand for reserves over time
which I referred to as basic to our search for a new international
money.
need.
It would be extremely arbitrary.
It would not be related to
It would only be related to existing gold holdings, not to the
kinds of agreed criteria that govern IMF quotas.
It would be inequitable
in terms of the countries that would be the greatest gainers, including
the principal gold producing countries, South Africa and the USSR.
A second disadvantage is that an increase would have to be ex
tremely large to be credible, otherwise everyone would simply expect
^ny one change to be followed by another change in the price of gold.
And yet if it were decisively large it would have a seriously infla«>
tionary potential impact and a great possibility of leading to
unmanageable inflationary problems.
Finally, as Chairman Martin pointed out much better than I can
take time to do this evening, it would have absolutely no relevance
to the needed improvement in our balance of payments, the solution of
which is basic to the viability of any international monetary system.
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The other doubting Thomas query is:
Can the SDR*s come into being?
Here again I would make a strongly affirmative answer while recognizing
that much still depends on our own performance.
the SDRfs at the moment?
Where do we stand on
The Amendment that was worked out by the
Executive Directors of the IMF, following the Stockholm agreement of
the Ministers and Governors was, as of April 22nd, forwarded to the
Governors of the International Monetary Fund for their approval.
The
necessary majority of IMF Governors, representing over 90 per cent of
the total voting power in the Fund, now have approved that Amendment
so that it can be submitted for legislative and parliamentary approval
in the large majority of the 107 countries of the International Monetary
Fund.
As for the United States, we have pressed forward in the legislative
part of this process.
Following Hearings with the Subcommittee of the
Banking and Currency Committee, and with the full Banking and Currency
Committee of the House of Representatives, the legislation enabling
United States participation passed the House by a substantial majority
on May 10.
The Senate Foreign Relations Committee also held Hearings
and favorably reported out the legislation and it subsequently passed
the Senate on June 6.
The legislation was then submitted for White House
approval and I was privileged to be present this morning when President
Johnson signed the bill.
We are, therefore, under way and on any realistic timetable,
assuming that other countries will follow the lead of the United States
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and press forward with their legislation, we could have the machinery
in place for the creation of the new reserve asset by sometime early
next year.
The activation of the machinery creating the assets, to
answer the question of whether they will really come into being, would
require the invoking of the very careful procedures that I referred to
earlier.
Again this comes back to the question of what does the situa
tion look like, notably with respect to the world’s need for reserves
but also the balance of payments patterns and positions prevailing at
that time.
In conclusion, I see a real potential both for the durability of
the two-market system for gold, and for the creation and use of a new
international reserve asset.
Any significant qualifications are
related directly to the United States1 and the United Kingdom*s deter
mination and success in restoring or moving much closer toward equilibrium
in their balance of payments accounts.
On this score I for one welcomed the very restrictive United Kingdom
budget, and the measures that they proposed and are taking with respect
to incomes and wages policy.
And I would more than welcome the long-
awaited United States* move toward fiscal restraint in our own situa
tion here at home.
For no international monetary system--not even the so-called
"pure11 gold standard which General de Gaulle has some vision about-no international monetary system could survive indefinitely x^ith two
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leading countries like the United States and the United Kingdom in
definitely, or persistently, in balance of payments deficit.
On this score it is disturbing that a worsening of our trade
balance--reflecting inflationary pressures in the United States-seems to have offset much of the gain to our balance of payments on
capital account resulting from the President1s program.
This again
reenforces the case for fiscal restraint.
My conclusion, therefore, in all of these comments this evening
is that if, and only if, the United States’ and the United Kingdom’s
efforts bear fruit--and here I would for my part not exonerate monetary
policy and can only assure you that I am certain we will continue to
do our part--if, and only if, the United States’ and United Kingdom’s
efforts bear fruit can we be optimistic re the outcome of these historic
decisions at Stockholm and Washington, and the results of all the pains
taking work in the International Monetary Fund that I have been describ
ing for you this evening.
I believe it was a Danish philosopher named
deGroot who said that the road to wisdom is to continue to err and err
and err but to do so less and less and less.
There are times when
I think that the road to international monetary reform can be similarly
characterized.
Clearly in recent months the road has been a rough one,
marked by errors as well as steps forward, and sometimes fraught with
peril.
I recall the well-known story about Gladstone and Disraeli in
which the latter distinguished between a calamity and a catastrophe by
saying that if Gladstone fell or was pushed into the Thames this would
be a calamity but if someone fished him out this would be a catastrophe.
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Our international monetary system in recent months often appears
to have veered daily between calamity and catastrophe.
Despite this,
I do not think it leads to a counsel of despair but rather a counsel
of hope for international cooperation.
Indeed we have during this
same perilous period witnessed a truly remarkable degree of inter
national cooperation*
While staying overnight in a friend*s home
recently I had the opportunity to look at the Jewish Haggadah used during
the Passover.
In it there is a line to be read on the Sabbath, "May
the All Merciful grant us a day that shall be altogether good.11 As a
Protestant Christian may I say that I have faith that while that day in
the international monetary affairs of men is not today, nor likely
tomorrow, it will, with the continuance and strengthening of inter
national cooperation, most assuredly come.
@FedFRASER