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Nixon Shock
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The term Nixon Shock is used to refer to two different policy measures taken by U.S. President Richard Nixon in 1971 and 1972.
In 1971 Nixon unilaterally canceled the Bretton Woods system and stopped the direct convertibility of the United States dollar to gold. The second shock was the 1972 Nixon visit to China that brought a surprising new twist to Cold War diplomacy.
he early 1970s, as the Vietnam War and increased domestic spending accelerated inflation, the United States was running not just a balance of payments deficit but also a trade deficit (for the first time in the 20th century).
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Encyclopedia
The term Nixon Shock is used to refer to two different policy measures taken by U.S. President Richard Nixon in 1971 and 1972.
In 1971 Nixon unilaterally canceled the Bretton Woods system and stopped the direct convertibility of the United States dollar to gold. The second shock was the 1972 Nixon visit to China that brought a surprising new twist to Cold War diplomacy.
The end of the Bretton Woods system
By the early 1970s, as the Vietnam War and increased domestic spending accelerated inflation, the United States was running not just a balance of payments deficit but also a trade deficit (for the first time in the 20th century). The crucial turning point was 1970, which saw U.S. gold coverage of the paper dollar deteriorate from 55% to 22%. This, in the view of neoclassical economists, represented the point where holders of the dollar had lost faith in the U.S. ability to cut its budget and trade deficits.
In 1971, more and more dollars were printed (an increase of 10%) and then sent overseas, to pay for the nation's military expenditures and private investments. In the first six months of 1971, assets for $22 billion fled the United States. In May 1971, inflation-wary West Germany left the Bretton Woods system, unwilling to deflate its own currency to prop up the dollar. In the next three months, the dollar dropped 7.5% against the deutsche mark.
Because of the excessive printing of paper dollars, and the negative balance of U.S. trade, other nations were increasingly demanding fulfillment of America's "promise to pay". That is, they were demanding gold from the U.S. in exchange for paper dollars. Switzerland traded for $50 million in gold in July. France, in particular, made heavy and repeated demands and acquired large amounts of gold ($191 million) in that manner. On August 5, Congress released a report recommending devaluation of the dollar. As the dollar dropped in comparison to European currencies, on August 9, Switzerland also took its currency from Bretton Woods.
In response to these events and to polls citing a 73% disapproval of his policies the year before an election, on August 15, 1971, Nixon unilaterally imposed 90-day wage and price controls, a 10% import surcharge, and most importantly "closed the gold window," making the dollar inconvertible to gold directly, except on the open market. Unusually, this decision was made without consulting members of the international monetary system or even with his own State Department, and was soon dubbed the Nixon shock. Some advisers recalled later that more time was spent at Camp David deciding when to make a speech announcing the plan than was actually spent creating the plan. Nixon was afraid to interrupt television viewers watching Bonanza, but he was advised that he must make an announcement before stock markets opened on Monday. Despite the Bonanza pre-emption, the August 15, 1971 speech and the price-control plans were a hit with the public, which felt Nixon was rescuing them from price-gougers and from a foreign-caused exchange crisis.
The surcharge was dropped in December 1971 as part of a general revaluation of major currencies, which were henceforth allowed 2.25 percent devaluations from the agreed exchange rate. But even the more flexible official rates could not be defended against the speculators. By March 1976, all the world's major currencies were floating—in other words, exchange rates were no longer the principal target used by governments to administer monetary policy.
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