Martian's Daughter: A Memoir (18 page)

The administration was also confronted with growing problems with the so-called Bretton Woods Agreement on exchange rates, that is, the value of one country's currency in terms of another's. Hammered out during negotiations led by the British and Americans during the waning days of World War II, this arrangement provided that other nations would, with rare exceptions, maintain a fixed relationship between their own currencies and the US dollar, while the United States agreed to convert dollars held by foreign governments into gold, when asked, at the fixed price of thirty-five dollars per ounce.

This system worked extremely well for a while; other countries' war-devastated economies recovered, and international trade and investment, gradually freed from the constraints of the Great Depression and World War II, expanded rapidly. But by the beginning of the 1960s, the system was coming under increasing strain, made inevitable by an inconsistency at the heart of the Bretton Woods system—a situation that troubled me, partly because I shared my father's passion for order in relationships among people and nations, as well as in the realm of ideas, and partly because it was causing tensions with European countries and Japan, our most important Cold War allies.

The problem was that as foreign holdings of dollars, created by a persistent and growing deficit in our balance of payments, became ever larger compared to our supply of gold, the US promise to redeem dollars
for gold on demand grew less and less credible. As these concerns escalated during the 1960s, the United States imposed a variety of restrictions on outflows of capital to hold down our payments deficit. These measures, inherited from previous administrations, went against the free-market predilections of President Nixon, who had promised during his campaign to abolish them. But, with concerns about the US balance of payments deficit mounting, 1970 was clearly a poor time to try to make good on that promise. I understood the political constraints, but the economist in me found the situation very frustrating, and I was eager to be involved in finding a way out of it.

The opportunity came when I was invited to participate in a working group, chaired by Treasury Undersecretary Paul Volcker, that had a mandate from the president to make recommendations on US international monetary policy.
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The Volcker Group's discussions were focused on figuring out how to persuade other countries to implement two recommendations designed to alleviate the fundamental inconsistency that was threatening to destroy the Bretton Woods system. One was to make changes in exchange rates less difficult, smaller, and more frequent and, therefore, the whole process less disruptive. The second was to create a new type of “global money,” issued by the International Monetary Fund, which would enable countries to acquire increased reserves without relying on continuing US payments deficits. At the time, the United States won on the second proposal and lost on the first, but the changes came too little and too late to keep the Bretton Woods system from being blown apart a few months later.

Writing briefing memos and taking part in interagency discussions of these issues gave me an exhilarating sense that the lectures I had given in my international economics courses back at Pitt had leaped off the pages of my notes and come to life. The pieces I wrote for CEA members were penned in an informal, even breezy style that attested to the easy relationship I felt with my immediate superiors. In one memo to McCracken, describing the perverse effect on capital markets of various US moves to shore up our balance of payments, I concluded that maybe the opposite of benign neglect is indeed malignant concern!
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Much more formal were my drafts of shorter communications to the president or cabinet members, or written responses to questions posed
by legislators in the course of various committee hearings. I soon discovered that McCracken or Houthakker were wont to send these memos forward, over their own signatures, more or less unchanged. Their demonstrated faith in me bolstered my self-confidence while at the same time deepening my sense of responsibility for the words I wrote. Writing memos to the president of the United States, even if they bore someone else's signature, gave me a heady sense that I really did have my finger on the pulse of world affairs. By Thanksgiving I, along with my senior staff colleagues, was spending ten or twelve hours a day drafting chapters of the
Economic Report of the President
, published annually at the end of January. Our efforts were so intense because this document reflected both why the CEA existed and what it had been doing during the preceding year. Because every word of the text had to pass the scrutiny of each government department or agency involved, it clarified and codified the administration's positions on issues that might otherwise have remained ambiguous. It also explained and defended the administration's views and actions on both domestic and international economic issues, first of all to the Congress but also to the interested public, or at least to the members of the press who digested and interpreted the material.

Although I came home every night exhausted, meeting the challenges posed by the report's purposes kept my adrenalin flowing. In drafting the chapter “The United States in the World Economy,” I drew on all the skills I had honed, while teaching wide-eyed freshmen and tired businessmen, of making complex issues clear to nonexpert audiences. And I enjoyed figuring out how to express the CEA's often controversial views in terms that would pass muster with the many different members of the executive branch, representing widely varied constituencies, who would have to sign off on the report before it was printed. Both my parents were gifted—in their professional if not their personal lives—at bridging opposing viewpoints. I had watched and learned and was delighted to have an opportunity to play this game of skill myself.

I deeply appreciated my superiors' faith in my judgment, but sometimes the results left me red faced with embarrassment. The worst such moment came after Henk Houthakker asked for my comments on a comprehensive review of the US position in the global economy. It had been put together by Peter G. Peterson, a hugely successful businessman
who had just been appointed as the first executive director of the Council on International Economic Policy, created by the president “to assure coordination at the highest level of all aspects of our foreign economic policy and to provide consistency with domestic economic policy and basic foreign policy objectives.”
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Expecting that my observations would be seen only by Houthakker, I filled the margins with typically academic caustic notations, such as “nonsense” or “this guy is really paranoid.” Instead, he passed my unvarnished comments directly to Peterson, and I soon received a phone call in which a booming voice at the other end said, “Well, young lady, why don't you come down to my office and tell me what's wrong with my report?” Far from reprimanding me, he asked questions, listened patiently while I explained my concerns, and incorporated a number of them into the final version of the “Peterson Report,” which became a pathbreaking document. Widely circulated within the administration, it both explained and dramatized our weakening trade and competitive position, forcing policy makers to recognize for the first time that the global economic dominance the United States had enjoyed in the aftermath of World War II had begun to erode and that Japan was fast becoming an industrial power and economic competitor.
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Peterson moved on to become secretary of commerce, but his relationship with the president quickly soured and he left the administration, a departure immortalized by his remark that his loyalty had been questioned because “my calves are so fat that I couldn't click my heels.” From our mortifying first encounter, a friendship was born between Peterson and me that has lasted through the decades, as he has gone from triumph to triumph in the business and financial world. He has also become one of our most prescient and influential public intellectuals, persistent in warning the nation about the dangers created by our skyrocketing government deficits, a crusade he has institutionalized by establishing the Peterson Foundation with a billion dollars from the fortune he had reaped in the world of finance.

Despite the intensive efforts to avert it, the US balance of payments position worsened throughout the spring of 1971, as our payments deficit rose, other countries continued to accumulate dollars, and our gold losses increased. In response, Undersecretary Volcker prepared and passed on
to Treasury Secretary John Connally a supersecret memorandum suggesting that “we should take the initiative and close off our gold sales as a prelude to a large exchange rate realignment and necessary reforms in the [international monetary] system. Moreover, those decisions should be combined with a price freeze and complementary fiscal and monetary policies at home to restrain inflation.”
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Secretary John Connally took these suggestions as his own, and, after several discussions with the president and George Shultz, director of the Office of Management and Budget, a supersecret meeting was held at the president's Camp David retreat over the weekend of August 13–15 to finalize these plans and put them into effect.

Although I was well aware of the deepening balance of payments crisis and the increasing disorder in foreign exchange markets, I knew nothing of these policy initiatives as my year at the CEA drew to a close. I finished my usual end-of-week memo from McCracken to the president on Friday, August 13, a date fraught with ominous symbolism I was much too busy to notice. On Sunday morning, as we were in the throes of organizing our return to Pittsburgh, I received a call from McCracken's special assistant, Sidney Jones. “Be sure and listen to the president's speech tonight,” he said. “He's really going to drop a bomb.” My seven-year-old daughter grew wide-eyed as I recounted this conversation to the family. “He's going to drop a bomb? Here?” she quavered, as she scuttled under the kitchen table.

The president's announcement of August 15 didn't kill anyone, but its impact was explosive. The New Economic Policy he laid out that night included an immediate suspension of gold payments, which effectively caused the value of the dollar to float, as well as a temporary 10 percent surcharge on imports and a 10 percent reduction in foreign aid. Measures on the domestic side included a ninety-day price freeze, to be followed by a Phase 2 wage-price control program to restrain inflation and maintain our credibility with foreign holders of dollars, along with various tax-cutting measures to stimulate output and employment.

Why did the situation justify such drastic policy moves on the domestic, as well as the international, front? Inflation was running at a rate of about 5 percent annually in 1969–71, higher than it had been since the early 1950s, and the depreciation of the dollar needed to improve our
payments imbalance was sure to increase the upward push on prices. At the same time, the unemployment rate had risen to almost 6 percent. Together these developments had produced a “misery index” (the combined value of the inflation and unemployment rates) of about 10 percent, and the president was eager to see it come down before the 1972 election. But the measures aimed at stimulating output and employment would exert a further upward push on inflation. The political imperative to make progress on both parts of the misery index at once led the president, against the advice of his senior economists, to put his stamp of approval on Connally's proposal for wage-price controls, a system that, backed up by rationing of many essential household items, had worked reasonably successfully during World War II.

I knew instantly that these measures would have resounding effects on both the national and the global economies, as well as on our political relations with other countries. A day or two before I left the CEA at the end of August, I wrote a long, detailed memo to McCracken laying out some of the implications of them and various alternatives regarding the future of the international monetary system.

“Now that the future shape of the international monetary system has been opened up far wider than before by the President's actions of August 15,” I wrote, “the United States faces two sets of fundamental questions: the short-range ones focused on how (as well as when) to terminate the present state of suspended animation, and the long-range ones involved in defining the characteristics of the new world monetary order we would like to see take shape and, secondarily, in figuring out what course of action will maximize the probabilities of achieving it.”
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As I ruminated on these cosmic issues, I had no inkling that the drastic measures announced by the president on August 15 would have an equally dramatic impact on my own life and the lives of my family, as I found myself thrust into the forefront of efforts to answer the questions my memo had posed.

My speedy return from a brief stint of academic life back in Pittsburgh to the heady world of Washington policy making began with a press conference where, for the first time in my life, I was at center stage rather than in the audience. I blinked nervously in front of blinding spotlights, the only woman among the seven people that Donald Rumsfeld,
the young and aggressive former congressman from Illinois who had been appointed executive director of the Cost of Living Council—the umbrella organization the president and Secretary Connally had placed at the apex of the pyramidal structure created to succeed the wage-price freeze—had just introduced as members of the nation's Price Commission. My male colleagues, all strangers to me, were two business school deans, a prominent African American lawyer, the retired heads of a leading business-information company and one of the Big Six accounting firms, and a former governor of Pennsylvania.