One option that is not included in the paper, but which should be for
various reasons, is how to deal with thwarting the Europeans if they
were to go ahead without us in a way which we felt was inimical to our
interests.
Attachment3
GOLD AND THE MONETARY SYSTEM:POTENTIAL U.S.–EC CONFLICT
Summary
The Foreign Policy Context
Within the next few months the long-standing U.S.-European dispute on
the role of gold will probably be propelled from the back room [Page 221] to the main stage of our
relationship. The stakes in this dispute are high, involving the
long-run stability of the international monetary system and
prospects for increased dissension within Europe and between Europe
and the U.S.
The Problem
U.S. objectives for the world monetary system—a durable, stable
system, with the SDR as a strong
reserve asset at its center—are incompatible with a continued
important role for gold as a reserve asset. These objectives are in
apparent conflict with the EC desire
to facilitate the use of gold in international transactions. There
is a belief among certain Europeans that a higher price of gold for
settlement purposes would facilitate financing of oil imports,
although the argument depends on assumptions regarding producers’
attitude towards gold as an asset which may not be valid. Adamant
U.S. insistence on maintaining the present fixed official price is
likely to create international conflict with the EC, and may also lead to unilateral
EC arrangements which would
defeat our aims for the system.
The Conclusion
The U.S. objectives are important, and should not be given up, but
they may be achievable without rigid adherence to the present fixed
official gold price. Compromise proposals exist which would make
adequate progress towards our objectives for the system while
meeting principal EC needs. Since the
EC is likely to set forth its
proposals before the
C–20
winds up its existence this summer, a U.S. position will be
needed within the next several months. Tactically, it may also be
preferable to discuss possible compromise proposals with one or more
EC members before we are
confronted with an EC position.
Pressures are building within the EC
for settlement of intra-EC balances
with gold valued at the market price (or some other price
substantially higher than the current official price of $42.20 per
troy ounce). Unilateral EC action in
this direction would run directly counter to the stated United
States position on international gold policy. The EC reportedly will try to avoid a direct
conflict through pressing for rapid resolution of the problem within
the framework of the multilateral monetary reform negotiations.
Therefore, the U.S. position needs to be re-examined in light of
present circumstances. This memorandum examines the foundations of
this potential U.S.–EC conflict on
the gold question, and considers which negotiating positions among
various options would best serve U.S. interests.
Gold in the International Monetary System—The
Issues
Agreement has been reached in the
C–20
monetary reform negotiations that the
SDR should take the place once
held by gold at the center of [Page 222] the world monetary system. However,
there is still substantial disagreement on
what the exact future role of gold should be—whether it eventually
ought to be phased out of the system (the
U.S. view) or retain an important function as
a reserve asset and means of international settlement (the position
of some European countries).
U.S. interests in this question are in the
establishment of stable, durable world monetary system, based on a
strong SDR, which would avoid future
monetary crises and conflict, such as those that have plagued the
Bretton Woods system in recent years. In our view
a system which included gold as a major reserve asset alongside
SDRs would be inherently
unstable, just as bimetallism was in the U.S.
This inherent instability stems from the fact that gold is traded as
a commodity on a private market at a variable price subject to the
vagaries of world production (largely Soviet and South African) and
sales, and of demands by hoarders and speculators. With a
fluctuating, and generally rising, free market for gold, a
permanently fixed official price is simply not credible, and becomes
less so as the gap between private and official prices widens. If,
however, the price at which official transactions in gold are made
were to be periodically adjusted to the market price, then an
unstable situation would rise as between gold and SDRs.
At the present time, the value of the SDR is fixed in terms of gold. However, it has been
generally agreed in the
C–20
that the new SDR should not
be related to gold, but rather to a basket of currencies. In this
case, a changing price at which official gold transactions take
place would create capital gains (or losses) for gold holders as
compared to SDR holders, stimulate
speculative central bank demand for gold, and weaken the SDR.4
It is the U.S. concern that any substantial
increase now in the price at which official gold
transactions are made would strengthen the
position of gold in the system, and cripple the SDR. If international
liquidity were injected via gold, there would be little likelihood
of new SDR allocations.5 There also would be
reduced incentive to sell gold on the private market even after an
official price increase since central banks would cling to their
gold in expectation of further official gold price [Page 223] increases. In addition, too large an
increase in world liquidity might add to inflationary dangers.
Finally, the distribution of the increase in
world reserves would be highly inequitable,
with eight wealthy countries getting three-fourths, while the
developing countries would get less than 10 percent (see attached
table). Producing countries (the USSR and South Africa) would
benefit from the implicit floor put under the free-market gold
price.
To encourage and facilitate the eventual demonetization of gold, our
position is to keep the present gold price, maintain the present
Bretton Woods agreement ban against official gold purchases at above
the official price6 and
encourage the gradual disposition of monetary gold through sales in
the private market. An alternative route to demonetization could
involve a substitution of SDRs for
gold with the IMF, with the latter
selling the gold gradually on the private market, and allocating the
profits on such sales either to the original gold holders, or by
other agreement.
European views on the role of gold in the
world monetary system vary considerably. The British and Germans, on
one hand, generally agree in principle to the desirability of
phasing gold out of the system. On the other end of the spectrum,
the French have been the main proponents of a continued important
role for gold in the system.
Support for a continued role for gold in the system is based in large
part on the belief that “paper gold”—the SDR—does not command sufficient confidence and
acceptability to replace gold completely in the system. There is, in
fact, still a considerable emotional attachment to gold as a
monetary asset, and a basic distrust of bank or paper money not
having intrinsic value.
On the other hand, most European officials recognize the basic
problems involved in a combined SDR–gold reserve asset system. Belgian Finance Minister De
Clerq,7
for example, speaking at the IMF
annual meetings in September stated:
Any redefinition of the role of gold must be based on the principle
stated above: that SDR must become
the center of the system and that there can be no question of
introducing a new form of gold– paper and gold–metal bimetallism, in
which the SDR and gold would be in
competition.
Despite these differences among member
countries, the EC position has begun
to coalesce around their desire to free gold for use in settling [Page 224] intra-EC debts—a problem raised by the present
“immobilization” of gold which has resulted from the wide disparity
between the official and free market gold prices. Monetary
authorities have been unwilling to use their gold holdings to settle
official debts at a price far below the free market price. This has
been a problem particularly for the EC, whose rules under the
“snake” arrangement require that final settlement of debts arising
out of intervention to support intra-EC exchange rates must be made in reserve assets in
proportion to the composition of reserve holdings. (This
“immobility” is, of course, an example of the difficulties inherent
in a system in which gold retains a reserve currency role alongside
another reserve asset.)
To some extent, the immobility of gold reserves as a means of payment
is a result of self-imposed restraints. Countries are free to use
reserve currencies and SDRs to
settle debts. Moreover, countries are now free to obtain additional
currencies (and realize substantial capital gains) through sales of
gold to the private market. The EC
problem is a result of their particular rules for settlement, which
reflect the interest of creditor countries in receiving gold and
applying discipline to deficit countries. It is also a result of
their reluctance, so far, to sell gold on the private market. The
reasons for this reluctance are probably related to the unsettled
status of gold in the system, the basic attraction of gold, the
expectation of future price increases, and the “thinness” of the
private gold market.
Nor is it clear that European countries would give up gold even after
a price increase, since one increase may lead to an expectation of
further increases. Even under the Bretton Woods system, the
Europeans did not often give up gold to settle deficits.
The “immobility” problem is of particular concern
to the French and Italians, who have substantial
outstanding EC debts and especially
high proportions of their reserve assets in gold. Recently, with the
private price continuing to rise, and final decisions on monetary
reform apparently further off than previously thought, other EC countries are coming around to the
French-Italian view that this problem must be resolved. However, the Germans and British, in particular, are
concerned that the solution be accomplished in a
way which would not antagonize the United States. They wish
to settle this issue in the
C–20
multilateral context, if possible. Failing agreement there,
the EC might feel free to
unilaterally make some regional arrangement.
Various European proposals have been made to
deal with the gold issue. The basic French proposal in the
C–20
was simply to increase the official price of gold although
this may have been made with tongue in cheek and received no support
other than from South Africa. Other European proposals, and the
stated French fallback position, have been variations on the idea
that the official price of gold be abolished,
leaving [Page 225] the SDR as the sole numeraire of the
system, and that monetary authorities be free to deal at a
negotiated price, or at a price related (perhaps at a discount) to
the private market price. In the version reportedly recently
proposed to the EC by the UK, such an
arrangement would be combined with coordinated central bank sales to
the private market. Another possibility reportedly being considered
is to have the Italians, who have the greatest need, sell gold on
the private market by themselves to avoid unduly depressing the
market. The French version of this proposal would allow central
banks either to buy or sell gold on the private
market (obviously in order to avoid depressing the private
market and to keep or augment the role of gold in the system).
In lieu of a general agreement permitting official transactions in
gold at a price higher than the official price, some EC countries have proposed special
arrangements to deal only with the intra-EC problem. Such proposals have heretofore been shelved
by a combination of technical problems, and an unwillingness to take
unilateral action of doubtful legality and offensive to the United
States. Most recently, the EC
Commission has proposed a system which would in effect set a higher
provisional price, to be corrected when agreement is reached on a
new price for gold.
Both the European
C–20
proposal and the intra-EC
proposals would fall short of a generalized increase in the official
price of gold. However, each would amount to a generalized de facto,
if not de jure,8 official price increase, and strengthen the
role of gold in the system. A system of sales, but no purchases, to
the private market would mitigate this tendency.
The recent oil price increases have added a new
dimension to the gold issue, and in the view of some
European officials, relegated the intra-EC problem to a secondary position. Although
mobilization of gold for intra-EC
settlement would help in the financing of imbalances among EC countries, it would not, of itself,
provide resources for the financing of the anticipated deficit with
the oil producers. For this purpose, it would be useful if the oil
producers would invest some of their excess revenues in gold
purchases from deficit EC countries
at close to a market price. This would be an attractive proposal for
European countries, and for the U.S., in that it would not involve
future interest burdens and would avoid immediate problems arising
from increased Arab ownership of European and American industry.
(The Arabs could both sell the gold and use the proceeds for direct
investment, so that the industry [Page 226] ownership problem would not be completely
solved.) From the Arab point of view such an asset would have the
advantages of being protected from exchange-rate changes and
inflation, and subject to absolute national control. Some European
officials are thinking in terms of clearing the way for such
transactions (which would now be forbidden by IMF rules). It has
been argued that Arabs would only be interested in buying gold
at near the market price if they could obtain assurances of some
sort of floor price. We have received word that such a
proposal is being floated within the German Government.
From the standpoint of international liquidity needs, a reasonable
case can now be made for a generalized gold price increase, since
the probable payments patterns stemming from the higher oil prices
(overall deficits for Europe and Japan) may lead to a reduction in
world reserve liquidity. However, from the U.S. viewpoint (as well
as many countries without large gold holdings) substantial new
SDR allocations would be
preferable when new liquidity creation is needed.
Options for U.S. Negotiating Policy on Gold
Since the U.S. is likely to be presented with pressure to acquiesce
in some arrangements to meet the European objectives sketched out
above, it is important that we reconsider what our own negotiating
posture should be.
At either end of the spectrum of possible
negotiating positions are the following:
-
Option 1: Continue adamant opposition
to any proposal involving an increase in price at which
monetary authorities carry out transactions in gold. Advantages: If successful, we will
keep gold from regaining strength as an international
reserve asset, maintain the strength of the SDR, and probably eventually
obtain the demonetization of gold and a more rational,
stable international monetary system. Disadvantages: The EC may then go ahead with its own arrangements
which would amount to a virtual de facto increase in the
official gold price, with undesirable effects on the world
monetary system and lead to increased U.S.–EC conflict and
bitterness.
-
Option 2: Acquiesce in a
European-type plan involving abolition of the official
price, permitting settlement of official balances at a
negotiated price, with a “sales only” rule for
transactions in the private market. Advantages: This would be somewhat preferable
to a plan involving an outright increase in the official
price, and would maintain an avenue for demonetization
through one-way sales to the private market. The SDR would become the sole
numeraire of the system. In the short run, tensions with
Europe over monetary issues would be reduced. The
increase in de facto liquidity might be helpful in
present circumstances, and gold sales to the Arabs might
help finance western [Page 227] balance of payments deficits. Disadvantages: This has most of
the disadvantages discussed above of (and may in fact
lead to) an outright increase in the official price of
gold. We may thereby lose the opportunity to build a
stable and rational world monetary system, with adverse
long-term consequences involving monetary instability
and conflict.
The disadvantages to each of these options are such that
a search for additional options is justified. Intermediate options do exist
which have the potential of meeting EC objectives of mobilizing
gold in the short run, while maintaining the desirable
trend towards gold demonetization.
-
Option 3: Complete short-term
demonetization of gold through an IMF substitution facility.
Countries could give up their gold holdings to the
IMF in exchange for
SDRs. The gold could
then be sold gradually, over time, by the IMF to the private market.
Profits from the gold sales could be distributed in part
to the original holders of the gold, allowing them to
realize at least part of the capital gains, while part
of the profits could be utilized for other purposes,
such as aid to LDCs. Advantages:
This would achieve our goal of demonetization and
relieve the problem of gold immobility, since the SDRs received in exchange
could be used for settlement with no fear of foregoing
capital gains.9
Disadvantages: This might be a
more rapid demonetization than several countries would
accept. There would be no benefit from the viewpoint of
financing oil imports with gold sales to Arabs (although
it is not necessarily incompatible with such an
arrangement).
The only important disadvantage of
option 3 would be its likely unacceptability to
countries who would prefer to cling to gold for
traditional reasons. But it would show our sensitivity
to the immobility problem, and be a good initial
bargaining position. We might, in the end, have to fall
back on a fourth option:
-
Option 4: Accept a European-type
arrangement in which the official gold price was abolished,
and official transactions at a market-related price were
permitted, but with agreement that a
certain portion of gold be given up to an IMF substitution
facility, and that gradual further substitution of
SDRs for gold would take
place over a longer period of time. (One possible rule among
many could be that countries should keep the nominal value
of their gold holdings fixed at present levels with any
increases in value coming from price increases offset by
substitutions. Another variant on this proposal would have
countries agree [Page 228] to
pre-determined, gradual direct sales to the private market.
Again, profits could be shared between gold holders and
others. Advantages: This would
provide adequate momentum towards gold demonetization while
providing relief to gold immobility problems. It seems
somewhat more compatible with gold sales to the Arabs, if
this is desirable. It may be negotiable. Disadvantages: It is somewhat less desirable for
the medium-term workings of the system than option 3.
Conclusions
The U.S. objectives in reducing the role of gold in the world
monetary system are worthwhile, but they may be achievable without
insisting on adherence to the present fixed official price of gold.
Moreover, such a stand might unnecessarily create international
friction. Compromise proposals exist which have good prospects for
achieving our objectives for the system while meeting the principal
EC requirements. We should be
prepared to use these compromises in the near future.
Tactics
Negotiation in a broader IMF forum is
likely to be a very divisive and contentious process unless based on
a prior U.S.-European understanding. The Europeans, however, are not
united, although working on a common substantive position. We could
wait for this position to develop further or proceed now with
bilateral contacts with one or more EC members. Our waiting to be confronted with the
EC position puts the French in a
strong position through their veto over any departure from the
agreed EC line. The gold issue would
be an appropriate one to pursue in bilateral contacts with the
Germans and British, both of whom could probably agree to options
involving more modest flex in our traditional position than the
French or Italians want. But there is, of course, no guarantee that
the British and/or Germans could carry the resulting compromise in
Brussels. Nevertheless, working out a compromise with some of the
major Europeans could reduce the prospects for a U.S.–EC standoff, while leaving a substantial
intra-EC disagreement to be
bridged by the Europeans.