Required reading for this post:
In the five months preceding March 1968, speculation absorbed nearly $3 billion in gold, almost all of which was lost by the International Monetary Fund gold pool countries, primarily the United States. Unwilling to suffer such losses in the future, the gold pool members instituted the two-tier system.
The system, outlined in a Washington meeting of the gold pool nations on March 16 and 17, 1968, set up new guidelines governing the future of gold. On one level, the price of gold was maintained at $35 an ounce. At this price, transnational governmental authorities agreed to the unlimited exchange of gold among themselves. On the second level, a free market in gold was established that could fluctuate to reflect whatever the value of gold really was. Three conditions effectively achieved this segregation:
1. An agreement among monetary authorities to trade gold among themselves at an official price of $35 an ounce.
2. Agreement to supply no more gold to private markets from official stocks.
3. Agreement to buy little or no gold from private sellers.
The concept of Special Drawing Rights (SDRs) was introduced at the March meeting and adopted later in 1969 and 1970. SDRs are a form of “paper gold” to be used in the same manner as gold, dollars or other currencies to settle debts between nations. The SDRs were distributed to members of the IMF in proportion to their economic importance in the world economy. Designed to protect gold reserves, SDRs could be used to settle international payment deficits that would have otherwise drawn on these reserves. SDRs were given the value in gold of one U.S. dollar, which, at the official price of $35 an ounce, would buy 0.888671 gram of fine gold.
U.S. domestic policy changed to conform to the new system. The Treasury announced it would no longer purchase gold in the private market, nor would it sell gold for industrial, professional or artistic uses. Domestic producers were permitted to sell and export freely to foreign buyers as well as to authorized domestic users. Domestic consumers regularly engaged in an industry, profession or art in which gold is required were permitted to continue to import gold or to purchase gold from domestic producers.
The U.S. government also removed the remaining 25 percent gold backing from paper money in circulation, freeing another $750 million to stabilize the gold market.