The Global Financial System is Ready to Blow
To understand the mess we are in, it’s important to know how we got here. We begin with the 40th anniversary of Richard Nixon’s announcement that America was suspending the convertibility of the dollar into gold. (at $35 an ounce.)
With concerns in the late 60’s mounted over America’s rising trade deficit and the cost of the Vietnam war, Nixon called time on the Bretton Woods system of fixed but adjustable exchange rates, under which countries could use capital controls in order to stimulate their economies without fear of a run on their currency.
Four decades on, it is hard not to feel nostalgia for the Bretton Woods system. Imperfect though it was, it acted as an anchor for the global economy for more than a quarter of a century.
There have been big structural changes in the way the global economy has been managed since 1971, none of them especially beneficial. The fixed exchange rate system has been replaced by a hybrid system in which some currencies are pegged and others float.
Today almost every country in the world is now seeking to manipulate its currency downwards in order to make exports cheaper and imports dearer. This is clearly not possible.
The break-up of the Bretton Woods system paved the way for the liberalization of financial markets. This began in the 1970s and picked up speed in the 1980s. Exchange controls were lifted and formal restrictions on credit abandoned. Policymakers were left with only one blunt instrument to control the availability of credit: interest rates.
A crisis that has been four decades in the making will not be solved overnight. It will be difficult to recast the global monetary system to ensure that the next few years see gradual recovery rather than depression.
Together, the global imbalances, the manic-depressive behavior of stock markets, the venality of the financial sector, the growing gulf between rich and poor, the high levels of unemployment, the naked consumerism and the riots are telling us something.
This is a system in deep trouble and it is waiting to blow.
[Excerpt of Guardian article by Larry Elliott]