America’s ‘Exorbitant’ Privilege Will Continue

Richard (Rick) Mills
Ahead of the Herd

Page 1 of 3

As a general rule, the most successful man in life is the man who has the best information

In July 1944, delegates from 44 nations met at Bretton Woods, New Hampshire – the United Nations Monetary and Financial Conference – and agreed to “peg” their currencies to the U.S. dollar, the only currency strong enough to meet the rising demands for international currency transactions.

Member nations were required to establish a parity of their national currencies in terms of the US dollar, the “peg”, and to maintain exchange rates within plus or minus one percent of parity, the “band.”

What made the dollar so attractive to use as an international currency was each US dollar was based on 1/35th of an ounce of gold, and the gold was to held in the US Treasury. The value of gold being fixed by law at 35 US dollars an ounce made the value of each dollar very stable.

The US dollar, at the time, was considered better then gold for many reasons:

• The strength of the U.S. economy
• The fixed relationship of the dollar to gold at $35 an ounce
• The commitment of the U.S. government to convert dollars into gold at that price
• The dollar earned interest
• The dollar was more flexible than gold

There’s a lesson not learned that reverberates throughout monetary history; when government, any government, comes under financial pressure they cannot resist printing money and debasing their currency to pay for debts.

Lets fast forward a few years…

The Vietnam War was going to cost the US $500 Billion. The stark reality was the US simply could not print enough money to cover its war costs, it’s gold reserve had only $30 billion, most of its reserve was already backing existing US dollars, and the government refused to raise taxes.

In the 1960s President Lyndon B. Johnson’s administration declared war on poverty and put in place its Great Society programs:

• Head Start
• Job Corps
• Food stamps
• Medicaid
• Funded education
• Job training
• Direct food assistance
• Direct medical assistance

More than four million new recipients signed up for welfare.

During the Nixon administration welfare programs underwent major expansions. States were required to provide food stamps. Supplemental Security Income (SSI) consolidated aid for aged, blind, and disabled persons. The Earned Income Credit provided the working poor with direct cash assistance in the form of tax credits and welfare rolls kept growing

Bretton Woods collapsed in 1971 when Nixon severed (known as the Nixon Shock because the decision was made without consulting the other signatories of Bretton Woods, even his own State Department wasn’t consulted or forewarned) the link between the dollar and gold – the US dollar was now a fully floating fiat currency and the government had no problem printing more money. With gold finally demonetized the US Federal Reserve (Fed) and the world’s central banks were now free from having to defend their gold reserves and a fixed dollar price of gold.

The Fed could finally concentrate on achieving its mandate – full employment with stable prices – by employing targeted levels of inflation. The Fed’s  ‘Great Experiment’ had begun – the objective being a leveling out of the business cycle by keeping the economy in a state of permanent boom – gold’s “chains of fiscal discipline” had been removed.

But there was a problem – because of the massive printing of the US dollar to cover war and welfare reform costs Nixon worried about the strength of his country’s currency – how do you keep the U.S. dollar as the world’s reserve currency, how do you keep demand strong, if one you remove gold’s backing and two print it into oblivion?

Recognizing that the US, and the rest of the world, was going to need and use more oil, a lot more oil, and that Saudi Arabia wanted to sell the world’s largest economy (by far the US) more oil, Nixon and Saudi Arabia came to an agreement in 1973 whereby Saudi oil could only be purchased in US dollars.  In exchange for Saudi Arabia’s willingness to denominate their oil sales exclusively in U.S. dollars, the United States offered weapons and protection of their oil fields from neighboring nations.