Volcker (7 page)

Volcker responded with a ten-page memorandum for the president's signature. He proposed creating a commission to examine the question of whether the gold cover should be abolished and suggested Allan Sproul as chairman of the committee.
³³
He knew Sproul's view on gold.

Sproul had retired as president of the Federal Reserve Bank of New York in 1956, while Volcker toiled on the Fed's trading desk. He had used his influential position to disparage the role of gold in promoting monetary restraint: “The integrity of our money does not depend on domestic gold convertibility. It depends upon the great productive power of the American economy and the competence with which we manage our fiscal and monetary affairs … Discipline is necessary in these matters but it should be the discipline of competent and responsible men; not the automatic discipline of [gold], a harsh and perverse mechanism.”
³⁴

Sproul denounced the inflexibility of gold, a rigidity that had hampered the Federal Reserve's response to the Great Depression. His argument echoed British economist John Maynard Keynes's famous denunciation of gold as a “barbarous relic,” and confirmed the Federal Reserve as watchdog over U.S. monetary affairs. He would have recommended abolishing the gold cover. Nevertheless, Roosa dispatched to cold storage Volcker's recommendation for a presidential commission.

Roosa's change of heart came from circumstance rather than substance. He wrote to Volcker that “After extensive consideration … all of us felt uneasy over calling attention to the [gold] reserve ratio matter at a time when our balance of payments figures about to be released were … showing so large a deficit … It also became clear that the appointment of such a commission in conjunction with … other measures would likely stir up unrest.”
³⁵
Roosa emphasized the delicacy of the topic by concluding with “I do not know how many people were involved with you in the preparation of this memorandum. I think the best procedure for you would be to tell each of them orally that the matter is dropped for the time being. You might also check with Mr. Daane
[Volcker's immediate boss] … so that he will know that the matter is being quietly put to one side for the time being.”

Roosa's detailed instructions to sequester the topic surprised Volcker, as though he were a child who could not keep a secret. A simple CONFIDENTIAL stamp would have been sufficient. But Volcker also knew that the link between money and gold evoked deep feelings, like the emotions in a crime of passion. Treasury Secretary Douglas Dillon had told the president of the sharp “division in the banking fraternity, with people who know something about foreign markets, like [the] New York banks, generally in favor of removing [the gold cover] and the people from the Middle West violently opposed because they think it means we're going to have printing press money.”
³⁶

Volcker fully expected these emotions to surface again when the Treasury revisited the gold cover, but he was surprised by who led the charge.

Charles de Gaulle pursued gold the way Henry VIII did wives. On February 4, 1965, he called a news conference to denounce the dollar as the world's reserve currency, pleading for the resurrection of gold as king of international finance. Instead, he sparked a revolution that turned the yellow metal into just another speculative asset.

President de Gaulle gathered seven hundred journalists in the Grand Ballroom in the Elysée Palace, built for French royalty in the eighteenth century and now serving as home to the president of the Fifth Republic, no less regal to most of France than Louis XVI.
Le General
began with an ode to gold that qualifies as great financial poetry (there is almost no competition): “International trade should rest … on an undisputable monetary basis bearing the mark of no particular country … on no other standard than gold—gold that never changes, that can be shaped into ingots, bars, coins, that has no nationality and that is eternally and universally accepted as the inalterable fiduciary value
par excellence
.”
³⁷

Charles de Gaulle had an obsession with gold, but his proposal reflected a deep resentment of America's favored status under the Bretton Woods System. He noted that the rationale for American dominance, rooted in the devastation of World War II, had passed. “Western European states have been restored to such an extent that the total of their
gold reserves equals that of the Americans … [and therefore the] transcending value attributed to the dollar has lost its initial foundation.”
³⁸
The French president felt that the dollar's role as a reserve currency gave the United States an “exorbitant privilege” that permitted America to finance an “invasion” of French industry.
³⁹

De Gaulle was only partly right. Americans did not want to invade France—that is what Germans did—but he was right about the “exorbitant privilege,” the same privilege that Roosa had explained to President Kennedy in the Oval Office. The dollar's role as international money allows America to import French champagne without having to export anything tangible in return—other than greenbacks. Of course, De Gaulle ignored that the world uses dollars as a universal medium of exchange because the United States is a free and open economy, providing a safe haven currency that transcends international borders.

The president of France backed his dollar bashing with action. De Gaulle moved $400 million in French gold, consisting of 25,900 bars weighing a total of 350 tons, from the basement vault of the Federal Reserve Bank of New York in Lower Manhattan, where most countries of the world store their precious metal, to the Banque de France in Paris.
⁴⁰
The high density of gold creates a logistical nightmare, taxing the most experienced shipping executive. Bars are packed four to a wooden box, in a bed of sawdust to avoid damage to the soft metal. Each box is tied with steel strapping and distributed throughout an aircraft to balance the weight. De Gaulle thought the transfer made sense. He wanted the gold in Paris when the world returned to the gold standard. De Gaulle also withdrew French forces from NATO, the North Atlantic Treaty Organization, to complete his divorce from America's influence.
⁴¹

De Gaulle's performance benefited from perfect timing. Four days before the French president's tirade, on February 1, 1965, the U. S. Congress took up a bill to loosen the gold cover requirement in an effort to bolster America's defense of the dollar.
⁴²
According to the
New York Times
, the Treasury's free gold had declined to about $2 billion, which amounted to less than 15 percent of America's obligations to foreign central banks.
⁴³
A
Times
editorial emphasized American vulnerability by linking the gold cover to “France's reported decision to exchange … dollars for gold.”
⁴⁴

Congress took the easy way out. It removed the gold cover against
Federal Reserve liabilities to commercial banks but left intact the required backing against Federal Reserve notes, the currency used for day-to-day transactions.
⁴⁵
The compromise bought time, postponing a confrontation with conservatives who wanted gold to remain the permanent bulwark of American finance. A speculative frenzy would soon provide midwestern zealots the opportunity to do battle.

Volcker left the Treasury in December 1965 and returned to Chase Manhattan Bank as director of forward planning. During the last year in Washington, he began to have impure thoughts: that De Gaulle had a point. Productivity in Western Europe had caught up with American ingenuity, leaving the dollar overvalued. The German currency, in particular, was too cheap, encouraging American citizens to import anything with a price tag in deutsche marks. This meant that America's balance-of-payments deficit would persist and the gold outflow would not disappear by anyone's tinkering with the gold cover. “I could not help thinking that a more fundamental revaluation of currencies was required. Back then, such ideas were considered heresy at the Treasury, worthy of a Siberian exile. And besides, I had a family to support. It was time to leave.”
⁴⁶

Paul Volcker never did anything just for the money, but the jump in annual salary to $35,000 at Chase, compared with $18,000 at the Treasury, made a difference. He and Barbara had two children, ten-year-old Janice and seven-year-old Jimmy, and they had lived comfortably enough while he worked in Washington. But Jimmy had been born with cerebral palsy, and according to Paul, “Barbara insisted we treat him like an able-bodied person. The additional income at Chase would certainly help.”
⁴⁷

Jimmy had gone to a Catholic school, Mater Dei, in Bethesda, Maryland, simply because it was the only mainstream school that would accept him—after Barbara begged. Paul did what fathers do. He introduced his son to baseball at age five by tossing him balls to hit in the front yard of their home in Chevy Chase, Maryland, often until nightfall, using a four-legged homemade contraption to help Jimmy stand. After they moved to the New York bedroom community of Montclair, New Jersey, Paul turned Jimmy into a full-fledged baseball
fan, unfortunately rooting for the New York Mets, now that the Dodgers had deserted to the West Coast. “The Mets were the laughingstock of the major leagues,” Jimmy says, “but I was hooked after my dad took me to more games than I was prepared for. I know he did it on purpose. It was good therapy. He would shuffle along beside me while I maneuvered with canes and on leg braces, except after my operations, when he pushed me in a wheelchair.”
⁴⁸

According to Paul, Jimmy's progress exceeded expectations.

I remember how difficult it was getting him to walk … so much so that I worried about his entire future, whether he would be able to hold a job or get married. When Jimmy turned four, I did something that pained me more than anything I've ever done. He desperately wanted a Superman outfit, and I said, “I'll get it for you after you walk.” Well, he tried and tried, falling down more times than I could count. And when he finally took two steps he looked at me and said, “See, I can do it. Now I want to look like Superman.” He brought tears to my eyes as I mumbled, “I knew you could do it.” And then I ran out to buy the outfit, cape and all … It's hard to believe that in Montclair he walked to elementary school with Janice. Barbara and I were so proud.
⁴⁹

Paul swallows hard and then forces a smile. “Jimmy did much better than the Mets and far better than the American dollar … which barely survived 1968.”
⁵⁰

Volcker watched speculators attack the golden underpinnings of international finance in March 1968 from his office at Chase, the same vantage point he had during the October 1960 confrontation. But unlike the earlier flare-up, which fizzled like a shooting star, this one crippled the system.

The U.S. Treasury's gold stock stood at $12 billion at the start of 1968, but only $1 billion of that total was available to meet America's obligation to foreigners.
⁵¹
The bulk of America's gold still served as required backing for currency issued by the Federal Reserve, the “gold cover”
against the tens and twenties Americans use for day-to-day transactions. Currency in circulation had expanded with growth in the economy, raising the gold requirement.

Foreign central banks held more than $15 billion in official dollar reserves at the beginning of 1968 and could exchange those dollars for gold at the U.S. Treasury at the rate of $35 per ounce under the Bretton Woods System.
⁵²
In addition, more than $25 billion in dollar-denominated deposits appeared on the books of European commercial banks.
⁵³
Every self-respecting Swiss schoolchild knew that these foreign holdings of dollars could overwhelm the Treasury's $1 billion of free gold in the blink of a speculator's eye. In case Americans failed to notice, however, a front-page headline in the
Wall Street Journal
spelled out the details: “Paper-Money … Tying Up Additional Gold … Cuts Supply Available to Meet Foreign Claims.”
⁵⁴

President Johnson asked Congress to eliminate the remaining gold cover for currency in his State of the Union address in January 1968.
⁵⁵
The United States would then have the entire gold stock at its disposal to defend the promise to redeem dollars in gold. Congressional testimony supporting the president's proposal arrived from every corner of American finance, including the leading monetarist, Milton Friedman, from the University of Chicago; a respected Keynesian, Charles Kindleberger from MIT; and the quintessential millionaire David Rockefeller, from Chase Manhattan Bank.
⁵⁶
Nevertheless, the House of Representatives remained skeptical, voting to approve the administration's bill by a slim majority, 199–190. The Senate prepared to take up the measure in early March.

Speculators responded to the confusing signals by draining gold in record amounts from the world's central banks during the first two weeks of March 1968. The United States lost nearly 900 tons of gold valued at $1.0 billion, almost equaling the $1.2 billion decline for the entire year of 1967 (which had been a very bad year).
⁵⁷
Volume in the London gold market often hit 100 tons per day, ten or twenty times larger than normal.
⁵⁸
One of the bullion dealers said, “It can't go on this way: something has to happen.”
⁵⁹

Real people joined the frenzy as well. Not in the United States, of course. Americans were still barred from investing in gold. But at the Bank of Nova Scotia in Toronto, on March 4, 1968, a thirty-two-year-old
mechanical engineer bought fifty ounces of gold while claiming, “I'm not speculating, I'm protecting. I'll give it a year. If nothing comes of it I'm selling out.”
⁶⁰
A line of unsatisfied speculative buyers stood at the teller's window in the basement of the bank at closing time, some of them clutching envelopes stuffed with American dollars.