148. Volcker Group Paper1
POSITION PAPER ON LIMITED EXCHANGE FLEXIBILITY
(For meeting of Group of Ten and IMF Annual Meeting)
- Decisions are needed on three questions: [Page 410]
- Underlying all three of these questions is a basic decision as to whether the United States is pushing hard for some positive action in the form of an Amendment (or possibly a formal IMF decision) in 1971, or whether it is prepared to accept no formal action in 1971 and to rest for the time being on the existing IMF Report, with or without some relatively low-key additional studies or discussion in the IMF and/or the Deputies.
- All of these questions are related to our underlying objective with respect to exchange flexibility as part of the continuing process of improving the functioning of the international monetary and exchange system. This has two aspects—(a) strengthening the process of balance of payments adjustment by facilitating the ready use of exchange rate changes in appropriate circumstances, and (b) enabling the major countries to cope more effectively with mobile capital movements and exchange speculation, through somewhat wider margins and other changes to facilitate more timely parity changes when necessary. These broad objectives should be as important to other countries as to the United States.
- In recent years exchange rate policy has played a difficult and frequently disturbing role in the process of balance of payments adjustment. There has been a growing feeling among economists and some officials that more prompt adjustment of exchange rates might have been helpful, if the rigidity resulting from publicized political commitments and Cabinet decisions could have been tempered by the techniques of wider margins, or small adjustments, or transitional floats. Such limited decisions might, for example, be made by monetary [Page 411]authorities rather than dramatically announced by heads of state. There has, however, been as yet only limited official acceptance of the arguments put forward by private economists for this point of view. The Fund report is a first and useful step in giving formal official consideration to these possibilities.
- The second aspect is related to the first, but is less dependent upon the element of prompt action. Here it is argued that the techniques of limited exchange flexibility, and especially wider margins and/or other techniques for changing parities can be technically helpful in inhibiting disequilibrating movements of relatively liquid funds, and in decreasing speculation by increasing the risks associated with it.
- The United States would not look to the techniques envisaged in the Fund report as an active tool for improving its basic balance of payments position. To the extent that a bias toward devaluation has existed, these techniques may be useful in reducing this bias, and hence would tend to be a favorable factor in our longer-term need to adjust our balance of payments position. However, looked upon as an active means of correcting our own position and a substitute for other action, these techniques would have serious offsetting disadvantages to the United States. Specifically, repeated use of these techniques among other important industrialized countries in the direction of appreciation against the dollar could easily create a strong presumption of further changes adverse to the dollar, eroding the dollar as a vehicle and reserve currency, sharply curtailing our financing flexibility in a monetary regime in which large financing capability would still be required, and possibly fomenting renewed speculation in gold. Consequently, our approach must stand on more general considerations than on any presumption that these techniques—or any series of revaluations—provide an acceptable means for escaping balance of payments constraints. [In presenting the U.S. position, U.S. officials should counteract any impression that these small changes are being encouraged by the United States as a substitute for corrective measures on our part.]5
- The appropriate posture for the United States is to continue to seek the objective of a more receptive international attitude toward the use of the techniques of limited exchange flexibility. However, because of the still substantial resistance to limited exchange flexibility in most developing and developed countries, conscious of the efforts to interpret the U.S. position as a desire to avoid other balance of payments constraints, the United States pursuit of this objective would best be carried on persistently but in a low key. Such an approach also carries with it the advantage of minimizing bargaining tactics by the French and the [Page 412]developing countries, which would otherwise be placed in the position of being able to demand substantial rewards in other areas for not exercising a “veto” power.
Elements of An Aggressive Approach
- An aggressive drive for action in 1971 could ideally follow a
sequence along the following lines:
- The EC countries would be told that they should try to agree on a position favoring an Amendment, prior to September 18 (which is regarded as very unlikely in any case, because of resistance from France and Belgium).
- An appropriate instruction to the Deputies in the Communique of the Group of Ten at Brussels, directing them to work toward an Amendment in 1971. The French, Belgians and Japanese (?) might reserve on this paragraph.
- Positive references to an Amendment in G-10 Governors’ speeches at Copenhagen.
- A negotiated report by the Deputies supporting an Amendment. Here the question could be what concessions would persuade the French, Belgians, and possibly other unenthusiastic members to acquiesce in a positive report.
- Further negotiations with the developing countries, which would be likely to press for an Amendment establishing an SDR link and possibly other concessions.
- The listing of these points makes rather clear that a successful push for an Amendment would be a very difficult bargaining process.
Elements of a Low-Key Approach
- A low-key approach in 1971 is more difficult to chart in its
specifics. Perhaps the main question is whether or not to give the
subject the mild emphasis of a technical report of some kind by the
Deputies. If this were to be done, the following would be the steps
in a low-key approach:
- Ossola, Chairman of the G-10 Deputies, would be advised that it is not necessary to push hard for an agreed EC view on an Amendment by urging German and Italian concessions to the French “monetary” view of European unity, as he has been doing up to now.
- The Group of Ten Ministers in their Brussels Communique would note the importance of and welcome the IMF report and ask their Deputies to keep the subject under review, in particular appraising on the basis of experience the possible future need for amendment. The Deputies might also analyze the advantages and disadvantages of the three techniques in restraining disequilibrating capital movements, and their effects on the degree of independence possible in national monetary policies among the Group of Ten countries without offsetting capital movements.
- The U.S. would welcome the positive aspects of the Fund report and note flexibility within present Articles. References to the subject in [Page 413]Ministers’ speeches at Copenhagen should avoid staking out hard positions.
- The report of the Deputies could be a divided report, with no strong effort to reach a consensus, but with the hope that further exposure to the subject would lead to more receptive and less dogmatic attitudes.
Principal General Arguments for an Aggressive
- There is danger that momentum will be lost and public and official attitudes toward exchange flexibility will retrogress, in the absence of U.S. pressure for an Amendment to focus discussion and marshall public support.
- Wider margins are useful in themselves to help deal with capital movements and permit more independence in national interest rates; as well as facilitating moving parities; wider margins require an Amendment.
- If it is subsequently forced by pressures on our gold stock to take abrupt action, the U.S. can point to its efforts to develop a cooperative system of limited flexibility.
- At least one other amendment seems desirable, such as one permitting use of SDRs in lieu of gold at the time of the next IMF quota increase, so the “flexibility” amendment need not be presented to governments “naked.”
- Even if an amendment does not prove feasible, overt and strong U.S. pressure might help move world attitudes toward receptivity to exchange adjustments in appropriate situations and encourage officials to use exchange rates more promptly to correct imbalances.
Arguments for “Low-Key” Approach
- The only support for an amendment now comes from some quarters in Germany and Italy, and an aggressive push would be resented and would entail bargaining in other areas (e.g., SDR link, Fund voting, and Common Market exchange rate and reserve management policies) that could be against our interests. Most specifically—almost certainly—an amendment “bargain” would rule out unilateral action by an individual EC country, and that group (as expanded) has the only important candidates at present.
- The Fund report and recent exchange actions already signalize substantive changes in attitudes. Thus, much of our objective can potentially be achieved by a case-by-case approach over time. In a struggle over a specific amendment, the progress made toward a more fluid interpretation of a fundamental disequilibrium could be reversed, and tight interpretation of a limited amendment could produce retrogression rather than advance in world practices toward exchange flexibility.
- Immediate action on limited rate flexibility is not worth the risk of failure of a major U.S. effort; failure would set back chances of practical application within present Articles and public failure could strengthen protectionist sentiments at home.
- An aggressive U.S. approach creates strong suspicion abroad as to our motives and the value of the dollar, leading to counter pressure [Page 414]for an overt depreciation of the dollar in terms of gold and exchange market instability.
- U.S. pressure for an amendment enables the French to exact concessions from the Germans and Italians in the EC negotiations for European unity.
- An aggressive U.S. push opens the way to strong and premature pressure for the SDR link by the developing countries as a bargaining tactic and other undesirable amendments such as changes in voting rights in the IMF.
The Special Factor of the Effects on European Monetary Unification
- One strand of thought in Europe is typified by Mr. Ossola, Chairman of the Deputies. This is a proposal for a common EC position on limited exchange flexibility. It is designed to get agreement of the French and Belgians to support an IMF Amendment permitting all three types of limited exchange flexibility, by bartering in return a commitment within the EC to use not only wider margins but also moving parities and transitional floats only when the EC countries move together as a unit, with decisions to move taken by some as yet unspecified procedure within the Six. This approach may well prove unacceptable to the French and Belgians, who, for example, could bargain to restrict the Amendment to cover only wider margins.
- To some extent, the motivation for pushing rapidly toward an EC position may be related to the degree of pressure the U.S. exerts for an Amendment. It can be argued that the price being offered to the French is rather high. It appears to embody commitments among the Six going well beyond the present commitment not to use wider margins within the Six. That is, the ability of an EC country acting alone to use a moving parity or a transitional float would apparently be given up right now, instead of some years hence.
- The proposal also would include a move toward the establishment of narrower margins among the EC currencies than those applicable to the dollar. This would enforce some adjustment of individual dollar intervention points to conform to EC limits, and open the way to an EPU type of EC credit system, concerted intervention, and not far off, common reserve management policies. The French apparently consider that this would help to dethrone the dollar both as a reserve and vehicular currency. This suggests that the U.S. needs to determine whether it is in its interest to expedite this process, recognizing that this will probably be the course of evolution over time within the EC countries.
- The United States regards the Report of the Fund as fairly
representing the prevailing state of opinion—which has moved forward
by quite considerable steps: [Page 415]
- It recognizes that there is a place in the monetary system for very limited changes in parities. Smaller and more frequent changes in parity can be approved by the Fund.
- It recognizes that the transitional float has been useful in some circumstances.
- Members do not need to wait for crises to adjust exchange rates. The concept of fundamental disequilibrium is broad enough to allow members to anticipate maladjustment.
- The Fund report indicates that there is a good deal of leeway under the present Articles, except for the widening of margins. As for the other two techniques, questions remain as to the adequacy of the present scope, and these questions will need to be looked into over time to determine whether the scope now available is broad enough under today’s conditions. The United States is prepared to suspend judgment now on the need for amendment, until experience can answer these questions. Fund procedures can presumably be adapted so as to give more encouragement than in the past to countries proposing to make small and frequent changes in their parities, or to adopt a transitional float under appropriate safeguards.
- The United States would suggest that the Ministers of the Group of
Ten, in their Communique:
- Take note of and welcome the important contribution of the IMF report to the objective of a more smoothly functioning international monetary system.
- Request their Deputies to keep the subject under review (or at least welcome such a review by the ED’s), in particular appraising on the basis of experience the possible future need for Amendment. The Deputies might also analyze the advantages and disadvantages of the three techniques in restraining disequilibrating capital movements, and their effects on the degree of independence with which national monetary policies can be pursued without offsetting capital movements. The Deputies should keep the Ministers and Governors informed of their collective views on these matters during the ensuing year.
- The United States would urge the Fund to present a supplementary progress report in 1971.
- Source: Washington National Records Center, Department of the Treasury, Volcker Group Masters: FRC 56 86 30, 1970, VG/LIM/70-1-VG/LIM/70. Confidential. Circulated to members of the Volcker Group under cover of a September 14 note from George Willis that indicated a shortened version of the paper was contemplated for use by the delegations in Brussels (G-10 Ministerial) and Copenhagen (IMF Annual Meeting). No shortened version was found. On August 7 Willis had circulated to members of the Group (VG/LIM/70-21) papers by Bergsten and Wonnacott advocating, respectively, the aggressive and low key approaches. (Ibid.) On August 28 Volcker had sent a copy of the Position Paper, dated August 26, to Secretary Kennedy for his approval, under cover of an August 28 memorandum indicating it had been thoroughly discussed in the Group where there was general agreement on the low key approach. (Ibid.) Volcker also told Kennedy he was sending copies to all members of the Group for concurrence, and did so on August 31. (Ibid.) There are no significant differences between the August 26 and the September 10 versions of the paper.↩
- Reference is to an Amendment of the IMF Articles of Agreement. Several papers circulated to the Volcker Group Working Group examined whether or not amendment of the Articles of Agreement would be legally required to permit greater, limited exchange rate flexibility.↩
- The G-10 Ministers were to meet in Brussels on September 19; see Document 149.↩
- “The Role of Exchange Rates in the Adjustment of International Payments: A Report by the Executive Directors” was circulated by Willis to members of the Volcker Group and the Working Group as VG/WG/70-90 on September 2. (Ibid., VG/WG/70-82-VG/WG/70-) Willis noted that the IMF report was for release September 13 at 6 p.m. Washington time. Several earlier drafts of the IMF report, along with commentaries on the drafts, are ibid. See Department of State Bulletin, October 12, 1970, pp. 431-435, for Secretary Kennedy’s September 22 statement during the September 21-25 IMF Annual Meeting in Copenhagen.↩
- Brackets in the source text.↩