How often do we hear references to the notion that we live in a rules-based global trading system? Addressing the World Economic Forum at Davos in January 2017, British Prime Minister Theresa May praised liberalism, free trade, and globalization as "the forces that underpin the rules-based international system that is key to our global prosperity and security" (Martin 2017). Chinese President Xi Jinping likewise extolled the virtues of a rules-based economic order at Davos, winning widespread praise for defending free trade and globalization (Fidler, Chen, and Wei 2017).
But could someone please explain: What exactly are those rules? Because if we are going to invoke the sentimentality of Bretton Woods by suggesting that the world has remained true to its precepts, we are ignoring geopolitical reality. Moreover, we are denying the warped economic consequences of global trade conducted in the absence of orderly currency arrangements. We have not had a rules-based international monetary system since President Nixon ended the Bretton Woods agreement in August 1971. Today there are compelling reasons--political, economic, and strategic--for President Trump to initiate the establishment of a new international monetary system.
An Inspiring Vision of Future Prosperity
To fully appreciate how far we have strayed from the high-minded objectives that motivated the 1944 multilateral currency accord forged at Bretton Woods, New Hampshire, it's useful to reflect on die fundamental principles that defined its purpose and to consider the historical context for its acceptance.
The United States had been attacked at Pearl Harbor scarcely a week before Treasury Secretary Henry Morgenthau asked his deputy, Harry Dexter White, to prepare a paper outlining the possibilities for coordinated monetary arrangements among the United States and its allies. The primary goal was to provide the means, the instrument, and the procedure to stabilize foreign exchange rates and strengthen the internal monetary systems of the Allied countries (Horsefield 1969a: 12).
Why was it deemed so important to ensure stable exchange rates at a time of war when the very survival of Allied nations was at stake? The answer: struggling nations required assurances that a more prosperous economic future was in store if they could summon the will to prevail over Axis powers. During the 1930s, countries had engaged in competitive devaluations to gain an export advantage over their trade partners. As the gold standard was serially abandoned, international trade succumbed to the vicissitudes of unpredictable changes in exchange rates and retaliatory tariffs. Global depression had followed.
But now the United States was suggesting that something new would be done in the sphere of international economic relations--something "powerful enough and comprehensive enough to give expectation of successfully filling a world need" (White 1942, in Horsefield 1969b: 46). By establishing new rules to ensure a level monetary playing field as the logical foundation for expanded free trade and the optimal use of financial capital, America would be providing those needed assurances that would "unify and encourage the anti-Axis forces, to greatly strengthen their will and effort to win" (ibid., pp. 38-39).
Did it work? Less than four weeks after Allied forces landed at Normandy on June 6, 1944, the Bretton Woods conference was convened. Representatives from 44 Allied nations hammered out rules for participating in an international monetary system based on fixed exchange rates anchored by a U.S. dollar convertible into gold. The Axis powers surrendered the following year.
Did adoption of a stable monetary platform deliver as promised? The Bretton Woods era would be characterized by remarkable economic growth rates, extraordinary productivity gains, and decreased inequality of wealth.
Losing the Dream
The period of exceptional world economic performance was ended in 1971. Some blame the closing of the gold window on American domestic budget exigencies. Others attribute the collapse of Bretton Woods to the "Triffin dilemma"--a failing inherent in its dependence on a single reserve currency country. In any case, the vision of providing a solid monetary foundation for global free trade was shattered by Nixon's decision to suspend gold convertibility of the dollar.
Paul Volcker, serving as undersecretary for monetary affairs at the Treasury department, felt anguished at the time. He was concerned that the initiative would be seen as a humiliating change in U.S. domestic policy and a derogation of duty in the international monetary arena (Volcker and Gyohten 1992: 78-79). Volcker had advised Nixon to make the move as a temporary decision to redress the flaws of Bretton Woods. Nixon himself had told the American people in his televised speech on August 15: "We will press for the necessary refonus to set up an urgently needed new international monetary system" (Nixon 1971).
But a novel theory was being promoted by members of the emerging group of monetarist economists associated with the Chicago School--led by Milton Friedman--arguing...