Golden Years

Forty years ago Monday, the Bretton Woods agreement died, ending the US’s use of the gold standard and allowing currencies—and gold—to float freely. The US moved to a fiat currency system, and by extension, so did every country whose currency was pegged to gold through the dollar.

Fascination with round anniversaries being what it is, the financial press was abuzz with commentary attempting to assess how ending Bretton Woods has worked. Here’s one particularly sensible take:

Bretton Woods, RIP

Aside from this article’s assertion that America has “a political dysfunction that undermines US status,” we found this to be a well-reasoned epitaph overall: “It may not be polite to speak ill of the dead, but Bretton Woods has been romanticized. On the 40^thanniversary of its death, the conditions do not exist for a new international economic order.”

How has it been romanticized? Many assume Bretton Woods was responsible for the decades of strong economic growth after World War II, but as this piece shows, that’s not entirely true. Mid-20^thcentury growth was tied to many factors, like “reconstruction after the war, the deploying of technical advances accelerated by the war effort, the unleashing of pent-up consumer demand, vigorous labor movements, and low commodity prices, including oil.”

Which is good, not bad.

Forty Years On

In accounting for what the end of Bretton Woods meant for markets, this article too brought up some fairly levelheaded points: Floating rates allowed capital to move more freely around the world and gave central banks more monetary policy tools. But then our agreement largely stops. “In terms of the old gold measure, the dollar has devalued by 98% since the end of the Bretton Woods era.”

Okay, fine, but why value gold against a measure that’s been defunct for 40 years? Here’s perhaps a more meaningful way to put it in context: Since November 1973, when Bretton Woods’ unwinding was complete and gold began trading freely, the S&P 500’s absolute return has more than tripled gold’s. What’s fair to take from gold’s price increase over that 40-year period is that a government-mandated price point for currency pegging is really just an artificial interference with the supply and demand for gold.

Forty Years of Paper Money

Some argue (like in the article above) history shows a floating dollar (or any fiat money) is a bad idea, ultimately leading to hyperinflation and economic collapse, bubbles and overextended governments. As a result, what of the many paper money systems that existed over the past millennium? “All of them ultimately failed.” And our particular current money system gets a searing indictment: “Forty years of monetary expansionism have led to distorted prices, misdirected economic activity and unsustainable debt levels.”

But actually, that same post-Bretton Woods era has seen 40 years of improving living standards globally. And never mind that federal government debt existed pre-1971, sometimes at higher levels (relative to GDP) than today. Bubbles? They existed too. As to economic woes, it isn’t like the gold standard is a panacea to prevent any and all economic ill—in fact, just a cursory review of the 19^th and early 20^th centuries shows cycles progress from expansion to contraction regardless of how money is valued. In fact, all the things the author notes as the scourge of paper money had also existed while on the gold standard.

Also, flip that historical argument: Commodity-based monetary systems have existed several times in history—going back eons and encompassing everything from chickens to shells to shiny metal. Yet we keep abandoning them for fiat systems. Commodities—like any tangible thing, including paper money—are only as valuable as people perceive them to be.

Not all about fiat money

Since Bretton Woods’ demise occurred at the start of a lackluster decade, some see causation—arguing its end brought economic dislocation. We agree the 1970s aren’t known for their economic vibrancy, and displacements from the change-over to a fiat system no doubt had ripple effects. But is it really so simple as to point the finger exclusively at Bretton Woods?

Recall the 1970s for what they were: Subpar overall but not uniformly bad, though Bretton Woods ended early in the decade. In our view, Nixon’s tariff increases and peacetime wage and price controls (among other factors) played a material role. And where’s the mention of global factors like OPEC oil embargoes? Next, try squaring the theory abandoning the gold standard was the driver of economic negativity with the fact we had fiat money throughout the 1980s and 1990s. If Bretton Woods is to blame for the 1970s, then please explain the rapid growth during those two decades.

Animal, vegetable or mineral

Yes, a free-floating system can bring more exchange rate volatility, but fiat money isn’t inherently bad—there’s no reason it can’t work if fiscal and monetary policy are more or less sound. Nor does the gold standard necessarily bring sounder monetary policy—after all, governments would still set the dollar/gold rate. When the gold standard was in place, that assigned value was subject to change—and governments’ interference in the exchange rate for gold did in fact impact economies. While the concept of going on the gold standard doesn’t have to be hugely problematic, a gold standard ordained by governments places a huge amount of faith directly in government—faith they’ll stick to it, faith they won’t continually re-value and faith they won’t swap out to a multi-metal (or other) standard. Since all those things have happened before, it isn’t a stretch to think they could again.

Finally, bringing back the gold standard seems like a solution in search of a problem. Fact is, inflation rates haven’t exactly spiraled out of control in recent years—in fact, inflation has become increasingly (though irregularly) benign for nearly 3 decades now—and that doesn’t look likely to change in the immediate future. So, in our view, blaming free-floating currencies for all global financial ills of the past 40 years misses the mark—especially when you consider whatever ills there were or are, they’re vastly outweighed by the positive developments over the same timeframe. The financial system will always be prone to dislocations, supply/demand imbalances and disruptive intervention. In our view, the past 40 years of a largely liberalized USD has allowed for more efficient pricing—a far greater, more positive force for capital markets’ long-term behavior than the occasional short-term wobble.