On this day in economic and business history...
One of the cruelest legacies of the artificial prosperity produced by war is inflation. Inflation robs every American, every one of you. The 20 million who are retired and living on fixed incomes -- they are particularly hard hit. Homemakers find it harder than ever to balance the family budget. And 80 million American wage earners have been on a treadmill. For example, in the 4 war years between 1965 and 1969, your wage increases were completely eaten up by price increases. Your paychecks were higher, but you were no better off.
We have made progress against the rise in the cost of living. From the high point of 6 percent a year in 1969, the rise in consumer prices has been cut to 4 percent in the first half of 1971. But just as is the case in our fight against unemployment, we can and we must do better than that.
The time has come for decisive action -- action that will break the vicious circle of spiraling prices and costs.
I am today ordering a freeze on all prices and wages throughout the United States for a period of 90 days. In addition, I call upon corporations to extend the wage-price freeze to all dividends.
Working together, we will break the back of inflation, and we will do it without the mandatory wage and price controls that crush economic and personal freedom. ...
In the past 7 years, there has been an average of one international monetary crisis every year. Now who gains from these crises? Not the workingman; not the investor; not the real producers of wealth. The gainers are the international money speculators. Because they thrive on crises, they help to create them.
In recent weeks, the speculators have been waging an all-out war on the American dollar. The strength of a nation's currency is based on the strength of that nation's economy -- and the American economy is by far the strongest in the world. Accordingly, I have directed the Secretary of the Treasury to take the action necessary to defend the dollar against the speculators.
I have directed Secretary Connally to suspend temporarily the convertibility of the dollar into gold or other reserve assets, except in amounts and conditions determined to be in the interest of monetary stability and in the best interests of the United States.
--President Richard Nixon's address to the nation, Aug. 15, 1971.
The United States had a rather tortured relationship with gold during the 20th century. Under President Franklin D. Roosevelt, the nation withdrew from the gold standard in 1933 in a last-ditch effort to reignite economic growth. Toward the close of World War II, the U.S. once again joined an international gold standard as part of its acceptance of the Bretton Woods Agreement.
This system worked for a time. However, the conquered economies of Germany and Japan soon began growing rapidly, and the financial demands of waging war in Vietnam took their toll on the federal government's balance sheet. American dollars flooded the world, and many nations began to demand gold in exchange for their holdings. This left the country vulnerable to a run on its reserves, which appeared possible in the late spring of 1971 as other nations began to redeem hundreds of millions of dollars for gold. These redemptions, when added to the twin pressures of mounting inflation and high unemployment, threatened America's already-weakened economic stability.
Nixon held a meeting at Camp David on Aug. 13, 1971, with high-ranking economic and White House advisors, to determine what would be done. There, new Treasury Secretary John Connally pitched a suspension of the gold standard, not as capitulation to global economic forces beyond American control, but as a show of American strength in a turbulent world. Nixon agreed to a program of wage and price freezes to go along with the end of gold convertibility. He appeared on television on a Sunday evening, Aug. 15, to make his case to the nation at a time when few people concerned themselves with economic matters.
The move was a big hit with the public. According to Roger Lowenstein's 40th-anniversary recap of the "Nixon Shock" (as it's now called) for Bloomberg Businesweek:
Politically, [Nixon] hit the jackpot. Monday's nearly 33-point rise in the Dow Jones Industrial Average (DJINDICES: ^DJI ) was the biggest ever to that point. Nixon's "New Economic Policy" drew raves from the press. "We unhesitatingly applaud the boldness with which the President has moved," read The New York Times' editorial. In the present era, America's inability to repair its fiscal problems has tarnished its credibility and hampered its currency negotiations with China. The Nixon Shock showed the U.S. taking action.
Not only did the Dow rise by nearly 4%, but total exchange volume set a new trading record of 31.7 million shares. The market continued its bull surge for another year and a half, and despite the end of the gold standard, the economy enjoyed relatively mild inflation during that period of upward momentum.
However, the gains from Nixon's shock proved inadequate to offset the economic tumult that followed. By 1973, it was apparent that the "temporary" end of gold convertibility would be permanent, as most of the other nations in the world had set their currencies free of a golden anchor in response to Nixon's move. The price controls, meant to control inflation, were useless at suppressing the wilder inflationary swings that followed a global shift to floating currencies.
By the time OPEC enacted a damaging oil embargo in the fall of 1973, annual inflation was already spiking toward the highest levels since the end of the war. A recession that began soon after the start of the embargo managed to tamp down inflation for a while, but by the late 1970s annual inflation was again rising by double-digit percentage rates. At the same time, the price of gold, no longer tied to any important national currency, surged to nearly $900 an ounce in 1981 after consistently trading in the $35-per-ounce range under the Bretton Woods system. Markets also fared miserably. The added weight of inflation on a Dow that remained flat for more than a decade created the worst real losses in secular market history -- worse than even the two-decade bearish period following the market top of 1929.
The Nixon Shock's impact continues to be hotly debated by economists and hard-money enthusiasts more than 40 years after it began. Its impact on the global economy and on national monetary policies in the U.S. and elsewhere was perhaps larger than any other single event of the past half-century. What do you believe were the largest and most lasting changes wrought by Nixon's move? Share your thoughts by leaving a comment below.
What macro trend was Warren Buffett referring to when he said, "This is the tapeworm that's eating at American competitiveness"? Find out in our free report: "What's Really Eating at America's Competitiveness." You'll also discover an idea to profit as companies work to eradicate this efficiency-sucking tapeworm. Just click here for free, immediate access.