A digital Nixon shock?

PRINCETON — We are approaching the 50th anniversary of the so-called Nixon Shock, one the most decisive ruptures in monetary history. On August 15, 1971, US president Richard Nixon announced in a televised address that he was “closing the gold window”. By ending the dollar’s convertibility into gold (at an official rate of $35 per ounce), Nixon severed the millennia-long link between money and precious metals.

This epochal event has uncanny resonances today. For example, just as Nixon was struggling to extricate the United States from its long, costly and unwinnable war in Vietnam, US President Joe Biden has now ended America’s long, costly, and unwinnable intervention in Afghanistan.

Similarly, Nixon used his address to announce a policy programme with goals similar to those being pursued by the Biden administration. “We must create more and better jobs,” he said, “we must stop the rise in the cost of living; we must protect the dollar from the attacks of international money speculators.”

Like Biden today, Nixon wanted to increase government spending to improve his party’s electoral prospects in a deeply divided country. After the bitterly divisive 2020 presidential election, the Democrats hold the Senate by the smallest-possible margin and now are worrying about a midterm blowback in 2022 (reprising the 2010 “shellacking” that president Barack Obama suffered).

But, of course, there is a broader objective, too. Biden is aiming for a fundamental social transformation. Creating jobs is a vital part of eliminating persistent inequalities. And, owing to the dollar’s unique position as the world’s main reserve currency, the US can pursue both fiscal and monetary stimulus on a scale unprecedented in peacetime.

Despite Nixon’s decision, which inaugurated a new non-system and created decades of turbulence in currency markets, the dollar never lost its position atop the international monetary system. While the fixed-currency regime that had been launched at the 1944 Bretton Woods Conference broke down, private financial markets’ power to generate money — US dollars — made the greenback even more central. Financial institutions, corporations and governments around the world still depended on dollar funding.

To some optimists in Washington, DC, the persistence of America’s centrality to global economic governance may seem inevitable: Even a resurgence of US inflation would mean, at worst, dollar depreciation and a moderate global rebalancing (as occurred in the late 1970s, during Jimmy Carter’s presidency). The US would still provide two goods that everyone needs: the English language as a common medium of expression, and the dollar as a common medium of exchange.

But for how much longer will this be true? Can America’s unique advantages endure at a time when its relative share in the world economy has shrunk, new economic powers are rising, the international order has become fragile, and domestic US politics is tending toward global disengagement?

In fact, both of America’s traditional advantages are already under threat. Enormous advances in automatic translation in recent years mean that people around the world can now rely on artificial intelligence, rather than English.

New technologies also pose risks to the dollar, the lingua franca of exchange. Some dangers are already visible in the Treasury market, where there have been liquidity strains (in 2020) and a weakening of foreign demand. The dollar’s long preeminence is being challenged, not so much by other currencies (though both the euro and the renminbi may aspire to the throne) as by new methods of speaking the same cross-border monetary language as the dollar. As the digital revolution accelerates, the national era in money is drawing to a close.

One consequence of the new technological capabilities is a potential weakening of the historical link between monetary stability and fiscal management. Central banks have rolled out massive long-term stimulus programmes in response to the economic fallout from the COVID-19 pandemic, raising the risk of inflation and pushing money flows into alternative asset classes. At the same time, the demand for a monetary revolution is growing.

That revolution will be driven by digital technologies that enable not only new forms of government-issued fiat currencies (like the renminbi and the euro) but also private currencies generated in innovative ways, such as through distributed ledgers. This development is as important as the break with specie currency. The world is quickly moving to money based on information rather than on the credibility of a particular government.

New money therefore may be ending the long period of dollar hegemony. Moreover, the COVID-19 crisis has hastened this development by ushering in a more digital version of globalisation, featuring a greater exchange of data but less movement of people and goods.

The dollar originally gained preeminence in a context of strong global demand for a deep, liquid and safe asset, implying that the emergence of alternative safe assets could end the greenback’s primacy. In the past, when precious metals were the basis for currency issuances, alternative safe assets were dominant. Even in the late twentieth century, some commentators looked back nostalgically to a time when they could think of a currency as having real collateral. But now, they can look ahead. With digital currencies, there is real collateral in the form of information generated by the participants in a wide variety of overlapping communities.

Nixon’s closing of the gold window marked the end of a commodity-based monetary order, and the beginning a new world of fiat currencies. Not until the 1990s did governments and central banks learn to manage that new world effectively. Now, we are moving toward another new monetary order, based on information (which is itself a kind of commodity). We may learn to manage the new system faster than we did in the aftermath of the Nixon Shock. But the outcome — a world in which the dollar has been knocked from its global pedestal — could be far more shocking.

Harold James is professor of History and International Affairs at Princeton University. A specialist on German economic history and on globalisation, he is a co-author of “The Euro and The Battle of Ideas”, and the author of “The Creation and Destruction of Value: The Globalization Cycle”, “Krupp: A History of the Legendary German Firm”, “Making the European Monetary Union”, and the forthcoming “The War of Words”. Copyright: Project Syndicate, 2021. 

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