Odd Lots: The Hidden History of Eurodollars, Part 2: Defending the Dollar System

Bloomberg’s Joe Weisenthal and Tracy Alloway delve into the intricate history of Eurodollars, unraveling the financial maneuvers that shaped the global economy. In this second installment of their three-part series, the hosts explore the challenges faced by the Bretton Woods system in the 1960s and the strategic measures taken to defend the U.S. dollar's supremacy.

1. Introduction: Transitioning to the 1960s

Timestamp [01:26] – [03:21]

Tracy Alloway opens the episode by setting the historical context of the 1960s—a decade marked by societal and political turbulence, which also served as a pivotal period for Eurodollars. She states, “We have moved on from the immediate post-war period; now we’re in the 1960s, a turbulent time for society and politics, but also for Eurodollars" ([01:26]).

Josh Younger emphasizes the significance of this era, noting, “The eurodollar market was just a billion dollars or so, but it's grown from pretty much nothing. And so it's starting to attract more attention from policymakers at central banks” ([03:21]).

2. The Bretton Woods System and Its Fragility

Timestamp [04:18] – [08:46]

Lev Menand provides an in-depth analysis of the Bretton Woods Conference of 1944, highlighting its aim to restructure the global economic system post-World War II. He explains, “The whole premise of this is to find a way to restructure the global economic and monetary system after the war is over” ([04:18]).

Menand outlines the competing visions at the conference:

• American Vision: A dollar-based global monetary order backed by gold, with the U.S. holding two-thirds of global gold reserves. “Harry Dexter White has been pushing for a global dollar system... he wants the dollar to be part of global trade” ([06:00]).

• British Vision: Championed by John Maynard Keynes, proposing Bancorp—a transnational credit organization without a single global currency. “It's something like a transnational central bank... less arbitrary way” ([07:40]).

Douglas Dillon, an expert commentator, summarizes the outcome: “This is a power grab by the US... they are imposing an alternative system that puts the US much more in the driver's seat” ([08:14]).

3. Economic Pressures and the Threat to the Dollar

Timestamp [08:46] – [16:19]

Menand discusses the inherent instability of the Bretton Woods system. As global trade surged, U.S. gold reserves didn’t keep pace, leading to a gradual devaluation of the dollar. “Dollars are piling up in Europe... the US gold stock starts to decline” ([09:34]).

A critical moment unfolds during the 1960 presidential campaign. In the third debate, Richard Nixon accuses John F. Kennedy of policies that would “blow up the dollar” ([12:04]). Kennedy responds by stressing the dollar's role in national security and the fight against communism:

“The security of the dollar, therefore, is and ought to be of major concern to every nation here... We are pledged to keep the dollar fully convertible into gold and to back that pledge” ([18:02]).

4. Kennedy Administration’s Strategy: Reinforcing the Dollar

Timestamp [16:19] – [28:50]

Kennedy faces a dilemma: whether to overhaul the flawed Bretton Woods system or reinforce it through innovative measures. Initially hesitant to embrace drastic changes, Kennedy commissions Alan Sproul to produce a report advocating for reinforcement without destabilizing the existing system.

Key figures emerge:

• Douglas Dillon: Appointed Treasury Secretary, known for his business acumen and government experience.
• Bob Roos: Policy advisor from the New York Fed with wartime experience advocating for a global dollar system.
• Walter Heller: Chair of the Council of Economic Advisors, pushing for substantial reforms contrary to Treasury’s conservative stance ([22:12]).

The administration opts to reinforce the dollar without altering the Bretton Woods framework. Menand explains, “They try to figure out what Eurodollars can do for them... They want to push U.S. financial activity offshore to prevent gold outflows” ([26:09]).

5. The Creation of Swap Lines

Timestamp [28:50] – [41:47]

To stabilize the dollar and support the burgeoning Eurodollar market, the Kennedy administration introduces swap lines—agreements allowing central banks to exchange currencies, primarily to provide dollars to foreign banks without depleting U.S. gold reserves.

Lev Menand details the mechanics:

“They can lend those dollars that effectively backstop non-US Banks. So they do it through a swap transaction” ([28:50]).

However, this initiative faces resistance within the Federal Reserve. Bill Martin, Fed Chair, is hesitant about the legality and implications of these operations. Pressure from the Treasury and Kennedy's administration leads to eventual approval, supported by legal opinions from Treasury’s General Counsel and Bobby Kennedy ([32:03]).

Notable Quote:

“These are short term. You get the deposit of another currency when we pay out ours. This is ideal for the central bank to do” – Bob Roos ([22:12]).

6. Operationalizing Swap Lines and Expanding Eurodollars

Timestamp [41:47] – [43:19]

Charlie Coombs, appointed as Special Manager for Foreign Exchange, becomes the key operator facilitating swap lines across Europe. His efforts lead to the establishment of reciprocal credit agreements, creating a robust support system for Eurobanks.

Menand highlights the rapid growth:

“Eurodollars now have implicit backing from the Federal Reserve... in 1970 it's a $70 billion market” ([43:15]).

Douglas Dillon warns of the system’s fragility:

“You're putting the Fed in a tight spot... the treasury is gung ho, and this is existential for the administration” ([38:14]).

7. The Booming Eurodollar Market and Emerging Risks

Timestamp [43:19] – [45:30]

By the end of the 1960s, the Eurodollar market balloons to approximately $70 billion, equivalent to $1.8 trillion today. This exponential growth, while stabilizing the Bretton Woods system, introduces significant risks:

• Speculative Vulnerabilities: Funding speculations against the dollar.
• Lack of Uniform Regulation: Leading to potential instability.
• Liquidity Concerns: Absence of a lender of last resort in Europe, unlike the Federal Reserve for U.S. banks ([43:19]).

Lev Menand notes, “By the end of the decade, you have continued gold outflows funded in part by speculation through the Eurodollar market, and rapid movements of capital between different places” ([43:19]).

8. Conclusion: A System on the Brink

Timestamp [45:04] – [45:30]

Josh Younger wraps up the episode by highlighting the precarious balance maintained by the Eurodollar system:

“By the end of the 1960s, this market has grown from essentially nothing to about $70 billion. And that growth has been essential to maintaining the Bretton woods system. But the question is, at what cost?” ([45:04]).

Tracy Alloway teases the next episode, which will explore the tumultuous 1970s, including Nixon’s monetary policies and the eventual unraveling of the Bretton Woods system ([45:30]).

Quote:

“People are starting to get worried that the system is going to eat itself. So this is such a successful solution to the immediate problem of offshoring U.S. financial activity that by the end of the decade you have continued gold outflows funded in part by speculation through the Eurodollar market... and the whole system's getting very unstable” – Lev Menand ([43:19]).

Key Takeaways

• Bretton Woods Stability: The dollar's convertibility to gold underpinned global trade but was vulnerable to imbalances and gold outflows.
• Eurodollar Emergence: To prevent gold depletion and stabilize the dollar, the administration fostered an offshore dollar market through swap lines and regulatory incentives.
• Institutional Tensions: Conflicts between Treasury officials advocating stability and economic advisors pushing for reforms highlighted the complexities of managing global monetary policy.
• Market Growth and Risks: While Eurodollars bolstered the dollar's position, their rapid expansion introduced vulnerabilities that would later contribute to the system's unraveling.

Stay tuned for the final installment of the series, where Weisenthal and Alloway dissect the dramatic shifts of the 1970s, including Nixon's gold shock and its lasting impact on global finance.

Notable Quotes:

• John F. Kennedy:

  “The security of the dollar, therefore, is and ought to be of major concern to every nation here. To undermine the strength of the dollar would undermine the strength of the free world.” ([18:02])

• Lev Menand:

  “By the end of the decade, you have continued gold outflows funded in part by speculation through the Eurodollar market, and rapid movements of capital between different places” ([43:19])

• Bob Roos:

  “These are short term. You get the deposit of another currency when we pay out ours. This is ideal for the central bank to do.” ([22:12])

Further Resources:

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