The flood of obituaries that noted the passing of Paul Volcker (1927-2019) last week have almost all lauded his achievement as Fed chair (1979-1987) in reining in the double-digit inflation that ravaged the U.S. economy during the 1970s.
Volcker was referred to as the “former Fed chairman who fought inflation” (here); “inflation tamer” and “a full-fledged inflation warrior” (here); and the “Fed chairman who waged war on inflation” and led “the Federal Reserve’s brute-force campaign to subdue inflation” (here). Mr. Volcker certainly deserves credit for curbing the Great Inflation of the 1970s. However, he also merits a lion’s share of the blame for unleashing the Great Inflation on the U.S. and the world economy in the first place. For it was Mr. Volcker who masterminded the program that President Nixon announced on August 15, 1971, which unilaterally suspended gold convertibility of U.S. dollars held by foreign governments and central banks, imposed a fascist wage-price freeze on the U.S. economy, and slapped a 10 percent surcharge on foreign imports.1
Tragically, by severing the last link between the dollar and gold, Volcker’s program scuttled the last chance of restoring a genuine gold standard.
More than two years before Nixon slammed down the “gold window,” Volcker, the recently appointed undersecretary of the treasury for monetary affairs, gave an oral presentation to Nixon and his closest advisors on US balance-of-payments problems. The presentation was based on a memo that the secret “Volcker group,” initiated by Henry Kissinger, spent five months preparing.
Among other things, Volcker recommended a continuation of capital controls to prop up the inflated dollar’s overvalued exchange rate and a massive appreciation or “revaluation” of the currencies of less inflationary countries such as West Germany, placing the burden of adjustment to unrestrained US inflation on these countries. Volcker then planted the time bomb that would eventually detonate and seal the fate of the gold standard. He suggested to Nixon that if these measures did not work to sustain the pseudo–gold standard of the Bretton Woods System, a run on the US gold stock could only be avoided by unilaterally repudiating the postwar US pledge to convert foreign official dollar holdings into gold. Unfortunately, the Volcker Group report summarily dismissed the alternative of raising — possibly doubling — the dollar price of gold, i.e., “devaluing the dollar,” which would have increased the value of the US gold stock and facilitated the restoration of a genuine gold standard.
Only a real gold standard could have halted and reversed the slow-motion collapse that the international monetary system had been undergoing since the mid-1960s due to large and persistent US payments deficits driven by profligate dollar creation.2
Volcker, however, hated and wanted to get rid of the last vestiges of the gold standard and replace it with a fixed exchange-rate system dominated by the US fiat dollar to further enhance the power and prestige of the U.S. in international affairs. According to Volcker, “the stability and strength of our currency was important to sustaining the broad role of the United States in the world.” Years later, Volcker revealed, “I have never been able to shake the feeling that a strong currency is generally a good thing, and that it is typically a sign of vigor and strength and competitiveness.”3 One of his biographers intimated that Volcker’s longstanding regret at having been rejected for military service during World War II because of his height was at the root of his single-minded determination to maintain “the supremacy of the American dollar as the world’s premier currency.”4
Indeed, Volcker struggled mightily to make the dollar appear strong, even while rampant money printing to finance Great Society welfare programs and the Vietnam War inexorably weakened it. But Volcker bitterly opposed raising the price of gold, because he feared that open devaluation of the inflated dollar would not only diminish the status and reputation of the US, but also reward people and countries he detested, namely, speculators in gold and gold-producing countries such as the Soviet Union and South Africa. He especially loathed and wanted to punish President Charles de Gaulle and the French for embarrassing and discrediting the US by withdrawing from NATO and exposing the weakness of the dollar by insisting on converting their dollars into gold in the face of US threats to remove military protection against the Soviet Union. (To add insult to injury, de Gaulle had sent naval ships to retrieve French gold.)
When a full-blown run on U.S. gold stock appeared imminent in early 1971, Volcker prepared a memorandum for the new treasury secretary, former Texas governor and master political operative John Connally. The memo contained three main proposals. First, countries with less inflationary monetary policies, and therefore balance-of-payments surpluses, such as West Germany and Japan, would be imposed upon to substantially appreciate the value of their currencies, thereby encouraging US exports and stifling its imports while sparing the it the embarrassment of openly devaluing the dollar. Second, Volcker recommended a preemptive strike against gold in the form of a “cold-blooded suspension” of gold convertibility. Volcker’s final proposal was a temporary wage-price freeze.
As one of Volcker’s biographers characterized his motivation, “[H]e wanted America to act preemptively, to avoid appearance of defeat at the hands of currency speculators.”5 (Emphasis added.)
Secretary Connally bought into Volcker’s program. When a severe dollar crisis struck a few months later, he used all his substantial political wiles to persuade Nixon of the merits of the Volcker plan. Then Fed Chairman and Nixon advisor Arthur Burns, for all his erroneous monetary ideas and policy failures, was convinced that gold should play — at least nominally — a central role in the international monetary system. In fact, “[a]fter Nixon took office, Burns proposed to end the balance-of-payments problem by increasing the official price of gold,” which would have “effectively devalue[d] the dollar.”6
In Burns’s view, this would maintain gold as the anchor of a fixed exchange-rate system, an outcome that Volcker would have detested. Not surprisingly, Burns was “troubled” by Volcker, who he thought had given “a stupid reply” to Nixon about raising the price of gold.7 Burns also recognized and bemoaned Volcker’s influence over Connally: “Somehow, poor and wretched Volcker — never knowing where he stood on any issue — had succeeded in instilling an irrational fear of gold in his tyrannical master whom he tried constantly to please by catering to his hatred of foreigners (particularly the French).”8
Unfortunately, Burns had badly underestimated Volcker, and had mistaken his tact and strategic compromising for vacillation and indecisiveness. As his biographer noted, Volcker
admired John Connally’s social skills and had learned much from the master politician. … He preferred to equivocate, qualify, and risk being branded a poor communicator, rather than feign certainty.9
In the end, the wily Connally-Volcker axis prevailed over the politically naïve Burns. Burns’s biographer clearly recognized Volcker’s political cunning in winning over Nixon:
The President decided against Burns. Paul Volcker convinced him that suspension [of gold convertibility] was inevitable and that delay would only create financial chaos. Perhaps more important, Nixon realized if he announced the move as part of a new economic package, he would appear to be acting decisively to take charge of the crisis, making, as Volcker put it, “the devaluation of the dollar into a political triumph, which was no mean feat.”10
Thus it was that Volcker’s memo was used as the basis of the New Economic Policy that was hammered out by Nixon and his advisors, including Volcker, at Camp David and announced in Nixon’s fateful Sunday address to the nation.
One obituarist listed Volcker’s “great public accomplishments” thusly:
He was the point man at the Treasury Department in 1971 who managed the dollar’s untethering from gold; he quelled the double-digit inflation that took root in the U.S. in the late 1970s; he helped guide the country’s response to the 2008 financial crisis.
Unfortunately, this list grossly overstates Volcker’s public accomplishments, because it does not reveal the causal connection between his vanquishing the last remnants of the gold standard and the ensuing inflation of the fiat dollar whose supply was then subject solely to the decisions of bureaucrats eagerly seeking to please their political masters.
- 1. The subtitle is of this piece is taken from the caption of a picture of Paul Volcker and Margaret Thatcher in William L. Silber, Volcker: The Triumph of Persistence (New York: Bloomsbury Press, 2012), p. 326.
The story of Volcker’s involvement in the closing of the gold window is well told in ibid., pp. 53–85. Volcker tells the story in his own words in Paul Volcker and Toyoo Gyohten, Changing Fortunes: The World’s Money and the Threat to American Leadership (New York: Times Books, 1992), pp. 59–90.
- 2. This position had been advocated during the 1960s, most notably and persuasively by Jacques Rueff, the economic advisor to President Charles de Gaulle and a follower of Ludwig von Mises in monetary economics. See Jacques Rueff, The Monetary Sin of the West, trans. Roger Glémet (New York: The Macmillan Company, 1972).
- 3. Volcker and Gyohten, Changing Fortunes, p. xv.
- 4. Silber, Volcker, pp. 17, 87.
- 5. Ibid., pp. 78–79.
- 6. Wyatt C. Wells, Economist in an Uncertain World: Arthur F. Burns and the Federal Reserve, 1970–1978 (New York: Columbia University Press, 1994), p. 37.
- 7. Robert H. Ferrell, ed., Inside the Nixon Administration: The Secret Diary of Arthur Burns, 1969–74 (Lawrence, KS: University Press of Kansas, 2010), p. 13
- 8. Ibid., p. 65.
- 9. Silber, Volcker, p. 81
- 10. Wells, Economist in an Uncertain World, p. 76.
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