Chapter 4. Coordination Failures during and after Bretton Woods (2024)

Coordination Failures During Bretton Woods

The great innovation of Bretton Woods was that it created an elaborate set of formal rules to which a large number of countries adhered. The ability of British and American leadership to create consensus and obtain commitment from a wide range of countries at Bretton Woods was an extraordinary success that has not been replicated; however, the system had a mixed record of achieving monetary coordination.

Because the system was based on stable exchange rates, the problem of the accumulation of imbalances was part of the framework. Thus, the IMF was a source of funds to allow members to overcome short-term imbalances without resorting to restricting their external economic relations or adjusting their exchange rates. The issue of how countries would be encouraged to adjust their domestic price levels to retain exchange rate stability in the longer term was left to the IMF Executive Board, which imposed certain conditions when a deficit country drew heavily or at longer term from the Fund. However, the effectiveness of conditionality was mixed. For example, the United Kingdom was a frequent borrower in the 1950s and 1960s, but the terms of its letters of intent were often vague and were not always enforced (Clift and Tomlinson 2012). Fundamentally, the onus of adjustment was placed squarely on deficit countries, with no formal means to encourage surplus countries to inflate or increase demand. This asymmetry suited the United States as the world’s major creditor in 1946, but the inability to bring pressure to bear on the persistent surpluses of West Germany and Japan 15 years later proved to be an important driver of the abandonment of the Bretton Woods system in 1971, and became a prominent target of future attempts at coordination.

A second asymmetry in the Bretton Woods system was the role of the US dollar in the global monetary system. Although gold had its role to play in defining the nominal par values of all currencies, the dollar was operationally necessary as an intermediary, given the uneven distribution of gold reserves. Moreover, the perils of linking to a pure commodity standard seemed evident in light of the deflationary experiences of the nineteenth- and early twentieth-century gold standards. However, as early as the 1960s, Robert Triffin famously identified a fundamental flaw in the use of a national currency as the main global currency, conferring a “poisoned ‘privilege’” on the dollar (Triffin 1978, 271). The role of the dollar made the system vulnerable to national economic policy of the United States. But the US economy was somewhat insulated from the international economy by the large size of its domestic market, which meant that international trade was relatively small compared to GDP. The role of the dollar is still highly contested in claims that it confers “exorbitant privilege” on the US economy by increasing the appetite for dollar-denominated debt overseas to be held in official and private sector foreign exchange reserves, although the size of this privilege has recently been challenged (McCauley 2015). It is also argued that the pricing and settlement of international trade in US dollars insulates the US economy from the vagaries of exchange rate shocks that affect other economies and can accentuate the tendency for American domestic priorities to prevail in any conflict between US and global monetary priorities.

Even in the context of a rules-based system with broad consensus, compliance was still a problem. The IMF Articles of Agreement were particularly vague on when an exchange rate change would be condoned, relying on the notion of “fundamental disequilibrium” that defied precise ex ante definition. In practice, this ambiguity meant, first, that adjustments were delayed until there was a crisis and, second, that the IMF played a marginal role in the timing and coordination of exchange rate changes. Thus, the general devaluation of European currencies in 1949 paid scant attention to the IMF (Schenk 2010). Likewise, in 1967 the substantial devaluation of sterling involved some consultation with the IMF, but the timing and size of the change were essentially decided by the British government. Identifying the need for and timing of adjustment has been the third goal of successive efforts at coordination.

US support for the system that it designed in the 1940s dwindled in the late 1960s, as West Germany and Japan accumulated substantial surpluses but resisted calls to appreciate their currencies. In the early 1970s, Richard Nixon’s government took a harder line on the collective management of the dollar-based monetary system, seeking unsuccessfully to force adjustment on surplus economies. Conversely, European governments called for the correction of American deficits that threatened to spread inflation pressure. But after the unilateral US suspension of the Bretton Woods system in August 1971, the negotiation of the Smithsonian Agreement by December 1971 demonstrated the strong international commitment to this form of rules-based coordination. The ability of the US negotiators, led by Paul Volcker, to renew the system of pegged exchange rates (albeit with some greater flexibility) is testament to the continued consensus among governments that monetary coordination, operated through the constraint of agreed-upon exchange rate targets, was achievable. However, the asymmetries that had plagued the Bretton Woods era were left unresolved, and there was no constraint on the United States that could force it to adjust its domestic monetary policy. Abrupt reversals in US monetary policy in the early 1970s prompted substantial flows of international capital that destabilized European economies, ultimately bringing an end to the dollar-based exchange rate pegs by the spring of 1973.

Thus, although the three flaws in the Bretton Woods framework (asymmetric burden of adjustment, role of the dollar, and ambiguity over when adjustment is required) were clearly identified during the 1960s, they remained unresolved at the time of the system’s collapse in the early 1970s. Moreover, the persistence of these challenges after the end of Bretton Woods shows that they were not restricted to the rules-based pegged exchange rate regime.

Alternative Forums for Reform: G10 Deputies and the Committee of 20

In response to the evident weaknesses in the Bretton Woods rules, in the 1960s new mechanisms to promote coordination emerged both within the IMF and beyond it. Table 4.1 shows the range of groups that addressed the perceived need for greater cooperation and reform of the international monetary system during the 1960s and 1970s. These organizations focused primarily on restoring or reforming a rules-based framework for macroeconomic coordination, which proved an elusive goal as international capital markets were liberalized and government control over markets eroded. These efforts were also plagued by a lack of consensus regarding the problem to be solved (too little international liquidity or too much?) and the proliferation of interests that made a coherent focus more difficult to achieve as problems of unequal growth and development became more prominent during the 1960s.

The locus of the IMF as the pinnacle forum for policy coordination eroded during the 1960s as the interests of rich countries in leading reform diverged from the IMF’s more inclusive structures. During the 1960s the G10 deputized an army of economic and financial bureaucrats who toured the major centers to debate new rules, including the Special Drawing Right (SDR). This cadre converged in various forums, including formal meetings of deputies of the Group of Ten (G10) and Working Party 3 of the Organisation for Economic Co-operation and Development (OECD; Solomon 1982; Helleiner 1996). But despite the huge commitment in time and energy, tangible outcomes were limited by a failure to achieve consensus on either the diagnosis of the problem or its solutions, even among a group of relatively hom*ogeneous high-income industrialized countries. The SDR proposed in 1967 was a last-ditch effort to deliver on repeated promises that reform would be forthcoming, but there was no consensus on whether the dollar should be replaced or on whether the SDR was a form of credit or a form of international money (Schenk 2010; Wilkie 2012). Most important, the US administration was not convinced that reducing the role of the dollar in the global system was desirable. In the wake of the failure to achieve wider reform that would sustain a stable exchange rate system, the European states moved more deliberately toward monetary integration on a regional basis with the Hague Summit of 1969, and their interest in global reform declined (Mourlon-Druol 2012).

Concerns over the governance of the global economy after the end of Bretton Woods led the IMF to propose a more inclusive forum through the Committee of 20 (C20) nominated by the Executive Board of the IMF. This group included both developing and developed economies and was tasked in 1972 with devising plans to reform the international monetary system. This laudable goal was quickly overtaken by events as the Smithsonian Agreement crumbled and most currencies floated against the US dollar beginning in April 1973. Like the OECD and G10 deputies, the C20 became mired in detailed discussions with little prospect of achieving the consensus necessary to promote effective reform. Its deliberations were comprehensively reviewed by a junior negotiator from the IMF, John Williamson, who identified five reasons for failure (Williamson 1977). The first three are symptomatic of most efforts to deliver comprehensive international reform: the “unsettled” global economy, conflict between national interests, and lack of political will. Williamson also cited the lack of responsibility given to technical bureaucrats, which resulted in decisions deferred to busy ministers who could not grasp the technical aspects sufficiently well to find consensus. Finally, he blamed the C20’s expedient decision to recommend a return to an adjustable pegged system, which reflected an innate aversion to floating or crawling pegs among many members, even though this was already an unrealistic goal by the time the committee’s report was published in mid-1974.

After the indeterminate outcome from the C20, the IMF embarked on a revision of the Articles of Agreement that was completed in 1978 (James 1996). The IMF continued to be a forum for debate and exercised some influence through the system of surveillance over the exchange rate policies of members. Under the revised Articles, members were required to pursue “orderly” exchange markets and to consider the impact of exchange market intervention on other members; a strict rules-based system was not restored. But during the inflationary 1980s, the urgency of domestic economic policy objectives meant that interest rate and exchange rate volatility increased significantly. This generated spillover effects to smaller economies and renewed interest in more formal coordination mechanisms. The annual review of the IMF’s surveillance procedures and the World Economic Outlook provided regular opportunities for debate over whether and how to constrain the spillover effects of new monetarist policies, but the fight against inflation remained paramount.1 The minutes of IMF Executive Board meetings reveal increasing frustration with the inability of the IMF’s surveillance structures to deliver greater exchange rate stability, both because national consultations were too infrequent and broad and because recommendations could not be enforced unless the country was drawing on IMF resources.2 In January 1984, the IMF staff described surveillance as “a complex problem of analysis and persuasion and its effectiveness largely rests on the hope that competent analysis and clear identification of the problems will persuade policymakers to take more account of the effects of their decisions on the exchange rates of their partners” but concluded that “it remains the case … that … a national authority may deliberately choose not to take required actions or even to take perverse actions because of what it perceives to be domestic constraints.”3

In November 1983 the question of a more thorough reform of the international monetary system returned to the G10 deputies, who reported in July 1985.4 Lamberto Dini, the chair of the group, reported to the G10 central bank governors in May 1985 that the view of the G10 deputies was that “the present international monetary system on the whole was sound and was working reasonably well. Moreover there was no practical alternative to the present arrangements and no major reform or institutional change was warranted at this time.”5 The report recommended that “it would be helpful for major countries to engage in consultations and policy discussion in case of significant movements in real exchange rates” and called for greater surveillance by the IMF “to promote sound and consistent policies through enhanced dialogue and persuasion through peer pressing rather than through mechanical rules.” Dini noted that this depended on willingness to “accept a measure of compromise between national and international objectives.” The G10 central bank governors were more critical of exchange rate misalignments. When discussing the G10 deputies’ report, Michel Camdessus, Governor of the Banque de France, was the strongest critic of the floating regime, but few others viewed a return to pegged rates as an option given open capital markets. Karl Otto Pöhl, governor of the Bundesbank, doubted the willingness of governments to subvert their domestic policy interests to adapt to exchange rate movements, noting that “the 1978 [Bonn] Summit effort at concerted action was a failure.” In Pöhl’s view, “at present neither the US, Germany or Japan were prepared to change domestic policies merely to change the exchange rate or external balances,” but he concluded that “closer cooperation among central banks would help improve the functioning of the system.”6 He thus drew a stark contrast between formal summits involving governments and the informal cooperation possible among central banks.

Informal Forums for Coordination: The Bank for International Settlements

More functional and effective systems were deployed at the Bank for International Settlements in Basel (Helleiner 1996; Toniolo 2005). The ability of the G10+2 central banks to act quickly to provide substantial short-term credits to support exchange rate stability proved much more effective than the public, time-consuming, and conditional support available through the IMF (Bordo and Schenk 2017).7 In 1960 the central banks agreed formally to support the gold value of the dollar through coordinated intervention in the London gold market. The Banque de France was the only holdout from this agreement, but it took part less formally from the sidelines. From 1963 the Bilateral Concerte created a more formal network of bilateral swaps that supported the dollar value of the lira, franc, and pound (Toniolo 2005). The central bank governors’ support for sterling was particularly strong because sterling was still the main reserve currency for a large number of countries and because sterling remained an important symbolic bulwark of the Bretton Woods system (Schenk 2010). Should sterling fail, speculation in an increasingly nimble international capital market would quickly turn to the US dollar, with potentially fatal implications for the Bretton Woods system as a whole. Indeed, these prophesies were borne out when the sterling devaluation in November 1967 was followed by a run on the dollar that exhausted the resolve of the Gold Pool members to defend the gold price and effectively led to the decoupling of the dollar and gold in March 1968. The collapse of this example of coordination in the wake of speculative pressure emphasized the importance of credibility once the private capital market swamped the resources of central banks to defend exchange rates and marked the beginning of the final stages of the Bretton Woods system.

Despite the end of the gold anchor, the G10+2 central bank governors continued their attempts at coordination to manage the transition of the Bretton Woods system. The collective Basel Agreement line of credit to the United Kingdom agreed on in September 1968 was conditional on the British government offering a dollar-value guarantee for the bulk of sterling held in the reserves of 34 countries to forestall a wholesale conversion of these reserves (and to minimize the likelihood that the credit would be drawn). While this might have marked the end of sterling’s reserve role, the accumulation of substantial sterling surpluses by primary product producers, especially oil exporters in Nigeria and the Middle East, meant that the British government was soon forced actively to try to reduce the amount of sterling accumulating in the reserves of other countries. Indeed, the consensus that a volatile sterling exchange rate was still a threat to collective interests meant that the coordinated support for sterling outlasted the pegged exchange rate system itself, culminating in the January 1977 Third Group Arrangement among G10 central banks to support the pound (Schenk 2010).

After the collapse of the pegged rate system, the G10 central bank governors continued their coordinated efforts to manage the operational aspects of the system by extending their informal meetings, and the more formal swap network developed in the 1960s (Toniolo 2005). During the first decade of the floating regime, the Federal Reserve intervened regularly, selling foreign currencies to support the dollar and then repurchasing or repaying swaps when the dollar strengthened (Bordo, Humpage, and Schwartz 2015, Chapter 5). The volatility ushered in by the Organization of the Petroleum Exporting Countries (OPEC) oil crisis in October 1973 and subsequent gyrations in the US dollar exchange rate against the deutsche mark and Swiss franc also periodically drew central banks into coordinated intervention. For example, as the dollar fell in March 1974, the Federal Reserve drew on the Bundesbank swap line and, in a coordinated effort, the Bundesbank also bought US$78.4 million. At the May 1974 meeting of central bank governors at the BIS, the German, Swiss, and US officials agreed to a “concerted intervention” in the exchange markets to counter excessive speculation against the dollar. Their resolve was made public on May 14, 1974, and markets scrambled to cover short dollar positions, resulting in a 4.75 percent depreciation of the deutsche mark and Swiss franc the next day.8 Intervention by the Federal Reserve in 1974 was partly direct in the markets ($437.7 million) and partly through prearranged swap lines ($760.7 million). By the end of the year, however, the dollar/deutsche mark exchange rate was 34.5 percent below the peak levels of January and 18.65 percent below the January Swiss franc rate. These coordinated interventions were aimed at ameliorating short-term fluctuations rather than protecting permanent exchange rate levels.

The meetings of the G10+2 central bank governors at the BIS were also an important forum for sharing information that was the foundation for common understanding and goals. The meetings were private and secret, with no formal minutes, and this promoted a frank exchange of views. After views expressed around the table in March 1977 were leaked to the press, the chairman, Jelle Zijlstra of the Nederlandsche Bank, advised members, “If you cannot keep your mouth shut, don’t come into this room.”9 Each meeting featured a tour de table of the governors’ views on their domestic economic situations and policies. Special topics were also addressed, such as the Third Group Arrangement to support sterling in January 1977 (Schenk 2010), coordinating sanctions on Iranian banks in 1979,10 and discussing reports from BIS standing committees, including those on banking supervision, gold and foreign exchange, and Eurocurrency markets. In addition, the governors usually discussed the state of the foreign exchange markets. Recently released archive records show that all governors were persistently averse to instability or disarray in exchange markets and tended to offer at least moral support to their colleagues who were pursuing anti-inflationary policies. They often reflected on the credibility of monetary policy and market interventions, exchanging views on market opinion in their respective jurisdictions. Through these regular meetings, the G10+2 central bank governors created an epistemic community with shared goals for inflation and a general commitment to avoid destabilizing short-term exchange rate changes. As the operational arm for coordination, this forum was important for sharing information and opinions (Bordo and Schenk 2017).

Some of the views exchanged were critical, particularly among the French, German, and US representatives. For example, in November 1978, the US government’s new anti-inflationary program was warmly endorsed around the table despite doubts about its credibility. Paul Volcker, who was representing the Federal Reserve Bank of New York (FRBNY) at the meeting (his colleague Henry Wallich from the Federal Reserve Board also attended), noted that “the exchange markets have remained skeptical, especially in Europe.” The Bundesbank governor Otmar Emminger challenged the Federal Reserve representatives about the likelihood that their policies would be relaxed if the US economy began to slow down. Bernard Clappier of the Banque de France “was impressed with the courageous acts by the US government, but worries that they are more to the consequences than the cause and that the US will back away quickly for fear of recession. He hopes the US will continue with determination.” The open exchange of views may have had an effect of creating greater coordination of national monetary policies, but it is difficult to discern direct evidence for this influence.

The spillover effects of gyrations in the dollar exchange rate were frequently discussed and prompted coordinated intervention. In January 1978, the Bundesbank-Federal Reserve swaps were extended to include the US Treasury, which the governors believed would increase the political credibility of the intervention. But Arthur Burns, then chairman of the Federal Reserve, noted that

developments in the exchange markets have been a source of considerable anxiety—even anguish—to all of us. The United States recognizes, because of the central role of the dollar worldwide, that a declining dollar releases forces that could bring difficulties—economic stagnation if not worse—around the world. … The United States is also aware that the enormous appreciations of some currencies have hurt some export industries of these countries and may thus slow down their overall economies. However much a depreciation of the dollar may help the competitive position of US industry, the beneficial impact could be swamped by the recessionary elements it introduces abroad.11

The persistent inflationary environment in the United States and the weak credibility of anti-inflationary policies was finally tackled aggressively by Paul Volcker, who took the reins of the Federal Reserve in August 1979 as the second oil price shock loomed. When Volcker attended the G10 central bank governors meeting for the first time as chairman of the Federal Reserve on September 10, 1979, most governors around the table reported that they were raising interest rates.12 Volcker noted that in the United States, “interest rates have been tightened, but it was not clear how far tightening could continue” given declining business activity. Emminger of the Bundesbank remarked on the commentary in the press and from US Congressman Henry Reuss about the prospects of an interest rate war after German interest rates were raised but argued that “increases in German interest rates had not been exaggerated but were necessary in view of the situation in Germany while the increases in interest rates in the US were justified by the US domestic situation.” Volcker countered that he had “emphasized [in congressional testimony] that this was the case so far [underlined in original FRBNY record] and that he told Congress he would be discussing the situation with colleagues in other central banks.”13 A week later Volcker narrowly carried his proposal for a further modest increase in the federal funds rate at the Federal Open Market Committee, a decision that sparked another round of controversy over the credibility of US interest rate policy.

An important departure from coordinated monetary policy was the Volcker “shock” of October 1979 when the Federal Reserve began a fresh anti-inflation campaign, deploying unconventional policy aimed at bank reserves and leaving interest rates to respond. The first G10 central bank governors meeting after the October policy departure was in mid-November, when Wallich represented the Federal Reserve and explained the new reserve requirements to his G10 partners. With four weeks of experience, the markets seemed to be orderly, interest rates had increased, and “the early results of the shift of emphasis to controlling other financial aggregates were almost too good to be true,” with the growth rate of money supply, bank credit, and business loans all slowing.14 There was some controversy around the table about the new approach and whether the reserves limits could be evaded by US banks lending to American companies overseas and letting the funds flow back to the US monetary system. This point was picked up by the Federal Reserve, which subsequently sent a letter to foreign banks asking them not to undermine the marginal reserve requirements imposed on US banks by lending to US corporations. In December, Zijlstra as the chair asked what support Volcker needed from those around the table and Volcker asked each of his counterparties to “urge their banks to cooperate.”15 In general, despite concerns about the impact on their own economies in the short or medium term, Volcker’s policy demarche was greeted with approval as an important contribution to the collective fight against inflation.

However, the Federal Reserve’s contractionary monetary policy soon contributed to the onset of a recession in the United States. Interest rates fell sharply in the second quarter of 1980 as inflation expectations receded, and so did the growth of the monetary aggregates. These gyrations in interest rates provoked criticism at the BIS, as they had at the IMF. The FRBNY’s records of the December 1980 governors meeting noted that “Zijlstra (Netherlands) … continued to scold about the volatility of US interest rates … [Cecil] de Strycker (Belgium) waded in to complain that US interest rates were simply too high. The US should pay more attention to the international effects of its policies on other countries. The swings in interest rates and the rise in rates to such extreme levels has triggered heavy volumes of short-term capital movements.”16 Gerald Bouey (Bank of Canada) “supported the effort in the US to combat inflation, but found interest rate volatility a problem.” Six months later, in July 1981, the complaints continued: Pöhl of the Bundesbank remarked that “he had never complained in public but the high US rates did create a lot of problems” through higher local rates and a strong dollar.17 Renaud de la Geniere for Banque de France “said he would be frank … interest rates were higher in France than they otherwise would be if US policy was different” and while he approved of the battle against inflation, “he hoped we [the United States] would hurry. The foreign exchange consequences were serious for medium-sized countries with open economies.” But Volcker held firm and warned that US interest rates were not likely to come down unless the economy began to contract; at the evening meeting over dinner Zijlstra (as chair) “concluded that no one was very enthusiastic about the high US interest rates but that perhaps the US has no other alternative at the moment.”

The effects of informal efforts at coordination during this period were mixed. There were certainly opportunities through the BIS G10 central bank governors for sharing information, learning from each other, and arranging short-term coordinated interventions in the foreign exchange markets in the 1970s. However, the major monetary policy initiative, inaugurated by Volcker, was almost purely unilateral, although some advance warning was given to the Bundesbank in October 1979 (Silber 2012). The disruptive effects on other economies among the G10 led to complaints, but there was broad consensus that reducing inflation in the United States was a common good.

Devising New Rules: The Indicators Proposals

As the Bretton Woods system struggled through its final years, the combination of asymmetric adjustment and the inadequacy of the vague concept of “fundamental disequilibrium” to trigger adjustment prompted a lengthy period of strategic planning. With the Japanese economy in persistent surplus and a huge accumulation of US dollar reserves overseas from 1969 through 1971, the US Treasury and the Federal Reserve focused on new rules to increase pressure on surplus countries to adjust. In particular, they sought ways to monitor incipient imbalances and to trigger currency appreciation by reluctant surplus countries (still a vital policy issue in the 2000s). In 1969, a special policy group was established under the leadership of Paul Volcker, then Treasury Under-Secretary of State for International Monetary Affairs.18 The group’s proposals included an international Ministerial Adjustment Committee (analogous to the Mutual Assessment Process of the G20) that would monitor imbalances and make recommendations for adjustment policies, applying sanctions where corrective action was not forthcoming.19 By April 1972, the proposal included provision for

a set of presumptive criteria to guide the committee in making judgments regarding the adjustment required in the balance of payments positions of individual members. Ideally, such criteria would also provide the basis for a scale of reference that could indicate the degree of disruptiveness of a given country’s failure to adjust. One possibility would be to establish a set of bands based on reserve holdings of members.20

The Volcker Group’s final recommendations in early June 1972 identified two objectives in forthcoming negotiations: greater exchange rate flexibility and a system of guidelines to promote prompt adjustment of imbalances.21 This system included

agreement on procedures and guidelines for multilateral consultations and actions designed to stimulate corrective steps by governments pursuing seriously disruptive behaviour in the international economic area; possible actions should include withholding of access to international assistance funds and placing burdens on the international transactions of the offending nations.22

On June 21, 1972, sterling floated free of its dollar peg, prompting the US Treasury and the Federal Reserve to reassess the future of pegged exchange rates. In July, Federal Reserve Chairman Arthur Burns tried to lure National Security Advisor Henry Kissinger (and by extension the president) into his agenda to reform the international monetary system, promising that the United States had an opportunity “to rebuild the world.” Burns proposed establishing “the principle of symmetry between deficit and surplus nations. Right now, when a country has a deficit, it is an international sin. With a surplus, it is practicing an international virtue. We should do away with morality in our thinking. Apply rules that surplus countries have the obligation to reduce and eliminate surpluses and deficit countries have a similar obligation to reduce their deficits. We should establish rules to achieve this.”23 As for sanctions on surplus countries, Burns suggested radical changes to the principle of multilateral convertibility established at Bretton Woods, recommending that “in the first year, a warning. In the second year, if it continues, then withdraw convertibility. Previously convertibility has been taken for granted. It was felt there was a right to convertibility. No longer should it be an automatic right. The country would have to accumulate foreign currencies and could not necessarily convert them.” The loss of sovereignty required for a rules-based scheme (for both deficit and surplus economies) would make it difficult to sell such a plan to Congress, but Kissinger promised to lend Burns his support with this agenda.24

Meanwhile, with the support of incoming Treasury Secretary George Shultz, by the end of July 1972 the Treasury had devised “Plan X,” which aimed to mobilize the SDR as a primary reserve asset and promote a symmetrical rules-based system of adjustment (Sargent 2015).25 Primary reserves would consist of gold, SDRs, and IMF gold tranches. Each country would have an identified level of “normal reserves” calibrated against its IMF quota. The suggested threshold for normal reserves was four times a country’s IMF quota. In 1972 Japan’s foreign exchange reserves, not including gold, were 13.7 times its IMF quota; Germany’s, 10 times; and those of the United States, 1.8 times. The plan clearly privileged the United States with its large quota. During a predetermined “open season,” countries could exchange their dollars and other foreign exchange for SDRs. Allocations of SDRs from the IMF would make up any shortfall to reach the predetermined level of normal reserves. So long as they maintained central exchange rates, countries acquiring foreign exchange could present it to the issuing country for primary reserves (gold, SDRs). The system would not encourage or discourage the holding of foreign exchange in reserves, although the United States “would negotiate limits on foreign official holdings of dollars.” Countries where reserves fell below the “normal” level would be permitted or required to devalue their exchange rate by 3 percent to 4 percent a year. Revaluation by at least 3 percent a year would be required once primary reserves hit 150 percent of normal. If reserves reached 175 percent of normal, the country would lose the right to convert foreign exchange reserves. Finally, a country that maintained “primary reserves (primary plus foreign exchange) at 200 percent of normal level and maintained for period (e.g., six months) would indicate a persistent surplus country, which would be expected, e.g., to increase aid, liberalize imports and unless corrected, subject to discriminatory restrictions (e.g., surcharge).”26 This scheme sought a new and much broader international monetary agreement encompassing trade and monetary rules, requiring a parallel restructuring of the General Agreement on Tariffs and Trade (GATT). Finally, in contrast to Williamson’s critique of the C20 process, the plan sought to “politicize” the governance of the international monetary system by ensuring that IMF Executive Directors were at least at deputy minister level and by keeping the C20 in existence. Those at the table had to be able to make policy decisions rather than refer them back to governments. These ambitious plans reflected the waning enthusiasm for firmly pegged exchange rates as well as a desire to link trade and monetary issues and overcome the bias in the onus of adjustment.

Beginning in the late 1960s, the reform of the international monetary system was interlinked with a wider debate about ways to broaden the governance of the global system to include developing countries as a challenge to G10 leadership (de Vries 1985). As noted earlier, at the September 1972 meeting of the IMF and the World Bank, the C20, under the chairmanship of Indonesian Finance Minister Ali Wardhana, was tasked with developing proposals to reform the international monetary system in ways that promoted development, including “international trade, the flow of capital, investment, and development assistance.” US Treasury Secretary George Shultz chose this meeting to launch his rules-based system based on “indicators” that would identify the need for internal and external adjustment by persistent surplus and deficit countries (Sargent 2015). Shultz noted, “I believe disproportionate gains or losses in reserves may be the most equitable and effective single indicator we have to guide the adjustment process” (Shultz 1972).27 He proposed that the burden of adjustment should be shared between surplus and deficit countries to introduce greater symmetry into the system, while greater flexibility in exchange rates was an additional route for adjustment. Deficit countries could be required to devalue while surplus countries could have convertibility suspended if they refused to revalue. Alternatively, a surplus country could increase aid expenditure, reduce trade barriers, and remove outward capital controls. Ultimately, that country’s trading partners could impose trade surcharges to force adjustment (a threat subsequently used by President Richard Nixon in August 1973).

Under Shultz’s scheme, the SDR “would increase in importance and become the formal numeraire of the system,” but foreign exchange reserves “need be neither generally banned nor encouraged” because they offered monetary authorities greater flexibility in reserves management (Shultz 1972). Nevertheless, Shultz noted that “careful study should be given to proposals for exchanging part of existing reserve currency holdings into a special issue of SDR, at the option of the holder.” In terms of governance, the US proposal sought to vest the monetary rules with the IMF and to harmonize IMF and GATT rules. Decisions on reform “must be carried out by representatives who clearly carry a high stature and influence in the councils of their own governments,” a hint at Plan X’s politicization of governance. After some undefined transitional period, Shultz claimed that “the US would be prepared to undertake an obligation to convert official foreign dollar holdings into other reserve assets as part of a satisfactory system as I have suggested—a system assuring effective and equitable operation of the adjustment process” once the United States had the capacity to do so (Shultz 1972). Sargent (2015) does not mention the link between the adjustment rules and the SDR, but it was an important part of the vision for the longer-term reform of the role of the dollar as a reserve asset and the restoration of greater US policy autonomy after the series of currency shocks exerted by financial markets from 1968 onward.

In January 1973 the IMF staff prepared a paper for the deputies of the C20 that set out the technical obstacles to rules-based coordination.28 The paper distinguished between a reserve level indicator and a “cyclically adjusted basic balance indicator,” which was a flow measure deriving from the balance of payments but excluding short-term capital flows. The two were clearly closely related, as persistent deficits or surpluses in the basic balance affected the level of reserves. Moreover, reserve levels were affected by “transitory and reversible flows that should be financed rather than be taken as signifying a need for adjustment.” The IMF staff put greater credence on monitoring the basic balance as an indicator of “fundamental disequilibrium,” but the technical difficulties of measuring the cyclically adjusted basic balance meant that it would be difficult to operate. It was important that any indicator was “unambiguous,” which argued in favor of a straightforward reserves measure. A simulation of a reserves indicator based on IMF quotas for the 1960s showed that Austria, Germany, and Portugal had twice the required amount of reserves every year. However, if the base was set in relation to the levels of reserves in the period 1956–60, France, Israel, and Spain would meet an outer limit of twice the base level in all 10 years.29 Clearly the initial calibration of the indicator was an important issue. In a broader test of a range of “objective indicators,” John Williamson showed that reserve levels and basic balances were successful in signaling the need for exchange rate adjustment in only about half of the cases where such adjustment was judged by other criteria to have been necessary.30 While these indicators might form part of surveillance, “neither provides by itself an automatic answer to the question [of] whether adjustment action would be required; nor could any mechanical combination of the two indicators perform that function.” Instead, they should be used “as triggers of a full assessment of a country’s position and prospects, in addition to such regular appraisal of balance of payments situations and prospects as may be provided for.”31 This did not take the process much beyond the existing annual IMF Article IV consultations. Having been challenged by the IMF staff, Shultz’s plan also did not find favor among other G10 leaders.

French Finance Minister Giscard d’Estaing expressed his misgivings to Paul Volcker at the Reykjavik summit in May/June 1973. The French priority remained a return to pegged exchange rates; if countries accepted some ineffective form of indicators, they would then have the freedom to change parities but without any rules preventing competitive devaluation and other unwarranted changes in exchange rates. Beyond this ideological disagreement over exchange rate flexibility, neither Giscard d’Estaing nor his advisor Claude Pierre-Brossolette believed that the proposal could realistically be implemented, partly because “there was always room for discussion as to whether a country should act when the indicators so suggested. Also, the indicators did not work the same for a large country and for a small country—they allowed greater freedom for the large country.”32 Volcker defended the scheme as a negotiating platform or “skeleton” that required flesh to be attached through international negotiation. No progress was likely without a firm “backbone” proposal to discuss, and he tried to convince Giscard d’Estaing that “if the French would agree, we could get the rest of the world to agree. Some of the LDC’s [lesser developed countries] had begun to see some of the advantages of the US system to them, in that it did not leave them at the mercy of IMF control.”33 The French were key to an effective compromise, but they rejected the American scheme in the context of their distrust of flexible exchange rate regimes in general. Both sides agreed that no new system would be introduced before the Nairobi C20 meeting in September and that public expectations should be dampened by announcing that there would be no communiqué from that meeting.

At the Nairobi meeting of the C20 deputies, the reserve indicator remained on the agenda and was assigned to one of four technical groups.34 Shultz remained hopeful, advising President Nixon,

In recent weeks, I have made considerable efforts to discuss monetary reform with our Monetary Advisory Committee, various other groups of bankers and businessmen, and with the academic community. There is almost universal support among these groups for the US substantive proposals and for our negotiating approach—in particular, our desire for some flexibility in exchange rates; our emphasis on a reserve indicator system which will keep countries like Germany and Japan from continuing to pile up huge surpluses; and avoiding a premature move to dollar convertibility.35

Despite this optimism, the US attempt to develop a new rules-based system of coordination failed to achieve consensus. The uneven distribution of benefit and cost meant larger economies would have greater room for maneuver, and there were serious technical and practical challenges to designing transparent rules to trigger enforcement. The plan was also weakened by the lack of consensus on the diagnosis of the problem: European states were pursuing exchange rate stability while the United States embraced floating exchange rates. The indicator proposals survived into the C20’s report in mid-June 1974, but the Substitution Account gained more traction and was pursued through the IMF Executive Board (McCauley and Schenk 2015). Thus, over the next eight years, the United States was invited to adhere to the SDR substitution element of its proposed indicators plan without the benefit of the rules to ensure symmetry of adjustment.

The persistent problem of how to press surplus countries to adjust meant that US officials returned repeatedly to indicator proposals as a way to promote international macroeconomic coordination. In May 1986 US Treasury Secretary James Baker again promoted an indicator system at the Tokyo G5 summit (Sterling-Folker 2002, 166–69). Sterling-Folker asserts that central bank governors were opposed because “the use of national indicators as a surveillance device would mean greater ministerial interference into central bank independence” and would force them to share private data too widely (2002, 168). This system is similar to the proposal attributed to US Treasury Secretary Tim Geithner in 2010, although rather than focusing on reserves, Geithner suggested quantitative indicators for current account balances that would require adjustment.36 In the end, the 2010 G20 meeting in Seoul landed on a compromise that tasked finance ministers to develop “indicative guidelines composed of a range of indicators [that] would serve as a mechanism to facilitate timely identification of large imbalances that require preventive and corrective actions to be taken.”37 The outcome of this discussion in February 2011 was the Mutual Assessment Process, which included domestic indicators such as public debt and fiscal deficits, private savings rates, and private debt. The external indicators were more controversial, facing considerable opposition from surplus countries such as China. Rather than the entire current account balance, the trade balance and net investment income flows would be assessed, “taking due consideration of exchange rate, fiscal, monetary and other policies.”38 The G20 central bankers and finance ministers meeting in Washington in 2011 set out guidelines for these indicators, benchmarking each country’s historical performance over the period 1990–2004, with some sensitivity to the stage of development and size of each country.39 By November 2011 seven countries among the G20 had been identified as having significant imbalances, and the IMF prepared sustainability reports to identify the causes and recommend policy actions for the Cannes G20 Heads of State Summit.40 The persistence of slow growth and the prolonged euro area sovereign debt crisis made growth, fiscal consolidation, and employment creation more immediate goals, while global imbalances were increasingly seen as an effect rather than a cause of international fragility. The inability until 2016 to conclude the ratification of quota reforms agreed in 2010 exposed the limits of collaborative commitment to the global leadership of the IMF.

Conclusions

Several conclusions can be drawn from this survey of attempts at coordination. First, the problems of adjustment and asymmetries identified during the Bretton Woods era have persisted in the rhetoric of international monetary reform despite the dramatic transformation of the global system since the 1950s, suggesting that they are not tied to a particular historical circ*mstance or exchange rate regime. Two issues in particular continue to be a strong focus of G20 deliberations: (1) how to encourage adjustment by surplus countries, and (2) the role of the dollar in the global monetary system. The Bretton Woods system established the IMF as the platform for coordination, but as the pegged exchange rate system crumbled, efforts to develop and encourage policy coordination became dispersed, resulting in several overlapping initiatives that varied in their representation, geographical coverage, breadth of goals, and level of technical resources. This complicated landscape did not enhance the ability to achieve consensus on either the problems to be resolved or the possible solutions.

Second, the enthusiasm for rules-based systems was not exhausted at the end of the Bretton Woods system. Indeed, the US Treasury led a sustained campaign to introduce a set of objective triggers for adjustment that straddled the end of the pegged exchange rate system and the advent of the floating era. In adapted form, these efforts finally came to fruition in the wake of the 2008 global financial crisis. The prospects for the Mutual Assessment Process will depend on the consistency with which the indicative guidelines are deployed and the strength of the enforcement mechanism. The historical record suggests that rules-based systems are difficult to devise because they require consensus on both the problems to be addressed and the means of solution, and this consensus has so far proved elusive. Looking across the transition from the rules-based pegged exchange rate to the flexible era of the 1970s, there is a clear continuity in the vexing problem of ensuring that surplus and deficit countries work together to resolve imbalances.

A third observation is that the most enduring form of monetary coordination has been the less visible collaboration among central bankers at the BIS. This is perhaps not surprising in the wake of the increased independence of central banks, their operational expertise (even if they did not determine exchange rate policy), and their close relationship with foreign exchange markets. Moreover, the records of the G10 governors meetings in Basel show evidence of the development of an epistemic community among central bankers. Although there was frequent disagreement on points of detail and mixed views on the benefits of floating exchange rates, this forum provided central bank governors an opportunity to share frank views in private and demonstrate their commitment to orderly foreign exchange markets and their support for anti-inflationary policies, despite mixed evidence that their interventions were effective. An important issue for these central bankers was the credibility of both their foreign exchange market intervention and their fight against inflation. Both required political as well as operational commitment, and there are frequent references to the governors’ frustration with their respective governments. Conversely, the G10 deputies and the C20 (representing ministers of finance and the Executive Board members of the IMF, respectively) were less successful at agreeing on proposals for international monetary reform, both because of a lack of consensus on the problems to be resolved (for example, too much liquidity or too little, whether the dollar needed to be replaced) and because of the political traction needed to achieve substantive institutional reform.