On the final day of October 1978, word spread on Wall Street that Kuwait had failed to renew a deposit (estimated at $1 billion to $2 billion) in a major U.S. bank.
For several days before that, this rumor and others had plagued the U.S. dollar, which had been falling precipitously for some time.
But the Kuwait report appeared to be the final straw. The dollar sank like a stone, bringing the U.S. to what the Wall Street Journal called the edge of "a 19th Century-type of financial panic." The administration immediately (and some said belatedly) took some extraordinary steps to stabilize the dollar.
That a relatively mundane amount of Kuwaiti dollars should trigger such near-panic concerns some international economists and government leaders more than the actual erosion of the value of the U.S. dollar.
What it seemed to be saying, according to economist and author Paul Erdman ("The Crash of '79") is that it almost occurred without a real "trigger" -- without a war or political crisis to set it off. What brought the world money system to the state of panic was the actions of one country with respect to only one of the key money market banks.
"This demonstrates how vulnerable we are and will continue to be in this respect," Erdman said.
Imagine what could happen if one of the rich oil countries threatens to take an action that would jeopardize the world money markets unless certain action is taken by one country or another, he added. Although it is the kind of threat that novels like "The Crash of '79" have been made of, there is little doubt that it is now even more possible than before.
It is precisely that kind of situation that has led to renewed calls for some kind of controls on the Eurocurrency markets, the international money markets which provide easy access to currencies from all the world's major countries with no restrictions, markets that have grown exponentially over the past two decades while falling under the control of no single government or even group of governments.
In fact, there have been hints of economic blackmail in recent months. Early this spring, for example, the man who eventually became prime minister of Canada pledged during his campaign to move the Canadian embassy in Israel from Tel Aviv to Jerusalem. After he was elected, however, various groups on the Persian Gulf, led by the Arab Monetary Fund, threatened to remove all Arab funds from Canadian banks, and to dump all their holdings of Canadian dollars if that pledge were realized, according to international monetary sources. The embassy hasn't been moved.
It is the lack of controls that have made the Euromarkets so attractive to investors. They offer the chance to buy a certain currency without having to worry about local restrictions in the country of origin. And because they are free of those controls, the various Eurocurrencies are generally cheaper to buy.
If, for example, an American firm wants to borrow Swiss francs to fund overseas operations, it can get those francs from the Euromarkets at a better interest rate because those francs are already outside the control of the Swiss government. If the loan were made from a bank in Switzerland, local requirements that banks keep a certain amount of money in reserve for every loan made to outsiders would increase the cost of that loan.
For obvious reasons, then, the Eurocurrency markets have become quite attractive, and therefore more and more money has been falling outside the controls of the governments that issued it.
But that also has meant that international money markets banks can keep on making loans without the various safeguards that would be required on loans within their respective countries.
And with so much money floating around -- estimates of the size of the Eurocurrency markets exceed $900 billion -- it is becoming harder and harder for central banks to keep a grip on their respective currencies. In November's dollar rescue package, President Carter committed $30 billion to rescue efforts. But, as Erdman asked, "Can you fight hundreds of billions with thirty billion?"
Because the dollar long has been the international currency, the one against which other currencies are measured, it has become particularly vulnerable as the Euromarkets have grown. Eurodollars -- dollars outside the control of the U.S. -- make up nearly 80 percent of the Eurocurrency markets.
So when a rush to sell the dollar drives its price down, it is becoming more difficult for the Federal Reserve Bank -- our central bank -- to act to protect the dollar. Usually, the Fed merely has to enter the markets and buy dollars to offset large sales. But the sales are becoming so large that the dollar has begun to slip again, that the Fed has had to buy, and is continuing to buy, huge amounts of various currencies with dollars to shore up the dollar's position vis a vis those currencies.
The huge increase in the number of dollars leaving this country to pay the new, higher, oil prices also has contributed to the rapid growth of the Euromarkets merely by taking dollars out of the hands of Americans. And increased outflows of their currencies have had a similar effect on other oil-purchasing countries, fueling new fears of worldwide inflation.
During the last oil crisis, when prices soared, the money that poured into the world money markets through the Arab countries to a great extent was recycled into loans to developing countries. But today, many of those countries have borrowed up to their limits, and commercial banks no longer can use these countries as an outlet to recycle that cash.
It isn't clear where much of that money will go. But it is perfectly clear that it will continue to push the rapid growth of the Euromarkets and to make it more difficult for the U.S. or any other country to protect itself from the possible effects of abuse of those markets.
"In effect, we're using up our credit," Harvard Business School professor Robert Stogaugh said of the U.S. government's spending to shore up the dollar. He compared it to a consumer charging on all his credit cards until he or she reaches the limit. "Sooner or later, you run out of your credit line. And then, either your credit line is increased, or you're in big trouble. And in the next crisis that comes along, you are helpless because you can't borrow any more."
There are indications that the key countries in the international monetary game are heading toward the imposition of some sort of controls on the Euromarkets. Despite warnings from bankers that any one country or organization cannot maintain controls effectively because of the international nature of those markets, several prestigious international monetary officials have indicated that talks are going on between key countries that likely will lead to some controls.
Just last week, for example, H. Johannes Witteveen, former managing director of the International Monetary Fund, called for tighter controls over the Eurodollar markets in a speech to a Japanese economic group meeting in Singapore.
Witteveen contended that restrictions on Eurodollar lending are needed to head off overborrowing by the less-developed countries which could result in worldwide inflation. He said that "to prevent infaltionary effects in the world economy, central banks of the main industrial countries which have become more concerned about the rapid uncontrolled growth of Euromarkets will have to develop a coordinated policy to moderate the growth of these markets."
Witteveen specifically proposed that each country's central bank should be allowed to control Eurodollar growth by its own methods. These methods could include reserve requirements on banks' foreign liabilities, mandated equity or liquidity ratios, ceilings on foreign lending or, even, "moral persuasion."
Harvard's Stobaugh points out, however, that "countries have not been willing to get together on this before. I just don't know what is possible politically." But the present world economic situation makes Erdman's scenario of economic warfare and blackmail more possible today than it ever was, Stobaugh said, adding that "Erdman did draw an extreme case. But the more hundreds of billions of dollars around the world, the greater the risk that what he warns will actually happen."