Townhall
Finance...
Review: A
Short History of the
Greenback
by Mark Calabria
November 21, 2011
This
short, accessible book about the
U.S. dollar by Barry Eichengreen, an economics professor at the
University of
California, Berkeley, may be one of the most important published this
year.
Whether the dollar remains king will have a tremendous impact on
American
businesses, and some will lose, and others will gain. Just as
importantly, the
relative strength of the buck will help determine the fiscal options
available
to the U.S. government in the years ahead.
Most
of Exorbitant Privilege is spent
building a historical foundation for Eichengreen’s conclusions and
predictions
regarding the global status of the dollar. The author takes the reader
on a quick
tour of early American monetary history, from the use of commodity
monies, such
as wampum or tobacco, to the growing use of coins and paper money,
whether in
the form of “continentals” during the American Revolution or Spanish
silver
pesos, the most important global currency from about 1550 to 1850. This
history
serves to remind us that the dominance of the dollar even in the U.S.
was a
relatively recent affair.
We
witness the birth of dollar
dominance with the creation of the first and second Bank of the United
States,
and then with the founding of the Federal Reserve System in 1913. The
link
between the rise of the dollar and the Fed’s creation of a New
York-based
market in trade acceptances to rival London’s is one of the book’s most
important insights. If China is determined to dethrone the dollar,
Eichengreen’s analysis of how the greenback overpowered the pound comes
close
to providing a how-to.
History
reminds us that the pound
sterling did not go down without a fight. The final struggle began in
July
1944, in Bretton Woods, N.H., at the international conference held to
establish
a new monetary order. The initial design of Bretton Woods was
relatively
neutral regarding currencies, due to the efforts of Britain’s chief
negotiator,
economist John Maynard Keynes, who held out hope for a revival of the
pound.
But the Bretton Woods process quickly morphed into a dollar-backed
reserve
system.
Keynes’
hope for the pound did not
truly die until well after his own death, when the 1956 Suez Crisis
finally exposed
the hollow foundation underlying both the British economy and its
political
influence. The history of Britain’s extended overseas engagements and
the
related demise of the pound as a dominant currency should serve as a
warning to
the U.S.
Central
to Eichengreen’s analysis is
what became known as the “Triffin Dilemma,” named after economist
Robert
Triffin, who warned in 1947 that a system in which the U.S. promised to
provide
two reserve assets—dollars that were then convertible into gold at a
fixed exchange
rate—would be doomed as long as the supply of one of these (dollars)
was
elastic, while the other (gold) was not. For global trade to flourish,
the U.S.
would be obligated to provide an almost unlimited amount of dollars.
Yet that
would be inconsistent with dollar convertibility into a fixed price of
gold, a
contradiction that led to President Nixon’s abandonment in 1971 of the
dollar-gold link.
In
one of the book’s few weak spots,
the author repeats the flawed conventional wisdom about deregulation
and
derivatives causing the 2008 financial crisis. But he does explain how
global
capital flows increased liquidity in the U.S. and reduced interest
rates,
contributing to the housing bubble.
The
history lesson eventually brings
us to the current state of the dollar and its future path. Since the
benefits
of being the world’s primary reserve currency are vast but also nearly
invisible to the non-economist, the analysis of these benefits, and
their
potential to be lost, relates the discussion back to the everyday
decisions of
businesses, households and governments. When the dollar is eventually
forced to
take a lesser role in world affairs, international demand for the
dollar will
decline, pushing up interest rates and reducing American living
standards, particularly
America’s ability to consume beyond its means.
That
holds doubly true for America’s
government. As Eichengreen argues, the dollar is likely to fall in
prominence,
but the extent of that fall, and whether it is simply to become an
equal with the
euro and the Chinese renminbi, is open to question. Much depends on
budgetary
policy. The longer we delay getting our fiscal house in order, the
greater the
dollar’s decline.
Read
this and other columns at
Townhall Finance
|