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Chapter 3

The Rise and Fall of the

Golden Permission Slip

Gold still represents the ultimate form of payment in the world.

— Alan Greenspan, Testimony before U.S. House Banking Committee, May 1999

“The silver is Mine, and the gold is Mine,” says the Lord of hosts.

— Haggai 2:8

OVERVIEW: The entire global economic order was shattered after the devastation of World War II. Re-establishing economic stability was of vital concern to global leaders. A plan for restoring order to the international economic community came at a historic conference held in July 1944 in the state of New Hampshire. More commonly known as the Bretton Woods conference, the meeting created a new global fixed exchange rate regime with a gold-backed U.S. dollar playing a central role. This is the story of the rise and fall of this “dollars for gold” system.

The “Economic” D-Day of 1944

When historians write about the year 1944, it is often dominated with references to the tragedies and triumphs of World War II. And while 1944 was truly a pivotal year in one of history’s most devastating conflicts of all time, it was also a significant year for the international economic system. With Europe in shambles, and Britain on the proverbial “ropes,” global leaders resolved to restore confidence and order to the financial markets. Creating viable solutions to fix the global economic instability would require international cooperation.

In July 1944, the United Nations Monetary and Financial Conference (more commonly known as the Bretton Woods conference) was held at the Mount Washington hotel in Bretton Woods, New Hampshire, with 730 delegates from 44 Allied nations attending. The express purpose of the historic gathering was to regulate the war-torn international economic system. Among other things, this would require determining a replacement of the British currency for the purposes of settling international transactions. Due to the sizeable gold reserves held by the United States, the attendees were keenly aware that the dollar was the only currency that could potentially replace the role of the now weakened British pound. The participants agreed to a new currency arrangement, known as a fixed exchange rate regime, with the U.S. dollar playing a central role. Under this new arrangement, which economists commonly refer to as the Bretton Woods system, the U.S. dollar would be linked to gold at a pre-determined fixed rate of $35 per ounce. In turn, all other currencies were then pegged to the dollar, as it was viewed as being as “good as gold.” This immediate convertibility from U.S. dollars into a fixed amount of gold brought much-needed economic relief and helped to restore confidence in the global financial markets.

Quick Fact

In addition to establishing the U.S. dollar as the global reserve currency, this historic conference also initiated a number of new government institutions, including:

• The World Bank

• The International Monetary Fund (IMF)

• The World Trade Organization (originally called the General Agreement on Trades and Tariffs, or GATT)

As the nation entrusted with the issuance the global reserve currency, the United States emerged as the lone economic victor in the post–World War II era. In fact, one senior official at the Bank of England described the deal reached at Bretton Woods as “the greatest blow to Britain next to the war.” Why? The Bretton Woods system provided immense power to the emerging American economic empire as global currency demand shifted from the British pound to the U.S. dollar.

Bretton Woods Conference

John Maynard Keynes (right) represented the UK at the conference, and Harry Dexter White represented the United States.

Bretton Woods — The Changing of the Guard

At the end of the 19th century, the city of London was the capital of a global superpower. Through its aggressive and systematic colonization efforts, the British Empire had been able to dominate and control more geography than any previous empire before it. At the height of its rule, it was accurately stated that “the sun never set” on the British Empire. Put simply, Great Britain was the largest economic empire the world had ever seen. Its financial and military prowess made the empire’s official currency, the British Pound Sterling, the most sought-after currency on earth. But like most empires before it, military overextension and economic arrogance left Great Britain ripe for replacement by a leaner and more nimble competitor. By the end of World War II, Britain’s excesses had nearly sealed its fate. Along with the rest of the European community, the British Empire was left economically devastated. The economic challenger that would rise to the occasion to fill the economic vacuum was none other than the United States of America.

At this point, an appropriate question to be asking is: “Why would Britain and all of these other nations be willing to allow the value of their currencies to be dependent upon the value of U.S. dollar?”

The answer is quite simple: they didn’t really have a choice. These war-weary nations were broke. And there was literally no other currency, outside of the dollar, that was able to fill the growing demands of the global economic system. The fact that nations could convert their dollars into gold at a fixed rate of $35 per ounce helped alleviate concerns about the dollar’s new global role. After all, the Bretton Woods system did provide nations with an escape hatch in the event they had buyer’s remorse. If a particular nation no longer felt comfortable with the dollar, they could easily convert their dollar holdings into gold and sit on the economic sidelines. While this flexibility helped restore a much-needed stability in the global financial system, it also accomplished one other very important thing: the Bretton Woods agreement instantly created a strong global demand for U.S. dollars as the preferred medium of exchange for settling international transactions.

And along with this growing demand for U.S. dollars came the need for . . . a larger supply of dollars.

Now that I have explained how the U.S. dollar was crowned as the global reserve currency in 1944, let us turn to the benefits of such an arrangement.

The Golden “Permission Slip”

To fully appreciate the economic benefits that the United States derives from its enviable role as the holder of the world’s reserve currency requires an understanding of why a global demand for dollars is beneficial.

To illustrate, imagine that right now I have listed a beautiful beachfront home for sale at a price of $2 million. Now also imagine that we could instantly decrease the total money supply within the U.S. economy to a mere $1 million dollars. What would happen to the value of my home for sale? It would drop dramatically! Why? Is my home suddenly become less valuable? No. Instead, the decline in my home’s value was directly caused by the sudden decrease in the overall money supply within the economy. It would be impossible for me to ask for $2 million for my home because, in our imaginary economy, there is now only $1 million in existence.

And as we have already explained, printing more dollars leads to an increase of asset prices. In essence, more dollars leads to higher prices within the economy. So, if an increase in the overall money supply causes asset prices to rise, then what effect does an increasing global demand for dollars have on an economy? In essence, it gives the U.S. government a “permission slip” to print more dollars. After all, we can’t let our global friends down, can we? If they “need” dollars, then let’s print some more dollars for them.

Is it a coincidence that printing dollars is the U.S. government’s preferred method of dealing with our nation’s economic problems today? The U.S. government only has four basic ways to solve its economic problems:

1. Increase income by raising taxes on the citizens

2. Cut government spending by reducing public benefits

3. Borrow money through the issuance of government bonds

4. Print money

It should be obvious that raising taxes and reducing spending can be political suicide. Borrowing money is a politically convenient option, but the government can only borrow so much. So that leaves the government with the final option of printing money. Printing money is a unique, albeit temporary, solution that requires no immediate economic sacrifice and no spending cuts. Therefore, it is the perfect solution for a country run by morally weak leaders who desperately want to avoid making any sacrifices. But as we explained in a previous section, a monetary policy that relies upon the continued printing of money places the nation at great risk of huge inflation.

Q: So how has the United States been able to avoid suffering from massive inflation despite their continued reliance upon reckless money-printing campaigns?

A: Through the “permission slip” to print excessive amounts of dollars it was given as a result of the Bretton Woods system.

The only reason that the United States can print so much money without experiencing huge inflation is because the Bretton Woods system created a global demand for dollars. Understanding this “permission slip” concept, and how the United States has abused it will be very important as we continue.

Have you ever asked yourself why the U.S. dollar is called a Federal Reserve note? Once again, the answer is simple. The U.S. Dollar is issued and loaned to the United States government by the Federal Reserve Bank. Because our dollars are loaned to our government by the Federal Reserve, which is a private central banking cartel that I will explain in much more detail later in this book, the dollars must be paid back. And not only must the dollars be paid back to the Federal Reserve; they must be paid back with interest!

And who sets the interest rate targets on the loaned dollars? The Federal Reserve.

Reader Question

Q: Who benefits from this continual global demand for dollars? (Ron T., Sacramento, CA)

A: Ron, there are several. The U.S. government benefits from the ability to create money out of thin air. Politicians benefit as global dollar demand gives them a convenient way to finance their excessive spending. U.S. citizens benefit from rising asset prices, although these are tempered by the creeping amounts of inflation created through such money printing.

However, by far the largest beneficiary of global dollar demand is America's central bank, the Federal Reserve. If this does not make immediate sense, then pull out a dollar bill from your wallet or purse and notice whose name is plastered right on the top of it.

Clearly, the Federal Reserve, or the “Fed,” as it is so affectionately called, has a vested interest in maintaining a stable and growing global demand for dollars. After all, they create the dollars, loan the dollars at interest to the U.S. government, and then set their own interest rates! What a wonderfully profitable venture the Federal Reserve has created for itself. It should be obvious why the Fed has consistently despised any congressional oversight and has blocked any and all attempts to have its records audited by any outside parties.

In summary, the American consumer, the federal government, and the Federal Reserve all benefit from a global demand for U.S. dollars.

There is an old saying that goes, “He who holds the gold makes the rules.” This statement has never been more true than in the case of America in the post–World War II era. By the end of the war, nearly 80 percent of the world’s gold was sitting in U.S. vaults. And thanks to the Bretton Woods agreement, the U.S. dollar had officially become the world’s undisputed reserve currency and was considered by most nations to be “as good as gold.”

A study of the United States economy in the post-World War II era demonstrates an era of dramatic economic growth and expansion. The monetary and political leverage gained through the Bretton Woods agreement catapulted the United States to a position of economic supremacy on the global stage. The late 1940s through the early 1960s, commonly known as the Baby Boom generation for its explosive birth rate, gave rise to the one of the most prosperous eras in America’s history.

Did You Know?

Until 1965, the only way to earn a living from the United States government was to be elderly or disabled. But under the Great Society program, dependency by American citizens upon government “assistance” reached new heights.

By the mid-1960s, however, the U.S. economy came under growing economic pressure as Washington began abusing its global reserve currency status through their adoption of a “warfare and welfare” mentality. Under the heavy-handed presidency of Lyndon B. Johnson, a new federal government spending spree began, known as the Great Society program. This big government agenda, promoted to Congress by Johnson in January 1965, sought to provide new federal funding for public education, a so-called war on poverty, urban renewal, conservation, and crime prevention.

In addition to confronting a whole host of social issues, Johnson created two new government-run systems: Medicare and Medicaid. Medicare provided government-subsidized health insurance for the elderly while Medicaid gave lower income households access to government-sponsored healthcare. With the creation of these two entitlement programs, American citizens could now, for the first time, earn a living from their government.

While the United States was busy creating a large amount of handouts for its citizens, it was simultaneously waging an undeclared war in Vietnam, at an estimated $5.1 billion per month. By the late 1960s and early 1970s, America had suffered large numbers of casualties. According to most estimates, the Vietnam War had a price tag in excess of $200 billion, which placed a severe strain upon the national economy.

So how did the United States pay for its growing warfare and welfare state? It simply borrowed the money, also known as deficit spending. As Washington’s deficit spending spiraled out of control, inflationary pressures became a growing threat and the United States was confronted with its first trade deficit of the 20th century.

An expensive and unpopular war in Vietnam and record government handouts to the American public, funded by outrageous levels of deficit spending, led some nations to rightfully question the economic competence of America. After all, the Bretton Woods system had made the entire global economic order dependent upon a fiscally sound U.S. economy.

As the economic and political turmoil took its toll on America during the late 1960s, nations who had willingly placed their hopes on a stable U.S. dollar began losing confidence in America’s financial stewardship. This declining faith in America’s willingness to get its fiscal house in order led to massive pressure on the “gold for dollars” system that had been established at Bretton Woods.

By 1971, as America’s trade deficits increased and domestic spending soared, a growing number of nations who believed that the United States was abusing its leadership role within the global economy began publicly challenging the United States by demanding gold in exchange for their dollar holdings.

Did You Know?

Throughout history, gold has been, and will likely remain, the beneficiary of poor fiscal and monetary policies. The death of the Bretton Woods system in 1971 was no different.

And while America’s growing fiscal recklessness concerned the international economic community, what alarmed them most was the growing imbalance of U.S. gold reserves to its debt levels. Clearly, America had never intended to be the globe’s gold warehouse. Instead, the convertibility of the dollar into gold was meant to generate a global trust in U.S. paper money. Simply knowing that the U.S. dollar could be converted into gold if necessary was good enough for some — but not for everyone. The nations who began to doubt America’s ability to manage their own finances decided to opt for the recognized safety of gold.

As 1971 progressed, so did foreign demand for U.S. gold. Foreign central banks began cashing in their excess dollars in exchange for gold. As America’s gold reserves declined, dollars came flooding back into the U.S. economy. By the summer of 1971, the U.S. was bleeding gold. Washington realized that the game was over.

Reader Question

Q: Could the United States have prevented the breakdown of the Bretton Woods arrangement if it had wanted to? If so, how? (Tom D., Las Vegas, NV)

A: Good question, Tom. You would think that the large and growing demand by foreign nations for gold instead of dollars would have been a strong indicator to the United States to clean up its act and get its fiscal house in order. Instead, America did exactly the opposite. As Washington continued racking up enormous debts to fund its imperial pursuits and its overconsumption, foreign nations sped up their demand for more U.S. gold and fewer U.S. dollars. Washington was caught in its own trap and was required to supply real money (gold) in return for the inflows of their fake paper money (U.S. dollar). They had been hamstrung by their own imperialistic policies. Washington knew that the system was no longer viable, and certainly not sustainable. But what could they do to stem the crisis? Did they have any options? Yes, but there were really only two options.

The first option required that Washington immediately reduce its massive spending and dramatically reduce its existing debts. This option could possibly restore confidence in the long-term viability of the U.S. economy. The second option would be to increase the dollar price of gold to accurately reflect the new economic realities. But there was an inherent flaw in both of these options that made them unacceptable to the United States at the time — they both required fiscal restraint and economic responsibility. Then, as now, there was very little appetite for reducing consumption in the name of “sacrifice” or “responsibility.”

The Shock Heard Around the World

The Bretton Woods system of 1944 created an international gold standard with the U.S. dollar as the ultimate beneficiary. But in an ironic twist of fate, the agreement that was designed to bring stability to a war-torn global economy was the very system that threatened to plunge the world back into financial chaos by the early 1970s. The “dollars for gold” standard of Bretton Woods simply could not bear the financial excesses, coupled with the imperialistic pursuits, of the American economic empire.

By 1971, Washington insiders knew that “dollars for gold” was no longer sustainable. In the first six months of that year, over $20 billion of assets had left the country as foreign nations expressed their deep distrust in Washington’s financial stewardship. In May, West Germany completely abandoned the Bretton Woods system, which led to an immediate rise in the value of its currency over the U.S. dollar. In July, Switzerland converted nearly $50 million back into gold. France was particularly aggressive and demanded nearly $200 million in gold.

On August 15, 1971, under the leadership of President Richard M. Nixon, Washington chose to maintain its reckless consumption and debt patterns by detaching the U.S. dollar from its convertibility into gold. By “closing the gold window,” Nixon destroyed the final vestiges of the international gold standard. Nixon’s decision effectively ended the practice of exchanging dollars for gold, as directed under the Bretton Woods agreement. It was in this year, 1971, that the U.S. dollar officially abandoned the gold standard and was declared a purely fiat currency.

Did You Know?

Since August 15, 1971, all global currencies (with the temporary exception of the Swiss franc) have been issued by fiat with no real commodity backing of any kind.

Goodbye, Yellow Brick Road

As all other fiat empires before it, Washington eventually came to view gold as a constraint to its colossal spending urges. A gold standard, like the one provided by the Bretton Woods system, required America to publicly demonstrate fiscal restraint by maintaining holistic economic balance.

The Nixon Shock

Want to watch an excerpt of the actual televised speech delivered by President Nixon on August 15, 1971, in which he ended the U.S. dollar's convertibility into gold? Go online to http://www.ftmdaily.com/nixonshock.

By “closing the gold window,” Washington had affected not only American economic policy — it also affected global economic policy. Under the international gold standard of Bretton Woods, all currencies derived their value from the dollar. And the dollar derived its value from the fixed price of its gold reserves. But when the dollar’s value was detached from gold in 1971, it became what economists call a “floating” currency. (By “floating,” it is meant that a currency is not attached, nor does it derive its value, from anything externally.) Put simply, a “floating” currency is a currency that is not fixed in value.

Like any commodity, the dollar could be affected by the market forces of supply and demand. When the dollar became a “floating” currency in 1971, the rest of the world’s currencies, which had been previously fixed to the dollar, suddenly became “floating” currencies as well.

In this new era of floating currencies, the U.S. Federal Reserve, America’s central bank, had finally freed itself from the constraint of a gold standard. Now, the U.S. dollar could be printed at will — without the fear of having enough gold reserves to back up new currency production. And while this newfound monetary freedom would alleviate pressure on America’s gold reserves, Washington was quick to recognize that this seismic shift in economic policy could eventually lead to a declining global demand for the U.S. dollar. After all, the primary reason that the world had so readily held dollars in reserve was due to its international convertibility into gold. With the dollar no longer convertible into gold, how long would it be before global dollar demand declined?

Did You Know?

Floating currencies, with floating exchange rates, attract manipulation by speculators and hedge funds. Currency speculation is, and remains, a threat to floating currencies. Proponents of a single global currency point to the ongoing manipulation of currencies to promote their agenda.

Strong global demand for a nation’s currency can help a nation grow from a small economy to a vast empire. This global demand for dollars, which had fueled America’s prosperity and had allowed it to continue its warfare and welfare policies, was now seriously threatened.

Another concern facing Washington had to do with America’s extravagant spending habits. Under the international gold standard of Bretton Woods, foreign nations willingly held U.S. debt securities because they were denominated in gold-backed U.S. dollars. Would foreign nations still be eager to hold America’s debts despite the fact that these debts were denominated in a fiat debt-based currency that was backed by nothing?

The elites in Washington were not interested in learning the answers. Instead, they took swift action to ensure global demand for the dollar would not be permanently affected by its new “fiat” and “non-convertible” status.

Enter the petrodollar system.

Quick Summary

 The devastation of the global economic order in the wake of World War II led world leaders to form a conference to create solutions. This conference, known as Bretton Woods, led to the creation of a new global fixed exchange rate regime with the U.S. dollar playing a central role.

 Under the Bretton Woods system, an ounce of gold could be purchased at a fixed international rate of $35 per ounce. Because this fixed rate was regulated, the U.S. dollar was considered “as good as gold.”

 This new international “dollars for gold” system created under Bretton Woods restored global economic stability to war-weary economies. As a result, foreign nations pegged their currencies to the dollar with the ability to convert their dollar holdings to gold at any time.

 In the late 1960s, the Bretton Woods system broke down as foreign nations cashed in their dollars for gold. This was largely due to global concern over Washington’s reliance upon deficit spending to fund its warfare and welfare policies.

 On August 15, 1971, President Richard Nixon closed the international gold window, which ended the Bretton Woods system and the dollar’s convertibility to gold. It was on this day that virtually every global currency became fiat, with no commodity backing.