On the 70th anniversary of the Bretton Woods system, the US should take a close look at the history of global finance. Washington can learn a lot about the looming relegation of the dollar, writes DW's Frank Sieren.
Washington, there's little reason to celebrate. The greenback has seen better days. Yet the politicians who control the dollar seem to think that it will be dominant forever. History teaches us, however, that global currencies on average have a life span of 80 to 100 years. China is now on the verge of displacing the dollar with the yuan.
Seventy years ago, the US definitively replaced the British pound with the dollar as the global reserve currency. Having reached unparalleled power by the end of World War II, the Americans could determine where to hold the conference that would lay the ground work for a new global financial system - and it wasn't in London.
Finance ministers and central bankers from 44 countries met in the US state of New Hampshire, where a friend of President Franklin D. Roosevelt had just been elected senator. At the time, the British underestimated the home-field advantage that the choice of New Hampshire gave the Americans. On its own soil, Washington could crank up the pressure.
After two world wars and a global financial crisis, the world was an economic and financial heap of ruins. Most countries had abandoned the so-called gold standard long ago, meaning that their currencies were no longer pegged to the price of the precious metal. The major powers had financed two wars by printing money and had taken on the risk of high inflation rates. And the British were up to their necks in debt to the Americans.
Keynes vs. White
London sent John Maynard Keynes - Britain's de facto finance minister behind the scenes - to the conference as its representative. Even at that time, Keynes was the most famous economist in the world. He had well thought out, intelligent arguments against the American position. But as is so often the case, power mattered more than who had the better argument.
It's true that British resistance and Winston Churchill's rallying cries had made a decisive contribution to the Allied victory against Nazi Germany. But that didn't matter anymore. The Americans wanted to make sure that Britain was finished as a world power. And Keynes' opponent was now powerful enough to make that happen - Harry Dexter White, the assistant secretary of the US Treasury Department.
In London, many politicians hoped that the pound and the British Empire would flourish after World War Two. But more than 50 percent of global production came from the US, whose economy hadn't been bombed into the ground. The Americans had the most advanced army in the world and were the only power with the new super weapon: the atomic bomb.
The British had glamour and glory, but otherwise they suffered from a moribund economy and were burdened with a lot of debt to the Americans. That's why Washington was able to implement its vision of the new financial order. A number of currencies were pegged to a fixed price in US dollars, and the dollar in turn was pegged to the gold standard. The British received such a bad exchange rate that their export economy was hardly competitive after the war. The Germans, for their part, received a very advantageous exchange rate.
Referee and player at the same time
That's one of the secrets of the German "Wirtschaftswunder," the country's economic upswing after World War II. The Americans could afford to be generous to Bonn. As a defeated and liberated nation, the Germans would never challenge the US role as a global power, no matter how economically successful they might become. West Germany was also too small for their currency to play a prominent role.
As the owners of the global reserve currency, the Americans could print as much money as they wanted. Washington was both a referee and a player at the same time. That didn't even change in 1971, when US President Richard Nixon abandoned the dollar's peg to the gold standard. The Americans could now continue to consume more than they produced by borrowing money from abroad - the dollar had long ago secured its place as the global reserve currency.
Even today, 87 percent of transactions on the international currency markets are conducted in dollars. And around 60 percent of the world currency reserves are held in dollars.
China puts the US in defensive
But with the rise of China, the Americans have been gradually put on the defensive, as was once the case with the British. Beijing has become the largest holder of American debt, and the US economy still has major structural problems.
The financial crisis of 2008 arose above all from an overconfidence that is typical of world powers whose currency has served as the global standard for decades. After 2008, not only did the Chinese demand a new Bretton Woods and common transnational rules, so too did the Europeans. Washington could still brush off these demands, but only to a certain extent.
If the financial markets buckle again, however, it's likely that a new deal will have to be negotiated. But it won't require a war as it did 70 years ago. The Chinese will exploit this power vacuum to their advantage, while the Europeans are preoccupied with their internal affairs.
BRICS Bank as counterpart to World Bank
The current conditions are favorable for a newcomer, just as they were during the era when the Bretton Woods system was negotiated. The economy of the incumbent world power has been severely weakened; it is highly indebted to the emerging power; it overestimates its power; and the emerging power has no serious competitors. It's particularly important to note that many third countries, which have suffered under the disadvantages of a dollar-denominated global economy, are open for a change.
The Chinese have already demonstrated that they intend to create a global financial order that is run according to their rules and not the West's. Recently, the emerging BRICS powers - Brazil, Russia, India, China and South Africa - created their own bank and monetary fund to compete with the World Bank and the International Monetary Fund (IMF), which until now had a monopoly on lending to crisis-stricken countries.
At the same time, Beijing is negotiating a growing number of trade deals with Asian and South American countries, as well as with Russia, in which business is not conducted in US dollars. China is gradually maneuvering itself into a position in which, after many small advances, the timing will be right for surprise attack - just like the Americans did to the British at Bretton Woods 70 years ago.
DW columnist Frank Sieren has lived in Beijing for 20 years