1 - A Crisis in Confidence

Summary

Introduction

Nearly a half-century before the financial crisis of 2008–9, there was another time (conservatively, from 1959, when Triffin first presented his analysis to a Congressional committee, to 1977, the end of the Bellagio Group conferences, which is the period covered in this book) when reforming the world monetary system was on everyone's lips. Many academics and policymakers were formulating plans for its reconstruction before illiquidity, speculation and loss of confidence brought the system to a predicted ruin. Not since the Great Depression was the fear of a total financial meltdown so real.

In his statement before the US Congress, economist Robert Triffin articulated the problem that would become known as the ‘Triffin Paradoxs’. That is to say, as the global economy expanded, the United States – as the marginal supplier of the world's reserve currency – could continue to supply reserve assets to foreigners by running a current account deficit and issuing dollar-denominated obligations to fund it. If the United States ever stopped running balance of payments deficits and supplying reserves, the resulting shortage of liquidity would pull the global economy into a contracting spiral. Nevertheless, Triffin warned that if the deficits continued, excess global liquidity risked fuelling inflation. Moreover, the build-up in dollar-denominated liabilities might cause foreigners to doubt whether the United States could maintain gold convertibility or might be forced to devalue, thus undermining confidence in both the dollar and the monetary system depending on the dollar.