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CHAPTER 2 "Prosperity Has No Fixed Limits" The Bretton Woods conference was the first successful systematic attempt to produce a legal and institutional framework for the world economic system. It represented both an attempt to learn the lessons of the Great Depression and a part of the preparation for peace. The conference was preceded by negotiations involving initially the United States and the United Kingdom and then the other members of the United Nations (the wartime coalition against the Axis powers). The fundamental insight that made it possible to agree on an outcome was that destructive disputes over trade could be overcome by an agreement on monetary matters. In this the conference broke through the paralysis that had afflicted in- terwar attempts at international cooperation. The World Monetary and Economic Conference held in London in 1933 was generally seen as the last, and lost, opportunity to arrive at a settlement.1 It had treated the trade and monetary issues separately. Even at the preparatory stage, work on the agenda of the London conference had been divided between two subcommit- tees. The Monetary Subcommittee dealt with financial issues and with cur- rency stabilization, and the Economic Subcommittee with trade. The out- come of this division of labor was predictable and would have been comic if the results had not been so tragic. The monetary discussion arrived at the conclusion that a prerequisite for stabilization was the dismantling of barriers to trade. "Freer trade was a prerequisite of a return to normal economic conditions and a return to the gold standard." On the other hand, the trade debates produced agreement that nothing could be done without an overhaul of the international financial system, since "for ten years the world has been attempting to adjust the balance of payments by lending and borrowing instead of buying and selling."2 This was patently a perfect recipe for a 27 IT CAN'T BE OURS ! IT'S COT GOLDEN HAIR! 2 "Prosperity Has No Fixed Limits" 29 deadlock, in which trade and currency experts thought that the other side should be the one to take the first move. Immediately, John Maynard Keynes drew the conclusion that such a large gathering could scarcely be expected to succeed and that a workable plan could only be realized at the insistence of "a single power or like-minded group of powers."3 The fundamental cause of the shift between 1932 and 1933, on the one hand, and the wartime discussions, on the other, lay in the unflinching commitment of the world's most powerful state and economy to the principle of multilateral negotiations to reduce tariff levels and eliminate as far as possible trade quotas. The uncompromising attitude of the United States brought the inescapable conclusion even to opponents and skeptics that trade liberalization could not be the subject of discussion or bargaining. How fortunate for the world that there were no trade negotiations! After the conclusion of the Second World War, when countries started haggling about the exemptions they desired from a proposed International Trade Organiza- tion, the U.S. Congress revolted, and the proposed institution collapsed. Bretton Woods had already succeeded because of the wartime consensus that trade should not be debated, and thus that an initial conference should deal with currency stabilization. The new international economic order required rules for its management, rules that would prevent the recurrence of the disorder and conflict of the 1930s. In trade policy, there should be a simple rule of nondiscrimination. Since countries often used devaluations in the 1930s as a way of carrying out trade retaliation, the equivalent rule in monetary policy was a commitment to maintain a fixed exchange rate (in what became Article IV of the IMF's Articles of Agreement), combined with a requirement to liberalize foreign exchange transactions. Fixed rates offered themselves as the easiest and most attractive way of formulating a rule to prevent countries using currency policy in the course of potential trade wars. The Bretton Woods agreements involved a recognition of the equality of all currencies. There would be no special reserve currencies. Each country was to maintain the parity of its currency by intervening in the currencies of other countries. It would be helped in this by a Fund, which would keep reserves, and which could be drawn upon in case of temporary need for balance of payments support. The fundamental limitation on national monetary sovereignty involved in Bretton Woods was the obligation to maintain par values, in other words, to maintain a fixed exchange rate regime. They could only be changed in the case of a "fundamental disequilibrium" in the balance of payments, which would be the subject of a decision by the rules-enforcing authority. (The term was never defined. Its definition became even harder 30 INTERNATIONAL MONETARY COOPERATION with the resumption of substantial capital flows, since these may permit surpluses or deficits on the current account to be maintained for very long periods of time.) The complicated provisions of the agreements would ensure that this commitment brought no injurious domestic economic effects. It was in theory a very different sort of system to that which did in fact emerge after 1945 (as will be explained in Chapters 3 and 4). Instead of a multiple currency system, one or perhaps two key currencies (the dollar and the British sterling) came to assume the leading role in international monetary affairs, with other currencies holding their reserves largely in those currencies. For a long time, it might well have appeared that Bretton Woods was more of an unrealized idea than an international "system." But it did in fact create the conditions under which a system could begin to operate. In order to be able to satisfy the political requirements of the time, the proposed settlement had to include not just a sustainable economic vision but also appropriate concessions to the powerful interests involved in the negotiation. The United States had a profound conviction of the merits of trade liberalization and an abhorrence of the bilateral trade and manipulated exchange rates that had been operated by National Socialist Germany. The United Kingdom, on the other hand, wanted to find a mechanism to protect itself against the immediate impact of the trade liberalization required by the United States. The goal of the monetary mechanism for likely debtor countries (such as Britain) would be to prevent the buildup of large surpluses by others and to include penalties or deterrents for likely long- term creditors. The surplus countries should take a part of the adjustment: otherwise the world would find itself repeating the deflationary experience of the 1920s. The result of the coincidence of these two initially contrary impulses led to the adoption of a fixed rate system, on the basis of some of the stabilization plans of the 1930s, notabl the Tripartite Pact of 1936, arrangements that had in fact not been very successful in returning world economic stability and prosperity. In making the new settlement, the peacemakers had to wrestle with the perpetual and fundamental problem of international policy coordination: how to reconcile the desire for interna- tional stability with the defense of national economic interests and an insistence, strengthened by the experience of depression, that national goals (such as near full employment) should not be sacrificed on the altar of an international system. Those who participated in Bretton Woods saw that no international order could be stable if it provoked hostility and resentment in nation-states. 2 "Prosperity Has No Fixed Limits" 31 Can it be said that the coordination problem was solved at Bretton Woods? Hardly. At most, a mechanism was established that created some of the conditions in which the problem could be addressed. Lessons of the Past The experience of the 1930s' depression had produced two separate and apparently contradictory responses: in domestic politics, concern with poli- cies that might produce full employment (which some believed that they might obtain at the expense of other countries); but, in the international sphere, a renewed interest in international cooperation. In economic thought, a major consequence of the depression was the formulation of a theory showing how economies could reach equilibrium at levels of production well below that of full employment. The practical consequence of such theory was a call for government action to create higher levels of consumption and investment, and thus stimulate demand and employment. This in brief was the theory and the demand associated with the work of John Maynard Keynes in the 1930s and most eloquently laid out in his 1936 book, The General Theory of Employment, Interest and Money. There were parallel and even earlier recastings of economic theory along similar lines in other countries, in the work of Knut Wicksell and his disciples in Sweden, in that of Michat Kalecki in Poland, or that of Alvin Hansen in the United States, but the general change in outlook is usually described as the Keynesian revolution. The implementation of this program required a political reorientation and, in particular, a greater involvement of the state in economic life. Probably the most successful and lasting combination of a democratic version of new politics and new economics was in the Scandinavian countries. Expansionary budgetary policies, combined with income redistribution and growth
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