If, instead, governmental policies permit continued excess spending to be financed by continued money creation, the adjustment policies should not be expected to be successful: efforts to prevent money from spilling out of the economy in one direction will simply cause it to spill out in another.

This point I believe to be an important factor in understanding the long exercise in futility commonly described as United States balance-of-payments policy. The significance of the recent turn-around in the United States balance-of-payments position is that it has been caused in part by monetary stringency in the United States relative to Europe; unfortunately, that stringency has been brought about by the effects of inflationary exceptions in raising money interest rates, and the consequent improvement of the United States position cannot be regarded as the result of a normally functioning adjustment mechanism. The same point helps to explain the apparent failure of the devaluation of sterling to work, at least this far. While the British Government has tackled aggregate demand directly through increased taxation, it has continued its long practice of using monetary policy to favour the Government with low interest rates, thus guaranteeing monetary expansion in a period of rising interest rates. The general equilibrium approach also suggests that the official view-that devaluation has been working well to expand exports, but unfortunately has been failing to work to restrain imports-is nonsensical: if aggregate demand is held constant, and exports rise, imports must rise too to fill the resulting gap in supplies to meet domestic demands.

Turning to the viewpoint of the international monetary system as a whole, in disequilibrium, the analysis presented of the liquidity problem implies that if the growth of demand for reserves exceeds what is made available from new monetary gold supplies and international credit arrangements, the system will attempt to obtain the desired reserves from inside itself. In other words, countries will compete for what reserves there are, and this will almost inevitably mean that someone will wind up with a deficit. That someone will be the country or countries with the slackest monetary and fiscal policies. This is an important point in understanding the prolonged weakness of the pound and the dollar: in a real sense there has been a demand from the rest of the world for the United Kingdom and the United States to run deficits so as to feed the rest of the world with international reserves.

It is also an important point in relation to current proposals for introducing more automaticity into exchange rate adjustments. The chief contenders in this respect are the "wider band" proposal and the "crawling peg" proposal. Under the "wider band" proposal, the present narrow margin of allowed variation of exchange rates around their gold parities of one per cent (in practice usually less) would be widened to, say, five per cent, so that a maximum of ten per cent of appreciation or depreciation could occur automatically. Under the "crawling peg" proposal, the par value of a currency would be adjusted, automatically or at government discretion, on the basis of an average of the actual values of the exchange rate over some previous period, the band of variation of the actual market rate about the parity either remaining the same or being widened. Under this system, if the balance of payments were weak the actual exchange rate would be consistently below the parity and on the averaging principle the parity itself would gradually drift downwards; and conversely if the balance of payments were strong. From the point of view of increasing automaticity of adjustment, the "crawling peg" is superior to the "wider band", since the latter would give only a once-over increase in the extent to which the exchange rate can be adjusted. The "crawling peg" might, however, raise more difficult problems than the "wider band" in the eventuality that might occur under either system, or a disequilibrium so great that it became certain that the parity itself would have to be changed. There are many technical problems with either proposal. But the main point implied by the monetary analysis is that the superimposition of either proposal onto the present international monetary system would not necessarily resolve its problems. Th reason lies in the unresolved problem of international liquidity: so long as there is a demand for international liquidity in excess of what the system generates, there will be pressures for some country or countries to have a deficit: and these pressures may well force exchange rates to the limit of the permitted range of flexibility without producing adjustments, thereby recreating the problems of the system as it now exists. Only a system of fully floating exchange rates would permit, and in fact ensure, full adjustment; this is because, under a system of freely floating exchange rates, there is no need for international liquidity. Chairman REUSS. Thank you, Mr. Johnson.

Mr. Prebisch.

STATEMENT OF RAUL PREBISCH, FORMER SECRETARY-GENERAL OF UNCTAD, AND DIRECTOR-GENERAL OF THE UNITED NATIONS LATIN AMERICAN INSTITUTE FOR ECONOMIC AND SOCIAL PLANNING

Mr. PREBISCH. Thank you, Mr. Chairman.

Undoubtedly, international monetary reform and the transfer of resources to developing countries are two different things, and we should not mix them. However, this does not mean that they cannot be combined. What we are trying to do, therefore, is take advantage of the reform in order to add more resources to developing countries.

But it is obvious that the amount of new monetary resources to be created should be considered quite independently of any consideration as to the external financial needs of developing countries. This is essential in order to avoid monetary inflation in the use of this reform. I think that, given the voting power of the different countries in the IMF, there is no risk of developing countries exercising a very effective pressure on developed countries. As you know, the latter have the real power to decide the amount of resources to be created. Indeed, I am afraid that if there is any risk of bias, this risk would be in favor of an insufficient rather than an excessive creation of resources.

The question of whether the link should be organic or not, as Mr. Dell already said, has been considered. The amendment of the articles of the Fund has not entailed an organic link, and in order to introduce an organic link, it would be necessary to amend the amendments. This could be a very serious difficulty. But it is perfectly conceivable to make a parallel agreement whereby developed countries receiving additional resources would put part of the equivalent of these resources at the disposal of the World Bank, or IDA, or regional banks, in order to increase the amount of their resource transfers to developing countries.

There is nothing unsound in the transfer of real resources in that way; this was the nature of the transfer of resources during the golden age of the gold standard. There is nothing new in this. Countries willing to capture part of the increment of gold supplies would exercise all their competitive power through their exports of goods and services to obtain a part of the new gold resources. The results of this SDR scheme, if the idea of a link was accented, would be the same. Instead of gold, countries could capture these new instruments which are representative of gold.

As to the proportion of resources to be transferred to developing countries, Mr. Chairman, I have suggested in my short paper that it be a 50-percent proportion. There is, of course, nothing dogmatic about this. It is a matter of negotiation, as Mr. Dell has said. But the final target should be 100 percent at some future date.

As to conditions of transfer, Mr. Chairman, I consider that it would be unfair to charge a rate of interest to developing countries in this operation, except in exceptional cases. On the contrary, I would like to see this new resource as an element to alleviate the already heavy load of services plaguing developing countries in the form of interest, amortization, and related capital remittances.

It is a well known fact that many developing countries are in a very critical situation in this matter of a substantial and still rising debt

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servicing burden. Especially in Latin America. This concerns me very much, not only in regard to the present, but also to the critical situations that would appear in the course of the next few years, if present tendencies continue, and worse yet, if they are aggravated, as seems to be the case.

There is, naturally, the risk that this new transfer of financial resources to developing countries would diminish in a parallel fashion the resources that are presently transferred and which are very scarce indeed. However, I would rather see this as part of the policy commitment accepted by developed countries at the UNCTAD Conference in New Delhi a year ago, whereby in principle they agreed to transfer 1 percent of their gross product to developing countries. I think that this new operation, through the link, can and should help developed countries achieve that target as soon as possible. Thank you, Mr. Chairman.

(The prepared statement of Mr. Prebisch follows:)

PREPARED STATEMENT OF RAUL PREBISCH

THE LINK BETWEEN RESERVE CREATION AND ASSISTANCE TO DEVELOPING COUNTRIES

Since the time when I was in charge of UNCTAD I have advocated the need to link the creation of additional monetary reserves with an increase in the transfers of financial resources to developing countries. A committee of experts appointed by UNCTAD made a recommendation to that effect in 1967 and later the same idea appeared in a report by a group of experts presented to CIAP, the Inter-American Committee for the Alliance for Progress.

It may be appropriate to stress at the outset that the amount of new monetary resources to be created should be based strictly on monetary considerations and not on the needs of developing countries for external financial resourcs. In any case, given the voting requirements provided for in the proposed amendments to the Articles of Agreement of the IMF, and within the IMF governing bodies, any decision would require the support of the major industrial countries and therefore there is no danger whatsoever that the creation of resources would be based on the financial needs of the developing countries.

As mentioned above, a group of experts appointed by UNCTAD recommended an "organic" link between the creation of new monetary resources and the transfer of part of these resources to developing countries. But considering the fact that at the time the international monetary reform was encountering strong obstacles, and following the prudent advice of some responsible authorities on this matter, the UNCTAD secretariat decided not to insist on the "link" until a decision was taken in relation to the fundamental elements of the reform. But now that these have been settled, it is timely to return to a discussion of the "link" and I welcome the initiative of the Subcommittee on International Exchange and Payments to deal with this matter.

Various possibilities are worth considering. The first would be to try to make a modification in the amendment to the Articles of Agreement of the Fund establishing the Special Drawing Rights. But if this involves insurmountable difficulties, it may be better to think in terms of a parallel agreement by which the developed countries would undertake a firm commitment to transfer a certain proportion of the addtional liquidity to developing countries. If the latter alternative is accepted I would not favour, however, a mechanism whereby every developed country would decide unilaterally and in isolation the amounts of its transfers to developing countries. I should also like to point out that in my view the transfer of resources should, as would be normal, based on an appraisal by the World Bank, IDA and the regional development banks of the needs of developing countries, taking into account their development plans and programmes, including their commitments to intensify the mobilization of domestic

resources.

Let me deal now with the relationship between the amount of additional monetary resources received by developed countries and the transfer of resources to developing countries. The ideal solution would have been to follow the pattern

that had evolved in the world for the distribution of new gold in the golden times of the gold standard. In those years the countries of the world would strive to obtain additional monetary reserves by buying gold from gold producing countries with their exports of goods and services. It could have been conceived that new monetary resources created through the international monetary reform would have been transferred to developing countries according to the aforesaid process and that, through their exports, developed countries would have captured their share of the new monetary resources. The whole of the new monetary resources would have been distributed in this fashion, and this would have been fully consistent with the principle of multilateral trade and with the high degree of competitiveness that should prevail in world trade.

However, the balance-of-payments situation of important developed countries may make such a system impracticable for the time being. Let us then consider this mainly as a target to be achieved in due course. Meanwhile, the transfer of resources could amount to, say, 50 percent of the new monetary reserves, to be increased gradually, especially as the present balance-of-payments situation improves. This could constitute the proper way of correcting the possible consequences of a mechanical distribution of the new monetary resources.

A strong objection against the reform has been that such mechanical distribution would not stimulate countries with a balance-of-payments deficit to take international corrective measures but if deficit countries have to capture part of the newly created reserves by increasing their efforts to export to developing countries, they will be forced to adopt measures to increase their competitiveness in world markets. This should be an objective to be attained once the present difficulties are overcome.

From another angle, we have to recognize that the amount of new monetary resources to be created will have great influence on the success of the efforts to correct balance-of-payments deficits. It seems to me that in those good times of the gold standard, the down-swing of the cyclical movements was less intense and its duration was shorter when gold production was high than in periods of scarcity of gold. What happens now is that, due to a scarcity in the amount of new gold at the disposal of monetary authorities, the effort to put in order the balance-of-payments is much greater than it should be. If deficit countries could have access to new monetary resources created in response to the needs of world trade and would improve their competitiveness in order to capture part of these resources, they would be in better conditions to improve their balance-of-payments problems than during the current scarcity of new gold.

A further objection to the "link" has been that developed countries would diminish their present contribution to development financing in the proportion of their transfers of new monetary reserves to developing countries. This would be a real danger if developed countries had not committed themselves at the second UNCTAD Conference in New Delhi to effect transfers equivalent to one per cent of their gross national product to developing countries. Consequently, the possibility of using part of the new monetary resources for financial transfers to developing countries should in fact assist developing countries to attain this target as soon as possible.

Chairman REUSS. Thank you, Mr. Prebisch.

Mr. Scitovsky?

STATEMENT OF TIBOR SCITOVSKY, PROFESSOR OF ECONOMICS,

YALE UNIVERSITY

Mr. SCITOVSKY. Thank you, Mr. Chairman.

I believe I can be most useful to the subcommittee by limiting myself to a rather technical point, which I think is quite an important one. In the prepared statement I submitted, I drew attention to the fact that one can and ought to distinguish between two kinds of links, one which may be called unconditional link will link the creation of reserves to development assistance available to developing countries unconditionally in the form of loans whose proceeds can be spent in any country, wherever the equipment or other goods on which these proceeds would be spent happen to be the cheapest.

The other and altogether different kind of link, which may be called the tied link, would link the creation of reserves to development assistance available only in the form of goods produced in the country or countries that receive the newly created reserves.

The distinction is important, I think, because the economic effects of the two kinds of links are totally different.

I, for example, am opposed to the unconditional link, because it might increase the inflationary pressures of SDR creation. It would increase the misgivings of surplus countries, the misgivings that surplus countries already have about reserve creation, and it would be likely therefore to restrain or to limit the vote in favor of increased SDR creation as well. It would minimize, as a result, the volume of SDR's created.

If this were the only kind of link available, then I should fully agree and side with those who are arguing against the link on the ground that it is undesirable and improper to link two altogether separate issues, reserve creation and development assistance.

At the same time, however, I am very much in favor of the tied type of link. This does not add to the inflationary pressures that reserve creation may put on surplus countries. On the contrary, it provides a safeguard against excessive inflationary pressures, by making the acquisition of SDR's by deficit countries subject to cost, which may be considered prohibitive, if these countries happen to be in an inflationary situation already.

The tied link therefore has an economic justification that is quite independent of whatever benefits the developing countries might derive from it. If development assistance in kind is a condition of acquiring SDR's, this will automatically limit SDR creation to times and to a rate at which it is safe to create SDR's without the danger of simultaneously creating world inflationary pressures.

To my mind, the question whether to have a link and what kind of link to have ought to be decided on the ground whether it would improve the mechanism of reserve creation, and quite independently of its benefits to developing countries.

These benefits are and should be considered a desirable by-product, and of course as Dr. Prebisch also argued, the rate of reserve creation should be completely independent of the need for such benefits. I feel all the more this way because development assistance that the link can produce would, even under the most favorable circumstances, be a very small part of the total need or total absorptive capacity of the developing countries for assistance.

So I do think it is a useful thing to make this distinction and to think of the link as something that in some cases might add to inflationary pressures, in others might be a safeguard against them. It is the second kind of link, which would be a safeguard against inflationary pressures, that I think has a real justification.

Thank you, Mr. Chairman.

(The prepared statement of Mr. Scitovsky follows:)

PREPARED STATEMENT OF PROF. TIBOR SCITOVSKY

LINKING RESERVE CREATION AND DEVELOPMENT ASSISTANCE

I should like to limit myself in this statement to a single point, which I consider important, and which seems not to have been brought out in previous discussions of the link between international reserve creation and assistance to developing