A Marxist Guide to Capitalist Crises
“A Marxist Guide to Capitalist Crises,” an eBook created from the key posts on the Critique of Crisis Theory blog, is currently in production. We’ll be sharing the completed chapters between our regular postings.
Chapter 29: Boom of the 1960s: The Flood Tide of Keynesianism
Thanks to the economic crisis of 1957-61, the U.S. economy entered the decade of the 1960s with high levels of unemployment and excess capacity. The millions of unemployed workers and idle plants and machines meant that industrial production could rapidly increase in response to rising demand.
As a result, during the first half of the 1960s, supply increased almost as fast as demand, and prices rose very slowly. According to the official U.S. Producer Price Index, prices changed little between 1960 and 1964.
As is typical of the phase of average prosperity of the industrial cycle, long-term interest rates rose very slowly. Still, at around 4 percent or slightly higher, they had risen significantly since the Korean War. Back then, the Truman administration still expected to borrow money long-term at less than 2.5 percent interest. Slowly but surely, long-term interest rates were eating into the profit of enterprise.
The great boom begins
During most of the early 1960s, the U.S. economy passed through the average prosperity phase that precedes the boom. But starting in 1965, the industrial cycle entered the boom phase proper, the transition from average prosperity to boom being part of the cycle. However, in the mid-1960s, this transition was helped along by government economic policies. These were the Kennedy-Johnson tax cut of 1964, combined with the rapid escalation of the war against Vietnam. After remaining virtually unchanged through 1964, the official U.S. producer price index suddenly surged 3.5 percent in 1965, when the escalation of the Vietnam War began in earnest.
Boom and inflation
Considering the size of the U.S. economy, the Vietnam War was far too small a war — from the perspective of the United States, not Vietnam, whose economy was set back by decades — to lead to the contracted reproduction of a full-scale war economy. However, the war did mean that a growing portion of the industrial capacity and labor power of the U.S. economy had to be devoted to meeting the needs of the war against Vietnam and the rest of Indochina. This was on top of the already high Cold War military expenditures.
When added to the effects of the Kennedy-Johnson tax cut, the result was that U.S. industry had less excess capacity and unemployed labor power than at any time since the war against the Korean people in the early 1950s. From 1965 onward, the U.S. industry could no longer increase production at the existing price level as fast as demand was growing. When such a situation arises in a capitalist economy, demand is reduced to supply through a rise in prices. The boom of the 1960s was on.
It is important to realize that the rise in prices in the mid-1960s was a rise in prices in terms of gold, not just dollars. The price rises did not reflect any depreciation of the U.S. dollar against gold. That was still to come. The Bretton Woods international dollar-gold exchange standard was still in effect.
Indeed, to strengthen the dollar-gold exchange standard, the United States and it’s Western European satellites had set up the London Gold Pool. The Gold Pool was a fund of gold bullion whose specific purpose was to keep the dollar price of gold from rising above $35.20 an ounce, that is, to prevent the U.S. dollar from depreciating against gold.
The London Gold Pool
Shortly after the Kennedy administration took office, Under Secretary of the Treasury Robert Roosa proposed that the United States and Western European central banks prevent the dollar price of gold bullion on the open market from rising above $35.20 per ounce. That is, whenever the free market price of bullion threatened to hit $35.20, the U.S. and West European central banks would sell gold. If the price of bullion fell below $35 an ounce, they would buy gold.
According to Roosa’s suggestions, the Gold Pool would be made up of the United States, Britain, West Germany, France, Switzerland, Italy, the Netherlands, and Luxembourg. Essentially, this meant that the dollar would now be backed not only by the gold in Fort Knox but also by the gold of Britain, West Germany, France, and the other members of the Gold Pool — much of whose gold was physically held in the vaults of the Federal Reserve Bank of New York, located in lower Manhattan near Wall Street. The U.S. was saying to its European imperialist satellites, from now on, your gold reserves will back our currency. This is a good example of the nature of the “world order” that emerged from World War II!
The heyday of Keynes
The 1960s were the heyday of Keynesian economics. Presidents Kennedy and Johnson were surrounded by economists of the pro-business neo-Keynesian school. According to the Keynesian analysis, the U.S. economy in 1965-66 was in a state of inflation. According to Keynes, if the rate of interest is below the rate of profit at “full employment,” the economy will be in a state of inflation. Indeed, by the definition used by the mainstream or neo-Keynesian economists, the U.S. economy in 1965-66 was experiencing “over-employment.”
By “over-employment,” the (bourgeois) economists mean that the capitalists are forced to hire workers who produce less value than they receive in wages. The workers, if we are to believe these bourgeois economists, are exploiting the capitalists! Over-employment is supposed to lead to higher money wages, falling labor productivity, and rising prices.
The above analysis of the bourgeois economists is wrong because it is based on marginalist assumptions — accepted by Keynes — that the value of workers’ wages equals the value the workers produce through their labor. Therefore, according to this reasoning, at full employment, the supposed state a capitalist economy is always tending toward, the workers produce no surplus value. Instead, the marginalists, including Keynes, hold that surplus value is produced by capital — in the form of interest — and by land — in the form of rent.
Economics of boom
It is, however, true that the lower-than-average unemployment of the boom reduces competition among worker sellers of labor power and increases competition among the capitalist buyers of labor power. This does indeed tend to raise wages and reduce the rate of surplus value. Such a boom-induced fall in the rate of surplus value eventually leads to a lower rate of profit.
During a strong boom like that of 1965-66, however, the fall in the rate of profit caused by a boom-time drop in the rate of surplus value is temporarily masked. Rising prices increase profits, which are, after all, measured in terms of money. The accelerated turnover of variable capital also results in a higher rate of profit during the boom.
In 1965-66, the margin of excess capacity was, by capitalist standards, unusually low, and many types of skilled labor were scarce. Thus, it became much more difficult for the industrial capitalists to fully meet demand at the prevailing market prices. The only way the market has under those conditions to equalize supply and demand is to reduce the rate of growth of demand through an increase in commodity prices.
With the forces of production almost fully utilized, the industrial capitalists were approaching the point where major further increases in production were impossible without undertaking significant capital investments. However, such investments increase demand even more than they increase supply in the short run, which only further increases the gap between supply at current prices and demand.
Trap of an ‘incomes policy’
Keynesian economists claim that the price of labor — Keynesians make no distinction between labor and labor power — determines commodity prices. Therefore, they claim that the rise in the “price of labor” drives inflation. This idea was expressed in the term “wage-price spiral.”
Following Keynes’s false theory of wages and prices, the neo-Keynesian economists claimed that inflation could be largely avoided by what was called in those days “incomes policies.” Under an “incomes policy,” the unions agree not to use their market power to raise money wages. By holding down the “price of labor,” Keynesian theory holds, the prices of commodities will also be held down.
In reality, in a strong boom such as 1965-66, demand will drive up market prices of commodities — except labor power, if the workers and their unions practice “wage restraint.” Therefore, if the workers follow the advice of false Keynesian “friends of labor” and tolerate an “incomes policy,” the result will be a decline in real wages during the boom. The result will be a long-term rise in the rate of surplus value.
Even worse, unions that fail to take full advantage of the all-too-rare situations where market conditions favor the sellers over the buyers of labor power completely undermine themselves in the long run. This greatly increases the danger that such unions will be crushed altogether when the market once again — as it inevitably will, despite claims to the contrary by Keynesian economists — shifts in favor of the buyers of labor power — the bosses.
The question of “incomes policies” and “wage and price controls” was to play a much bigger role in the following decade. Therefore, examining “incomes policies” does not belong here but in the following chapter. In the 1960s, unions and the workers’ movement were still in a historically powerful position — both at home and abroad. Under these conditions, the U.S. government — and other capitalist governments — were still reluctant to take on the unions head-on.
Leaving aside an “incomes policy,” the Keynesian answer to the problem of boom-time inflation, where demand is growing faster than supply, is to raise interest rates — especially long-term interest rates — to reduce the growth in demand sufficiently so that supply can catch up with demand. However, the central bank has much more influence on short-term interest rates, such as what is called in the United States the federal funds rate, the rate on overnight loans between commercial banks, than long-term interest rates.
When a commercial bank finds itself short of reserves — deposits with its district Federal Reserve Bank plus vault cash — it borrows money overnight from another commercial bank. In the United States, the rate of interest it pays is called the Federal Funds Rate. If the Federal Reserve System nudges up this rate — by selling some of its Treasury notes — the money market is tightened, and long-term interest rates rise, though to a lesser extent.
Another “Keynesian tool” against inflation is a restrictive fiscal policy. If possible, the central government should reduce its expenditures — or at least reduce its growth rate — raise taxes, and balance its budget. If the government runs a surplus — or even reduces its deficit — a certain amount of the inflation-breeding excess demand is removed from the economy.
With the excess demand removed, the Keynesian economists claim, supply — especially the supply of labor — will then be able to keep up with demand at current prices, halting further inflation. In the mid-1960s, the neo-Keynesians boasted that by using the “tools” they had developed, capitalist governments and central banks could deal not only with a shortage of demand — recession or stagnation — but an excess of demand — inflation — as well.
However, during the boom of 1965-66, a restrictive — sometimes called a deflationary — fiscal policy was out of the question for the Democratic administration of Lyndon B. Johnson. The administration had just convinced Congress to pass a substantial regressive tax cut in 1964 to deal with the problem of high excess capacity and unemployment — caused by insufficient monetarily effective demand — that had affected the U.S. economy in the early 1960s. How could it turn around and ask for a tax increase only a year or two later?
In addition, the administration was faced with a growing anti-war movement — unlike during the war against Korea, not to speak of World War II — and major unrest in the inner cities, especially among working-class African American youth. The last thing the administration wanted to do was to ask either the capitalist ruling class or the American people to actually pay for the war in the form of higher taxes.
The credit crunch of 1966
In light of this reality, the entire “burden” of slowing the inflationary boom fell on the Federal Reserve System. In 1966, the Federal Reserve Board moved to tighten credit. On January 19, 1966, the Fed Funds Rate fell to 1.50 percent. But between September 9 and 11 of the same year, the Fed Funds Rate hit 6.13 percent, levels last seen just before the super-crisis began in 1929.
This abrupt tightening of the money market led to a sudden freeze-up of credit, or a “credit crunch,” as the media called it. It was the collision between the supply of loan money that was reduced by the Federal Reserve’s tight money policy of 1966 and the demand for loans by the federal, state, and local governments, consumers, and industrial and commercial capitalists that drove the federal funds rate up so abruptly. In other words, the demand for credit exceeded the supply of credit at current interest rates.
The U.S. federal government has the highest credit rating in the world. In a credit crunch like that of 1966, the U.S. government can always get credit, even if at somewhat increased interest rates. But credit becomes unavailable, or it is available only at extravagant interest rates to all but the most creditworthy borrowers, such as the strongest — that is, the richest — corporations.
From credit crunch to mini-recession
With credit drying up, the U.S. economy entered into the so-called mini-recession of 1966-67. While the NBER refused to declare the 1966-67 episode a “contraction” in the United States, the economy of West Germany experienced its deepest recession since resuming growth after World War II.
The Johnson administration and the Federal Reserve, fearing a major economic crisis, took fright, and the Fed quickly reversed its tight-money policy. The last thing the beleaguered administration of Lyndon B. Johnson wanted was a major recession on top of its other problems!
The Fed moved quickly to ease the money market by purchasing Treasuries, and the Fed Funds Rate dropped back below 4 percent, falling as low as 3.25 percent on May 10, 1967. The economy resumed growing, though at a lower rate, and while inflation continued, it was lower than in 1965-66.
Guided by Keynesian economics, the Fed had apparently succeeded in slowing down the economy sufficiently to dampen inflation without throwing the country into a full-scale recession and mass unemployment. Indeed, by their “skillful” monetary policy, the Fed had idled just enough industrial capacity and labor power to support the “war effort” against Vietnam while avoiding a big economic downturn. The Keynesian economists were increasingly convinced that they could manipulate the level of demand and business activity like the water in a bathtub. The problem of the “business cycle,” the Keynesians declared, was finally licked.
The Tet Offensive and the end of the Bretton Woods dollar-gold exchange international monetary system
In January 1968, the Vietnamese resistance fighters launched a massive offensive—remembered as the “Tet Offensive”—against the U.S. occupiers and the puppet “South” Vietnamese army. In the countryside and the cities alike, the Vietnamese population rose against the hated U.S. occupation. The U.S. Embassy in Saigon (now Ho Chi Minh City) became a battleground.
Before the Tet Offensive, the Johnson administration and the U.S. media had claimed that the United States was winning the war against the Vietnamese resistance. Soon, the resistance fighters — called the “Viet Cong” by the U.S. media — would be exterminated. Victory was in sight.
The Tet Offensive gave the lie to this, though the Vietnamese resistance fighters paid a heavy price in terms of dead and wounded, a fact that U.S. military histories of the war still gloat over. These pro-war histories claim that the extremely high price that the Vietnamese people were forced to pay in terms of dead and wounded showed that the United States and it’s South Vietnamese puppet collaborators were the real victors of the battle. What the results of the Tet Offensive really showed was how high a price the Vietnamese people were willing to pay for their freedom.
In the wake of Tet, General William Westmoreland, the U.S. commander in Vietnam, requested hundreds of thousands of additional troops. Westmoreland assured Johnson that this “troop surge” would finally enable the U.S. forces and their Vietnamese puppet army to crush the Vietnamese resistance once and for all. Johnson approved Westmoreland’s request as he had always done up to this time.
Tet and the end of the London Gold Pool
From February 1962, the Gold Pool was in full operation. Starting in 1965 — the year that the United States greatly escalated its war against the people of Vietnam — the Gold Pool began to lose gold. In 1967, with the war against Vietnam still escalating and the Fed and other central banks again easing credit to stave off the threatening economic crisis, the British pound was devalued. The final blow to the London Gold Pool was the Tet Offensive, followed by U.S. President Lyndon B. Johnson’s decision to agree to Westmoreland’s proposed “troop surge.”
The Western European satellite imperialist countries under the Gold Pool kept selling off their gold reserves to support the U.S. dollar—thereby effectively financing the war against Vietnam with their gold, which the Johnson administration had refused to do by raising taxes.
Finally, in 1967, with the collapse of the Gold Pool clearly approaching, France under de Gaulle pulled out of the pool. But not West Germany. Hitler’s heirs in Bonn announced that they would not only remain in the Gold Pool but would not be cashing in the dollars accumulating in their central bank for gold.
The successors of the Third Reich were willing — or forced — to keep financing the U.S. war against Vietnam, not only with their gold bullion but through the devaluation of their dollar reserves once the Gold Pool finally collapsed. After all, these heirs of the “thousand-year Reich” that had terrorized all of Europe just a quarter century before had little choice. They were, after all, an occupied country.
France under de Gaulle retained a little more room for maneuver. France was a nominal “victor” in the war and had even acquired its own nuclear weapons. So, they got out a few months before the Gold Pool collapsed. However, it is telling that France stayed in the Gold Pool as long as it did. The French government and central bankers under de Gaulle had also thrown away French gold to finance the dirty, genocidal war against the Vietnamese and the other peoples of Indochina.
The run against and collapse of the Gold Pool
On March 5, 1968, as word spread about the Democratic administration’s latest “troop surge” in Vietnam, the Gold Pool was forced to dump 100 tons of gold on the market to keep the free market dollar price of gold at or below $35.20. On a “normal” day, perhaps five tons would have been dumped on the market. The run on the Gold Pool had begun. The Gold Pool was in the position of a commercial bank facing an old-fashioned bank run. After consultations over that weekend, a special statement was issued: “The London Gold Pool reaffirm their determination to support the pool at a fixed price of $35 per oz.”
The chairman of the Federal Reserve Board of Governors, William McChesney Martin, declared that the United States was prepared to defend the $35-an-ounce gold price “down to the last ingot.” The problem for Johnson, McChesney Martin, and the other warmakers in Washington was that the market was more than willing to take that last ingot of gold — and the last ingots of Washington’s Western European satellites in the bargain. In a last-ditch attempt to save the Gold Pool, a huge airlift was organized to ferry gold bullion to London to dump on the open market.
On March 15, 1968, British Chancellor of the Exchequer Roy Jenkins announced that, upon “the request of the United States,” the London gold market would be “temporarily” shut down. The Gold Pool was bankrupt. During the two weeks that the London gold market was closed, the pool was officially dismantled.
The end of the London Gold Pool and a few other things as well
The Gold Pool wasn’t the only thing that came to an end that March. Lyndon B. Johnson was forced to inform General Westmoreland that his decision to grant Westmoreland’s request for hundreds of thousands more U.S. troops to crush the Vietnamese resistance was rescinded. Instead, Johnson was obliged to announce that he would open up peace talks with the representative of the Vietnamese people.
In addition, Johnson told a nationwide television and radio audience that he would not be a candidate for the Democratic Party nomination for re-election in the upcoming 1968 U.S. presidential race. For all practical purposes, the post-World War II prosperity was over, too, though it took several years before this became apparent. And though it was not official, the Bretton Woods System was also essentially dead. Though the U.S. war against Vietnam was far from over, the way was being prepared for the victory of the Vietnamese people over U.S. imperialism and its world empire.
After the Gold Pool
After suspending gold trading in London for two weeks, a so-called two-tier system was set up. The dollar price of gold on the free market would now be set by supply and demand. The central banks and governments, however, could still convert their dollar reserves into gold at the rate of $35 an ounce. In form, this was a return to the situation that had prevailed in the early years after World War II, when the dollar price of gold bullion on the free market was usually somewhat higher than the official $35-an-ounce gold price. Indeed, it wasn’t until the Gold Pool started operation in February 1962 that Washington and its Western European satellites formally promised to keep the free market dollar price of gold between $35 and $35.20 an ounce.
The U.S. government denied that the dollar had been devalued. But in fact, it was devalued. After World War II, a free market dollar price of gold significantly above $35 an ounce was viewed as temporary; now, there was no real limit on how much above $35 an ounce gold would be allowed to rise. As soon as the dollar price of gold rose significantly above $35 on the free market, the Bretton Woods system would die.
As we saw in an earlier chapter, the Bretton Woods international monetary system could only work if the free market price of gold did not rise very far above $35 an ounce. If it did, the central banks would have little choice but to “purchase” gold from the U.S. Treasury at $35 and either hold it in their reserves or sell it on the free market for the going price. If they sold the gold for dollars, they could present even more dollars to the U.S. Treasury, demanding one ounce of gold for every $35. The U.S. gold reserve would then melt away like snow on a hot spring day. However, the U.S. had no intention of allowing this to happen.
Washington, to prevent the immediate demise of Bretton Woods, was now forced to take deflationary measures that temporarily caused the dollar price of gold to fall back to $35 on the open market. Washington’s deflationary moves included slowing the growth in federal spending — for example, the decision not to proceed with Westmoreland’s proposed “troop surge” — a temporary tax increase, and a tighter monetary policy by the U.S. Federal Reserve System. In response, the dollar price of gold on the “free market” fell back toward $35.
Crisis in U.S. domestic money market
In response to the deflationary moves by the U.S. government, by May 1970, the U.S. domestic money market was close to panic, the stock market was crashing, and the giant Penn Central Railroad went bankrupt — the most significant industrial bankruptcy of the postwar era up to that time. The government and Federal Reserve System quickly reversed deflationary actions to “rescue” the economy, and the dollar price of gold began its relentless rise on the “open market.” The clock was ticking on Bretton Woods.
Gold begins its climb — or rather, the dollar begins its descent
In February 1970, with the deflationary actions taken after March 1968 still in effect, the closing dollar price of gold on the London market averaged $34.99, one cent below the par value of $35. If the free market price of gold had stayed at these levels, the Bretton Woods System would have continued to function. But by August 1971, the dollar price of gold exceeded $42 and was rising.
At that time, nobody knew how high and, just as important, how rapidly the dollar price of gold would rise — or more properly, how rapidly the dollar would fall against real money — on the free market, where the amount of gold that one dollar actually represents at any given instant is determined.
In mid-1971, with the dollar price of gold now well above $40 an ounce and rising, the central banks — at least the central banks of those countries that retained enough independence within the American empire to make such a request — began to present their dollars to the U.S Treasury, demanding payment in gold bullion for every $35 they presented. The U.S. Treasury faced a full-scale run on its gold reserves.
The real cause of the monetary crisis of 1971
“Because of the excess printed dollars,” Wikipedia writes, “and the negative U.S. trade balance, other nations began demanding fulfillment of America’s ‘promise to pay’ — that is, the redemption of their dollars for gold.” Wikipedia continues: “Switzerland redeemed $50 million of paper for gold in July. France, in particular, repeatedly made aggressive demands and acquired $191 million in gold, further depleting the gold reserves of the U.S. On August 5, 1971, Congress released a report recommending devaluation of the dollar in an effort to protect the dollar against ‘foreign price-gougers.’ Still, on August 9, 1971, as the dollar dropped in value against European currencies, Switzerland unilaterally withdrew the Swiss franc from the Bretton Woods system.”
Bretton Woods dies
“To stabilize the economy,” Wikipedia goes on, “and combat runaway inflation, on August 15, 1971, President Nixon imposed a 90-day wage and price freeze, a 10 per cent import surcharge, and, most importantly, closed the gold window reneging on the promise to exchange gold for dollars.” With due respect to the online editors of Wikipedia, we must observe that allowing the dollar to plunge against gold was an odd way of “combating inflation.”
Various explanations have been put forward by both Marxists and bourgeois economists for the end of the dollar-gold exchange system — at the time and since. “By the early 1970s,” Wikipedia explains, “as the costs of the Vietnam War and increased domestic spending accelerated inflation, the U.S. was running a balance of payments deficit and a trade deficit, the first in the 20th century. The year 1970 was the crucial turning point, which, because of foreign arbitrage of the U.S. dollar, caused governmental gold coverage of the paper dollar to decline 33 percentage points, from 55 percent to 22 percent. That, in the view of Neoclassical Economists and the Austrian School [the two main schools of marginalism -SW] represented the point where holders of the U.S. dollar lost faith in the U.S. government’s ability to cut its budget and trade deficits.”
From August 15, 1971, the U.S. dollar ceased to be credit money as far as the central banks and foreign governments were concerned, just like it had ceased to be credit money for U.S. citizens in March 1933. The U.S. dollar had become token money, pure and simple. The post-World War II international monetary system based on the dollar-gold exchange standard was dead.
But why did the dollar-gold exchange system that had lasted for 31 years after the end of World War II finally die in August 1971 and not some other time? The problem with the neoclassical and Austrian school explanation is its superficiality. The immediate cause of the collapse of the dollar-gold exchange standard was that the U.S. Treasury faced a run, much like a bank run, where the depositors demand cash in exchange for their deposits. But was the U.S. government in the summer of 1971 really in the position of an insolvent commercial bank? If so, how did the U.S. manage to maintain its world empire?
Growing economic competition from Europe and Japan
Until around 1970, the United States ran a persistent surplus in its trade balance. As Western Europe and then Japan began to recover from the devastating effects of World War II, they needed commodities produced by the vast U.S. industrial machine to carry out the necessary reconstruction. As the post-World War II prosperity unfolded, the economies of Western Europe, except Britain, grew consistently faster than the U.S. economy. The economy of Japan grew faster still. Indeed, the economies of West Germany and Japan grew so rapidly that it became something of a cliché to observe that the two defeated Axis powers were economic giants but political midgets.
As we saw in an earlier chapter, after World War II, in contrast to the post-World War I period, the United States opened its huge home market to the Europeans and Japanese. The U.S. would allow the German and Japanese capitalists to compete economically with U.S. capitalists but not politically or militarily.
In the first quarter of a century after World War II, the U.S. trade surplus showed a gradual tendency to shrink. Around 1970, it disappeared completely. On the other hand, the huge U.S. military expenditures necessary to maintain its world empire meant that the United States ran a balance of payments deficit on its current account even when it was still running a surplus in its balance of trade.
The Bretton Woods system required such a U.S. deficit. Even when the U.S. trade surplus was large, American capitalists extended credits to the Europeans and Japanese as they rebuilt their economies. The United States ran a huge balance of payments deficit when it came to foreign investment — the U.S. was exporting capital — and the huge expenditures for military operations that the U.S. government carried out abroad, such as the Korean War. That deficit was almost but not entirely covered by the U.S. trade surplus and the flow of interest payments and dividends that the U.S. capitalists “earned” on foreign investments.
In this way, the quantity of dollars grew in the world economy. Under the Bretton Woods dollar-gold exchange standard, these dollars constituted the primary backing for the local currencies of Western Europe and Japan. In the absence of a U.S. balance of payments deficit, the Western European and Japanese economies would have faced much the same kind of deflationary pressure that they faced after World War I.
Why did the U.S. balance of payments deficits become a source of crisis in 1968 and 1971 when they were a requirement for the Bretton Woods system to function in the first place? Was it simply that the U.S. payments deficit had become too large, or was something else involved? What would have happened if the U.S. dollar were the only currency?
A hypothetical alternative history
In reality, even if the United States had completely abolished all currencies other than the dollar after World War II, the currency crisis that began in 1968 would have occurred anyway. Suppose the U.S. had forced all countries at Bretton Woods to adopt the dollar as their official currency. The foreign central banks would have ceased to be banks of issue, much like the central banks of France, Germany, Italy, Ireland, and other countries of the Eurozone ceased to be banks of issue with the adoption of the euro. But in exchange for this, let’s suppose the U.S. government had promised to redeem dollars that the central banks and governments of other countries held for gold at the rate of $35 an ounce.
In this alternative world, there would be no question of devaluing the dollar against other currencies. There would be no other currencies, and the dollar could not be devalued against itself. One dollar at any instant in time would always equal one dollar. However, a London Gold Pool could still have been organized by the United States and its Western European satellites under our assumptions.
But what if the private money capitalists had decided at a certain stage that the dollar — the sole currency in the world — was likely to be devalued against gold in the near future? The fictional gold pool, just like the real one, would have been forced to sell more and more gold on the open market to keep the dollar price of gold at or below $35.20.
There would be a run on gold, and the fictional London gold pool would still have collapsed — just like the real one did. As happened in the real world, the capitalist governments and central banks would have begun to redeem their dollars for gold at the U.S. Treasury as the dollar price of gold began to rise on the “free market.” This would have forced the U.S. government to break its promise to redeem gold at the rate of one ounce of gold for every $35 presented to it. The only difference would have been that there would be no question of devaluing the dollar against other currencies, or what comes to the same thing, revaluing other currencies against the dollar, since there would be no other currencies.
While the existence of currencies other than the dollar complicates the situation, it is useful to understand the crisis of March 1968 and the final crisis of the dollar-gold exchange system that occurred in August 1971 to abstract the existence of such currencies.
In an article dated December 1968, Ernest Mandel, considered alongside Maurice Dobb and Paul Sweezy to be one of the leading Marxist economists in the capitalist world after World War II, came close to grasping the true nature of the March 1968 crisis:
“For thirty years … all prices have risen (in paper money) while the price of gold has remained stable.” [That is, prices expressed in terms of gold, the money commodity in whose use value the exchange value of all other commodities are measured, had risen for 30 years. Or as Mandel might have said, the prices of commodities in terms of real money — gold — have been rising since the end of the Depression. -SW]
“They forget rather quickly that in the same period there has been a prodigious upsurge in labor productivity in virtually every industrial branch, while nothing equivalent to this has happened in the gold industry. [Emphasis added -SW] … [T]he relationship between gold and other goods [Mandel means commodities, perhaps a bad translation here -SW] has therefore developed strongly in the direction of a drop in value for goods, as expressed in terms of gold.”
(“The Crisis of the International Monetary System,” International Socialist Review, March-April 1969)
In other words, the general price level of commodities had once again risen above the underlying labor values of those commodities. Just like the situation right after World War I, even if to a lesser degree, the prices of commodities had risen above their values.
Value and price
However, the basic economic law that regulates the capitalist economy, the law of value of commodities, does not allow such a situation to persist indefinitely. The law of value of commodities does not state that market prices equal values — or prices of production — at any given point in time. Marx emphasized already in his early work, “The Poverty of Philosophy,” that, on the contrary, they almost never do.
Rather, the law of value states that market prices are constantly fluctuating around values — or prices of production — now rising above them but then compensating by falling below them. During the Depression, market prices had fallen below values — and prices of production — but by 1968, market prices had once again risen above their values and production prices. The law of value dictated that sooner or later, market prices — in terms of gold — would once again have to fall below their underlying labor values.
How the dollar-gold exchange standard could have been saved
Could the dollar-gold exchange standard have been saved? Technically, not only could this have been done, it would have been relatively easy. All that would have been necessary to save the Bretton Woods system would have been for the Federal Reserve to raise interest rates sufficiently to break the demand for gold by private money capitalists.
Remember, all things remaining equal, the demand for gold moves inversely to the rate of interest. The higher the rate of interest, the lower the demand for gold. In England in Marx’s time, there was a saying that 6 percent could draw gold from the moon.
Dumping gold on the market like the gold pool did could not quench the thirst for gold at the prevailing rate of interest. At the then-prevailing interest rate, all the gold that existed in the world would not have been enough. But raising interest rates sufficiently would have depressed the demand for gold by the private money capitalists back to the amount they already held. The run on gold would have been broken.
That this is indeed true is shown by the fact that the dollar price of gold did fall back to $35 an ounce when interest rates were raised in the wake of the March 1968 collapse of the Gold Pool — prolonging the death agony of the gold dollar exchange Bretton Woods system by more than three additional years.
The problem was that a rise in interest rates also meant that the crisis of overproduction that was being held at bay by the Keynesian “expansionary policies” of the U.S. government and Federal Reserve System — on a global scale, the growing U.S. balance of payments deficit being simply a part of the expansionary policy — would break out. However, the deflation and depression that would have followed, though perhaps not as extreme as the 1930s, would still have been far worse than the economic crisis of 1957-61.
That is exactly what the U.S. government, already facing a mass movement against the war in Vietnam, rebellions in the working-class African American inner cities, and the general mood of rebellion that characterized the late 1960s and the beginning of the 1970s, feared most of all. What would happen if a major new depression led to the radicalization of the heavy battalions of organized labor? The ghost of the Depression and the subsequent unionization of basic industry haunted the U.S. — and world — capitalist class.
Therefore, during the international monetary crises of 1968-71, the U.S. government and Federal Reserve System never considered raising interest rates sufficiently — and for a sufficient period of time — to save the Bretton Woods international dollar-gold exchange standard. Remember, the gospel of the bourgeois economists since the Depression had been that the general price level in terms of U.S. dollars must never be allowed to fall — a policy later dubbed “inflation targeting.” The only other possibility was a major devaluation of the U.S. dollar and, to varying degrees, the other capitalist currencies linked to it.
If the amount of real money — gold — represented by each dollar has fallen — and this is what is meant by the economic slang expression “the price of gold has risen” — each individual dollar represents less gold than before. Back in the late 1960s, a dollar meant 1/35th of a troy ounce of gold.
Now, if the dollar is devalued against gold — the dollar price of gold is allowed to rise to a greater or lesser degree on the “free market” — and if the prices of commodities in terms of dollars remain unchanged, then prices in terms of gold — real money — will fall.
Keynes, who had represented Britain at the Bretton Woods conference, had never really liked the Bretton Woods dollar-gold exchange system that emerged from the conference. Instead, he proposed a worldwide paper currency that would be administered jointly by the “victorious” imperialist powers. But in reality, there was only one victorious imperialist power — the United States — and Keynes was turned down.
Since at least the 1920s, Keynes had dreamed of a “managed currency” that would finally end the monetary role of gold — or any other commodity money — once and for all. Keynes believed such a monetary “reform” — a reform that Marx demonstrated was impossible under the capitalist mode of production — would enable the monetary authorities to drive the rate of long-term interest below the rate of profit, no matter how low the rate of profit fell.
Keynes imagined that with gold “dethroned,” the monetary authorities would be able to create sufficient demand to guarantee “full employment.” He believed this could be done using deficit spending if long-term interest rates fell so close to zero that it would be difficult to lower them further. The threat of “general gluts” — crises of overproduction — which Keynes admitted, in contrast to the “orthodox marginalists,” were possible under the capitalist system — would finally be ended once and for all. Then Keynes claimed that the alleged economic laws “discovered” by the marginalists that assume “full employment” would finally begin to operate.
Under the old international gold standard, as Keynes saw it, gold had gotten in the way of the monetary authorities creating sufficient monetary demand to ensure “full employment.” Instead, the monetary authorities, such as the Bank of England, found their hands tied by their obligation to pay out five gold sovereigns for every five-pound banknote that was presented to them. Hence, according to Keynes, the crises.
Therefore, Keynes believed the gold standard in any form — even in the form of a gold exchange standard — should be abolished. But Keynes failed to convince the United States authorities of the wisdom of this at Bretton Woods. True, the Bretton Woods system was designed to be considerably more flexible than the old pre-World War I international gold standard had been. But even under the Bretton Woods system, gold could still get in the way of “expansionary policies.”
For example, the gold drain that the United States suffered in the wake of the 1957-58 recession forced the Federal Reserve System to raise interest rates so rapidly to save the dollar-gold exchange system that the U.S. economy was thrown into the double-dip recession of 1960-61. Richard Nixon, the right-wing Republican candidate for president in 1960, believed the Fed’s “tight money” policy in 1960 cost him the White House in the 1960 U.S. presidential election. He had no desire for history to repeat itself in the 1972 election.
With Nixon’s decision to finally close the gold window in August 1971, the Keynesians were convinced that gold would no longer get in the way. The Federal Reserve System and other central banks would now be free to create whatever amount of money was required to maintain the effective demand necessary for full employment. Gold’s long reign was finally over; the managed currency of Keynes’s dreams was at hand! Crisis-free capitalism had finally arrived! Or so the economists thought.
The Keynesians weren’t alone among the bourgeois economists in applauding Nixon’s decision to finally end what remained of the dollar’s convertibility into gold. Another supporter of Nixon’s decision to “close the gold window” was a certain University of Chicago economics professor named Milton Friedman.
Professor Friedman had no use for Nixon’s other moves announced on August 15, 1971, such as the wage-price freeze or the temporary 10 percent tariff. To the end of his days, Friedman complained that Nixon was the most “socialist” president in the history of the United States, even worse than that notorious pinko Franklin D. Roosevelt!
But Friedman did approve of the decision to end the last trace of the convertibility of the U.S. dollar into gold. According to Friedman, since gold coins had stopped circulating in the United States in 1933, gold was no longer money but simply “another commodity.” Under the dollar-gold exchange standard, the government was “supporting” the price of gold. This violated the most sacred law of the free market: The government must not interfere with commodity prices, including the price of gold. Anything else was “socialism”! Prices, including the dollar price of gold, must be determined only by supply and demand on the free market.
Bretton Woods gold-exchange standard versus ‘monetarism’
As long as the U.S. dollar — or other currencies — were still convertible into gold, the need to redeem currencies in gold could get in the way of the steady growth in the money supply that the “monetarist” Friedman held was the key to a crisis-free capitalism. For example, after the 1957-58 recession, the Fed should not have moved to restrict the growth of the “money supply” but was forced to do so by the need to maintain the price of gold at $35 an ounce. The “socialist” policy of state determination of the price of gold had caused the recession of 1960-61, which led to the defeat of the Republican presidential candidate — and future “socialist,” according to Friedman — Richard Nixon.
A Critique of Crisis Theory 