Foreign Relations of the United States, 1969–1976, Volume XXXI, Foreign Economic Policy, 1973–1976

107. Telegram From the Embassy in France to the Department of State¹

Paris, October 12, 1975, 1735Z.

26522. For Secretaries Kissinger and Simon from Ambassador. Subject: Yeo’s Report on His Talks with French.

1. Our meetings with de Larosiere (two hours in the a.m.) and Clappier² (2 hours in the p.m.) were very cordial. In general we made the following points: exchange rate instability had been somewhat exaggerated, in the sense that cases of extreme instability were confined to the U.S. dollar and several of the key snake countries plus the Swiss franc.

2. The basic impetus for “instability” came from the inflationary environment. We described the impact on real economies e.g. a boom characterized by speculation in commodities, inventories, and real estate and then subsequent recession and, not surprisingly, the sharpest in post World War II history. Not only were these real factors working to produce rate instability but as inflation and recession affected different countries with various degrees of intensity and timing the variability of rates was increased.

3. In our explanation of the sources of exchange rate instability we cited a second major factor, capital flows. We explained that one legacy of ten years of inflation was build-up in short term assets. This resulted from the necessity to finance inflation expansion with short term financing, the longer term markets being quite limited. This tendency has been reinforced by the process of financing oil deficits. The resultant enormous build-up in short term assets has produced the raw materials for large and swift “capital flows.”

4. During the last six years the balance of power has shifted against officials. The build-up in the volume of funds handled in the private market, the incredibly large amounts that private sources can muster in moving from one currency to another, mean that officials’ ability to influence rates is extremely limited.

5. In our view this will only change when expectations of price stability have revived sufficiently to permit the funding out of the short term finance associated with the last ten years. In effect, one prerequisite to exchange rate stability will have to be a refunding of the financing of the late 60’s and the 70’s to date.

6. I explained that we were very interested in increased stability in exchange rates and financial markets in general. Our analysis of the sources of instability leads us to conclude that the key to reduced variability is effective country-by-country stabilization policies and that we felt that there could be more effective consultations in this area.

7. De Larosiere seemed somewhat surprised and quite interested in our opening statement. He agreed with the analysis and described their own views as to the effects of rate variability on the allocation of resources in the French economy and the cost of hedging and thus the flow of trade.

8. He went on to say that they felt something should be done about the extreme rate fluctuations. After some probing, “extreme rate fluctuations” appeared to be viewed as the last excesses of a “trend end.” We agreed that because of the change in balance of power nothing could or should be done in terms of effecting changes in basic market moves, or trends. Nor should anything be done in resetting rate relationships, e.g. the lowering of the snake relative to the dollar.

9. From what was actually said, the French view of intervention for stabilization would be only two to three shades different from our own criteria of intervention for the purpose of assuring the orderly functioning of markets. We sense that there could be a difference between what is said and what is meant. The market has administered a lesson in foreign exchange to the French. During most of August and well into September the dollar’s firming was facilitated and added to by large French operations in which dollars were purchased. This aggressive intervention added to the euphoria that enveloped traders and the dollar and helped set the stage for the very sharp downward adjustment that has characterized the last two weeks as the bear trap closed, aided by a slight relaxation in U.S. monetary policy.

10. We believe that they feel that efforts to intervene would be more successful and by a material margin, if we were intervening on a cooperative basis.

11. That is what they want, a willingness on our part to coordinate and cooperate on intervention policy and moves. They either feel that this will be successful or that its failure will set the stage for enlarged intervention efforts. In addition, they want a general commitment that the direction of our efforts ought to lead toward stability, that one of our principal objectives ought to be stability. Their third objective seems to be to implant within the IMF a mechanism for monitoring, or IMF surveillance, over the efforts of countries to move in the direction of stability in rates.

12. In return we sense that we can obtain a rather narrow description of the circumstances and objectives of intervention (much narrower than their own objectives). In addition, we ought to be able to settle the theology of the exchange rate question in a manner acceptable to us. We ought to be able to attach to any statement regarding financial stability language reflecting our own interpretation of the sources of instability. Finally, it is possible, though we have not had a thorough exploration of the subject, that we can avoid a narrow monitoring of intervention practices by the IMF and instead broaden the monitoring to include moves taken to deal with underlying causes of instability and place this within the context of the Interim Committee.

13. Our sense is that they would very much like to move toward agreement before the summit. At the end of our conversation de Larosiere asked if we could return for a second visit within the context of the current trip. Without reshuffling scheduled visits, our trip could be extended by one day, Friday,³ which time could be spent with de Larosiere.

14. Other matters mentioned to the French: 1) we planned to make no mention of any “progress” made in our discussions to other interested parties. 2) We intended to continue our direct approach, dealing directly with the French and not using third parties, e.g. the Germans.

15. We recommend that we extend for one day. The risk is that the general good feeling could be disrupted by attempts to move in the direction of concrete agreement. The advantage is that the desire to avoid the risk will facilitate substantive progress in the direction of agreement.

16. If we extend for one day, we would try to achieve something tangible in the following areas: 1) Statement of objectives of intervention and conditions under which cooperative efforts might occur. Our view is that anything other than very moderate efforts to facilitate the orderly functioning of markets is futile. The French say that they agree. 2) Outline of language that would settle the exchange rate question in terms of IMF Articles. 3) Agreement on linking present rate variability with underlying factors and describing the objective as not limited to the achievement of stability per se but also including a system in which the exchange of goods and service and the flow of capital are facilitated. 4) Discussions on some improvement in the existing mechanisms for dealing with the underlying causes of instability. 5) Related to point 4, a coupling of the broader causes of instability with the narrower specific efforts to deal with it, including efforts to facilitate orderly markets.⁴

17. While our initial conversation appeared to go well, it is important to move from generalization to specifics.

Rush

1. Source: National Archives, RG 59, Central Foreign Policy Files. Secret; Cherokee; Nodis.
2. Bernard Clappier was the Governor of the Bank of France.
3. October 7.
4. Yeo appears to have returned to Paris for further talks with French officials. Telegram 26900 from Paris, October 16, transmitted a proposed memorandum of understanding on exchange rates that was to be proffered at a meeting with de Larosière the next day. (National Archives, RG 59, Central Foreign Policy Files)