J M Keynes, a key architect of the modern monetary system, may have a mixed feeling if he were alive now. The global economic coordination is anything but smooth
Bretton Woods (BW) is a great example of human intent despite great adversity. How people from 44 countries agreed to meet in Bretton Woods, a remote place in northern US with the Second World War raging, is something which can perhaps be only imagined in movies. But this was reality and nearly 800 people congregated crossing the Atlantic where Nazi ships were always on the prowl.
The main purpose of the meeting was to set in place a new international monetary system. Then, most economies followed the Gold Standard which was a fixed exchange rate convertible in gold. This was suspended as wars required large scale stimulus and the Gold Standard did not allow monetary easing.
Even as WW-II was being fought, countries understood that they had to resurrect the international monetary system, which led them to BW. In a way, BW was a strategic place as it protected the participants from WW-II due to its geographic location.
Noted economist John Maynard Keynes, along with Harry Dexter White (the US representative), were key to shaping the new system. The war had destroyed European economies and the onus was on the US which was not just the largest economy, but had broadly escaped the destruction of two World Wars.
The policy makers adopted a new monetary system which was centred on the US dollar (USD) instead of gold. Currencies were fixed against USD and the USD was in turn pegged to gold, implying that only the US was required to maintain gold reserves.
The Bretton Woods system would also last for just 27 years. In this period, the US economy declined as Europe and particularly Japan recovered from the war. The US had its domestic problems due to the Vietnam war, which led to high budget deficits. The US currency was overvalued making it difficult to maintain gold reserves. In 1971, US President Richard Nixon announced the closure of the “gold window”.
This decision shocked the international monetary system leading to chaos. Behind every crisis lies an opportunity and this was seen in the case of exchange rates as well. The crisis led to the development of the idea that currencies were like any other price which could find their level based on demand and supply. Quite a few countries moved in this direction and allowed their exchange rates to be flexible/floating.
The BW exchange rate is history, but the meeting also created two institutions which remain until today: the World Bank (WB) and the International Monetary Fund (IMF). WB was started to help in post-war reconstruction (earlier named as International Board for Reconstruction and Development) and IMF as guardian of the international monetary system.
Moving forward 75 years later, how would have Keynes reacted to the current developments? IMF historian Atish Ghosh in a fascinating tribute (Lord Keynes pays a visit, June 2019) wrote how Keynes would both be surprised and see similarities with his times.
The big surprises would be to see UK delegated to 5th position in IMF ownership (called as quota) and a woman (Christine Lagarde) heading IMF! On policy, he would be amazed by the following: the rise of China and digital economy, dominance of floating exchange rates, IMF moving to a new role of surveillance of exchange rate policies and preventing financial crisis.
Keynes would be pleased to note that his idea of starting an international currency (named Bancor) eventually was adopted in the form of Special Drawing Rights, but would be disappointed it could not achieve the desired status.
Having said that, Keynes would say the nature of problems may have changed, but IMF is still needed to resolve balance of payments problems and provide global liquidity. He might revel in the fact that IMF as an institution managed to transition itself and adapt to these changes. This is why we have institutions in the first place.
Apart from these basic matters, Keynes might worry over the fact that global economic coordination remains in peril. The US and China are engaged in a trade war leading to a slowdown in not just their economies, but the world economy as well. He would actually be disappointed as to how the two leading economies are not playing a balancing role.
His own UK is undergoing Brexit which means years of hard work of aligning the UK with Europe has gone astray, that too by a mere referendum. Europe’s future is again looking bleak, given multiple economic and political problems. Keynes will also be worried over rise of nationalistic sentiment across the world, as these very forces led to world wars in the first place.
Keynes would also be disappointed to note how the governance of BW institutions remains in the clutches of the developed world. The US and Europe have divided the institutions amid themselves, with the US dominating World Bank and Europe presiding over IMF. This is not how we should be governing institutions and especially the global ones he helped create 75 years ago in Bretton Woods. It is not surprising that the other economies have created their own institutions such as Asian Development Bank, African Development Bank, Inter-American Development Bank and the like.
Finally, coming to India’s role in Bretton Woods. A separate delegation represented India in BW meetings despite being under colonial rule (the Philippines was the only other colony which participated). The Indian delegation was led by then Finance Minister, Jeremy Raisman and comprised C D Deshmukh (then RBI governor), Theodore Gregory (economic adviser to the government), Shanmukham Chetty (politician and later first FM of independent India), A D Shroff (industrialist), B K Madan (director of research at RBI) and David Meek (Indian trade commissioner in London). The delegation fought for Indian interests despite being a colony, impressing Keynes.
India managed to negotiate a higher share in quota and was placed fifth in the pecking order which was really impressive (currently India is placed 8th in the list). The UK had taken large loans from its colonies, including India, to fight wars and its payback was an important point of discussion.
Keynes having served as an ICS officer might be disappointed with India’s economic performance after its independence, but would have appreciated its resurgence since 1991. He would hope that India along with developing countries gets a higher quota in BW institutions, so that they stay relevant in the next 75 years.Amol Agrawal is faculty at Ahmedabad University. Views expressed are personal.Subscribe to Moneycontrol Pro and gain access to curated markets data, trading recommendations, equity analysis, investment ideas, insights from market gurus and much more. Get Moneycontrol PRO for 1 year at price of 3 months at 289. Use code FREEDOM.