As you know from the previous part of our story (you will find it at this link) the Bretton Woods system has collapsed. In 1971, after an unsuccessful attempt to combat inflation, the White House eventually suspended the convertibility of the dollar to gold. He had to do it because the ore reserves in the USA covered only 19 percent. US commitments. In December, the dollar was officially devalued. The world has entered a period of crises.
The crisis is our constant companion
Probably most of our readers remember the crisis of 2008 at the most, but you must know that serious crises come back to us from time to time. Some economists initially compared what is happening now with the crisis of the 1970s. What is it about?
First, let’s outline the background of these events. In the 70s, the cold war was at its best. Its peak moment did take place in the 1960s during the so-called the Cuban crisis (at that time there was a real fear of the outbreak of World War III), but the rivalry between the US and the USSR continued. There were also “hot” conflicts, like in Vietnam. However, the real fight continued in the economic field. And here serious problems also arose in the US camp.
The fall of Bretton Woods and oil crisis led to a jump in inflation. In addition, for the third world countries it turned out to be a real disaster. The assistance granted to them by developed countries has been reduced.
Oil-exporting countries quickly achieved income that their economies were unable to absorb. Most of them were Islamic countries with a characteristic financial system (there is no usury there, which means that loans are granted there at 0%). In general, religious barriers prevented the development of banking there. This resulted in profits from oil trading being invested in Western banks. As a result, they were looking for borrowers (because they received huge funds from Islamic countries). The latter became the countries of the Third World and Western Europe (for example Poland during Edward Gierek’s rule). They counted on declines in real interest rates as a result of inflation trends that were observed, so they were willing to borrow. A mechanism began to operate, which in the next decade led to the outbreak of the debt crisis.
Let’s fight inflation!
In 1977, anti-inflation policy became the focus of the G7’s meeting in London. However, the breakthrough could have occurred after 1979, when Margaret Thatcher became the Prime Minister of Great Britain. In the same year, the Bank of England raised the interest rate. and mandatory reserves.
The revolution also took place in the USA. In 1979, the Fed tightened its monetary and credit policy. Paul Volcker, head of the Federal Reserve, stood behind the new policy. The following year, President Jimmy Carter announced his anti-inflation program. However, he failed to implement it in practice. Ronald Reagan won the new election. It was his presidency that initiated the turn in government policy. In the autumn of 1982, the Fed abandoned the M1 indicator as a peculiar foundation of monetary policy. Money supply in circulation has increased. At the same time, however, the authorities reduced taxes and spent more on armaments. This resulted in a large budget deficit. The Fed also kept high interest rates for fear of inflation coming back. The result was less competitiveness of the US economy.
Reagan was attacked during the G7 summit in Versailles for his policy. He was accused of putting the US partners in a difficult position. Besides, the Fed’s actions also led to the debt crisis mentioned above. In 1985, French President Francois Mitterand even demanded “the creation of a new Bretton Woods”. All this to stop currency fluctuations.
It is possible that in fear of Western countries starting to rebel against the US again, in May 1985 the Fed lowered interest rates. The dollar exchange rate began to fall. It fell by 11 percent in a few months In August, the US concluded an agreement with the United Kingdom, France, West Germany and Japan at the Plaza Hotel in New York. It concerned controlling the lowering of the dollar. Its effect was a further decline of the currency by 24 percent. A system of controlling currency liquidity was created.
How difficult it is to please some American politicians became convinced a year later. During the G7 summit in Tokyo, Germany and the Japanese began to complain about … the dollar exchange rate too low, which hit their expert to the USA. Finally, in 1987 a new rate control mechanism was introduced.
The effect of market manipulation by politicians was, inter alia, speculative bubble on the real estate market. This broke with a huge bang in 1987. For the first post-war period, many assumed that it would be the final end of Reagan’s policy and the US would enter a crisis era of 1929 (i.e., as is believed in the context of the US today). However, which must have surprised the skeptics, the power quickly rose. To such an extent that the current Vice President George Bush managed to win the presidency after Reagan without any problems …
In the years 1980–1981, problems related to debt servicing of Eastern European countries, especially Poland and Romania, became apparent. By the way, the West saw the weakness of the USSR. Earlier it was believed that the Soviet Union would financially support its allies during crises (the situation is again reminiscent of the present day and the faith of e.g. Greece a few years ago that the European hegemon – Germany – will easily help her get out of trouble). It turned out differently. Anyway, the power of this eastern power weakened every year.
The problem is not only Eastern Europe. On August 12, 1982, Mexican Finance Minister Jesus Silva Herzog admitted that his country was unable to continue to service its debt. However, help was given to Mexico. The United States and the IMF did this. However, when other Latin American countries also wanted to follow the same path, it turned out that they could not count on similar generosity. Why? The brutal truth is that the US believed that Mexico’s economic and political stability was part of their own security. Only because it was decided to help the neighbor from the south.
In other countries, the IMF agreed to help, but under certain conditions regarding liberalization of economies or reduction of public finances. As a result, it ended for those in debt … differently. Frequently, IMF programs have been a gateway to capital from the USA.
The end of the Cold War
In the background was the last battle in the field of the Cold War. When Mikhail Gorbachev took power in the USSR (contrary to conspiracy theories, he did not want to destroy the Soviet Union), he decided to reform this sick dragon. Unfortunately for the local elites, however, he began to operate on the body, which was almost dying. The result was the fall of this giant on clay legs.
The USSR collapsed into several countries, while the satellites of the fallen powers became more independent, and specifically fell under the umbrella of the West and the US.
The US, in turn, became (only for a while, which did not prevent many experts from visions about the “end of history”) as the only power on the globe. This did not mean the end of problems …