A Silver Lining (Part 10)

Would it be wishful thinking to hope that that there is a silver lining to the Covid-19 cloud hanging over the world? Every event that brings about change also brings about opportunities.

In part 6, I wrote that the world monetary system, following the ending of US Dollar convertibility into gold, had effectively become a barter system, and that the time had come to revisit Bretton Woods.

The Bretton Woods conference in 1944, between members of the ‘Allied Forces’ had set a new monetary order with the US Dollar becoming the primary medium of exchange for International trade. The USA had guaranteed convertibility into Gold at a fixed exchange rate, which coupled with the formation of the IMF and World Bank was supposed to provide both the means of capital for development and a stable monetary system. That guarantee ended in 1971, the system remained relatively stable until the late 1980’s while the USA maintained a balanced current account, but alas, then came Reaganomics, or supply side economics, and the USA started operating on an ever increasing current account deficit, so much so, that it is now very difficult to find a country that the USA is not indebted to.

The purpose of this is not to examine the woes of the USA economy, but rather to look at the alternative proposal from the UK delegation led by John Maynard Keynes.

Keynes in an apparent contradiction of his earlier writings argued for the creation of a new world currency, only tradable  between central banks. This currency, the ‘Bancor’, would have a fixed relationship to gold and countries would in turn fix their exchange rates to the ‘Bancor’. Effectively a system of exchange rates fixed to gold but without the problems of having to move gold around the world for settlements. Each country would have an overdraft facility based on it’s international trade levels so that short term problems in an economy did not impact on it’s exchange rate, however, where there was a long term issue with either a consistent current account surplus or deficit the would be an automatic revaluation of the currency up or down.

The Americans argued that this meant that creditor nations would also have to bare part of the cost of trade imbalances, while they believed this should be the responsibility of the debtor nations on their own. Their persistence won the day, hence the ‘World Bank’ and the ‘IMF’. The World Bank providing finance for infra structure projects, while the IMF was for emergency funding, effectively acting as the debt enforcer and providing loan funding on stringent terms that could be looked on as applying extreme austerity on any country forced to borrow from the IMF. Consider Greece and the many South American and African countries that at different times have been forced to resort to this form of funding.

The concept that the debtor is solely responsible for his predicament is no longer tenable. In the UK for example we now expect lenders to test whether the borrower is going to be able to repay, not only if things are going to plan but if there is a hiccup along the line. Failure to exercise that duty of care could render the loan contract null and void.

The Keynes proposal placed a greater responsibility on Governments to manage their economies in a sustainable way. Let us consider that International payments are routed through BIS (Bank of International Settlements), if in turn the BIS withheld 5% of the currency being paid and issued the recipient country with the equivalent value of Bancors, the Bancors would be held by that country’s Central Bank as a reserve currency, much in the same way that US dollars are currently held, with that central bank issuing the required amount of local currency to the ultimate recipients bank. The 5% currency being held by BIS would provide BIS with capital firstly to fund any overdrafts needed by countries and secondly to provide development capital for developing countries.

This fund should over time prove strong enough to provide the developing world with all the capital required to raise education levels, health facilities and infrastructure to a comparable level of the developed world. Funding would not be available for arms and ammunition. Obviously rules would need to be developed as to how such funds are allocated. If one considers that say 20% of the BIS capital is used for this type of development we would see growth in the developing world equivalent to 1% of annual global trade, which would represent growth to the developing countries in excess of 10%.. As the funding would be supplied in Bancors one eliminates the possibility of it being hijacked by those in power and feathered away in some offshore bank. Over the medium to long term (10 to 20 years) we should see much of world poverty actually eliminated.

I am not saying the Bancor should be fixed to Gold as Keynes did, but rather that it be a ‘concept currency’ the main concept being that the 5% withheld by BIS would be the security as well as providing funding for development projects in both the third and second worlds. Hopefully doing away with the need for foreign aid. I intend this in much the same way as the Euro is a concept currency based on Governments, except in times of crisis, maintaining a limited deficit.

Obviously the supply of Bancors to individual countries would need to be managed in such a way that they do not experience a run away inflation, possibly rules similar to those applied by the EU regarding government deficits, possibly at a much higher level than applicable to EU countries.

The mechanism for adjusting exchange rates could be operated over a 3 or 5 year cycle, unless specifically requested by any country. Provided initial fixed exchange rates are set at correct levels the system would ensure that the competitiveness of Nations is maintained in the longer term. For business much of the price risk involved in expanding output to meet an export market will have been eliminated.

For the World as a whole it will mean that the train smash, inherent in the USA current account deficit, will be avoided as they will have the means adjust the value of their currency downward, once China reached 2 trillion of USA paper they began divesting, in many cases by using it to buy up physical assets in Africa, South America and Australia. Their alternative was to issue it to the population as toilet paper.  We can understand Trump’s belligerence when we look at the state of the USA economy, and it will be far better to allow them to sort it out rather than plunge the world into another world war.

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