By Satyajit Das, a former banker and author of Extreme Money and Traders Guns & Money
Benn Steil (2013) The Battle Of Bretton Woods: John Maynard Keynes, Harry Dexter White, And The Making of The New World Order; Princeton University Press
Neil Irwin (2012) The Alchemists: Inside The Secret World Of Central Bankers; Headline Publishing Group
Economist Brad DeLong observed in 2008: “It is either our curse or our blessing that we live in the Republic of the Central Banker”. For more than a century, central bankers have played in important part in shaping economic life, influencing living standards, political and social issues.
Predictably, authors and publishers (sensing human interest and hence monetary reward) have been drawn to the subject. The Battle of Bretton Woods and The Alchemists are additions to pop CB lit list. They build on the Liaquat Ahamed’s Lords of Finance (a history of central bankers in and around the Great Depression) and David Wessel’s In FED We Trust (documenting the US Fed’s action during the 2007/ 2008 crisis), as well as other more technical histories of central banking.
Much Ado About…
The suzerainty of central banks is puzzling.
First, there is constant debate about their role and specific objectives (growth, employment, inflation etc.). Second, their referential framework is a dismal science where conjectures and speculations rather than predictable relationships or hard and fast rules dominate. Third, their tools are limited. Fourth, they have a dubious track record. Fifth, they are unelected officials, exercising considerable power with limited accountability.
Nothing illustrates these problems better then Federal Reserve Chairman Ben Bernanke’s recent taper fiasco. Having announced the intention to ‘taper’, ultimately, a few weeks later, the proposal was shelved. The reasons given were concerns about the strength of the economic recovery and the impact of high rates on the ability of an over-indebted world to continue meet its obligations. All these factors were largely unchanged between the time of the original announcement and the repudiation.
Bond yields rose sharply, resulting in higher mortgage rates with deleterious effect on the housing recovery and problems in emerging markets. The US dollar rose sharply and stocks sold off. Ultimately, most market prices, except interest rates, headed back to where they roughly started. Billions of dollars were gained and lost in the zero sum game of financial markets, which passes as economic activity in the modern era.
One meaning of ‘taper’ is a thin wick used to light a fire. Whatever, the fed Chairman’s intention, his proposal at least was true to that meaning of the term.
Central bankers have also become celebrities, whose every word is parsed extensively. Following Chairman Bernanke’s comments about paring back Fed purchases of government bonds, wordsmiths toiled over: ‘taper tantrums’, ‘hike huffs’, ‘tapering taper talk’, and finally ‘putting out the taper’ or ‘taper tiger’. Thousands of hours of fruitless analysis and mindless financial TV were devoted to a close textual analysis.
It was reminiscent of current Indian Central Bank Governor Raghuram Rajan’s bon mot, rivalling former US Defence Secretary Donald Rumsfeld’s ruminations about known unknowns: “Given that we gave it to you as a forecast, I can’t forecast that we’ll lower the forecast.”
Given these problems, it is surprising that central banks should be, excuse the pun, so central.
The Hotel New Hampshire
In The Battle of Bretton Woods, Council on Foreign Relations Fellow and Director of International Economics Benn Steil has crafted a fine history of the Bretton Woods meeting, at which the foundations of the post-war economic order were developed.
In July 1944, over 700 politicians, economists and bankers from over 40 countries gathered for 3 weeks in Bretton Woods, New Hampshire at the Mount Washington Hotel, a ski resort. The dysfunctional group resembled nothing so much as the loopy and unlikely characters including Egg, Win, Iowa, Bitty Tuck, a Viennese Jew named Freud and Sorrow, a dog repeatedly restored through taxidermy, in John Irving’s quirky coming of age novel Hotel New Hampshire.
The pivotal figures were John Maynard Keynes, representing Britain, and Harry Dexter White, representing the U.S.A.
Selected as one of Time Magazine’s 100 most influential figures of the 20th century, John Maynard Keynes was the author of General Theory of Employment, Interest and Money and one of the fathers of modern macro-economics.
Harry Dexter White, a descendant of Jewish Lithuanian Catholic immigrants, was an economist by training and a senior U.S. Treasury department official. White may have also been, according to evidence from FBI and Soviet archives, a Soviet spy. At Bretton Woods, White and sundry other U.S. Treasury officials may have passed confidential information about the negotiations to the Russians.
Bretton Woods took place against the background of the brutal war that was still raging, the rise of fascism, and the economic experience of the Great Depression including the collapse of growth, employment, international trade and the rise of protectionism. The focus was on establishing free trade based on convertibility of currencies with stable exchange rates. In the past, this problem had been solved through the gold standard where the standard unit of currency is a fixed weight of gold.
The gold standard was not considered feasible for the post-war economy. There was insufficient gold to meet the demands of growing international trade and investment. The communist Soviet Union, emerging as a rival to the U.S. in the post war order, also controlled a sizeable proportion of known gold reserves.
Keynes’ bold and imaginative solution was a world reserve currency (the “bancor”) administered by a global central bank. White, representing the world’s richest nation and then the biggest creditor, rejected the proposal: “We have been perfectly adamant on that point. We have taken the position of absolutely no.”
The meeting wanted the advantages of the gold standard without the disadvantages. Bretton Woods established a system of fixed exchange rates using the U.S. dollar as a reserve currency. Countries would establish parity of their national currencies in terms of gold (the “peg”) and maintain exchange rates within plus or minus 1% of parity (the “band”).
In practice, other countries would peg their currencies to the U.S. dollar as the principal ‘reserve currency’ and — once convertibility was restored — would buy and sell U.S. dollars to keep market exchange rates within plus or minus 1% of parity. The dollar, effectively, took over the role that gold had played in the international financial system under the gold standard.
The dollar was to have a fixed relationship to gold ($35 an ounce). The U.S. government committed to fully convertibility. They would convert dollars into gold at that price. This was the gold standard once removed. The dollar was now “as good as gold”. It was more attractive as dollars unlike gold earned interest.
The U.S. dollar reigned as the world’s currency until the early 1970s, when the Bretton Woods system ultimately failed. On August 15, 1971, President Richard Nixon unilaterally closed the gold window making the dollar inconvertible to gold directly, facilitating the move to the era of floating currencies with no link to dollars or gold.
The Battle of Bretton Woods captures the essential sub-text – the rise and decline of empire. The agreement ensured that in the post-WW2 world the U.S. would be the undisputed pre-eminent economic and military great power, playing a leading role in global monetary affairs.
Devastated by two World Wars, the British and the French were unable to compete and needed American money to rebuild their economies. As Winston Churchill, desperate to secure American support and frustrated by Roosevelt’s evasiveness, asked: “What do you want me to do, stand up and beg like Fala (the US president’s beloved Scottish terrier)?”
The portrait of a much diminished Keynes, already fatally ill, is telling. Keynes’ lacks understanding of Britain’s poor bargaining position and his tactless verbal brilliance too clever by half for American tastes allows him to be sidelined. Mr.Steil describes Keynes as reduced to “the status of an articulate annoyance”.
Characterised by fine and entertaining writing, The Battle of Bretton Woods is economic and political history in engrossing detail.
The Way We Were, The Way We Are…
In The Alchemists, Neil Irwin, a reporter at the Washington Post, records the history of the present crisis to around late 2012.
Mr. Irwin builds his narrative around Federal Reserve Chairman Ben Bernanke, Bank of England Governor Mervyn King and former European Central Bank President Jean-Claude Trichet. He describes the sequence of events and actions of the US, European and UK central banks to reduce interest rates to zero and initiate innovative policies, such as quantitative easing (“QE”), to ward of a major economic slowdown.
Mr. Irwin’s superficial effort, not assisted by a leaden style, is a passable chronology at best.
The Alchemists resembles a data dump of his reporter’s notebooks, characterised by frequent forced attempts at reportage colour – Mervyn King dog sledding, Chancellor Merkel and President Sarkozy walking along the beach at Deauville (“the most consequential stroll on a beach in history”) etc.
The book also feels oddly contrived – a furtive dash into the history of central banking (which is derivative), a dip into Congressional politics of bank regulation and a final sudden sashay into Chinese central banking (painfully second hand and misleading).
The author assumes central bankers are the heroes of the tale, eschewing a more nuanced assessment of their actions and policies. Mr. Irwin’s hagiographic tale of central banking evokes the moody anti-heroes of Marvell comics. His concern about the “unique burdens” on these learned men is cloying touching.
The portrait of Federal Chairman Ben Bernanke seems more a case for beatification than analysis. Perhaps this is a reflection of being “embedded” where the price of a reporter insider’s access is the inability to provide a truly honest perspective.
While quick to praise central bankers as saviours, the author shows little curiosity about the causes of the crisis. There is little recognition of how central bank policies contributed to the problems in the first place.
The analysis is all surface and economics-lite. Mr. Irwin seems in awe of the learned order of government bankers and economists who meet often, sharing “a closeness unheard-of elsewhere in international relations” Central bankers, at least the ones that Mr. Irwin has met, “speak the same language [and] understand more deeply than perhaps anyone else where other countries are coming from.” The description is cringe making, more in tune with a Victorian secret society and one anticipates secret handshakes and pagan rituals.
The reality couldn’t be more different, even as portrayed in the text. Disagreements between the featured central banks as to the gravity of the crisis, the appropriate response, extent of intervention and the re-shaping of the global and economic system abounded and continue.
The ruthless exercise of sovereignty, such as the QE programs which created the currency wars and set off bubbles in emerging markets, does not warrant mention. In fact, emerging markets do not rate anything other than cursory mention.
The Alchemists largely ignores criticisms from some central bankers, including Paul Volcker, that the institutions have compromised their independence by politicising their action, perhaps irreparably. Equally, the book ignores criticism from liberal economists who argue that policies such as austerity have been hugely damaging.
Mr. Irwin is unquestioning about the effectiveness of policies. American economic growth remains sluggish, well below trend with high unemployment and increasing inequality of wealth. Europe is moribund, stumbling through a sequence of financial crises with little signs of definitive resolution.
Mr. Irwin’s position, as best one can discern, is that if the central banks had not done what they did, things would be worse. While central-bank intervention may have kept the system going, an important concern, which Mr. Irwin chooses not to address, is that in doing so, they may have forestalled longer-lasting cures.
The two books are inadvertently revealing about central banking and central bankers.
First, the levels of economic thinking that drives decision making is crude, rarely rising above undergraduate level.
Second, no particular brand of economics informed choices either at Bretton Woods or in the current crisis. The essence of every plan is to find something –anything- which might work or, at least, support the political case.
Third, the dysfunctional nature of policy making is highlighted. Little of The Battle of Bretton Woods takes place at the conference itself, with most of decisions being before, with the major power –America- dictating terms while everything else is window dressing.
Fourth, policy makers are poorly informed about what they have decided. At Bretton Woods, signatories did not know what they had agreed to. As Keynes was later to write: “We, all of us, had to sign, of course, before we had a chance of reading through a clean and consecutive copy of the document.”
Fifth, whilst economists and central bankers may disagree on many things, they agree that they know best. Keynes, White and their modern successors agree that they should direct and control the financial life of nations and central banking should “be regarded as a kind of beneficent technique of scientific control such as electricity or other branches of science are.”
It is amusing just how wrong judgements can be.
In 1945, Harry White assured the House Banking Committee: “There is no likelihood that . . . the United States will, at any time, be faced with the difficulty of buying and selling gold at a fixed price freely.” By the late 1960s, foreign governments owned dollars worth more than the American gold reserves.
Henry Hazlitt, an editorial writer for the New York Times, criticised the Bretton Woods agreement in a series of editorials.
He urged governments to balance budgets, remove impediments to free trade (quotas, exchange restrictions) and refrain from “currency and credit inflation.” Mr. Hazlitt also favoured the return to the gold standard, so that the currency is “redeemable in something that is itself fixed and definite.” Hazlitt argued that if one these principles were violated, it would make it difficult to meet the others.
With no training in economics, Hazlitt concluded that the Bretton Woods plan would never last. History proved him correct.
Like their predecessors, modern central bankers are assumed to be all powerful. Clever politicians, unwilling to make difficult choices, have abnegated responsibility for dealing with problems, delegating responsibilities. Mr. Irwin does not find this reliance on unelected technocrats troubling: “Democratic societies entrust central bankers with vast power because some things are so important yet so technically complex that we can’t really put them to a vote.”
But history may show that the current crop of central bankers was also wrong, that their judgements and actions were incorrect. Central bankers may simply not have the tools and understanding of the unpredictable results of their policies to arrest the decline and promote the promised recovery. In the words of Sir Humphrey Appleby, the British civil service Mandarin in the comedy Yes, Minister, they may actually have: “Responsibility without power – the prerogative of the eunuch throughout the ages”.
As many reviewers have observed, alchemists in the end were unsuccessful in turning base metals into gold. In the modern era, central bankers may not be any more successful and they may be held accountable if their policies fail.