The World Economy 1979

Andrew Shonfield

From Foreign Affairs, America and the World 1979

Article preview: first 500 of 10,908 words total.

Summary:  The troubles of the dollar, intermittently rising close to the crisis point during the year, once again dominated the international economic system. It became evident by the summer that the November 1978 measures of massive international support for the dollar had not worked as planned. Part of the trouble was that the post-1975 U.S. economic expansion proved to be more robust than had been supposed; moreover, the Federal Reserve?s deflationary stance seemed to the rest of the world unconvincing. So in the end the American boom had to be publicly and unmistakably decapitated. This was done on October 6, with all the appropriate gestures, by Mr. Paul Volcker, who had taken over the chairmanship of the Federal Reserve System a few weeks earlier.

Sir Andrew Shonfield is Professor of Economics at the European University Institute, Florence. He was Director of the Royal Institute of International Affairs, London, from 1972 to 1977, and before that Chairman of the British Social Science Council. He is the author of The Attack on World Poverty (1960); Modern Capitalism (1965); Europe: Journey to an Unknown Destination (1974); and editor of the RIIA survey International Economic Relations in the Western World (1975).

The troubles of the dollar, intermittently rising close to the crisis point during the year, once again dominated the international economic system. It became evident by the summer that the November 1978 measures of massive international support for the dollar had not worked as planned. Part of the trouble was that the post-1975 U.S. economic expansion proved to be more robust than had been supposed; moreover, the Federal Reserve's deflationary stance seemed to the rest of the world unconvincing. So in the end the American boom had to be publicly and unmistakably decapitated. This was done on October 6, with all the appropriate gestures, by Mr. Paul Volcker, who had taken over the chairmanship of the Federal Reserve System a few weeks earlier.

By then, the rate of increase of U.S. consumer prices had risen to double figures and the only way to convince the international community that the United States was this time in deadly earnest about reestablishing the capacity of its currency to act as a reliable store of real value was to provide demonstrable evidence that the U.S. economy's apparently irresistible propensity to grow had not only been stopped but had been effectively reversed. The dollar's recovery in foreign exchange markets thus became dependent on the belief that the series of measures taken by the U.S. authorities, culminating in the Volcker package, could be relied upon to push the United States into a recession. To this extent, whatever good domestic economic reasons there may have been for curbing the pace of an already flagging economy-and for doing so in a way which decisively lowered the inflationary expectations of native Americans-the form of the final deflationary squeeze and the degree of its severity were imposed by external forces.

It is true that American self-suspicion not only reflected but also reinforced the international pressures. There was probably enough of this suspicion to counter the possibility of a hostile popular reaction that here was a healthy home-grown piece of American prosperity killed off by foreigners. It was visibly not healthy-though that may still not in the end save the foreigners from being blamed for their part in the 1979-80 economic reversal, once the full consequences in terms of unemployment and business bankruptcies become apparent later on.

The monetary relationship between the United States and "foreigners" was, predictably, a great deal more complex than this simplified version of events suggests. The foreign central banks were indeed exceedingly active in buying up dollars as part of a collective effort to ward off a succession of speculative attacks on the U.S. currency in foreign exchange markets. Britain and Italy, which against most expectations proved to have the two strongest currencies in the European system during the first half of 1979, were especially heavy buyers of dollars which they added to their reserves. It was the German central bank, however, which played the crucial role during the early months of the year and again later on. It began the year with heavy support ...

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