Shrinking Role for U.S. Money

Frenzy in the gold and currency markets heightens an urgent issue

From the harried canyons of Wall Street to the outwardly calm boardrooms of Zurich, the world's financial centers experienced a whiff of panic last week. In two days of frantic trading, the price of gold on the London exchange soared a breathtaking $50 per oz. to $447 at one point; then it plunged back down almost as steeply, closing the week at $385. Silver, platinum and copper also gyrated wildly. Said a New York bullion trader: "The market's gone bananas."

The madness, as usual, was not over precious metals so much as money--specifically the battered U.S. dollar. Once again greenbacks were being sold off heavily in world markets in exchange for more robust currencies. Struggling to keep the buck from plunging further, which would hurt West German exports, the Bundesbank spent $1.2 billion in deutsche marks to buy up unwanted dollars last week. By happenstance, as the buck was worrying down again, central bankers, finance ministers and some 6,000 other leading moneymen were gathering in Belgrade, Yugoslavia, for the annual meeting of the 138-nation International Monetary Fund. Treasury Secretary G. William Miller and Federal Reserve Chairman Paul Volcker had hardly arrived when they were besieged with calls for U.S. action to stem the panic.

Volcker promptly returned to Washington to draft plans for what could be the second massive dollar-rescue program the U.S. has had to mount in eleven months. Among the steps under discussion:

LARGER GOLD SALES. The 750,000 oz. of Fort Knox bullion the U.S. now sells monthly might be doubled, in hopes that this might help drive prices down. Hinting at such a strategy, Under Secretary of the Treasury Anthony Solomon said last week that the gold boom was "extremely unhealthy for the world economy."

BROADER DOLLAR PROPPING. Until now, in their efforts to keep the dollar from falling too sharply against the muscular mark, the U.S. and West German central banks have confined their buck-bolstering efforts mainly to the New York and Frankfurt markets. Now they have agreed to intervene in all financial centers. Reason: the world money markets have become so sensitive and intertwined that a drop in, say, Hong Kong ripples rapidly throughout the world.

MORE "CARTER BONDS." Since last November the U.S. has sold $4.2 billion of so-called Carter bonds in West Germany in order to raise marks for the dollar defense. Plans have been worked out to issue more such bonds.

The latest turmoil in the gold and currency markets shook the Belgrade meeting like an Adriatic earthquake. The moneymen hovered over telex machines to catch the latest gold fixings and dollar-mark exchange rates, and swapped anxious rumors. Inter-continental Arab finance ministers ducked quietly into Bill Miller's first-floor suite at the Inter-continental Hotel to get his assurances that the dollar would be defended. Reported TIME Correspondent Friedel Ungeheuer: "An undercurrent of fear and confusion about what has been happening on the money markets ran through the corridors of the modern Sava Center, where the I.M.F. sessions were held. Cecil de Strycker, governor of Belgium's central bank, confided: 'The only thing that is certain is that nothing is certain any more.' Many delegates joined in what Britain's Chancellor of the Exchequer, Sir Geoffrey Howe, aptly described as a kind of 'competitive gloominology.' "

The delegates had ample cause to be gloomy. A forecast by the IMF staff said that the combination of higher OPEC oil prices and the U.S. recession will force the rest of the industrial world into a stagflation swamp next year. Average inflation in industrial countries will rise to about 8.7%, and growth will fall to a meager 1.8%.

Whether even that prediction might prove optimistic depended to a great extent on the strength of the U.S. economy, and there the portents were mostly bad.

Despite record interest rates and a business slowdown, U.S. inflation continues to gather force.

Producers' wholesale prices rose 1.4% in September, an annual increase of 18.2% and the highest jump in almost five years. That probably foreshadows a further rise in consumer prices, which are already growing at a 13% rate. The week's only good news: instead of rising from its August level of 6%, unemployment dropped in September to 5.8%. But many economists believe joblessness will still increase sharply in the months ahead as the recession bites deeper.

The foreign moneymen worry about the Carter Administration's resolve to hold down inflation at the cost of higher unemployment as the 1980 political campaign picks up steam. They found fresh reason for skepticism last week: it was revealed that to get the unions to join in the Carter anti-inflation program, the Administration agreed not to try to penalize any violators of the "voluntary" wage and price guidelines. Miller attempted to soothe his colleagues in Belgrade by promising that the Administration would "stay the course" in battling inflation, but doubt remained. Said one West German Cabinet minister: "The problem is Carter's chaotic leadership."

The central bankers were especially doubtful about the President's ability to cut U.S. oil imports, a chief cause of the dollar's weakness. Only last week did Congress step up work on the energy program that Carter presented in July. Overriding objections from environmentalists, the Senate voted to create an Energy Mobilization Board that will be empowered to cut through the federal, state and local regulatory barriers that delay key energy projects. This week the Senate Finance Committee is expected to pass its version of the important windfall profits tax that will finance the new projects. The Senate is likely to approve a tax one-third smaller than the $104 billion House version: President Carter originally demanded a $142 billion tax.

The urgency for action on the energy program becomes clearer all the time. Brandishing the oil weapon in Belgrade, Saudi Arabia's Finance Minister Mohammed Ali Abdul Khail warned that continued depreciation of the dollars that the OPEC countries are paid for their oil might very well "evoke reactions." By that he presumably meant that the OPEC countries might force buyers to pay in a "basket" of many currencies rather than just in dollars; if this were to happen, demand for dollars would decline and they would slide further in value.

Though the greenback strengthened a bit late last week as the markets anticipated new dollar defense moves, worry remains deep about the future of the monetary system that helped create the world's postwar prosperity. The central problem is the roughly 1 trillion footloose dollars that slosh around banks and currency markets outside the U.S. For many years during the 1950s and 1960s, Europeans complained about a "dollar gap." Greenbacks were the only currency that was accepted everywhere, though there were not enough of them around to finance world trade and development. But the dollar gap has since become a dollar glut. Due to heavy foreign spending, first to pay for the Viet Nam War, more recently for oil imports, the U.S. has exported enough dollars in the past decade to boost the reserves held by foreign central banks from $24 billion to $300 billion. Private international banks hold another $600 billion in Eurodollars, which are dollars loaned abroad.

Central banks and private holders are reluctant to accept any more dollars, whose value declines almost daily. OPEC countries in particular are attempting to put new oil earnings into marks, yen or gold. Says Washington Economic Consultant Harald Malmgren: "The Arabs have learned that they pump oil out of the sand, hold the dollars, and the dollars turn back to sand." Nervous central bankers also fear that dollar holders will suddenly try to move large funds into another currency or into gold. Warns Karl Otto Pohl, president-designate of the German Bundesbank: "If this mass of dollars ever begins to crumble, it could start an avalanche that would bury all other currencies."

The best-selling novel The Crash of 79 described just such an avalanche. The result was a thumping destruction of all the foundations of industrial society as nations returned to barter economies. Financial experts tirelessly insist that in the nonfiction world such a collapse would be impossible. One reason is that well over half of foreign trade, including sales of oil, metals and grain, is billed in dollars.

And despite attempts by central banks to diversify their currency holdings, 77% of all official reserves are still dollars; thus many governments have an interest in holding up the value of the dollar.

Ministers in Belgrade took a step to ensure that the crash of '79 remains fiction by reducing the hazardous excess of dollars. They agreed to press work on a plan to replace perhaps as much as $40 billion in dollars with bonds denominated in a basket of 16 currencies, including two from OPEC countries--Saudi Arabia and Iran. This could be approved at a meeting in April.

As the dollar is being eased out of the cornerstone position it has held since World War II, gold and some strong currencies are moving in. The American campaign to remove gold from the world money system has failed;, as one example of bullion's continuing monetary role, the seven-month-old European Monetary System that links seven Common Market currencies has gold as a centerpiece. Fritz Leutwiler, the president of the Swiss National Bank, quotes from the Book of Job: "I have made gold my hope or have said to the fine gold, Thou art my confidence." Some leading Americans are even beginning to challenge Carter's policy of selling off the U.S. gold reserve. Former Federal Reserve Chairman William McChesney Martin says that if he were still in office, the U.S. would sell gold only "over my dead body."

The Bundesbank's Pohl sees the world "moving inexorably toward a multicurrency arrangement." The European Monetary System is anchored on the German mark, while the Japanese yen is developing an important role in Asia as a trading currency. The oil-backed Saudi Arabian riyal could be a new powerhouse, but the Saudis have been reluctant to let it play a role in international loans.

While world moneymen continue slouching toward a new financial Bethlehem, it becomes clearer that the only real way to restore the dollar's health is to cut America's inflation. As long as prices continue climbing at a rate of 13% in the U.S., compared with 6% in West Germany, the dollar will sink and the mark will rise. In such circumstances the dollar is lost, and attempts to save it will only ruin the nation's industry by making such exports as computers, airplanes and chemicals vastly too expensive in Japan or Germany, and imports like autos far too cheap at home. Former Fed Chairman Arthur Burns told the Belgrade conference that the turmoil in world exchange markets would not end until "reasonably good control over inflationary forces has been achieved, especially in the U.S."

The long-playing saga of the declining dollar has demonstrated --that a weakening currency fosters a vicious circle. The dollar's decline not only causes more inflation in the U.S. but also gives OPEC an excuse to push petroleum costs still higher, because oil prices are set in dollars. As the latest run on the dollar continued to lose momentum, officials in Bonn and Washington recalled that in the battle of the buck the next round of speculation has always come more quickly and been more ferocious than the last.

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