KISSINGER, HENRY A.

Berlin, den 10.5.1972

Sehr geehrter Mister Kissinger!

Herzliche Grüße aus Berlin und alles Gute für die Zukunft
wünscht Ihnen unbekannter Weise Familie Peter Rogowski.

Mister Kissinger, bitte entschuldigen Sie, wenn ich Ihre kost-
bare Zeit in Anspruch nehme und mich mit einer großen Bitte
an Sie wende. Ich samle Autographen von Persönlichkeiten des
In und Auslandes, und wäre Ihnen sehr zu Dank verbumden, wenn
ich auch von Ihnen Herr Sicherheitsberater Kissinger ein Bild
mit Ihrer persönlichen Unterschrift bekommen könnte. Ich lege
als kleinen Gruß einen Satz Sondermarken Berliner Landschaften
bei, und verbleibe voller Hoffnung auf ein Bild von Ihnen,
mich im voraus bedankend für Ihr Entgegenkommen

Hochachtungsvoll,

Peter Rogowski

Peter Rogowski
1 Berlin 26
Wilhelmsruher-Damm 143
West-Germany

RECEIVED
JUN 13 1972

KISSINGER, HENRY A. /R*

436 New Jersey Ave., S.E.
Washington, D. C. 20003

July 16, 1973

The Honorable Henry A. Kissinger
Assistant to the President for
National Security Affairs
White House
Washington, D. C. 20500

Dear Sir:

I am a college senior at Knox College, Galesburg, Illinois.
I am here in Washington this summer on a college intern program.
In addition to that I am working on an Honor's Project on United
States foreign policy towards The Peoples Republic of China:
1945 - 1972.

Since you have been so instrumental in our policy formula-
tion in this area, I would appreciate a chance to interview you
on the subject. It would be of priceless value to my project
to be able to converse with you.

I can meet, at your convenience, anytime from now until
August 20th when I must return home in Iowa.

RECEIVED
AUG 10 1973

CENTRAL FILES

DEC 9 1968

S. G. WARBURG & CO. INC.

640 FIFTH AVENUE
ENTRANCE ON 51ST STREET
NEW YORK, N. Y. 10019

Telephone
(212) 586-4420

Cable Address
WARGRUN, N.Y.

International Telex
NEWYORK 421027

December 6, 1968

Professor H. Kissinger
Harvard University Center for
International Affairs
6 Divinity Avenue
Cambridge, Mass.

Dear Henry:

As I am leaving for Vienna tomorrow I despair of reaching you on the telephone on this occasion - if, indeed, I shall ever manage to do so, given your new responsibilities!

I first rang you when I got to New York as I was just then writing a "turnover" for the Times on the Brookings book and wanted to tell you how much I admired your chapter. I then wanted to ring you to say that I very much hoped the New York Times' report that you might be in the new Administration would turn out to be true. I finally tried to get you to say how delighted I was that it was true. However, I must now tell you all this in writing. I really could not be more pleased that you will now be in the White House in this central and crucial position and I wish you all success in your formidable task.

I shall very likely be over here again early in the New Year after you have taken up your duties and I hope that when I come to Washington you will spare me a few minutes.

With warm regards,

ER/ae

KISSINGER, HENRY A.

OCT 12 1971

Dear Eric:

Many thanks for sending me those papers
you mentioned. I have looked them over
with great interest and am eager to have
a chance to read them more closely.

It was go good to see you the other day.
Please stay in touch and let me know when
you are planning to be here again.

Sir Eric Roll, K. C. M. G., C. B.
30 Gresham Street
London, E. C. 2.
England

jlp:10/11/71

OCT 13 1971

CENTRAL FILES

FOREWORD

This program contains the text of a paper prepared by Sir Eric Roll, K.C.M.G., C.B., at the request of the Foundation, on the subject "International Capital Movements-Past, Present, Future". At the meeting on Sunday, September 26th in the Great Hall of the International Monetary Fund in Washington this paper will be presented by him and discussed with the other members of the panel, Henry H. Fowler and Wilfried Guth. Their biographies appear elsewhere in this program. After the presentation and discussion of this paper, written questions will be answered by the panelists; cards for submitting questions are bound into this program and may be either mailed in advance to the Foundation or handed in during the lecture meeting.

Since the establishment of the Foundation in 1964 as a memorial to the late Managing Director of the International Monetary Fund, seven meetings have been arranged in different parts of the world for the discussion of important questions in the field of international finance. The Proceedings of these discussions have been published and distributed without charge by the Foundation in English, French, and Spanish; a list of these publications is set forth on the back cover of this program. In addition, they are available locally in other languages-Chinese, German, Hebrew, Italian, Japanese and Persian-by courtesy of a number of banks and bankers' associations.

On this occasion and on behalf of the Directors and Officers of the Foundation, listed below, I would like to express our appreciation to the Managing Director of the International Monetary Fund, Mr. Pierre-Paul Schweitzer, and to all his colleagues not only for their hospitality to us here, but for the unfailing support given to the Foundation since its establishment in 1964.

W. Randolph Burgess, President

Board of Directors

W. RANDOLPH BURGESS, Chairman, Washington

EUGENE R. BLACK, New York City

MARCUS WALLENBERG, Stockholm

RENE LARRE, Basle

PIERRE-PAUL SCHWEITZER, Washington

Officers of the Foundation

W. RANDOLPH BURGESS, President

ALBERT S. GERSTEIN, Vice-President and Legal Counsel

GORDON WILLIAMS, Secretary

CHARLES E. JONES, Treasurer

iii

SIR ERIC ROLL: Mr. Chairman, ladies and gentlemen, it gives me very great pleasure indeed to be appearing here under the chairmanship of Randy Burgess. He may not recollect it, but I remember vividly the first time I met him. It was when I first came to the United States as a Rockefeller fellow, very many years ago, and I was armed with a list of introductions from Josiah Stamp, whose son I am glad to see here today. And the first of these

5

introductions which I used was to a young but already very
eminent commercial banker in the city of New York, Randolph
Burgess. And since then, I was fortunate enough for our
paths to cross quite frequently, particularly when he and
I were both in the public service.

As for the man in whose honor these lectures have
been founded, I cannot claim to have known Per Jacobsson
as intimately as many of those who are present here today.
But it was my good fortune to see a great deal of him from
time to time, and more particularly during the Marshall Plan.
And I have very clear recollections of early breakfast
meetings with him in his hotel in Paris, or late night
nightcaps in Montmartre, bistros. He combined in a unique
fashion three great qualities -- fine theoretical under-
standing of the international monetary mechanism, fortified
by keen appreciation of the practicalities of finance;
warm sympathy with the problems of individual countries,
but subordinated to concern for the well-being of the
international commercial and financial system as a whole;
and above all, fearlessness in expressing his views.

Happily, these qualities, as vital today as at
any time since the war, are once again combined in the
present distinguished holder of the post of Managing Director

6

of the International Monetary Fund, who for reasons that
are well-known to all of us cannot be present this afternoon,
and engaged, I hope, on much more fruitful occupation.

I spoke in my paper of hesitation in broaching
this subject. And as the distance, both in space and time,
between the Oxfordshire Chiltons and the Great Hall of
the International Monetary Fund has diminished, hesitation
has turned into trepidation. For we are on the eve of an
annual meeting of the Fund which is taking place after
what must surely be accepted as the most climactic development
since the Fund was created.

I have prepared an inordinately long paper for,
this occasion. I am fully aware of it. But knowing that it
would not have to be delivered, I felt it right to provide
a fairly detailed background to our discussion.

It will be evident to you, even if Randy Burgess
had not told you so, that my paper was finished before the
announcement by President Nixon of the August measures. Re-
reading my paper, I do not feel -- and I hope this is no
sign of complacency -- that as a result of these measures I
would need to change anything that I have written. But
clearly, something must now be added.

No one, I am sure, would wish for progress in human

affairs, whatever they are, to be the result of sudden
convulsions or of crises. Nevertheless, when these do occur,
as they have, they can be useful if they enable us to
distinguish, as is perhaps difficult in more tranquil times,
between the essential and the inessential. They can help to
clear the air.

For my part, I would hope, for example, that one
result of the events of the last six weeks or so will be
to remove the exclusive concern that was evident before, and
against which I have argued in my paper, I hope convincingly,
with the Eurocurrency market as such. I hope that at least
one lesson we shall learn from the present monetary disorder
is that fundamental factors are at work and have therefore
to be dealt with, rather than to concentrate on the surface
phenomena to which these give rise.

Again, to take the same example, I have given
various arguments in my paper, taking the view that so-called
controls of the Eurocurrency market are undesirable. Since
then, the number of measures that affect the free flow of
short-term funds has grown. But I remain unrepentant in
thinking that so far from making more fundamental remedies
less necessary, they have had the opposite effect.

A universal system, for example, of dual markets

seems to me, even if it were feasible, to be highly undesirable.

This is not to say that there may not be occasions
when the monetary authorities, finding themselves in an
extremely difficult situation, may not need to resort to
measures which restrict the freedom of short-term capital
movements, measures of the kind to which I alluded in my
paper and which I don't propose to go over again here.
But if they do, I do hope we won't fed ourselves into thinking
that these are good in themselves or that they are anything
but the most superficial symptomatic therapy.

It is as well, I think, for the authorities to remember
the old Horatian tag -- though you drive nature out with a
pitchfork, she will still find her way back. And that way
some of us will know will lie through various control-free
Ruritanias.

The emphasis which I have tried to place on
interest rate differentials, and the forces which determine
them in each country, including the differing significance
attached in the various countries to monetary management,
and on expectations concerning the stability of existing
exchange rates, together with the forces that determine these,
seems to me to have been fully justified by recent events.

I myself, more than ever, am convinced that

in the long term flourishing international capital and money markets, the advantages of which I am sure are fully accepted by everyone, depend for their continuance as a beneficient force, rather than as one of disturbance, on, first, greater progress in the hamonization of domestic economic policies, and second, the underpinning of the stability of the international monetary system.

In the longer term, moreover, these two objectives are really one and the same.

I have given sufficient indication, I think, in my paper, of my own views on these objectives, which I profoundly believe should ultimately lead to a world central bank as the guardian of a single international reserve asset, sustained neither by the nineteenth century *Aequilibrium*, Britannicum, of which I spoke in my paper, nor by the *Aequilibrium Americanum* of the last twenty-five years, but by true *Aequilibrium Universalis*.

However, it is not on these longer objectives that I want to dwell in my brief remarks today.

As it is clear from my paper, it is all very well to start off by talking about international capital movements, long or short, but one is inevitably, and very soon, at that, obliged to deal with the whole range of

current international monetary problems. This means
particularly after the August measures and the various
international discussions that have taken place and are still
taking place since, that one must talk about the present
currency disorder.

This is not easy.

Having spent a very large part of my life in the
service of government, I am particularly keenly aware of
the hazard of saying anything publicly at a time when
difficult and delicate negotiations are going on. Nevertheless,
as I speak only for myself today, and this is an occasion
when the speaker, I think, can regard himself in Shakespeare's
words as a "chartered libertine", I will give a few personal
views on the events of the last six weeks and their consequences.

In the first place, I am bound to say that I have
enormous sympathy for the position of the United States,
the pressures that the Administration was under, both
nationally and internationally, and for the need it felt
for bold decisions. Particularly as far as the international
side is concerned, it seems to me to be hardly for those
who have been lecturing the United States for so many years
on the need to put its house in order to complain about its

11

decision finally to do just that. One might express
regret at the tardiness of these decisions. One might
feel that had they been taken earlier, they might have been
less radical and troublesome. One might disagree with some
of the individual items in those decisions. But the determina-
tion as such, both to set the U.S. economy back on the path
of growth without inflation, and at the same time to bring
the deficit in the balance of payments under control
should surely evoke nothing less than the warmest welcome.

As I said in my paper, it is essential for the
economic health of the world that the United States, in
common with so many other countries, including my own, should
quickly achieve much higher levels of economic activity
with a substantial reduction of inflation.

It would be presumptuous for me today to comment
on the domestic parts of the measures taken here to this end.
But I for one am delighted that the Administration was not
deterred by possible charges of inconsistency to make some
moves on the prices and incomes front.

When it comes to the decisions in the international
field, their consequences must naturally be subject to debate.
But so also must be the reactions of other countries, both
in word and in deed.

For my part, I find that the decision to close the gold window which necessarily entailed a decision by a large number of countries no longer to endeavor to maintain the fixed parity of their exchanges with the dollar, to have been entirely correct.

I would emphasize, as should be clear from my paper, that I am strongly opposed to floating exchange rates as a normal regime. But in certain circumstances it becomes inevitable as an interim measure. And this is clearly very much the case at present.

I am less convinced that in strictly economic terms the imposition of a ten percent surcharge on imports was essential. And lest it be thought unseemly on the part of one who in 1964 had to explain to the American administration -- I may say with some success -- the virtue of the British decision to impose such a surcharge, I must point out that the circumstances were different, in that Britain was at the time trying to maintain its parity, while the United States was effectively producing a devaluation of the dollar.

More important, there must surely be considerable doubt whether in a situation in which the international competitiveness of the United States has declined, due to a

13

relative deterioration of productivity over a number of years,
the provision of further protection to the domestic market
in this form, as well as by other devices, is likely to be
a corrective in the medium and longer term.

Experience elsewhere does not support such an
expectation.

However, I can quite see the political factors, both
domestic and international, behind this particular decision.

I also have very great sympathy with the view which,
if reports are to be believed, is being held by the U.S.
authorities, namely, that the present situation requires a
fundamental reform of the international monetary system
rather than a hurried patching up of some sort of agreement.

Many of us have long argued that fundamental
reforms were becoming increasingly necessary, and therefore
we must necessarily agree that every opportunity should be
taken, such as the present situation, to press on with these.

However, these are, as we all know only too well,
matters that are not easily resolved quickly. The experience
of the discussions on improving the methods for providing world
liquidity and in the process creating the beginnings of what
would eventually become the basic reserve asset, which
led to the creation of the Special Drawing Rights, does not

make one sanguine that progress can be achieved in a short time.

Furthermore, the inclusion of other problems in the field of aid and defense burden-sharing, these are rarely meant to be tackled concurrently, and can hardly be looked upon as improving the prospects for an early overall long-term solution.

I myself would be much happier to think that these matters will be dealt with seriatim rather than all at once.

What, then, must we hope and work for?

My own feeling is that the present state of affairs in the international financial system must not be allowed to continue much longer. True, life has a habit of going on, and markets and individuals and institutions operating in them tend to adjust themselves even to the most disorderly situation.

But there is already evidence of the inhibiting effect which this is having on international economic relations. And it would be totally wrong to think that if this present situation is not remedied soon, it will simply stay as it is. It will certainly deteriorate further through the spread of further restrictions of exchanges, both commercial and financial.

15

At a time when so many countries are trying to reactivate their economies ~~but~~ not yet having fully conquered inflation, at a time when great developments, both public and private, are needed, to name only one example in the field of, say, oil exploration, extraction and transport, or the provision of a better social and economic infrastructure in a large number of countries, even in the rich, developed world, and when these are crying out for huge capital resources, the prospect of a gradual shrinking of capital markets must be truly terrifying.

At the same time, it is naturally highly desirable that whatever early agreement is reached in the monetary and trade field should be in the direction in which the longer-term reform in the international monetary system is being sought.

Suggestions, for example, which I have seen attributed in the newspapers to the distinguished Italian Finance Minister, Sr. Ferrari Agrari, as well as, of course, to the Managing Director of the Fund himself, certainly recognize this essential link. Nevertheless, I am particularly anxious to see an early agreement for the re-establishment of exchange parities vis-a-vis the dollar at levels which command credibility. I expect that this will

now have to be combined with a greater margin of fluctuation
within support points, though I have shown in my paper that
I for one do not regard wider bands as the great remedy,
as some people do. Speaking personally, I do not myself
consider that there is any cogent economic case for including
in such a realignment the modest increase in the official
dollar price of gold which is advocated in some quarters. I
can see that this might have some significance in terms of
bookkeeping for central banks.

The more sophisticated arguments which I see are
now being used in favor of this proposal, although seductive,
seem to me to be drawn from quite a different universe of
discourse; namely, from a regime appropriate to a situation
in which there is a single reserve asset already in existence
and accepted and how this, as a yardstick, is to be related
to all the currencies that will be linked to it.

I am not yet convinced, though I am open to persuasion,
of its relevance to a solution of the immediate problem of
parity realignments in an interim period designed to secure
a better U.S. balance of payments performance, including a
discouragement of sharp fluctuations in short-term money
flows.

Thus, essentially this particular proposal seems

to me still to be political rather than economic. And while
that may in no way diminish its importance, we must remember
that in politics usually there is some political element on
both sides of the argument. Still, if this one measure
really made all the difference between an early agreement on
parities and continued deterioration, I certainly for one
would naturally not oppose it.

However, I would strongly hope that an early
realignment of currency parities would be accompanied by
the withdrawal of the ten percent surcharge and of the other
new protectionist measures of the United States. These seem
to me to be the minimum elements for immediate action.

It is also, I think, essential, that they should
be accompanied by agreements which will make the new pattern
of exchange parities, as I have said, one commanding a high
degree of credibility as to its viability for a reasonably
long period ahead. To this end, some action must, I think,
be taken in regard to dollar balances as has been advocated
by a number of people, including I think most recently by
Bob Roosa.

Whatever may be the arguments which the United
States may see in favor of adopting a purely waiting attitude
while other currencies float, mainly upwards, and whatever may

be the arguments for more rapid progress towards the elimination
of the dollar as a reserve asset and its replacement by
a single, universal, internationally acceptable asset a la
Special Drawing Rights, it cannot be in anybody's interest
in the meantime to allow confidence in the dollar to continue
to be eroded without limit. It certainly cannot be in the
interests of the United States for this to happen, however
much she may desire an immediate upward movement of certain
other currencies.

Lack of confidence in a currency can be extremely
dangerous and beyond a certain point impossible to control,
particularly when it begins to effect one's own nationals.

Moreover, however much we may all want to see a new
reserve asset, the dollar is bound to continue to be the prin-
cipal transaction and intervention currency.

I believe, therefore, ~~that~~ some action in regard
to dollar balances in parallel with a realignment of currency
to be essential.

It is vain to hope that one can at one stroke
find parities that will reflect all the varying factors that
go in theory into the determination of relative exchange
rates, such a relative competitiveness, probable relative
rates of inflation over time, and so on, to such a degree of

BIOGRAPHIES

Sir Eric Roll, K.C.M.G., C.B., is Deputy Chairman of S. G. Warburg & Company, Ltd., and has been a Director of the Bank of England since 1968 and of The Times Newspapers, Ltd. since 1967.

For many years he was closely connected with United Kingdom economic and financial policy
development, most recently as Permanent Under-Secretary of State, Department of Economic Affairs.
He was Economic Minister and Head of the U.K. Treasury Delegation to Washington and Executive
Director for the United Kingdom to the IMF and IBRD during 1963/64. He has also served as Under-
Secretary in the Treasury and in the Ministry of Agriculture and has represented the United Kingdom at
numerous negotiations in the field of agriculture and economic affairs-to O.E.E.C. N.A.T.O. and E.E.C.

Sir Eric was educated in Europe and obtained his B.Com and Ph.D. from the University of Birming-
ham. He was Professor of Economics and Commerce at the University College of Hull. His writings
include "A History of Economic Thought" in 1954, "The World After Keynes" in 1968 and a number
of other books and articles on economic and financial subjects published in both Great Britain and the
United States.

Henry H. Fowler is a General Partner in the investment banking firm of Goldman, Sachs & Co. and was formerly Secretary of the U.S. Treasury (1965-1968) and Under Secretary (1961-1964).

Mr. Fowler received his A.B. degree from Roanoke College and his LL.B. and J.S.D. from Yale University Law School.

Prior to his recent government service Mr. Fowler was senior member of the Washington law firm
Fowler, Leva, Hawes and Symington. Earlier government service included the post of Director of the
Office of Defense Mobilization during the Korean War and membership in President Truman's Cabinet
and on the National Security Council.

Mr. Fowler is currently a Councillor of the National Industrial Conference Board, and a Trustee of
the Alfred P. Sloan Foundation, the Carnegie Endowment For Peace, the Institute of International
Education and of Roanoke College. He is also a Vice-Chairman of the Atlantic Council of the United
States and a member of the Board of Directors of the United Nations Association of the United States as
well as a number of industrial companies.

Dr. Wilfried Guth has been a member of the Board of Managers, Deutsche Bank AG, in Frankfurt (Main), since 1968 and is Chairman and member of the supervisory boards of several other companies. He is Deputy Chairman of the Investment Committee of the International Chamber of Commerce and serves in various other non-profit organizations. He was educated at the Universities of Bonn, Heidelberg, and Geneva, and at the London School of Economics.

Dr. Guth began his career in the Central Bank of Germany (Research Department) in 1953 and served there in various capacities until 1959 when he was appointed Executive Director for the Federal Republic of Germany in the International Monetary Fund. He returned to Germany in 1962 as Member of the Board of Managers of the Reconstruction Loan Corporation, the principal German lending institution for development aid, where he remained until 1968.

Dr. Guth's publications includes "Capital Exports to Less Developed Countries" (1957). He was the German member of the Commission on International Development (Pearson Commission) which presented its Report "Partners in Development" in 1969.

vii

INTERNATIONAL CAPITAL MOVEMENTS
PAST, PRESENT AND FUTURE

Sir Eric Roll, K.C.M.G., C.B., Deputy Chairman, S. G. Warburg & Co. Ltd.

I deeply appreciate the honour which the Per Jacobsson Foundation has done me in inviting me to give this lecture today. I feel bound to add, however, that to undertake to write a paper on an international financial topic in 1971 around the time of the summer solstice for delivery around that of the autumn equinox requires a degree of recklessness that may lead to immediate expulsion from the fraternity of bankers whose outstanding quality is, or at least ought to be, prudence. The officers of the Foundation, recognising this hazard, were kind enough to give me a few weeks' grace. This, however, proved a mixed blessing, as every day brought new pronouncements from the authorities, new interpretations of what these meant, and new rumours of what they really intended to do, as distinct from what they said; and new disturbances in financial markets.

This audience, containing so many bankers, will, therefore, appreciate why my acceptance of this invitation was coupled with an option to supplement what I say in my paper with additional observations which may differ considerably—and perhaps in part completely contradict—the views here expressed. For who is to be sure what events the next few weeks will bring, including in 'events' the unforeseeable acts of governments!

There are other reasons for approaching this subject with some hesitation. Two formidable panellists are to initiate a discussion of the subject of this paper. They have both considerable practical experience of the problems with which it deals and they have both fairly recently pronounced on it: Joe Fowler less than a year ago in Tokyo, and Wilfried Guth earlier this year, in Geneva, on the very morrow of the most recent monetary crisis; and they have each expressed quite decided views. This audience contains some of the most eminent among both the poachers and the gamekeepers in the monetary forest, if I may so refer to them, as well as distinguished monetary theorists. The subject itself, for some unaccountable reason, evokes strong emotions. Floaters and fixed exchange raters, monetarists and fiscalists, interveners and laisser-faire-ites, those whose greatest desire is to have more autonomy in national economic policy-making and those who are deeply devoted to the international monetary system: all seem to find in the present developments in international capital movements support for their own particular theories. Indeed it is true to say that if one wants to plunge at once into all those most complex problems in monetary economics: balance of payments equilibrium, the domestic adjustment process, the role of exchange rates, the proper policy mix for economic stabilisation and, even, the role of international institutions, it is difficult to think of a better springboard than the subject of this lecture.

It is not surprising, therefore, that it also has a very long and distinguished history: from Ricardo through the controversies after the Napoleonic wars to Keynes and the post-Keynesians, one can fill a respectable section of any economics library with discussions of international money flows. And in the last ten years—perhaps more particularly in the last twelve months—it has become virtually impossible to pick up any publication in this field that does not discuss the Euro-currency market and its real or imagined misdeeds.

There are, moreover, considerable limitations in dealing with a monetary subject as such. Not only does money, as has so often been observed, throw a veil over real phenomena, but monetary policy is often invoked to perform tasks beyond its capacity. If I may quote some words from a little known publication, the Irish Banking and Currency Report of 1938, which were almost certainly written by the man in whose honour these lectures were instituted, Per Jacobsson, I commend to you the following: "Some of the greatest difficulties of monetary policy arise from the fact that it has to be pursued in an

-1-

environment largely conditioned by political and other non-monetary factors. ... It is quite clearly unreasonable to expect all mistakes committed in the political and economic field to be neutralised by monetary action, however wisely pursued." I am sure these words will find a loud echo in the breast of many a Central Bank Governor today.

In this situation, it would be rash to suppose that one can say much that is new or say it in a way that would contribute light rather than heat. One can, of course, always pose more questions, though one should remember Charles Colton's saying of one hundred and fifty years ago that "the greatest fool may ask more questions than the wisest man can answer". What, however, I think may be particularly helpful is to try to bring some order into the debate. Here I take as my inspiration what I once heard Josiah Stamp say: "if we have to have minds like rag-bags, let us at least sort out the rags".

My title suggests that I have divided the subject, like ancient Gaul, into three parts. They are, however, not of equal length and weight; and on some of the aspects of the problem, I have had to intermingle past, present and future.

As far as the past is concerned, international capital movements would certainly repay renewed study both in their theory and in their actual evolution. For example, Jenk's *Migration of British Capital*, Cleona Lewis's *America's Stake in International Investment* and Jacob Viner's classic, *Canada's Balance of International Indebtedness*, are, I suspect, rarely read nowadays, but certainly should be. I want to refer only briefly, both to the theory and the history of the subject, primarily as an antidote to some of the present-day attitudes which tend often to regard every problem as unprecedented, while at the same time being only too ready to derive policy guidance from somewhat primitive theories of the past which developments of recent decades have made inadequate. There is some comfort to be got from realising that our present discontents as regards long-term capital movements or flows of 'hot money' are not unique but have been experienced many times before and this can at least teach us to keep them in perspective. It is also salutary to be reminded that some of our reactions to current phenomena may spring from half-remembered lessons of first-year textbooks in Economics that were perhaps not wholly adequate to what was happening in the real world even at the time when we imbibed them.

The general theory of international economic relations, embracing the theory of international trade, of capital movements, and of the international monetary mechanism has an ancient and honourable pedigree and is perhaps the most solidly established part of general economic theory. In its basic elements it is probably the least changed since the two-hundred and twenty years when David Hume first expounded the theory that became the foundation for the explanation of the relationship between the influx and outflow of the precious metals (or reserves, as we would say today) and the domestic price level; and the hundred and fifty years since Ricardo first elaborated the theory of the division of labour into one which also explained the fundamental reasons for international trade. As for the first, during the relatively limited period of a half-century or so, when the pure gold standard held sway and the specie points (the equivalent of today's 'bands') determined money flows, the total acceptance of this international system was best demonstrated by the fact that it was referred to simply as "the mechanism"; though with hindsight one can see that there was a hint of potential impermanence in the fact that it required the observance of certain rules of the game for its proper functioning. As for the origin and direction of international capital movements, the explanation was also fairly straightforward. Comparative advantage determined the international division of labour, natural endowment and institutional arrangements determined the accumulation of capital. The two combined would create export or import surpluses which would be compensated by long-term capital exports or imports, thus usually closely linking trade and capital flows, as Bob Roosa has recently reminded us. It should be noted, however, that many of the empirical studies, for example that of Jacob Viner, show that even a long time ago, triangular, and even more complicated relationships, between trade flows, long-term capital movements, and the movement of short-term banking funds were by no means uncommon.

It is not my purpose here to trace the changes that have taken place in the corpus of economic theory on this subject, or to describe in detail the stages through which international movements of capital—long and short—have actually gone in the last hundred years. Generally speaking, the theory has been a steady adaptation of the classical doctrine to actual changes in institutions and practices which have, in turn been due to changes in the relative position of different countries, the reasons for which must be sought in profound demographic, technological, social and political factors. What, I think, even

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the briefest review of the last hundred years or so, makes one realise is first, how far the 'textbook'
description of a smoothly working international monetary system is an idealised pattern that was both
relatively short-lived in its pure form and, above all underpinned by certain political or institutional
factors which were the pre-requisite for the system's operation. Thus Per Jacobsson, in the report I have
already quoted, after pointing out that it was roughly the period of 1850 to 1910 which marked the
heyday of the pre-first world war gold standard, and that this was a period when more peaceful
international relations were maintained, goes on to say: "the *de facto* predominance of London in the
short and long term money markets provided a centre of stability for the world credit structure which
enabled the pre-war (that is pre-1914) system to work with a high degree of smoothness and reliability".

Similarly, Keynes, writing in 1930 says: "during the latter half of the nineteenth century the
influence of London on credit conditions throughout the world was so predominant that the Bank of
England could almost have claimed to be the conductor of the international orchestra. By modifying the
terms on which she was prepared to lend, aided by her own readiness to vary the volume of her gold
reserves and the unreadiness of other Central Banks to vary the volume of theirs, she could to a large
extent determine the credit conditions prevailing elsewhere". It is thus important to remember—and I
say this in no spirit of chauvinism or nostalgia, but purely as an objective aid to understanding—that
what made the old gold standard system work was perhaps as much the existence of an "*Aequilibrium
Britannicum*"—alongside a *Pax Britannica*—as its own inherent virtues.

The other point that a study of the history of this subject brings very forcibly to mind is the relative
speed with which, shall we say, the surrounding data of institutional and national realities change. I shall
refer to the more recent examples of this later; but even in the nineteenth century there are some to be
found. It is as well to remember that in the forties, when the American Federal Government was in a less
favourable credit position than some of the states, it is reported that the Paris Rothschild told an agent
of the U.S. Government: "You may tell your government that you have seen the man who is at the head
of the finances of Europe, and that he has told you that they cannot borrow a dollar, not a dollar"; and
Barings were only prepared to raise money in London (at 3 per cent) if the Federal Government would
assume the state debts.

Yet by the seventies, with the passing of the frontier and the beginning of the great industrial upsurge
in the United States, the situation changed. America began to be not only a powerful trade competitor,
but a great potential exporter of capital and cries of the "American Peril" and of the "American
Invasion" were almost as loud as they have been at times in the last two decades. So let us remember
these quite sharp turn-arounds when we try to diagnose problems and prescribe remedies based on the
experience of half a decade or less!

The developments of the first fifteen years of the post-war period are sufficiently fresh in everyone's
memory to require little detailed recapitulation. It may, however, be worthwhile to note briefly some of
the main background changes that must be borne in mind in examining the most recent developments.
These points are all obvious ones: they are listed here for the sake of emphasis only. The first is that
since the war, international financial arrangements have been conducted under the aegis—even though
they have unfortunately not yet been dominated by—new institutions: the Bretton Woods machinery.
Long-term capital movements, at least between developed and developing countries, have to a certain
degree been influenced by the operations of the World Bank. The régime of exchange parities, the
provision of world liquidity and the relation between balances of payments and domestic policy have
been carried on under the aegis of the Fund, aided by the 'auxiliary engines' of the Group of Ten,
Working Party Three and the increasingly close cooperation of Central Banks both in terms of
consultation and in terms of practical mutual assistance. It is, however, to be noted that the Bretton
Woods machinery was deficient. Not only did it lack—through American unreadiness to participate—an
institution that would explicitly have brought together international and national economic management
problems, the I.T.O., but it almost explicitly excluded capital movements from its purview. This was an
interesting example of the difficulty of reconciling the preoccupation for freedom of national
policy—making with membership in an international system. Keynes himself in his original proposals for
a Clearing Union, after arguing the case back and forth, concluded that "the universal establishment of a
control of capital movements cannot be regarded as essential to the operation of the Clearing Union; and
the method and degree of such control should therefore be left to the decision of each member state".

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One must remember—and this is something of a paradox—that this conclusion was reached within the framework of an expectation of a Clearing Union that would have been much more like a World Central Bank—with a single universal reserve asset—something very different from what the Fund has been, at least up to now. It would be interesting to speculate whether Keynes would have wanted control of capital movements to have remained the prerogative of national authorities had he realised at the time of the original proposal that the Clearing Union itself would not conform to his complete vision.

The second important point to recall is that at the end of the fifties, convertibility among the major currencies had been achieved and that this greatly encouraged a much enlarged flow of capital across national boundaries. This is a development to which many have drawn attention, not least Per Jacobsson himself who almost exactly ten years ago, in his 1961 report on the work of the Fund spoke of the "growing freedom for the international movement of funds" and the fact that this had "created new problems which the world has not had to face since the start of World War II".

This easing up of capital movements, both long and short, led, as might have been expected, to a contradictory sort of development. For as one 'eases up', new practices are generated, new markets arise, new institutional arrangements are formed, and many of these are irreversible. This means that whenever the need arises—or the Authorities think that the need arises—to restrain the freedom which they, themselves, have called forth, they find themselves faced with new and unforeseen pressures. In other words, they cannot simply 'return' to the situation that existed before.

Another more general point to be recalled in this connection is the changed relative position of different countries, and, indeed, the mutations which these, themselves, have undergone. The post-war period began under the overwhelming influence of the economic strength of the United States. The dollar shortage and the fear of its persistence was the overriding feature of the international economic scene; and the 'scarce currency' clause of the Fund's Articles, inspired solely by this fear, remains as eloquent testimony to the transitory nature of what appeared to be the most solid of historical data. Keynes himself had second thoughts; and his 1946, posthumously published, article on the U.S. Balance of Payments fore-shadowed some of the changes that have occurred. Though even he would have found it difficult to forecast either the facts of the U.S. Balance of Payments as they have developed during the last decade or, even more, the attitudes to which they have given rise in many places to the dollar.

Another most important background fact of the post-war period that must be constantly borne in mind is the changed attitude of governments—and of the governed—to the level of economic activity. In the perspective of a century, the greater concern of the 'Authority' with the level of employment of resources, and therefore with the economic process has, no doubt, developed gradually and as a result of a complex of pressures and changing ideas. But as far as the last twenty-five years are concerned, the acknowledged responsibility of government to maintain a high and stable level of economic activity and the development of new techniques of economic management, together with a greatly advanced statistical apparatus to enable these techniques to be employed against an assessment of facts, must be accounted as little short of a revolution. The relevance of this factor to our present theme, that is to the international financial system is not difficult to see. Throughout the inter-war years there were occasions when the dilemma between desiderata of national policy and the requirements of an international trading and financial system appeared very acute: when Britain returned to the Gold Standard or during the Great Depression, for example. Already in 1930, Keynes had written that the international monetary system "requires that the main criterion of banking policy of each member should be the average behaviour of all the other members, its own voluntary and independent contribution to the final result being a modest one"; and, then, of the difficulty of being a member of an international system "and to preserve at the same time an adequate local autonomy for each member over its domestic rate of interest and its volume of foreign lending"—prophetic words indeed! As we have seen, the Bretton Woods system sought to remove this dilemma by allowing controls on capital movements. But what was not sufficiently realised twenty-five years ago, was the extent to which the management of aggregate domestic demand for the purpose of a high and stable level of activity was to develop into a universally practised and highly sophisticated art, nor the extent to which monetary as well as fiscal policy was to be employed in its service. The relationship, therefore, between not only the objectives but also the means of domestic economic policy and the mechanism governing the stability of the international monetary system was to be profoundly altered.

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The 'sixties were ushered in by a return to convertibility of the currencies of most of the major trading countries and with it, greatly increased possibilities for the international movement of short term funds. The period was also dominated by a change in the position of the United States. The traditional and large foreign trade surplus gradually disappeared and this was compensated for by increasing capital inflows. The dollar greatly enhanced its position as a transaction currency, while its use as a reserve currency came under some pressure as a result of the turn-around in the U.S. balance of payments. The underlying trend of the decade was for world trade to increase sharply under the impetus of liberalization, currency convertibility, technological advance and population increase, and with it, both capital requirements and the movement of long-term capital across international boundaries. The growth of the multinational corporation was both a product and a cause of these development. Its spread created a new surge in the volume of direct investment. Portfolio investment, too, despite remaining restrictions, found ways of increasing to a vast extent thus enabling many to participate in the greatly enhanced level of activity mirrored—though sometime grossly distorted—in the general upward trend of equity values.

The growing use of the dollar for financing international transactions, against the background of currency convertibility and the emerging United States balances of payments deficit, also led, as already stated, to a sharp increase in the volume of short-term money flows. The consequences of the great increase in long and in short-term capital flows were twofold. It led to the creation of new markets for the accommodation of supply and demand, the Eurobond and the Eurocurrency markets; and it made even more remote and indirect than it had been before, on the one hand the relation between trade flows and long-term capital flows, and, on the other hand, that between the normal means of the domestic adjustment process and the requirements of international balance. While this phenomenon has become particularly marked most recently, it is not a new one. Throughout the 'sixties, we find examples of countries being in imbalance on their international payments not only because of changes (positive or negative) in their international competitive position—to which the traditional domestic demand management remedies would be applicable—but also because of long-term capital movements having strong historical or institutional origins, but no longer thought appropriate and, therefore, subjected to control; and, finally, also due to short-term flows caused by confidence factors, superimposed on more basic deficiencies, or brought about either by short-term inequalities in the trade cycle position of different countries, or, indeed, provoked by monetary policy measures imposed as part of the programme of demand management itself.

A future historian of the decade will find many curiosities to wonder over. The ups and downs of the United Kingdom, of France and of Italy are among them. But so also are the changing positions of the United States, Germany and Japan. In none of them are the main factors such as the domestic economic situation, the fundamental position in regard to international competitiveness, or the measures taken either in the area of domestic credit policy—with their marked effect on short money flows—or in regard to the control of inward and outward long-term capital movements, always easy to relate to each other. Above all, I think a review of those years should have the effect, once again, of instilling in one a proper sense of caution not to regard as a lasting feature any individual country's position in the 'league table' of stability-performance in the balance of payments, and therefore to eschew solutions which are implicitly based on the assumption that such positions will continue for a long time.

At this point, I propose to describe the salient features of the two markets that have developed in the last ten years or so to organise the flows of long and short-term capital to which I have referred before going on to examine the most recent activities in them, particularly in the short-term market, which have given rise to a certain amount of concern. First, then, the long-term capital market. Until the last war there were only two large capital markets for international borrowing, London and New York, to which might be added Switzerland as a more modest one, though with a decided tendency to grow after the war. For obvious reasons, London, though possessing the traditional skills and institutions could not, after the war, provide funds for foreign lending out of domestic capital formation; and after the balance of payments crisis of 1964, impediments to both direct and portfolio investment by British investors other than in the Sterling Area were increased, and even the last named became subject to control. Continental capital markets which even before the war had not played the same role that London and New York had done, remained, again for obvious reasons, mostly closed to non-resident borrowers. New

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York, therefore, remained after the war as the only really large market for foreign governments, international institutions or foreign corporate borrowers, as well as the main outlet for international, i.e. non-U.S. originated investment funds. These funds, including European funds, available for international investment were considerable, and even in the first few years of the 'sixties attempts were made to mobilise them for international issues arranged in Europe rather than in New York. But the total of such issues remained very small, amounting to only about $150 million per annum on the average, until 1963. That year saw the beginning of a series of policy changes in the United States resulting from her worsening balance of payments situation which cumulatively had a profound influence on the development of the international capital market. In July of that year, President Kennedy, noting an increasing outflow of long-term capital (from $850 million in 1960 to an annual rate of nearly twice that in 1963), introduced the Interest Equalization Tax. This was followed later by a Voluntary Balance of Payments Programme designed to discourage these outflows and later by a mandatory programme designed to restrict them severely.

As a result of these measures, the development of an alternative market for bringing together the large and still growing volume of international funds seeking long-term investment and borrowers seeking capital proceeded swiftly. The fact that this market has to a very large extent been centred in London is easily explained, first by the fact that the traditional skills of London's merchant banking houses, supplemented by a number of American investment banks which established themselves in London, were available to take advantage quickly of the new opportunities; and secondly by the helpful action of the authorities, for example in halving stamp duty and, above all, in allowing once again the issue of bearer bonds.

In the last eight years while the market has undergone a number of changes and fluctuations, it has, on the whole, shown considerable growth. From a total volume of $164 million in 1963 it grew to the remarkable total of over $3000 million in 1968, the peak year. After that it declined somewhat to approximately $2500 million per annum in the next two years; while during the first seven months of this year, it has already reached over $2100 million, the total over the whole period being $15½ billion. These figures relate to internationally syndicated issues only, and do not include foreign bonds in the narrow sense. Within these totals, there have been interesting developments regarding the type of bonds issued, the denominations in which they are issued, and the types of borrowers. As regards the types of bonds, the two main classes have been straight and convertible bonds, and the proportion between them, not surprisingly, reflects the changing fortunes of stock markets, in particular Wall Street. Thus, the volume of convertible Euro-dollar bond issues rose from $227 million in 1967 to $1735 million in 1968, to drop back again to less than half that figure in 1969, and to $189 million only in 1970, with slightly less than that figure so far in 1971.

Another, somewhat different aspect might be mentioned to illustrate again the variety of this market, namely the experiment made with floating rate bonds, i.e. bonds in which the rate of interest varies every six months, being linked by a fixed margin to the inter-bank six-month lending rate in the Euro-currency market. These bonds, of which there have not been many, have not unnaturally been regarded primarily as banking instruments, of interest to the banking community and their maturity has tended to be considerably less than that of long-term bonds. Unless interest rates were to drop to levels which now seem highly unlikely, it is probable that these maturities will remain limited to seven years or so and thus form a type of borrowing in between the medium-term bank credit and the long-term bond proper.

An interesting feature of the long-term market has been the fluctuation in the currency in which the bonds have been denominated, reflecting changing views concerning the strength of different currencies. At first, they tended to be almost exclusively dollar bonds, though already in 1963 some were in European Units of Account, which remained a small but fairly steady denomination right through the period, to be joined in 1970 by a small volume of issues in European Currency Units. There have also been at times issues denominated in two currencies, e.g. Sterling and Deutsche Marks, allowing the investor a certain option in regard to subscription, payment of interest and repayment of principal. I need not go into the technical intricacies of these various multi-currency formulae, which have also been employed in medium-term bank credits. The important thing to note about them is not only that they are a vivid demonstration of the liveliness of the market and a tribute to the inventiveness of the

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financial institutions operating in it, but also that they have been devised as means for overcoming investors' hesitation, stemming from uncertainty about potential exchange parity changes. The formulae are complicated and provide varying degrees of assurance to the investor while carrying differing degrees of risk for the borrower. It would, however, not be extravagant to see in them, limited though their use has been, proof that the market is often ahead of the regulatory authorities in creating its own safeguards in circumstances in which otherwise the whole capital-raising activity might have to be severely curtailed to the disadvantage of lender and borrower alike.

Thus the flexibility and adaptability of the market has shown itself primarily in its change from time to time in the choice of currency in which a loan has been contracted. While the dollar has throughout remained the most important currency for reasons which have already been touched upon, other currencies have been used from time to time. Already in 1964, Deutsche Mark issues accounted for just under 40% of the amount raised in dollars. In 1965 the proportion was 50%; but it fell off in the following two years. By 1968 it was back to one-third of the dollar amount; in 1969 it rose to about 65% (or 40% of all issues) to fall back to about one-third in 1970 and to the same proportion so far this year. To these must be added in the last year or so, some, though much smaller, amounts denominated in Dutch Guilders.

In judging these developments, a number of separate, sometimes contrary, factors must be borne in mind. The surge of issuing activity in Deutsche Marks was, of course, largely the result of the rapid rise in German reserves, itself a consequence of the weakness of the dollar, before revaluation in 1969. This led the German authorities to encourage the export of capital which coincided with the desire of many investors to find securities denominated in 'hard' currencies. On the other hand, the German authorities maintained a careful supervision of the volume of all borrowings organised on behalf of foreigners in Deutsche Marks. A committee formed of the principal issuing banks with close contact with the Bundesbank, operates a queue system which determines the issues—foreign and domestic—to be authorised each month and this has operated and continues to operate most effectively. It is conceivable that, without this control, the volume of Deutsche Mark issues would have risen from time to time to much higher levels in response to the desire of borrowers for funds which could only be obtained in terms of a 'hard' currency obligation, though it is reasonable to suppose that the market would then have been subject to the fluctuations, to the occasional periods of indigestion, to be cured by fasting, which the dollar market has experienced. At the same time, it is noteworthy that once the Deutsche Mark was revalued in November 1969 there was considerable selling pressure on these bonds, thus demonstrating that they were in part used as a safe haven for hot money which could not be placed short-term owing to the German authorities' regulations designed to discourage short-term inflows.

The advantages of this relatively new, yet already substantial and highly developed market are not far to seek. As far as borrowers are concerned, their variety is itself a testimony to the service which the market is rendering. The most cursory glance at the list is illuminating. It includes Governments, Municipalities, Governmental agencies such as public utilities, international organisations and corporations which are household names all over the world. Many little-known, smaller corporations, particularly in new industries, engaged in advanced technology, have also been enabled to secure long-term capital resources through this market and, in the process, have become more widely known internationally while themselves becoming acquainted with the international financial community. Many purposes have been served by the capital raised in this way and it is no exaggeration to say that much new development from international highways, pipelines and North Sea exploration to international joint ventures and mergers, might, at the least, have been more difficult to accomplish if it had not been possible to make use of the facilities of this market.

As for the investor, the service to him is less easy to demonstrate, since the identity of those who buy these bonds is not readily discoverable. Unlike domestic public issues, these internationally syndicated ones are sold (or placed) by a selling group of banks, including (but not exclusively) the underwriters of the issue. Institutional investors in many countries cannot subscribe to issues denominated in currencies other than their own. Nevertheless, many internationally operated unit trusts and investment funds have invested in these bonds in recent years, as have certain international insurance companies in respect of their 'free' funds and the pension funds of large international companies. However, the bulk of the investors are private individuals; and it is widely thought that this gives to these bonds generally a much

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greater stability of holding and less sensitivity to relative interest rates and currency uncertainties than is, naturally, displayed by the banks or international companies that operate in the short-term market. What seems clear is that the Eurobond market has managed to tap resources of investors in various parts of the world which might otherwise well have stayed in the short-term pool and not only remained unavailable to those in need of long-term capital but also added to the volume of potential short-term flows.

More generally, it can be said that the market has reached a certain maturity which justifies one in saying that it has added an important new dimension to the international financial mechanism. It is clearly a far cry from the earlier movements of capital of the nineteenth and early twentieth centuries, when the link between trade flows was still strong and when not only direct export and import movements but also traditional commercial and marketing patterns no less than political and linguistic ties as well as the concentration of financial skills, largely determined the character and direction of these movements. The Eurobond market represents a more perfect market in the economic sense, in that the motive forces behind supply and demand are now wholly generalised; it is a market in which where capital is needed and where capital can be got are the decisive factors.

This, of course, is not the whole story; and the emergence of such a market—in pure culture, one might say—serves to highlight some of the problems to which the movement of capital, internationally, gives rise. In the first place, the new issue market itself, despite its great flexibility, has shown moments of disturbance. While the issue of bonds denominated in Deutsche Marks is, as we have seen, under careful supervision which has worked extremely well, as have the much smaller, but equally supervised markets in Swiss Francs and Dutch Guilders, the Dollar denominated market is completely uncontrolled; and it is this market which has on a number of occasions in recent years shown itself to be extremely sensitive to pressure from potential borrowers who rushed in only to find the market evaporate as the result of mistaken judgment concerning interest rates, availability of funds or the investor's reaction to currency uncertainties. This sort of problem could be resolved or at least greatly alleviated, by the institution of a measure of self-regulation, as suggested by Sir Siegmund Warburg, whereby the principal issuing houses would organise a queue system similar to that operating in Germany, Switzerland and Holland, backed by the support of Central Banks and Stock Exchanges concerned.

More difficult are the questions that have been raised by some, for example Bob Roosa, of the relationship between capital flows and the balance of payments problem in conditions in which these 'autonomously generated' flows take place through the intermediary of an international market. As far as nationally originating capital movements are concerned, the authorities in all the major countries have continued to regard them (with the full support of the Fund) as proper objects of supervision in relation to national policy concerning the balance of payments. Thus, the United States and Britain have maintained control on outward investment and Japan has operated a queue system for Japanese borrowers wishing to tap foreign capital markets. These measures are taken alongside various domestic policy measures in the interest of curing a surplus or a deficit of the balance of payments, but in the present state of our knowledge it is by no means clear what their actual effect is, particularly whether, in imposing impediments to long-term flows, resort to medium and short-term markets by both borrowers and lenders is not encouraged and thus the problem simply shifted to a different part of the system. While much attention has been devoted recently to the problem raised by short-money flows—to which I shall turn presently—very little has been done to study the consequences of longer-term capital movements and the attempts to influence them, often in response to relatively short-term variations in the balance of payments situation, the assessment of which itself rests on an understanding of relationships between the different items and their statistical presentation which is, as yet, by no means perfect. It may be that the growth of world liquidity, more assured through the introduction of Special Drawing Rights, will help to resolve this problem and make it less necessary to seek to influence relatively short-run balance of payments fluctuations by action on the long-term capital account. What is clear is that this subject requires much more detailed and internationally coordinated study than it has so far received. Meanwhile, the international capital market has provided an invaluable new piece of machinery and one may well agree with the judgment of the Bank of England that "under more stable conditions it may reduce disparities between national markets in the demand for and supply of capital" and given that "the international demand for long-term capital seems likely to grow rather than

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diminish" the market "could ease the task of mobilising the capital required to sustain economic progress throughout the world".

At this point I turn to the question which has recently been uppermost in the mind of anyone concerned with international finance, namely that of the international movement of short-term funds. This, again, is no new problem, for 'hot-money' flows have been known and much debated in the inter-war years, as well as in the earlier post-war period. What has happened is that the volume of funds now capable of rapid movement has vastly increased. This, incidentally, is exactly the phrase used by Keynes when, over forty years ago, he spoke of the difficulties created by movements in the "short-loan" fund as he called it, and which he estimated to be a the end of 1929, £1000 million, a figure which may seem less than terrifying by comparison with the Eurocurrency market (if, pace Professor Machlup, I may still so call it for convenience) now estimated at about $60 billion.

So much has recently been written about this market (or perhaps one should say banking system) that it will be sufficient for our purpose to recall only a few of its salient aspects—some accepted, some still highly contentious. I would like, however, at the outset, to stress again some general points to which I have had occasion to refer before. First, we must never lose sight of the fact that the phenomenon of short money flows is not new. What I have just quoted from Keynes is part of a lengthy analysis of short-term flows due to the existence of a highly mobile international short-loan fund which occupies many pages in the *Treatise on Money* and which includes, *inter alia*, an elaborate discussion of possible means for limiting these flows, in order to reduce the possibility that domestic policies might be frustrated—the very subject to which so much attention has been devoted in recent months. The second point is once again not to overlook the speed with which the situation changes. It really is not very long ago—two years at most—that the westward flow of funds was so great and sudden as to create serious fears of a renewed dollar shortage, making recent improvements in European balances of payments precarious and driving up interest rates in Europe to great heights even where domestic policy made this inappropriate. There were many then in Europe who urged the United States Authorities to adopt measures—which in fact they did—to stem this flow, if only in their own interest, so as not to risk having American tight money policy frustrated. In fact, this westward flow, that is the liabilities of U.S. banks' head offices to their branches rose in 1969 from $6 billion to $15 billion, only to fall back to less than $6 billion by April of this year, at which point the eastward flow greatly accelerated still further for a variety of reasons, to which I will refer later. It is clear that any consideration of the operation of the Eurocurrency market and its relation to the speed and mutability of short-term flows cannot be separated from a whole complex of other considerations, including the domestic stabilisation policy-mix in different countries (with its effect on interest rates) as well as on the relation between domestic policy and balances of payments. It is, therefore, highly unwise to jump to conclusions as regards the causes of the observed movements.

As regards the market itself, it is clear that a good deal of further study—based on more abundant and carefully analysed statistical material—is needed before we can hope to know as much about it as we do about the operation of a domestic banking system. Professor Machlup last year sketched out the framework of concepts and theory which would need to be filled out for this purpose. Until this has been done, I would think it rash to deal with the problems of the Eurocurrency market too readily by analogies drawn from domestic banking operations. This applies particularly to the vexed question of the extent to which this system, as is capable, or perhaps even more capable, as a domestic banking system to create credit, since legal requirements or traditional practices that control the relation between reserves and liabilities domestically are here absent. It may well be that this capacity is considerable; and Governor Carli has lent his very great authority in support of this view. But what is perhaps more immediately important but at least as difficult to discover with certainty, is the extent to which this capacity has actually been utilised; that is, how far the existence of this mass of funds has added to the total world supply of credit. There is a presumption that it has, though there must be doubt as to how significant this has been in relation to the total. Above all, as Mr. Milton Gilbert has done well to remind us recently, the effect on total credit supply to non-bank borrowers will depend very largely on the direction of the short-term flows rather than on the total size of outstanding deposit liabilities denominated in foreign currencies as reported by the Bank for International Settlements or, for London, by the Bank of England. The westward flow in 1969 probably tightened credit more outside the U.S.A.

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than it eased it inside; while the recent eastward flow seems to have had the opposite effect, i.e., of easing credit more outside the U.S.A. than it contracted it inside.

Another feature which has been much discussed in connection with the size of the total market and its credit creation capacity, has been the placing in the market of balances by Central Banks and the Bank for International Settlements. While this is substantial, though not overwhelming in relation to the total—Mr. Gilbert has estimated it earlier this year at $10 billion out of $60 billion, of which one-third was from the B.I.S., and the Central Banks of Switzerland, and the other countries of the Group of Ten—it is probably more significant that it has more than trebled in twelve months, as against an increase in the total volume from $44 billion to $60 billion. There are perfectly good explanations for this development: apart from the general growth of world reserves, which would create a predisposition for these placements to rise, the same relative interest rate movements which caused an eastward flow also shifted the relative attractiveness of holding these balances in the Euro-market rather than in the United States.

What, however, this increase in official placements has done is to intensify interest in the question whether the market should be controlled, while, at the same time, appearing to offer at least one means of doing so, namely restriction of these official placements. What is undoubtedly the case is that the flows of recent years and months would have taken place even if the Eurocurrency market had not been in existence. Fundamentally, these flows are not different in kind from earlier ones, particularly those in the inter-war years. One can, however, assert that, as a result of certain institutional changes, the ease with which these flows take place has been much improved and the speed of response to the underlying factors and, therefore, of the changes of direction have been much accelerated. Among these changes must be listed the greater spread of the international establishments and activities of banks, including particularly of American Banks in the London market and the much more considerable funds which corporations, particularly larger, multinational ones, now have to manage. Altogether the greatly enhanced alertness now demanded of those who have large funds of money to manage, be they of pension funds, of investment trusts, or of the disposable funds of international companies, has been responsible not only for the enormous increase in the international short loan fund of which Keynes spoke, but has also caused operations in it to have become the concern of many more, and more diversified interests than in the past.

Nevertheless, the factors that influence their activities have remained fundamentally the same. The reason for short money flows are, as they have always been, relative rates of return as between long, medium and short-term employment, as well as between these relative returns in different centres, together with the relative security of these funds in the different placements. Under the heading of security must be included factors that denote not only that of outright political risk, but also the possibility of the imposition of restrictions on the movement of funds, i.e. exchange control and the risk of changes in exchange rates. In a well functioning market, all these various elements should be compounded in two rates, the rate of interest and the forward exchange rate. The Eurocurrency market has organised transactions of this kind in a more perfect manner (in the economic sense of the word) than had ever been done before. It can truly be regarded as the best organised market of any in existence today, exhibiting all the text-book characteristics demanded of one. It has had the effect of combining and integrating all the major money markets of the world and making their reactions to each other's movements virtually instantaneous.

It is at this point that the problem of the relationship between the needs of domestic policy and the response to international movements once again arises. Under the gold standard system this problem was automatically resolved, so long as the rules of the game were observed, in favour of the requirements of the international monetary system. The gold points acted as the triggers which caused inflows and outflows of precious metal, i.e. expansion or contraction of the domestic credit base; and the central banks responded immediately by an expansion or contraction of the volume of credit. This simple mechanism had become suspect already in the circumstances of the inter-war years, if only because of the improbability of different countries finding themselves at the appropriate relative position in the business cycle and, therefore, at just the right point to suffer an externally imposed credit expansion or contraction. The increased responsibility of government for the level of economic activity now universally accepted has made for increased awareness of this problem and, therefore, greater sensitivity

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to the irksomeness of being exposed to 'dictates' from outside which may seem to run completely
counter to what are judged to be the proper domestic policies. Thus in one period the credit base in so
far as it is affected by conditions in the Eurocurrency market may be sharply contracted because
American banks are drawing in funds from this source, while, at other times, European monetary
authorities may find their reserves suddenly and substantially swollen though their judgment of their
own situation makes expansion of credit the opposite of what is needed.

It is not surprising, in these circumstances, that more and more thought should have been given to the
measures that might be used to avoid these undesirable effects. Generally, this has taken the form of
asking whether, and by what means, the Eurocurrency market should be 'controlled'; or, as the question
might be more appropriately phrased, as to whether it was desirable and feasible to diminish these flows
and/or to offset their effects on the domestic situation where this seemed called for. In one sense it is
surprising that this question should occupy the centre of attention. It is not long since it was believed
that increasing freedom of international capital flows was likely to facilitate the balancing of inter-
national payments, i.e. that such flows would generally be equilibrating. There are two reasons for the
change in attitude: first, that the maintenance of exchange rate parities is no longer regarded as a fixed
datum to the extent to which it used to be when post-war convertibility was first achieved; second, that
a coincidence of economic cycles and of domestic rates of inflation and deflation in different countries
is recognised as much more improbable than it seemed at one time. When to these are added the further
facts: first, that countries differ (and that there are also sharp differences within countries) on the
proper policy mix for domestic stabilisation, in particular what importance is to be attached to mone-
tary policy; second, that the significance of the impact of capital flows on the domestic credit volume or
their relation to the other items of the balance of payments varies from country to country; and third,
that the short-term flows have become very large indeed, one can readily see why the earlier hopes have
proved vain.

Before I examine the arguments for and against intervention of one kind or another into these capital
flows, there is one somewhat different aspect of the existence of a Eurocurrency market which needs to
be looked at. It is not strictly relevant to the questions with which we are concerned here, but is has
been discussed in recent months in connection with various suggestions for controlling the market; that
is the problem of how far the Eurocurrency market has encouraged departure from traditional banking
standards in regard to the requirements both of liquidity and of proper criteria of creditworthiness of
borrowers.

As to the second of these, factual information is, for obvious reasons, not easy to come by. While
there have been some disagreeable experiences, the number of spectacular failures has so far been
limited. Nevertheless, many people of very great experience in these matters are apprehensive because of
the extremely rapid increase in the volume of transactions in this market of the great multiplicity and
variety of ultimate borrowers, and of the greatly increased number of intermediaries whose experience in
this field may be inadequate, particularly as ability to establish the precise creditworthiness of the
borrower and may in any case be less than is desirable. It is sometimes thought that the rapid spread of
new, and expensive to maintain, branch offices may lead to so aggressive a pursuit of new business as to
impair the care that should normally be exercised in these matters. As I say, it is extremely difficult, if
not impossible, to establish the facts. But, in any event even if all the fears are justified, it is hard to see
how they can be translated into arguments for control, in addition to those which, as we shall see, are
often adduced in the interests of national policy. Even if measures of supervision could be devised, the
purpose of which would be to underpin the skill and judgment which experience—including bad
experience—should provide, these would be even more difficult to apply in an internationally
harmonious manner than those designed for wider policy objectives.

As regards the question of liquidity, as the Governor of the Bank of England has pointed out in a
speech earlier this year, the analogy of domestic banking and of the role of a 'lender of last resort' must
not be taken too far. The dangers to liquidity (apart from that which arises from the failure of a
non-bank borrower and its possible chain reactions) are related to the degree of matching of maturities
of liabilities and assets. Here, the position of non-dollar (or non-Deutsche Marks) banks may be
somewhat different from those whose normal, domestic transactions are in these currencies; and more
careful practice in regard to mis-matching (which in the absence of standby facilities, depends for its

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success on the unfettered continuance of the Eurocurrency market) may, therefore, be in order. The Bank of England, as is well known, maintains a periodic survey in this regard as far as the London market is concerned. But here again, it is hard to see how 'control' could improve the position: indeed the possibility of restriction could, precisely for the reason just given, quickly have a highly inhibiting effect on transactions and lead to a rapid shrinking of what is still widely regarded as a most advantageous development on the international financial scene.

In order to analyse effectively the arguments for controlling short-term capital flows in the interest of wider policy objectives, I propose to ask first to what extent the fear of inappropriate influences arising from these flows on domestic policy is real, or, put in another way, what are the limits of tolerance for these inflows and outflows. In the first place, it is perhaps worth reminding oneself that there is by no means always a clear correlation between the state of the domestic economic balance and capital flows. The latter may be provoked by factors unrelated, or only distantly related, to the basic international competitive position of a country. Furthermore, the existing machinery in a country for stabilising inflows or compensating for outflows may be more or less effective. Thus the argument that inflation is exported or imported by means of short-term capital movements requires a good deal of qualification. Not many, I imagine, would argue that the inflation from which Britain is still suffering has been induced by the inflow of reserves during the last twelve months or so, or that the outflow of funds from the United States during the same period has significantly diminished inflationary pressures. The correlation depends clearly on exactly what the domestic situation is, in particular, if it is inflationary, whether the inflation is one of demand-pull or of cost-push; and in the second place, on what measures the authorities can and have taken to reduce the effect of capital inflows and outflows on domestic credit policy.

Quite another question is the extent to which the Central Bank is prepared to see its reserves diminished or swollen as a result of short-term flows, regardless of whether and in what way this may, or need, affect its domestic policy. In the past this question has usually appeared most acute in the case of a country losing reserves. As Keynes put it, the problem "is likely to prove more severe and intractable in the case of a debtor nation than in the case of a creditor nation because it is easier to lend less in an emergency than to borrow more". Though, more generally, it has long been recognised that the correction of short money flows, even where it is closely related to an underlying payments imbalance requiring correction, is not easy—the high mobility of international lending contrasting sharply with the low mobility of international trade in the short term—while it may be inappropriate where this close relation does not exist. More recently, the problem has appeared more acute from the point of view of the country gaining reserves through a heavy inflow of funds. The problem then becomes one of the willingness to accumulate a certain reserve asset. At the present time this question is inevitably linked with the role of the dollar and cannot be further pursued without at least some reference to this problem. To clear the ground, let us for a moment leave out of account the position of the U.S. balance of payments, the question of how far its persistent deficit has been responsible for the greatly increased volume of international capital movements and for the doubts that have arisen regarding the dollar's continued fitness to serve as the key currency and, therefore, as an asset which creditor countries would be willing to hold in unlimited quantity as once they were willing to hold gold. We will revert to these questions after we have looked further at the alleged responsibility of the Eurocurrency market for frustrating domestic policy, in particular, for 'exporting inflation', as well as the various means which have been proposed for controlling the market.

First of all, it should be clear that it is wrong to look at the Eurocurrency market rather than at the forces that determine the volume and direction of flows through it. It is as if one looked at a conduit pipe rather than at the alternating pumps that determine the flows through it. We have already looked at the forces that are responsible for these flows: interest rate differentials (and the policy decisions that influence these) together with expectations regarding exchange rates. We have seen that we cannot assume that the relation of foreign borrowing and lending to the management of the total volume of credit is the same in all the major countries concerned, nor can we assume that each country will always be in an appropriate relationship to the others as regards the economic cycle so that inflows and outflows will be responses to the needs of expanding or contracting the credit base. Nor can we assume, pace the monetarists, that the role of credit policy is the decisive one in this process, nor, even if it were,

-12-

that it would be so regarded in each country. The reality is, of course, very different. It would be a bold
man indeed who undertook to quantify precisely the degrees by which the rates of inflation in say, the
United States, Germany, Britain, and France had differed at any one moment of time during the last
twelve months, or the shades of difference of the origins of these respective inflations, or the weight of
the different elements in the economic policy mix in each of them; and who would derive precise
guidance from such an analysis for what should be the proper levels of interest rates in each of these
markets, (as well as their relation to rates in the Eurocurrency market) and, finally, for the extent to
which short-term money flows should have been acceptable.

Simply to enumerate these various factors is enough to demonstrate the formidable task that awaits
anyone who wishes to impose controls on short-term flows that would in some way harmonise the
diverse policies that various monetary authorities follow which, even if their objectives are
fundamentally the same, namely economic stabilisation, may be based on quite different appreciations
of the various factors that I have listed, even if one ignored the intrusion of different political pressures.
Thus, as I have said before, it is not possible to achieve clarity regarding the problem of short money
flows, let alone agreement on policy without some clarification of the domestic policy mix, that is on
the emphasis to be placed on fiscal as against monetary policy or indeed other measures of economic
stabilisation such as incomes policy, a subject on which opinion both academic and governmental is still
in a considerable state of flux.

There are various ways that may be used for dealing with 'disturbing' capital flows. First, there are
measures to offset in the domestic economy the capital flows that give rise to major reserve changes;
second, there are those that would prevent reserve movements by the use of official borrowing or
lending operations; and third, there are ways of influencing the private short flows themselves by varying
the incentives that give rise to them. It is the third group of measures that has most actively been
discussed recently, and various devices have in fact been tried in one country or another from time to
time. These include banking regulations relating to net position vis-à-vis non-residents regardless of
currency, or in foreign currency vis-à-vis residents and non-residents alike and combinations of these.
Maxima and minima may be set; or reserve requirements may be imposed which may be different for
domestic liabilities than for those to non-residents. Interest rates may be set at differential levels for
foreign depositors; non-banks may also be subjected to regulations which would generally have to be on
the transactions themselves, and would, therefore make it practically inevitable that it should be based
on a comprehensive exchange control embracing current as well as capital transactions. Finally, there are
various fiscal measures that can be adopted to change the relative incentives for capital flows. All this,
apart from analytical questions, raises formidable difficulties, particularly where control of inter-
mediaries, i.e. banks, are concerned which can usually find a non-controlled 'haven' from which to
operate.

There is also the possibility that the use of monetary policy, in particular interest rate policy, might
be directed more to international, rather than national policy objectives, leaving fiscal policy to take the
burden of the latter, a point of view that has been urged by some economists, in particular by Professor
Mundell; but the fiscal instrument is seldom sufficiently flexible. No clear conclusion for or against
control of the Eurocurrency market is possible now in my opinion, but no one can help but be impressed
both with the difficulty of applying the various measures and with their limited effectiveness when
applied. I, for one remain highly sceptical and 1 agree with the view of Sir Leslie O'Brien that "the
danger of concentrating attention on the Eurocurrency market is precisely that it distracts attention
from the real causes of international maladjustment". Without by any means eschewing short-term
measures to offset some of the disturbing effects of these flows, it is on these real causes that I believe
attention must continue to be kept.

There is, however, one other area that must be examined since, as we have seen, capital flows are also
influenced by expectations regarding exchange rates, while, at the same time, the attitudes to them of
central banks are determined not only by their real or supposed disturbing effects on domestic economic
management, but also by the central banks' willingness to hold certain reserve assets. At the present
time, as I have said, this means dollars. Indeed, while interest rate differentials can usually be regarded as
the main initiating cause of capital flows, they have often quickly had superimposed on them exchange

-13-

rate uncertainties; and these have then become the main force maintaining or even accelerating the money flows.

The problem of the U.S. balance of payments deficit, of the dollar as a key currency and of central banks' willingness to accumulate dollar balances, has been a feature of the international financial situation for nearly a decade. Its specific linking with the problem of short money flows (and, not altogether relevantly, with the Eurocurrency market) is, however, rather more recent. As a result, discussion of the role of the dollar and of the U.S. balance of payments has once again become clouded by emotion, as it has been on one or two other occasions in recent years, but which is the one thing it should not be. It is not easy, but essential to consider the matter dispassionately and in perspective. While I think the phrase 'benign neglect' which has been suggested as the watchword for a U.S. balance of payments policy is unfortunate (and even the less emotive 'passive policy' is ill-chosen) I would myself regret even more a policy of 'hysterical anxiety'. The facts, though clouded by changing statistical presentations, are not particularly obscure. The United States has had a varying deficit on her balance of payments for several years. While in recent months, some concern has arisen over the trade balance, in general the U.S. deficit on the 'official settlements' basis has been relatively moderate in recent years and has indeed shown surpluses in 1968 and 1969. The basic deficit which is, no doubt, a better measure of long-term overall performance has been fairly persistent and considerable for most years since the mid-fifties, but the reasons for this state of affairs and in particular, how far it amounts to a 'fundamental disequilibrium' in the sense of the Articles of the International Monetary Fund, require careful analysis. Leaving aside aid programmes and military expenditures, the main causes of the basic deficit are to be found in a shrinking of the technology gap to America's disadvantage and in massive outward long-term capital flows, until the mid-sixties at any rate. On the other hand, differential rates of inflation are by no means a proven source of the deficit: indeed, when measured by price movements, the United States enjoyed more prolonged phases of stability during this period than many of her competitors. It is, therefore, very doubtful whether the longer-term imbalance in America's international payments was by itself sufficient to cause questions about any 'overvaluation' of the dollar even though the dollar may not have fully met the four conditions for a smoothly functioning key currency which Wilfried Guth has recently referred to. Indeed, it is widely acknowledged that the U.S. deficit has had some beneficial results in enabling many other countries to rebuild their reserves and, thus, in general to have acted as a source for supplementing world liquidity before the introduction of the Special Drawing Rights.

In this connection one must also remember that if on a number of occasions in recent years the United States had attempted to correct its balance of payments deficit either by the restrictionist means to which some other countries have had recourse or by a more drastic domestic deflationary policy designed radically to improve her international competitive position, it is far from certain that this would have been welcomed by those who have been most emphatic in their strictures on America's balance of payments performance.

More recently, as Dr. Burns and Mr. Volcker have pointed out, there has been superimposed on the more lasting deficit, a sharp fluctuation as regards short-term capital transactions. These, rather than the underlying balance of payments deficit itself, have been responsible for triggering off the recent disturbances and doubts.

It remains, nevertheless, important that the United States should tackle, and be seen to tackle, the underlying deficit, though, if I have understood the advocates of a so-called passive policy right, I would not disagree with the view that, provided means are found for avoiding excessive short-term flows or at least their self-perpetuating enlargement, improvement of the underlying deficit should be a by-product of the right domestic policy. It is clearly essential for the economic health of her trading partners no less than for her own, that the United States should as soon as possible achieve much higher levels of economic activity with a substantial reduction of inflationary pressures, by whatever changed mixture of old policies or the adoption of new ones, such as in the field of prices and incomes, this can be brought about. How soon such a development would be reflected in an improvement in the underlying balance of payments cannot easily be predicted, but to the extent that it was it would deprive the short-term flows of one possible source of encouragement; and it is reasonable to predict that success on the domestic front would soon, even by itself, dispel the doubts that have nourished the massive money flows of

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recent months. It is also desirable that world liquidity should no longer have to rely to the same extent
as hitherto on the American deficit but be consciously and increasingly based on the use of SDR's with a
view to encouraging continued progress towards the emergence of a single universally acceptable and
internationally controlled reserve asset.

But it must yet again be emphasised that restoration of a better balance in America's international
payments would not completely remove the risk of short-term capital flows going too fast and too far
for the stability of the system, as Dr. Burns has said. If we rule out, as I have done, as neither desirable
nor feasible, some general, overall 'control' of the Eurocurrency market, then we must look for other
means of removing that risk. Some have already been tried. Certain unilateral moves in the field of
banking regulations such as those employed in the United States have helped, so long as the flows 'did
not reach flood proportions due to the operation of the confidence factor. Similarly, the imposition of
certain restrictions on foreign borrowing by the Bank of England may have moderated the flows
somewhat. Certain debt management operations by the United States Treasury, and special issues by the
Treasury and the Exim Bank designed to 'mop up' funds have probably also reduced the total volume in
the market, as has the decision by the B.I.S. not to place any further funds with it.

But, in essence, these measures are, at best, palliatives. Even in the relatively well-understood area of
interest rate differentials which are the basic cause of international movements, they cannot hope to
overcome the sharp fluctuations that are due to divergent national policies. There are two equally
difficult sets of problems on which further progress will be necessary before one can hope to see much
prospect of improvement. In the first place, there will need to be much greater agreement than there is
today on the role which interest rate policy should play in domestic economic management as compared
with its part in the stabilisation of the international monetary system. I have already touched
upon this issue at a number of points, and there is nothing else that I would add except that I welcome
the signs which I detect of greater readiness in a number of countries to make more use of prices and
incomes policy, in the present conditions of cost-push inflation. I hope that those who have been
sceptical in the past will not hesitate to change their minds for fear of inconsistency. As Alvin Hansen
said, "a man may wear an overcoat in winter and a straw hat in summer without being charged with
inconsistency".

The second question is that of the international harmonisation of interest rates to which a solution of
the first problem could make an important contribution. Attempts made hitherto in this direction, apart
from routine and unpublicised central bank consultation, have not been notably successful. I confess to
some doubt whether much more can be done in the absence of progress, first, on the question of
exchange rates (of which more in a moment) and, second, on the subsequent and, much wider, question
of the evolution of the international system towards a World Central Bank.

As I have said, while interest rate differentials are usually the predisposing cause of short-term money
flows, they would normally tend to be self-correcting, unless they are strongly combined with, or
followed by, uncertainty regarding exchange rates. For this then leads to movements which are totally
unmanageable by normal means, because they are the result of a crisis of confidence. When such
movements occur, and in particular when they affect the relations between the key currency, the dollar,
and the rest, as they have done since May of this year, the whole of the international monetary system is
thrown into disorder and short money flows are seen as the outward signs, rather than as the causes of
maladjustment. Attention then turns, as it has again in recent weeks, to exchange rate policy, both as a
means to overcome a temporary crisis, as well as to make the system more lastingly sound. Naturally, all
the old debates concerning the dollar and the official price of gold are revived in a specially acute form
and I do not propose to enter into these now, having made my own position clear on many earlier
occasions. Similarly, the advocates of a completely flexible system of exchange rates have professed to
derive considerable support from recent events. This is not the time or place to go into this question. I
cannot, however, refrain from saying that I find it hard to follow those who say that the exchange rate is
'a price like any other' and should therefore be left to 'find its own level'. Even if the dollar were to be
excluded from this principle (though I do not quite see the logic of this), I doubt whether the prices of
Sterling, the Yen or the Luxembourg Franc are really no different in kind from the prices of a packet of
cigarettes, a bushel of wheat or an oil refinery.

There are various devices that might be used, ranging from forward exchange rate intervention

-15-

through dual exchange rates for current and capital transactions (the latter too often wrongly identified with 'speculative' ones), to achieve greater exchange rate flexibility within wider margins.

Of these, the second and third have been most frequently considered in recent months. They differ from each other substantially, in that one involves control, while the other does not. Controls will tend to be uneven in their incidence and unnecessarily hampering to individual transactions. There is, basically, the conceptual difficulty of distinguishing capital and current transactions except on a basis which is arbitrary and which such experience as there is has shown would in practice mean that control would quickly involve some current transactions as well. Even if one ignored the intellectual and practical difficulties of segregating these payments, experience has also shown that a system based on such segregation will only work so long as the discrepancy between the two rates of exchange remains small. As soon as it becomes substantial for any length of time, the problem of evasion becomes troublesome and efforts to deal with it would quickly lead to more and more extensive exchange control.

The use of wider bands of exchange rate fluctuations around parity is not based on any attempt to classify transactions. I leave out of account here the argument that is advanced in favour of this device, namely that the possibility of wider fluctuations would assist to produce a more smoothly functioning balance of payments/domestic adjustment process mechanism; and furthermore that, because it would accustom everyone to the possibility of greater swings than hitherto, it would make changes of parities less 'political' and, therefore, traumatic. For our purpose, the advantage claimed for wider bands is that they tend to make expectations of further exchange rate changes in one direction weaker, the more the rate actually moves in that direction. This will have an equilibrating effect on short-term capital movements. It is not entirely clear why this should be so, and the experience in this regard from floating exchange rates is not, perhaps, entirely relevant; but it may be that, provided the whole system of exchange rate parities is generally regarded as reasonably stable for a considerable time ahead, the greater freedom of manoeuvre of the authorities in adjusting their intervention policy will encourage the equilibrating tendencies in capital flows rather than their escalation. The proviso is, however, extremely important; and there is the further point that it is not a priori clear how wide the margins should be to produce this beneficial effect. Announced margins should not be wider than those the authorities intend, in fact, to enforce, nor should they be too narrow for the equilibrating tendencies to assert themselves.

But it should not be forgotten that greater flexibility also has disadvantages since some of the flows themselves contain self-correcting equilibrating forces and one would not wish to discourage these by the possibility of wider exchange fluctuations. This may theoretically be less of a danger in the case of long-term capital movements than in medium and short-term ones; but in practice, especially as the result of the great strides made in recent years in refining the operations of different markets and their interrelation, one must be prepared to see considerable disturbance created by exchange fluctuations, the net effect of which may be a general discouragement to international capital movements, desirable and undesirable ones alike. Similarly, some price in terms of discouragement to international trade itself may also be involved.

The paradox about wider bands, thus, is that they are unlikely to produce the good effects which are claimed for them unless they operate against a background of general stability of the whole system, while the greater that stability is, the less will wider bands be needed. Nevertheless, of all the specific measures suggested, moderately wider bands may be the most useful, at least in a period of transition to a better general system.

In the end, however, despite the understandable search for relatively simple, limited and quasi-automatic solutions, it is difficult to escape the conclusion that, at this stage in our economic evolution, a much more general attack on the problem of international financial stability is the crying need. As we have seen, even in the calmer days of a hundred years ago, the system was sustained by what I called an *Aequilibrium Britannicum*. The attempt, in recent decades, to underpin the Bretton Woods system by an *Aequilibrium Americanum*, while it has considerable successes to its credit, has proved inadequate essentially because, in the conditions of the world today, a broader base is required. A pre-requisite for at last creating this is an atmosphere in which different views, based on national interests—whether real or illusory—are not to be equated with virtue or vice. Of course, if divergent policies are immediately made objects of moral obloquy, progress will be non-existent. As far as being moved only by enlightened concern for the well-being of the whole system, we should assume that all

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[LC]

countries have an unblemished record. And as far as the pursuit of sensible policies to this end is concerned, it is as well to assume that all countries live in glasshouses. Unheroic though this may sound, it is unfortunately the case that nothing other than continued and more intimate international co-operation can produce the right result. Even most of those who believe in *nostra*, like universally freely floating exchange rates, will admit that for such a system to function, more rather than less international co-operation is required not only in the international field itself, but ineluctably as we have seen, in regard to domestic policy also. The lesson to be learnt from the history of the last twenty-five years is not that the Bretton Woods system has broken down, nor to indulge in regrets that those primarily concerned were not ready after the war to knit the world economy more closely together. It is rather whether they are ready now.

-17-

THE PER JACOBSSON FOUNDATION

SPONSORS

HONORARY CHAIRMEN

EUGENE R. BLACK (United States) former
President, International Bank for Recon-
struction and Development

MARCUS WALLENBERG (Sweden) Chairman
of the Board, Stockholms Enskilda Bank

CHAIRMAN

W. RANDOLPH BURGESS
(United States) Director, Atlantic Council;
former United States Ambassador to NATO

HERMAN J. ABS (Germany) Chairman,
Deutsch Bank A.G.

ROGER AUBOIN (France) former General
Manager, Bank for International Settlements

WILFRID BAUMGARTNER (France) President, Rhone-Poulenc; former Minister of Finance; former Governor, Banque de France.

S. CLARK BEISE (United States) Member of
Board of Directors, Bank of America Na-
tional Trust and Savings Association.

B.M. BIRLA (India) Managing Director, Birla Brothers Private Limited

RUDOLF BRINCKMANN (Germany) Partner,
M. M. Warburg-Brinckmann, Wirtz & Com-
pany

LORD COBBOLD, P.C. (United Kingdom)
Lord Chamberlain; former Governor, Bank
of England

MIGUEL CUADERNO (Philippines) former
Governor, Central Bank of the Philippines

R. v. FIEANDT (Finland) former Prime Min-
ister; former Governor, Bank of Finland

MAURICE FRERE*

E. C. FUSSELL (New Zealand) former Gov-
ernor, Reserve Bank of New Zealand

ALY GRITLY (United Arab Republic) former
Chairman, Bank of Alexandria

EUGENIO GUDIN (Brazil) President, Instituto
Brasileiro de Economia, Fundação Getulio
Vargas; former Minister of Finance

GOTTFRIED HABERLER (United States) Pro-
fessor, Harvard University

VISCOUNT HARCOURT, K.C.M.G., O.B.E.
(United Kingdom) Chairman, Morgan Gren-
fell & Co., Ltd.

GABRIEL HAUGE (United States) Chairman
of the Board, Manufacturers Hanover Trust
Co.

CARL OTTO HENRIQUES*

M.W. HOLTROP (Netherlands) former Presi-
dent, Bank for International Settlements and
De Nederlandsche Bank N.V.

SHIGEO HORIE (Japan) President, Japan In-
stitute for International Studies and
Training; former President and Chairman of
the Board of Directors, The Bank of Tokyo,
Ltd.

-18-

CLARENCE E. HUNTER (United States)
former United States Treasury Representa-
tive in Europe

H.V.R. IENGAR (India) Chairman, The E.I.D.-
Parry Group; former Governor, Reserve
Bank of India

KAORU INOUYE (Japan) President, Dai Ichi
Bank, Ltd.

ALBERT E. JANSSEN*

RAFAELE MATTIOLI (Italy) President, Banca
Commerciale Italiana

J. J. McELLIGOTT (Ireland) former Governor,
Central Bank of Ireland

JOHAN MELANDER (Norway) Managing Di-
rector, Den norske Creditbank

DONATO MENICHELLA (Italy) Honorary
Governor, Banca d'Italia

EMMANUEL MONICK (France) Honorary
President, Banque de Paris et des Pays-Bas;
former Governor, Banque de France

JEAN MONNET (France) President, Action
Committee, United States of Europe

WALTER MULLER (Chile) former Chilean
Ambassador to the United States

JUAN PARDO HEEREN*

FEDERICO PINEDO (Argentina) former Min-
ister of Finance

ABDUL QADIR (Pakistan) former Governor,
State Bank of Pakistan

SVEN RAAB (Sweden) Chairman, Göteborgs
Bank

DAVID ROCKEFELLER (United States)
Chairman of the Board, Chase Manhattan
Bank

LORD SALTER, P.C., G.B.E., K.C.B. (United
Kingdom) former Director, Economic and
Financial Section of the League of Nations;
former British Government Minister

PIERRE-PAUL SCHWEITZER (France) Man-
aging Director, International Monetary Fund

SAMUEL SCHWEIZER (Switzerland) Chair-
man, Swiss Bank Corporation

ALLAN SPROUL (United States) former Presi-
dent, Federal Reserve Bank of New York

WILHELM TEUFENSTEIN (Austria) Chairman
of the Board of Directors, Oesterreichischen
Investitionskredit AG.

GRAHAM TOWERS (Canada) former Gov-
ernor, Bank of Canada

JOSEPH H. WILLITS (United States) Professor,
University of Pennsylvania

*Deceased

-19-

PUBLICATIONS

Proceedings

1964 *Economic Growth and Monetary Stability*
Lectures by Maurice Frère and Rodrigo Gómez (Available only in Spanish; English and French stocks exhausted)

1965 *The Balance Between Monetary Policy and Other Instruments of Economic Policy in a Modern Society*
Lectures by C.D. Deshmukh and Robert V. Roosa (Available only in French and Spanish; English stocks exhausted)

1966 *The Role of the Central Banker Today*
Lecture by Louis Rasminsky; Commentaries by Donato Menichella, Stefano Siglienti, Marcus Wallenberg and Franz Aschinger (Available only in English and Spanish; French stocks exhausted)

1967 *Economic Development—The Banking Aspects*
Lecture by David Rockefeller; Commentaries by Felipe Herrera and Shigeo Horie (Available in English, French and Spanish)

1968 *Central Banking and Economic Integration*
Lecture by M.W. Holtrop; Commentary by Lord Cromer (Available only in English and Spanish; French stocks exhausted)

1969 *The Role of Monetary Gold Over the Next Ten Years*
Study by Alexandre Lamfalussy; Commentaries by Wilfrid Baumgartner, Guido Carli and L.K. Jha (Available in English, French and Spanish)

1970 *Toward A World Central Bank?*
Paper by William McChesney Martin; Commentaries by Karl Blessing, Alfredo Machado Gómez and Harry G. Johnson (Available in English, French and Spanish)

Other Publications

*The Per Jacobsson Literary Inheritance*
reprint of article by Erin E. Jucker-Fleetwood which appeared in Vol. XIX-1966-Fasc. 4 KYKLOS-The International Review for Social Sciences-Basle (Available from the Foundation in English only and in limited quantities)

-20-

MEMORANDUM

NATIONAL SECURITY COUNCIL

3173

ACTION

June 7, 1973

MEMORANDUM FOR MR. KISSINGER

FROM: Helmut Sonnenfeldt
SUBJECT: Letter from Fuerth

Dr. Helmut Rollinger has sent you the letter at Tab B extending birthday greetings and inviting you to visit Fuerth when next you go to Germany.

The letter for your signature to Dr. Rollinger at Tab A would thank him for having written.

RECOMMENDATION

That you sign the letter at Tab A.

DR. HELMUT RÖLLINGER
CHEFARZT DER ANAESTHESIE-ABTEILUNG
STÄDT. KRANKENANSTALTEN

Präsident der Spielvereinigung Fürth

851 FÜRTH (BAY). 18. Mai 1973

JAKOB-HENLE-STRASSE 1
TELEFON 73811

Prof. Henry A. Kissinger
Washington D.C.
White House

Sehr geehrter Mr. Kissinger!

In deutschen Zeitungen und Zeitschriften kann man immer wieder lesen, daß Sie heute noch ein Anhänger des Fußballsportes sind und insbesondere auch, daß Sie noch gerne an Ihre Zeit bei der Spielvereinigung Fürth zurückdenken.

Das gibt mir den Mut, Ihnen zu schreiben. Wenn es wirklich so ist wie man hier lesen kann, dann, glaube ich, darf die Spielvereinigung bei den Gratulanten zu Ihrem 50. Geburtstag nicht fehlen. Im Namen der Vorstandschaft der Spielvereinigung möchte ich Ihnen zu diesem Tag die herzlichsten Glückwünsche übermitteln und Ihnen auch für die Zukunft alles Gute wünschen.

Vor kurzem hörte ich, daß Sie sich für die Fußballweltmeisterschaft 1974 Karten bestellt haben. Es würde uns sehr freuen, wenn Sie es bei dieser Gelegenheit - oder auch anläßlich eines anderen Aufenthaltes in Deutschland - möglich machen könnten, die Spielvereinigung Fürth und den Fürther Ronhof zu besuchen. In unserem Archiv gäbe es sicher einige auch für Sie interessante Dinge zu sehen. Ich möchte Sie jedenfalls herzlich dazu einladen und würde mich über Ihren Besuch auch persönlich sehr freuen, habe ich doch mit Ihnen nicht nur die Vaterstadt Fürth, sondern auch den Geburtsjahrgang 1923 gemeinsam.

Mit nochmaligen besten Wünschen und Grüßen verbleibe ich.

Ihr