Saturday, 31 May 2014

World monetary orders. How long do they typically last ?

We had the classical gold standard from 1873 until World War I (43 years), the gold exchange standard between the two world wars (21 years), the Bretton Woods 1 system from 1944 until 1971 (27 years), and since 1971, the entire world has been on the Bretton Woods 2 system. Which started with  the Nixon wing job.

 How we got here
A negative balance of payments, growing public debt incurred by the Vietnam War and Great Society programs, and monetary inflation by the Federal Reserve caused the dollar to become increasingly overvalued.[35] The drain on US gold reserves culminated with the London Gold Pool collapse in March 1968.[36] By 1970, the U.S. had seen its gold coverage deteriorate from 55% to 22%. In 1971 more and more dollars were being printed in Washington, then being pumped overseas, to pay for government expenditure on the military and social programs. In the first six months of 1971, assets for $22 billion fled the U.S. In response, on 15 August 1971, Nixon issued Executive Order 11615 pursuant to the Economic Stabilization Act of 1970, unilaterally imposing 90-day wage and price controls, a 10% import surcharge, and most importantly "closed the gold window", making the dollar inconvertible to gold directly, except on the open market. Unusually, this decision was made without consulting members of the international monetary system or even his own State Department.
That  is the very definition of winging it. Little did Nixon know, his wing job would last just as long as the classical gold standard. As of this year, it has been 43 years since Nixon closed the gold window. It remains to be seen , how many years longer this system will last. Historically, it is already older then most. But until now, it was never the same age or older then the gold standard.

How Bretton Woods 1 ended

Robert Triffin accurately predicted the collapse of Bretton Woods and the end of an era of U.S. trade surpluses. Triffin told Congress that, at some point, foreign central banks would become saturated with Treasury securities and seek to redeem them for gold. European countries began to consider that the price of dollar-denominated inputs such as oil would fall dramatically if their currencies were revalued upward. By abandoning Bretton Woods, they could reduce their domestic inflation by reasserting control over their domestic money supply.

 Bretton Woods 2 is the sequel. We are back to square one minus gold. Instead of European countries , Asian countries will begin to consider that the price of dollar-denominated inputs such as oil would fall dramatically if their currencies were revalued upward.

The takeway

 Unmanageable price inflation outside the US's borders will be what brings an end to Bretton Woods 2.

Now that I am on the topic of monetary orders, lets have a quick look at the age of the USD as a reserve currency.

This chart shows the lifespan of the six reserve currencies that preceded the U.S. dollar; the average is 94 years. 2014  marks the 94th year of the U.S. dollar’s lifespan. 

And last but not least, the gold fixing schemes. 

 The London Gold Pool was the pooling of gold reserves by a group of eight central banks in the United States and seven European countries that agreed on 1 November 1961 to cooperate in maintaining the Bretton Woods System of fixed-rate convertible currencies and defending a gold price of US$35 per troy ounce by interventions in the London gold market.The London Gold Pool collapsed in March 1968.
 That lasted a rather short 7 years. 
 And the sequel to this
The London bullion market is a wholesale over-the-counter market for the trading of gold and silver. Trading is conducted amongst members of the London Bullion Market Association (LBMA), loosely overseen by the Bank of England. Most of the members are major international banks or bullion dealers and refiners. It was founded in 1987
This racket is now 27 years old. Which happens to be how long Bretton Woods 1 lasted.