The ESF, then, was the natural candidate to intervene in support of the dollar's peg to gold during the Bretton Woods era. There was just one problem.
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Barring an additional appropriation of funds from Congress, the ESF now had little capacity to intervene in exchange markets. Rather than go to Congress, however, the Treasury turned to the Fed. In , the Federal Open Market Committee FOMC considered a proposal from the Treasury to establish "swap" arrangements with foreign central banks to purchase foreign currency, similar to the arrangement Strong had used decades earlier.
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The Fed could then use that foreign currency to purchase dollars, raising the dollar's price and stemming gold outflows. Since foreign central banks ultimately wanted to hold fewer dollars, the Fed would agree to reverse the swap at a later date at the same exchange rate. This guarantee protected foreign central banks from the risk that the dollar would depreciate in the meantime, reducing their incentive to exchange those dollars for gold, which would have exacerbated the U. The Treasury also asked the Fed to help supply the ESF with dollars to continue its operations by temporarily exchanging them for foreign currencies held by the ESF — a process called "warehousing.
The debate on the FOMC over the proposal was contentious. First, it wasn't clear that the Fed had the legal authority to buy and sell foreign exchange. The Federal Reserve Act contained some language authorizing foreign transactions, and Board Counsel Howard Hackley interpreted this as legal authority to engage in the swaps.
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Warehousing was slightly more complicated. The Fed is not allowed to purchase U. But Hackley argued that the Treasury was part of the open market for foreign exchange, since that exchange was not directly issued by the U. This, he argued, allowed the Fed to engage in warehousing for the ESF. The FOMC settled the legal question fairly quickly, but some members of the committee had still another objection. The Fed was considering undertaking these operations at the request of the Treasury, and warehousing in particular was seen by some as providing funding for Treasury operations.
The Fed had declared its policy independence from the Treasury just a decade earlier, and some members of the FOMC saw these operations as a threat to that newly won independence. By creating the ESF, Congress had given the Treasury the primary responsibility for exchange markets.
If the Fed agreed to participate, some on the FOMC reasoned that it would be doing so as a junior partner. Ultimately, a majority of the committee voted on Jan. Over roughly the next decade, the Fed engaged in a number of swap operations to support the dollar's peg to gold. All of these operations were "sterilized," meaning that if the Fed purchased foreign exchange, it would sell an equivalent amount of dollar-denominated securities so that the monetary base remained the same.
Unsterilized purchases would have expanded the monetary base, producing an expansionary monetary policy effect, and the Fed wanted to keep its domestic monetary policy and forex operations separate.
In their book Strained Relations , chronicling the Fed's foreign exchange operations, Michael Bordo of Rutgers University, Owen Humpage of the Cleveland Fed, and the late Anna Schwartz argued that these operations provided a temporary solution to the gold reserve problem but "did not address the system's deep-seated weaknesses. The Fed's swap lines, however, remained. The end of Bretton Woods offered a different solution to the trilemma for U.
With the dollar no longer fixed to gold, the Fed could now pursue independent domestic monetary policy with free capital flows. But many officials had concerns about letting the dollar float freely. Initially, global officials thought that Bretton Woods or something like it would be reinstated. But it soon became clear that floating exchange rates were here to stay. The dollar began depreciating soon after the adoption of floating rates, and the Fed believed that intervention was necessary to correct these "disorderly conditions" in exchange rate markets.
After a brief pause, the Fed and the Treasury began intervening in exchange markets again in to support the falling dollar. The Fed's tools for these interventions were still the same. It used swap lines to borrow foreign currency from other central banks to buy dollars. But it was not immediately clear how effective these tools would be under the new regime. During Bretton Woods, the Fed's primary goal was to reduce pressure on U. Providing foreign central banks with protection by agreeing to buy back dollars at a fixed rate through the swap lines helped accomplish that goal.
Now the Fed was primarily trying to influence the value of the dollar in the market. Unsterilized intervention would have had a direct impact on interest rates and the value of the dollar, the same effect as domestic open market operations undertaken by the Fed. But as it did in the s, the Fed continued to sterilize its foreign exchange operations. Theoretically, sterilized operations could indirectly affect exchange rates in a number of ways.
First, they could communicate to the market policymakers' views on the dollar's value, helping to coordinate market expectations. Second, sterilized interventions would alter the composition of the assets held by the public.
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If investors see dollar and foreign securities as imperfect substitutes, they may choose to rebalance their portfolio in response to an intervention, which would shift exchange rates in the direction desired by monetary officials. Third, forex interventions could signal the future direction of monetary policy, prompting a response from the market. In practice, economists have found mixed evidence for the efficacy of sterilized interventions.
One problem with the signaling or coordination explanation was that the Fed's interventions at the time were not announced beforehand, which would hamper any signal the Fed might want to send markets. Regarding the portfolio balance explanation, the size of the operation necessary to meaningfully shift portfolios is unclear.
Today, most economists agree it would take a very large operation to affect exchange rates through this channel, and the size of the Fed's operations in the s were limited. Moreover, because the Fed's operations were conducted through swap lines, they were only temporary. At some point, the Fed would have to reverse the swaps, undoing any changes to the market's portfolio. You can't say they had no effect. They did seem to moderate dollar movements sometimes. But it was very hit or miss.
Soon after the Reagan administration came into office in , the Treasury announced it was taking a "minimalist" approach to intervention. Newly appointed Undersecretary of the Treasury for Monetary Affairs Beryl Sprinkel argued that the dollar's weakness was primarily due to rising inflation, and intervening in exchange markets only "treated the symptoms" not the cause. Sprinkel also believed that exchange markets had improved over a decade of experience with floating rates and that regular interventions by monetary authorities only contributed to disarray.
Not everyone agreed.
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In a June meeting of the Group of 7, U. Truman served as the director of the Division of International Finance at the Fed's Board of Governors from and participated in the G7 work group on exchange rate intervention. The group released its report dubbed the Jurgensen Report, after the head of the work group, Philippe Jurgensen in It found that sterilized interventions had much smaller effects on exchange rates than unsterilized interventions.
Moreover, the effects of sterilized interventions were largely short-term. Either that or they ignored them. The latter response seems to have been most common at the time.
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Under Reagan's second administration in , new Secretary of the Treasury James Baker put an end to the minimalist approach. The United States along with France, West Germany, Japan, and the United Kingdom pledged to intervene to bring the value of the dollar down in what became known as the Plaza Accord , and the Treasury and the Fed resumed intervention operations. On "Black Monday," Oct. The Fed responded immediately, issuing a statement the following morning that it was ready to serve as a source of liquidity for the financial system.
It loaned millions of dollars to banks through open market operations and the discount window. Remember — there are no debit card or cash machine withdrawal options for this kind of account. The frequency of when you receive statements can be changed at any time. To apply for an account, visit your nearest open branch. Lines are open Monday to Friday 8am—6pm. To maintain a quality service, we may monitor or record phone calls. Call charges. To make a payment from your currency account to another company or individual, please visit your local branch.
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