The Quiet Triumph of Devaluation

THE last time the dollar was devalued --by a stroke of Franklin D. Roosevelt's pen in 1934* --Budget Director Lewis Douglas declared: "This is the end of Western civilization." It was a sign of the economic times last week that, when Richard Nixon announced another dollar devaluation, the predominant reaction throughout Western civilization was one of relief. Richard Kattel, president of The Citizens & Southern Bank of Georgia, expressed the new American mood: "I think devaluation is a good thing. It will make us more competitive overseas. We have swallowed the hardest pill we had to swallow --our pride."

That assessment represents a rare victory of reality over mythology. For decades, American statesmen and financiers have viewed devaluation as an unthinkable national humiliation and a devastating blow to the non-Communist world's financial system, which uses the dollar as the central trading currency. In fact, the dollar has long been overvalued, partly for reasons that reflect credit rather than blame on the U.S. American aid helped to revive Europe's war-shattered economies and create a mighty industrial power in Japan. Those actions reduced the U.S.'s dominance of world business, which the dollar's price had reflected in the early postwar years. U.S. private investment and tourism also pumped money into foreign economies, and American military spending overseas protected Allied countries--at the cost of spilling out an oversupply of dollars.

Benign Neglect. At home, possession of an overvalued dollar encouraged the illusion of American supremacy. But the U.S. paid a high price for that illusion in loss of markets to its overseas competitors, because American goods became artificially expensive in relation to foreign products. The world paid a high price too: the outflow of overvalued dollars to foreign countries helped spread inflation around the globe and robbed world finance of stability.

Less than a year ago, U.S. international financial policy was ruled by the idea of "benign neglect": the complacent conviction that Americans could continue pouring out their overvalued dollars, buying as many foreign goods and factories as they chose and spending on military ventures as lavishly as they pleased. The rest of the world, so the theory went, had to absorb all the dollars because the dollar was as good as gold. It had an "immutable" value in terms of gold, and the U.S. was pledged to sell American gold--at the rate of $35 an ounce--in exchange for dollars that foreigners wished to cash in. But as foreigners piled up almost $50 billion in U.S. currency, while the U.S. gold stock melted to $10 billion, that pledge became hollow. Nixon gave it the coup de grace on Aug. 15 by decreeing that the U.S. would no longer redeem foreign-held dollars for gold.

In one sense, his action made outright devaluation only a change in a bookkeeping abstraction. It will take the form of an increase in the official price of gold--meaning that instead of refusing to sell gold for $35 an ounce, the Treasury will simply refuse to sell the metal for $38 an ounce. According to the agreement reached by finance ministers of the Group of Ten rich industrial nations, meeting in the Smithsonian Institution's old red castle in Washington, the dollar will be devalued by 8.6% relative to the price of gold. As a result, Americans will have to pay at least 8.6% more for foreign goods, foreign travel and foreign investments. But that is only one of several ways to measure the shift. Through a complexity of mathematical law,* the dollar will go down 7.9% relative to foreign currencies. Thus, European and Japanese businessmen, tourists and investors will pay 7.9% less--and in many cases less than that--for American goods and services. A further complexity is that a number of other countries have changed their own currencies by revaluing them upward. All together, counting the dollar's decline and the increases in some foreign currencies, the dollar's value relative to others in foreign trade will be about 10% less than earlier this year, when the monetary chaos began.

Monetary Brew. The negotiated realignment among major powers will increase the worth of Japanese yen by 17% in terms of the "old" dollar; in all, the West German mark will go up 13.5% against the dollar, and the Dutch guilder and the Belgian franc will rise 11.5%. The French franc and British pound will be formally unchanged; but, with the dollar's devaluation, they will go up 8.6% relative to U.S. money. Italy and Sweden will devalue their currencies slightly, by 1% each, but still end up 7.6% higher than the dollar. In return, Treasury Secretary John Connally said that the U.S. this week will probably remove Nixon's 10% surcharge on imports and abandon the "Buy American" rules in the new investment tax credit for businessmen. All in all, the Smithsonian agreement demanded some sacrifices of and produced some gains for each major nation. The compromise should lead to a more flexible and above all more sensible world of money.

Devaluation--a sign of U.S. willingness to bring its dollar down to size--was the major demand made by America's trading partners as the price for doing their part toward reversing the increasingly disastrous U.S. balance of payments deficit. Last week Washington reported that the nation's net loss of cash (excluding short-term capital movements) for the third quarter of 1971 alone was $3.1 billion, more than the deficit that was run up during all of last year. By agreeing to devalue, Nixon added a major ingredient to a brew of monetary and trade changes that should within two years produce a rough equilibrium in the U.S. balance of payments.

Favorite Wheels. The stage for the climactic Washington conference was set in the picturesque town of Angra do Heroismo (Bay of Heroism) in the Azores, where Nixon met with French President Georges Pompidou. Pompidou traveled stylishly to the Azores in his favorite set of wheels: a supersonic Concorde jetliner. Nixon was impressed with this symbol of Europe's new strength, remarking, "I only wish we had made the plane ourselves."

Pompidou was a key figure in the delicate monetary negotiations. France had taken the lead among the nations that refused to float their currencies upward against the dollar after Nixon's Aug. 15 bombshell, thereby gaining a trade advantage against the ones that accommodated the U.S. by floating. For example, after the mark was floated upward in May, French as well as U.S. goods became cheaper in West Germany. Pompidou has followed Charles de Gaulle in insisting that new exchange rates must include an increase in the price of gold, both because the Fifth Republic has accumulated $3.5 billion in gold reserves and because many individual Frenchmen still hoard the metal.

Nixon had undoubtedly been prepared to offer a small rise in the gold price. He simply waited until such a rise would produce the best possible compromise. Last week the President decided that the moment had arrived. He met with Pompidou, and the two jointly declared the agreement to devalue. Said National Security adviser Henry Kissinger: "We got essentially what we need, and they got essentially what they need. When you're setting up a new international monetary system, it's important that no one has the sense of losing but that everyone has the sense of winning."

What Nixon got was a pledge by the French to do two things. First, they will cooperate with other Common Market nations in the "imminent opening" of trade negotiations, and they promised to make important reductions in tariffs on American products. Second, they agreed to expand the margin that is allowed between the declared value of a currency and that at which it can actually be traded. (The Group of Ten widened the margins from 1% to 21%). Pompidou had been opposed to these wider margins, since they might allow the mark and other currencies to drift down and wipe out part of the franc's current --and advantageous--undervaluation. But there was little doubt that De Gaulle's disciple returned to Paris as the hero of the Azores summit, having gained for France the symbolic show of monetary deference from the U.S. that De Gaulle had long sought.

The meeting was an equal triumph for Nixon and Connally, who deftly managed to elude the clouds of dishonor that traditionally attach to devaluation. To a degree hardly dreamed possible a year ago, their courage in risking devaluation was rewarded by the public and politicians of both parties. After meeting with Nixon, along with other key House and Senate leaders, Congressman Wilbur Mills said: "Provided he got a good deal, I support devaluation, and the leadership supports it." Replied the President: "Keep saying that--it's helpful." It is, because the Democrats will not hesitate to make Nixon's deal an issue if the Europeans and Japanese do not take further steps to reduce their tariffs and quotas against U.S. exports, and if the nation's trade balance fails to improve.

"We Get Letters." Congress must still approve the proposed change in the price of gold. A bill setting the new rate will probably be submitted in January. Both the House and Senate may hold hearings, if only because, as a House Banking Committee aide put it, "We get letters on this subject from people who underline their words and use lots of exclamation points and sometimes draw pictures." The Administration is in no hurry for formal approval, since negotiators may be able to wring a few more trade concessions out of the suspense period. Meanwhile, central banks will simply set their own temporary exchange rates at the levels specified by the new agreement.

The agreement is only one step on the long, hard road toward a much-needed basic reform of the world monetary system. The change should occur by eliminating gold as a monetary standard and substituting a more easily regulated, man-made unit backed by the International Monetary Fund. A few such units, called Special Drawing Rights, are already in existence. Unfortunately, to many politicians, bankers and ordinary citizens, the thought of a reserve currency not backed by gold or something equally scarce is still anathema. Another problem will be the nearly $50 billion in dollars that have left the U.S. in recent years and flooded Europe's central banks. Any long-term monetary agreement must find a way for dollar-choked nations to convert their holdings for something besides gold, since current U.S. gold reserves cover only a fraction of dollars held abroad.

The sheer effort expended on even a first-stage reform was plainly evident as Nixon and Pompidou ended their summit last week. The President stumbled over his parting statement and had to be reminded by an aide that he had neglected to thank his Portuguese hosts. Pompidou quietly informed his ministers that "there will be no boasts of triumph because there is no triumph when what has to be done is done." Perhaps. But considering how frequently the necessary is avoided, the new deal in money would seem a quiet triumph for its negotiators and their nations.

* F.D.R. cut the dollar's value 41% by raising the price of gold from $20.67 to $35 an ounce, and also ended the use of gold as domestic U.S. money. * Reason for the difference: Mathematically, 38 is 8.6% more than 35; but 35 is only 7.9% less than 38.

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