It was a landmark solution to a perplexing and far-reaching problem—the stubborn strength of the American dollar. When officials from the top five industrial nations, the Group of Five (G5), met in a New York hotel suite last September, they all expressed concern that the dollar was not responding fast enough to Washington’s efforts to lower its value. The powerful greenback was creating a record U.S. trade deficit, fuelling American protectionist sentiments and forcing other nations to maintain crippling high interest rates. Then officials from the United States,
France, West Germany,
Japan and Great Britain instructed their central bankers to work together to force the dollar down. The strategy worked —perhaps too well.
In the past year the dollar has fallen an average of 30 per cent against the currencies of the United States’ major trading partners. Now U.S. Federal Reserve Board Chairman Paul Volcker says that the dollar could be dropping into “a danger zone.” And the current cycle of extreme currency swings has led officials in Canada, the United States and Europe to consider proposals to stabilize the value of their money—and better regulate the world economy.
On Feb. 4 U.S. President Ronald Reagan asked Treasury Secretary James Baker to explore the possibility of calling an international monetary conference to deal with erratic currencies. That message—in Reagan’s state of the union address—reflected further recognition by the United States that it could not ignore the effects of its domestic policies on the currencies and economies of its trading partners. Since then, senior U.S. officials have revealed that they are examining ways to co-ordinate international economic policies. That action coincides with re-
newed calls for economic co-ordination and currency stabilization in Europe and Canada.
Senior officials in Europe, the United States and Canada say that they do not foresee a return to the fixed exchange rates of the 1950s and 1960s, when wild currency fluctuations
were largely unknown. Instead, officials are looking for a more flexible method to moderate the swings by keeping the exchange rates within specified ranges of each other. They will also consider proposals to co-ordinate a variety of economic targets, such as the inflation rate, the rate of growth of the GNP and the balance of payments.
Those plans will be the focus of a series of high-level international economic meetings to be held this spring. Early next month the finance and external affairs ministers of 11 top industrial nations including Canada will meet in Washington to prepare for the regular spring meetings of the World Bank and the International Monetary Fund, to be held April 9 to 11. That will be followed by the annual ministerial meeting of the Organization of Economic Co-operation and Development (OECD) in Paris on April 17 and 18.
One of the most critical meetings will be the annual “big seven” summit in Tokyo from May 4 to 6, which brings together the leaders of France, West Germany, Japan, Italy, Canada, Britain and the United States for toplevel political and economic talks. “What you have now is a lack of co-
ordination of policies and a lack of acceptance by large nations of the international consequences of their domestic policies,” a senior Canadian fiscal policy official said. “Canada would be better off if there was greater co-operation among the large countries.”
Modern currency fluctuations—and their damaging effects—date from the breakdown of the Bretton Woods Agreement in the early 1970s. Under that 1944 accord, the United States agreed to guarantee the price of gold at $35 (U.S.) an ounce—and 43 other nations also agreed to fixed rates for their currencies. But throughout the late 1960s and early 1970s, the United States printed large amounts of greenbacks, in part to help finance the Vietnam War. As a result, the dollar swamped international currency markets, and as its supply increased, with-
out a corresponding rise in demand, its value diminished.
That led to a classic kind of inflation—larger numbers of weak dollars were needed to buy goods and services in the United States. And because other major currencies were linked to the dollar through gold prices, the values of all of them fell.
In June, 1970, Ottawa let the Canadian dollar float from its fixed rate of 92.5 (U.S.) cents to discourage an inflationary influx of foreign currencies. Then in 1971 President Richard Nixon abandoned the gold standard and allowed the American dollar to float. Other countries swiftly took similar action.
The present currency cycle dates from late 1979 when Volcker slowed the growth in the money supply and raised interest rates in an attempt to reduce inflation. High interest rates led to increased international demand for U.S. dollar-denominated investments, and the greenback appreciated steadily against other currencies. But as U.S. goods became more expensive abroad and foreign goods became cheaper in the United States, the U.S. trade deficit soared. Last year it reached an annual record $148.5 billion (U.S.), and the deficit in January set a monthly record of $16.46 billion (U.S.).
As a result, the Federal Reserve Board began in February, 1985, to lower interest rates and decrease the dollar’s value. And the treasury department convinced the other G5 nations to increase the downward pressure on the dollar last September. Last week, in the second stage of that G5 effort, the central banks of West Germany, the United States and Japan lowered their prime interest rate by a half-percentage point.
Volcker says that he favors a controlled fall because a rapid decline would increase the cost of imports too sharply, fuelling renewed inflation. But a slow decline has raised political difficulties. There is a lag of about 18 months to two years between the beginning of a currency decline and the realization of the benefits of the drop. As a result, the U.S. trade deficit is continuing even though the dollar has dropped significantly. And the trade figures have fuelled broadly supported demands in Congress for higher tariffs on import quotas.
The dollar decline has also had mixed results for America’s major trading partners. In Europe the combi-
nation of collapsing oil prices and a weak dollar has led to a two-per-cent decrease in the inflation rate. European Community experts estimate that the saving to the EC’s 12 member nations will be about $50 billion this year.
But EC officials express concern that the dollar has dropped too far, too fast. In fact, it has fallen 30 per cent in the past 14 months against EC currencies that maintain loosely fixed rates. But the United States purchases 10 per
cent of Europe’s exports, and the declining dollar could sharply curtail the overseas sales that helped Europe out of the recession. EC Commission President Jacques Delors said recently, “If the dollar’s slide accelerates, it could land Europe in the same serious trouble we experienced in 1978, bringing harmful distortions in trade patterns.” In Canada the American dollar’s slide has been more of an advantage— because the Canadian currency has declined against both the U.S. dollar and European currencies. The Canadian dollar rose with the greenback against European currencies during the early 1980s and did not begin to fall until the spring of 1985.
Canadian officials at the EC in Brussels say that sales of Canadian products such as news| print, fish, telecommunications equipment, I lumber and iron ore will é increase strongly with the falling dollar.The
Canadian dollar has
dropped 35 per cent against European currencies in the past 14 months. “Now Canada is competitive again in Europe,” a Canadian diplomat said. But Lloyd Atkinson, chief economist at the Bank of Montreal in Toronto, warned that a steep fall against those currencies, especially the U.S. dollar,
could raise difficulties—such as higher inflation.
Those conflicting pressures have sent officials in Europe, the United States and Canada in search of some method of moderating swings in the world’s currencies. In Europe eight nati ons-West Germany,
France, Italy, Belgium,
Luxembourg, the Netherlands,
and Ireland—agreed in 1979 to keep their currencies within a narrow range of each other. Seven of those European Monetary System (EMS) currencies stay within a 2.5-per-cent margin of one another. The Italian lira stays within a six-per-cent range.
There has also been a renewed campaign in Europe for a “new Bretton Woods,” as French President François Mitterrand has called it. EC insiders said last week that they favor having five major currencies—the U.S. dollar, the Japanese yen, the EMS currencies, the British pound and the Canadian dollar—float within a five-to-10-percent band of each other.
In Canada last week senior government officials said that they were skeptical about the feasibility of currency target zones. Instead, they say that at the coming international meeting Europe, Japan and the United States will agree to co-ordinate their economic goals—and stick to those goals. “If you have the political will to adjust your policies to take into account their effect on others, then you do not need a system with a target zone or fixed rigidity,” said a senior Canadian official. “The problem is the political will of the large countries to play the game.” Those countries may find that co-operation is preferable to another decade of uncontrolled currency swings.
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