CONGRESSIONAL RECORD -- SENATE
September 23, 1965
Page 24898
U.S. BALANCE OF PAYMENTS: THE DOLLAR
Mr. MUSKIE. Mr. President, one of the most important problems facing the country during the past year has been the continuing large deficit in our balance of international payments. This deficit in other recent years has been balanced by a buildup of holdings of dollar assets by foreigners. These assets have been acquired in part by private individuals and business abroad and in part by foreign governments and central banks. To some degree their increase represented the accumulation of essential working balances and liquidity reserves. At times, however, foreign dollar holdings have moved into the hands of central banks and governments, which have chosen to convert them into gold. In 1965, these conversions have been particularly large, and the U.S. gold stock declined by $1.5 billion in the first 7 months of this year.
Such a depletion of our gold reserves following a loss of about $7 billion in the preceding 7 years, cannot continue indefinitely without endangering the position of the U.S. dollar as the most important and useful instrument of international exchange and monetary reserves for the entire world. The increased foreign claims on dollars have developed from the deficit in our international balance of payments. Last February the President inaugurated a program, based largely on voluntary actions by American businesses, financial organizations, and individuals to reduce the outflow of dollars.
To probe the causes of the continuing deficit and appraise possible measures for correcting it, the Subcommittee on International Finance of the Senate Committee on Banking and Currency has conducted a series of hearings in the course of this session of the Congress. The results of these hearings, together with other background material on the subject of the balance of payments have been published by the committee in two volumes.
An excellent summary of this situation, an appraisal of the results of measures adopted to correct it, and an astute analysis of the world monetary situation and of some of the problems that lie ahead have recently been set forth in a speech by the Honorable Joseph W. Barr, Under Secretary of the Treasury, before a meeting of the National Association of Manufacturers at Hot Springs, Va. Mr. Barr points out that although there has been a remarkable reduction in our payments deficit since early this year, this accomplishment has been in part the result of special factors and cannot be used as a basis for relaxing efforts to maintain a more sustainable state of equilibrium in our international accounts.
I ask unanimous consent to have printed in the RECORD at this point Secretary Barr's speech.
There being no objection, the speech was ordered to be printed in the RECORD,as follows:
REMARKS BY THE HON. JOSEPH W. BARR, UNDER SECRETARY OF THE TREASURY BEFORE THE NATIONAL ASSOCIATION or MANUFACTURERS, AT THE HOMESTEAD HOT SPRINGS, VA., TUESDAY DAY, SEPTEMBER 21,1965
Time was when international finance was a subject confined for the most part to the officials of the larger banks, central banks, and the Treasury. Not many people outside this small group understood or cared much about it. Not so today. It is one of the hottest topics going. It seems as though every publication has something to say at one time or another about our balance of payments, gold losses, and international liquidity.
This is a mixed blessing to us in the Treasury. On the one hand, a widespread interest among the public in this important national problem is an encouraging sign of an alert citizenry and ultimately it will be those outside the Government who will be responsible for the solution to our balance-of-payments problem.
On the other hand, the Treasury Department, having the primary responsibility for this area, is the focusing point for this intense public spotlight and we are frequently taken to task and called upon to account for our actions or inactions -- as the case may be.
This is fair enough -- 6 years in American politics has convinced me that criticism and debate can be especially helpful in formulating our national policies. But I am concerned that this debate sometimes gets off the rails because the subject matter is novel and complex.
I would suppose that nearly every and woman in this room has had some academic background in economics. I would suppose that most of us can carry on a good reasonable argument on monetary policy and on fiscal policy. But I wonder how many are fully grounded in the concepts of the international financial mechanism that has largely developed since World War II?
I would venture that most of us could discourse reasonably on the old gold standard that we were taught in college. But how many understand the workings of the International Monetary Fund, the concepts of liquidity and the role of the dollar in international nuance? I would suggest to you that these subjects are not academic curiosities. They are, on the contrary, issues that have an intensely practical application to your businesses and to the role this Nation will play in the world. Therefore, my address today can be considered more as a paper on fundamentals rather than a statement of policy.
Specifically, I will discuss the role of the dollar in the world today, the problem of our balance of payments, its relationship to world liquidity, the administration's approach to these matters, and where we stand today. As this address is designed more for information than for policy, I shall be delighted to answer any questions that may occur to you at the conclusion of my formal remarks.
THE ROLE OF THE DOLLAR
When we discuss the American dollar, I think it is important to bear in mind that the dollar serves three roles: as a national currency, as a key (sometimes referred to a vehicle) currency, and as a reserve currency.
THE DOLLAR AS A NATIONAL CURRENCY
The first role, as a national currency, is, I think, obvious to everyone. The dollar in his historic role is our domestic medium of a exchange designed to meet the needs of our domestic financial transactions. Also, I think most people understand that our domestic money supply must grow over the ears as our economy grows. There is some limit on how many times a year you can use a dollar for different transactions, and as the economy grows and transactions increase there is an obvious need for more dollars to keep things moving.
There is not such a clear understanding however, of the second and third roles, and discussions of our balance of payments and world liquidity sometimes confuse the two.
THE DOLLAR AS A VEHICLE CURRENCY
We speak of the dollar as a vehicle currency, we refer to its use in financing international trade and payments. The dollar in this capacity is held by private banks, businesses, and individuals throughout the world as a medium of exchange for their international transactions; they use it just as they use their own currencies for their domestic transactions.
Dollars held for this purpose -- what we call private foreign dollar holdings -- amount to over $11 billion.
How did it come about that the dollar should serve this role more than any other currency?
Robert Roosa puts it succinctly in his new book:
"Because of the importance of the United States in world trade was itself very large, as seen from most other countries;
"Because there were ample and versatile credit facilities available from which supplemental supplies of dollars could be obtained at short term;
"Because accumulations held for transactions purposes could be readily invested in liquid form at reasonable rates of return;
"Because foreign transactions form so small a part of the vast U.S. markets that foreign holders have little reason to fear that their operations would become conspicuous or subject to
interference; and
"Because the dollar had an established tradition -- honored through various periods of stress -- of maintaining open markets free of the dictation and the intrusions characteristic of exchange control;
"And lastly a purely technical reason. There are 102 members of the IMF. If financial transactions were denominated in the currencies of every nation, a little simple arithmetic will show that you would raise the 102 currencies to the second power or a figure of 10,404 to arrive at the different methods in which a transaction could be accounted for. To avoid this chaotic situation, when a businessman in country A sells to a customer in country B the transaction usually will work like this: The customer in country B buys dollars; with the dollars he buys the national currency of country A and uses these funds to pay the seller."
This is why we sometimes refer to the role of the dollar as a vehicle currency. It is a crucial role and it acquired this role for the reasons I have listed above. Like its role as a domestic or national currency, the need for dollars as a vehicle currency increases as world trade and financial transactions increase.
To summarize, the dollar is available, it is safe, and it is enormously convenient to have one or (or if one includes the British pound and French franc) two or three currencies that many countries can use, in an infinite variety of bilateral trade transactions, as a kind of common denominator.
THE DOLLAR AS A RESERVE CURRENCY
The dollar's third role -- that of a reserve currency -- has developed for many of the same reasons that have made it a vehicle currency.
By a reserve currency we mean that dollars are held by governments and central banks as a
highly liquid and dependable asset that they can use along with gold to carry them over times of temporary imbalance -- precisely the way you, as businessmen, keep reserves for contingencies.
But there is an important distinction between the role of the dollar as a vehicle currency and its role as a reserve currency. I have mentioned that probably the principal factor in the dollar's role as a vehicle currency is convenience. I believe that the principal factor in the dollar's role as a reserve currency is confidence -- confidence in the ability to use it quickly and at an assured price. These are approximately the criteria most businessmen use in acquiring and holding assets as contingent reserves.
Those who hold the dollar as a reserve currency, central banks and treasuries, do so in the knowledge that these dollars are freely convertible into gold at the fixed price of $35 an ounce.
The fact that we have not varied from this policy and this fixed price for over 30 years plus the fact that we are the only country which stands ready to exchange gold for holdings of its currency has made the dollar second only to gold as an international reserve asset.
Foreign monetary authorities hold about $14 billion in their reserves. These dollars are used to finance their balance-of-payments deficits and surpluses and as a cushion for the future. While these two international roles of the dollar are interdependent -- dollars flow back and forth between official and private hands -- changes in the world's holdings of its vehicle currency dollars can have quite different implications than changes in the world’s holdings of its reserve currency dollars.
To illustrate, the amount of dollars (or any other vehicle currency) held by banks and businesses for trade and finance will probably grow as world trade grows and develops. The dollars held for reserves can vary with the judgment of central banks and governments on (a) what amount of reserves they need and (b) their judgment as to the potential value and usefulness of the dollar.
One final note on our dollar liabilities. While the large amounts of dollars which foreigners now hold represent liquid liabilities and potential claims on our gold reserves, the fact that the world is willing to hold such large amounts of dollars is testimony to their confidence in the dollar. The program to which I refer next is designed to make sure that the integrity of and international confidence in the dollar are maintained.
THE TWIN PROBLEMS OF BALANCE OF PAYMENTS AND WORLD LIQUIDITY
Most of the current discussions of international finance concerns twin problems: our balance-of-payments deficit and world liquidity.
I do not mean to insult your knowledge, but let's make certain of our definitions. First of all let's define the balance of payments. It is not as easy as it might seem because it is an accounting of our private and Government transactions with the rest of the world. In dangerously simplified terms the major transaction would be like this:
WHAT FUNDS GO OUT
1. Money spent to buy imports (including shipping costs to foreign lines).
2. Money spent by tourists.
3. Money spent by the United States in maintaining troops overseas.
4. Money loaned by banks and the Government to foreign borrowers.
5. Money invested in industries in foreign nations.
6. Money given as untied grants under our foreign aid program.
7. Money sent abroad as payment of interest and principal due by U.S. borrowers.
8. Money remitted as dividend payments to foreign holders of U.S. securities, or as branch income of foreign corporations.
WHAT FUNDS COME IN
1. Money spent by foreigners to buy our exports.
2. Money spent by foreign tourists in the United States.
3. Money loaned by foreign banks and governments to U.S. borrowers.
4. Money invested by foreigners in U.S. industries.
5. Remittances of interest and principal payments on debts foreigners owe to U.S. lenders.
6. Remittance of dividend income and income of U.S. overseas branches to U.S. investors and corporations.
I have warned you that this is highly oversimplified accounting, but it does include the major items.
When the outgoing items exceed the incoming, we say that we have a deficit. When the reverse is true we say that we have a surplus.
Now some one at this juncture will say, "It is nonsense to keep accounts like these. You have current items such as funds spent on imports or money spent by tourists lumped together with capital items such as long-term loans and investments."
This is very true indeed and that is where the question of liquidity enters the picture. Just what do we mean by liquidity? The corporate explanation of liquidity is the relation between short-term liabilities and short-term assets. It seems to me that the international economists are much less precise in their definition. When they speak of liquidity, they usually refer to the official (government and central bank) holdings of gold and convertible currencies and the credit available on a rather automatic basis in the IMF. The relation of these assets to short-term liabilities is usually meaningless to most countries because their currencies are not used as a vehicle in commercial transactions or held as reserves.
However, in the United States the corporate definition of liquidity that relates liquid assets to near-term liabilities is more appropriate. "It is in fact crucial because as I have pointed out $11 billion are held by private foreigners for trade and finance and $14 billion by official foreigners as reserves.
Thus, the proper definition of liquidity would probably be in three parts. For most nations it could be defined as their holdings of convertible foreign currencies, gold, and their IMF position. For the United States it is more precise to define liquidity as the relation between these assets and our short-term liabilities. For the world as a whole, you would probably define liquidity as the amounts of acceptable international resources (gold, convertible currencies, and automatic credit at the IMF) available for trade, finance, and reserves.
Now let's look at our balance-of-payments. In essence, the balance-of-payments problem is one of U.S. liquidity. Our overall financial position is good and improving but our international liquidity has been deteriorating. To illustrate, at the end of 1964 our private foreign investments alone exceeded the total of all foreign claims on us -- official and private -- by over $18 billion. The comparable figure in 1958, when our balance of payments first became a serious problem, was less than $7 billion. This is without taking any account of our gold stock which at the end of 1964 amounted to over $15 billion and our Government claims on foreign countries which amounted to over $23billion. Our overall position, therefore, is obviously immensely strong.
But in the process of building up these tremendous foreign assets, most of which are long-term assets, we have incurred large short-term liquid liabilities, which, while much smaller than our long-term assets, have been large in relation to our gold reserves.
At the beginning of 1958 our holdings of gold came to almost $23 billion. They now stand at less than $14 billion. Over the same period our dollar liabilities to foreign official institutions rose from less than $9 billion to over $14 billion.
It is obvious that this process of lending long and borrowing short cannot go on indefinitely, and I think that most responsible observers are agreed that our balance of payments must be brought into equilibrium to bring it to an end. But at this point the second of our twin problems comes into focus. If the dollar outflow from the United States is ended, how will the world's needs for a key currency and a reserve currency be met?
You will remember that I have earlier indicated that net outflows of dollars have not always been turned back to the United States. Some of these dollars have been retained by foreigners to increase working balances to finance an expanding level of trade and finance and some of these additional dollars have been held to build up official reserves.
On its face, it appears that we are faced with a dilemma. Actually, careful analysis leads us to believe that the ending of our deficit may not create a world liquidity problem for sometime to come.
Over the past 4 years, while we have not changed the basic structure of the international payments mechanism, we have substantially fortified it. Just this year, the members of the International Monetary Fund agreed to support a general increase in IMF quotas of 25 percent or about $5 billion. In 1961, the 10 major industrial nations known as the Group of Ten, negotiated with the International Monetary Fund a so-called general arrangements to borrow whereby the 10 nations agreed to lend to the IMF up to $6 billion should this be necessary "to forestall or cope with an impairment of the international monetary system."
Added to this multilateral source of funds are the various bilateral arrangements whereby the major countries stand ready to swap their currencies with one or more of the other countries in time of need. The substantial support which the IMF and the leading countries have extended to the pound sterling in recent months is testimony to the strength of the present system. In noting these strengths of the present international payments system, I am not arguing that nothing further needs to be done. I note them only because in recent months some people have unjustifiably jumped to the conclusion that an ending of the U.S. balance-of-payments deficits will immediately bring about a shortage of world liquidity and a crisis.
In addition to overlooking the very real strength of the current system, those who make the oversimplified argument that we should continue our balance-of-payments deficit to maintain world liquidity overlook two other basic points. First, the dollar cannot continue to be a reserve currency if we continue a balance-of-payments deficit of the magnitudes that has prevailed in the past. Sooner or later our liabilities will become so large in relation to our gold reserves that foreign central bankers will no longer believe that the dollar is, in fact, as good as gold and they will not be willing to hold it.
Second, a deficit in our balance of payments does not necessarily and automatically increase world liquidity if the countries which are receiving the dollars cash them in for gold. Their reserves go up but ours go down, and the world total remains the same. To illustrate the point, in the first quarter of this year the deficit in our overall balance of payments, seasonally unadjusted, was $180 million. But these dollars did not become new additions to total world reserves. Rather, they came right back to the U.S. Treasury Department to be exchanged, along with dollars accumulated in past periods, for some $800 million worth of gold. A continuance of the dollar outflow would lead to more of the same, a transfer of gold from the United States to the European surplus countries with little or no gain for world liquidity as a whole but with continual decreases in our liquidity.
THE ADMINISTRATION'S APPROACH
The administration's approach to these twin problems is to move quickly and certainly to balance-of-payments equilibrium and at the same time to move forward in discussions on improving the world's monetary system.
I have pointed out why it is imperative for us to restore equilibrium in our balance of payments.
But what, it is asked, do we mean by equilibrium? Is it an exact balance or does it allow for some deficit, say $500 million, $1 billion, or even more?
Our feeling in the Treasury is that equilibrium cannot be defined solely in terms of a figure: It is importantly a matter of confidence. Whether a given figure for the overall balance of our international transactions represents equilibrium depends on the particular circumstances at the particular time. But while we may not be able to define in precise numerical terms what equilibrium is, we can say that it does not exist when the United States is continually losing gold. Perhaps; then, the best indication of what equilibrium in the US. balance of payments is, is what the rest of the world thinks it is. The extent to which they cash in their dollars for gold is, in short, a very useful indicator.
We are seeking the long-run basic solutions to our balance-of-payments deficit through measures which are consistent with our domestic objectives and our foreign policy objectives, and consistent with a growing volume of world trade and capital movements In brief, our long-run approach is to:
1. Continue to minimize the balance-of-payments impact of Government expenditures abroad;
2. Strive to increase our exports and receipts from foreign tourists;
S. Encourage other developed nations to take on more international financing to relieve us of a disproportionate share;
4. Take measures to encourage more foreign investment here.
To gain the necessary time for these longer run measures, we have undertaken shorter run measures which President Johnson outlined lined in his message last February 10. These consist of efforts to reduce foreign travel expenditures by U.S. citizens; the extension and broadening of the interest equalization tax; and, most importantly, the request that banks and corporations curtail or adjust their activities to lessen the balance of payments impact of capital outflows.
The key to success in this program, both in the short run and in the long run, is the business community. For the short run, we must have the effective cooperation of the business community to give us the time for our longer run measures to take effect. And in the long run, the competitive position of American business in relation to the other major trading countries will be critical.
First of all, we must maintain our good record of relative price stability. Secondly, American business must become more energetic and effective in finding and exploiting foreign markets for American exports.
Shortly after President Johnson announced his new balance-of-payments program on February 10, there was an encouraging swing to a surplus in our balance of payments. It is far too early, however, to conclude that this represents a permanent trend toward equilibrium. Some of the gains were due to special factors, some were one time gains. We are by no means out of the woods yet. But we do feel that we have a program which is sound and can bring us to equilibrium if all of us follow through on it.
While the subject of world liquidity has only recently come into public prominence, the United States several years ago joined with other major countries in comprehensive studies of the international monetary system, its recent evolution, its present effectiveness and its future. On June 1 of this year, this multilateral study group issued a report which exhaustively examines the possible ways to strengthen the system. In July, Secretary Fowler announced that the United States stood prepared to participate in an international monetary conference that would consider what steps we might jointly take to secure substantial improvements in international monetary arrangements.
On, September 10, Secretary Fowler returned from a 10-day trip to Europe during which he exchanged views with officials of seven countries on how we might move ahead to improve the workings of the international monetary system. Secretary Fowler had earlier conferred in Washington with Canadian and Japanese officials.
He found agreement that present circumstances call for a reexamination of the free world's monetary arrangements; that we should begin contingency planning. for the possible time ahead. when new ways of providing for growth in monetary reserves will become necessary; and that active discussions on negotiations should begin in the near future at the level of policy making officials.
The annual meeting of the International Monetary Fund beginning next week offers a logical opportunity to start putting the negotiating machinery in motion.
In both the case of the problem of the U.S. balance of payments and that of international monetary reform, therefore there are signs of progress. I would rather close, however, on a note of caution. A basic change in the world monetary system will not come about quickly or easily. To reach agreement among all the nations involved on anything so basic will require time and enormous effort.
A lasting improvement our balance of in payments -- lasting enough to be meaningful in the context I have described -- will also require time and effort.
The President program is broad-gaged, requiring some sacrifice of many elements of the population but no unreasonable sacrifice, in our judgment, of any one element. Of course more tourists would like to bring back more goods duty-free from abroad; of course, banks and other lenders would like to lend as freely as possible abroad; of course businessmen would like to take advantage of every attractive overseas investment opportunity. Essentially, we are asking these groups to adjust -- not halt -- these practices, so that confidence in the dollar will be sustained..
If confidence in the dollar is sustained, if the international monetary system evolves in a sensible way, we will have created the best possible environment for the American economy -- American businessmen -- to demonstrate their formidable competitive strength in the world at large, in the years ahead.