PUBLIC FINANCE AND CHANGES IN THE VALUE OF MONEY
I. _Inflation as a Method of Taxation_
A Government can live for a long time, even the German Government or
the Russian Government, by printing paper money. That is to say, it can
by this means secure the command over real resources,--resources just
as real as those obtained by taxation. The method is condemned, but
its efficacy, up to a point, must be admitted. A Government can live
by this means when it can live by no other. It is the form of taxation
which the public find hardest to evade and even the weakest Government
can enforce, when it can enforce nothing else. Of this character have
been the progressive and catastrophic inflations practised in Central
and Eastern Europe, as distinguished from the limited and oscillatory
inflations, experienced for example in Great Britain and the United
States, which have been examined in the preceding chapter.
The Quantity Theory of Money states that the amount of cash which the
community requires, _assuming certain habits of business and of banking
to be established_, and assuming also a given level and distribution
of wealth, depends on the level of prices. If the consumption and
production of actual goods are unaltered but prices and wages are
doubled, then twice as much cash as before is required to do the
business. The truth of this, properly explained and qualified, it
is foolish to deny. The Theory infers from this that the _aggregate
real value_ of all the paper money in circulation remains more
or less the same, irrespective of the _number of units_ of it in
circulation, provided the habits and prosperity of the people are not
changed,--_i.e._ the community retains in the shape of cash the command
over a more or less constant amount of real wealth, which is the same
thing as to say that the total quantity of money in circulation has a
more or less fixed purchasing power.[9]
[9] See also Chapter III., Section I.
Let us suppose that there are in circulation 9,000,000 currency notes,
and that they have altogether a value equivalent to 36,000,000 gold
dollars.[10] Suppose that the Government prints a further 3,000,000
notes, so that the amount of currency is now 12,000,000; then, in
accordance with the above theory, the 12,000,000 notes are still only
equivalent to $36,000,000. In the first state of affairs, therefore,
each note = $4, and in the second state of affairs each note = $3.
Consequently the 9,000,000 notes originally held by the public are now
worth $27,000,000 instead of $36,000,000, and the 3,000,000 notes newly
issued by the Government are worth $9,000,000. Thus by the process of
printing the additional notes the Government has transferred from the
public to itself an amount of resources equal to $9,000,000, just as
successfully as if it had raised this sum in taxation.
[10] It will simplify the argument to ignore the fact that
the value of gold in terms of commodities is itself a
fluctuating one, and to treat the value of a currency in
terms of gold as a rough measure of its value in terms of
“real resources” generally.
On whom has the tax fallen? Clearly on the holders of the original
9,000,000 notes, whose notes are now worth 25 per cent less than they
were before. The inflation has amounted to a tax of 25 per cent on all
holders of notes in proportion to their holdings. The burden of the tax
is well spread, cannot be evaded, costs nothing to collect, and falls,
in a rough sort of way, in proportion to the wealth of the victim. No
wonder its superficial advantages have attracted Ministers of Finance.
Temporarily, the yield of the tax is even a little better for the
Government than by the above calculation. For the new notes can be
passed off at first at the same value as though there were still only
9,000,000 notes altogether. It is only after the new notes get into
circulation and people begin to spend them that they realise that the
notes are worth less than before.
What is there to prevent the Government from repeating this process
over and over again? The reader must observe that the aggregate note
issue is still worth $36,000,000. If, therefore, the Government now
prints a further 4,000,000 notes, there will be 16,000,000 notes
altogether, which by the same argument as before are worth $2.25 each
instead of $3, and by issuing the 4,000,000 notes the Government has,
just as before, transferred an amount of resources equal to $9,000,000
from the public to itself. The holders of notes have again suffered a
tax of 25 per cent in proportion to their holdings.
Like other forms of taxation, these exactions, if overdone and out of
proportion to the wealth of the community, must diminish its prosperity
and lower its standards, so that at the lower standard of life the
aggregate value of the currency may fall and still be enough to go
round. But this effect cannot interfere very much with the efficacy of
taxing by inflation. Even if the aggregate real value of the currency
falls for these reasons to a half or two-thirds of what it was before,
which represents a tremendous lowering of the standards of life, this
only means that the quantity of notes which the Government must issue
in order to obtain a given result must be raised proportionately. It
remains true that by this means the Government can still secure for
itself a large share of the available surplus of the community.
Has the public in the last resort no remedy, no means of protecting
itself against these ingenious depredations? It has only one
remedy,--to change its habits in the use of money. The initial
assumption on which our argument rested was that the community did
_not_ change its habits in the use of money.
Experience shows that the public generally is very slow to grasp the
situation and embrace the remedy. Indeed, at first there may be a
change of habit in the wrong direction, which actually facilitates the
Government’s operations. The public is so much accustomed to thinking
of money as the ultimate standard, that, when prices begin to rise,
believing that the rise must be temporary, they tend to hoard their
money and to postpone purchases, with the result that they hold in
monetary form a _larger_ aggregate of real value than before. And,
similarly, when the fall in the real value of the money is reflected
in the exchanges, foreigners, thinking that the fall is abnormal and
temporary, purchase the money for the purpose of hoarding it.
But sooner or later the second phase sets in. The public discover that
it is the holders of notes who suffer taxation and defray the expenses
of government, and they begin to change their habits and to economise
in their holding of notes. They can do this in various ways:--(1)
instead of keeping some part of their ultimate reserves in money they
can spend this money on durable objects, jewellery or household goods,
and keep their reserves in this form instead; (2) they can reduce the
amount of till-money and pocket-money that they keep and the average
length of time for which they keep it,[11] even at the cost of great
personal inconvenience; and (3) they can employ foreign money in many
transactions where it would have been more natural and convenient to
use their own.
[11] In Moscow the unwillingness to hold money except for the
shortest possible time reached at one period a fantastic
intensity. If a grocer sold a pound of cheese, he ran off
with the roubles as fast as his legs could carry him to
the Central Market to replenish his stocks by changing
them into cheese again, lest they lost their value before
he got there; thus justifying the prevision of economists
in naming the phenomenon “velocity of circulation”! In
Vienna, during the period of collapse, mushroom exchange
banks sprang up at every street corner, where you could
change your krone into Zurich francs within a few minutes
of receiving them, and so avoid the risk of loss during the
time it would take you to reach your usual bank. It became
a seasonable witticism to allege that a prudent man at a
café ordering a bock of beer should order a second bock at
the same time, even at the expense of drinking it tepid,
lest the price should rise meanwhile.
By these means they can get along and do their business with an amount
of notes having an aggregate real value substantially less than
before. For example, the notes in circulation become worth altogether
$20,000,000 instead of $36,000,000, with the result that the next
inflationary levy by the Government, falling on a smaller amount, must
be at a greater rate in order to yield a given sum.
When the public take alarm faster than they can change their habits,
and, in their efforts to avoid loss, run down the amount of real
resources, which they hold in the form of money, _below_ the working
minimum, seeking to supply their daily needs for cash by borrowing,
they get penalised, as in Germany in 1923, by prodigious rates of
money-interest. The rates rise, as we have seen in the previous
chapter, until the rate of interest on money equals or exceeds the
anticipated rate of the depreciation of money. Indeed it is always
likely, when money is rapidly depreciating, that there will be
recurrent periods of scarcity of currency, because the public, in their
anxiety not to hold too much money, will fail to provide themselves
even with the minimum which they will require in practice.
Whilst economists have sometimes described these phenomena in terms of
an increase in the velocity of circulation due to loss of confidence
in the currency; nevertheless there are not, I think, many passages in
economic literature where the matter is clearly analysed. Professor
Cannan’s article on “The Application of the Apparatus of Supply and
Demand to Units of Currency” (_Economic Journal_, December 1921) is
one of the most noteworthy. He points out that the common assumption
that “the elasticity of demand for money is unity” is equivalent to
the assertion that a mere variation in the quantity of money does
not affect the willingness and habits of the public as holders of
purchasing power in that form. But in extreme cases this assumption
does not hold; for if it did, there would be no limit to the sums which
the Government could extract from the public by means of inflation.
It is, therefore, unsafe to assume that the elasticity of demand is
necessarily unity. Professor Lehfeldt followed this up in a subsequent
issue of the _Economic Journal_ (December 1922) by a calculation of
the actual elasticity of demand for money in some recent instances.
He found that between July 1920 and April 1922, the elasticity of
demand for money fell to an average of about ·73 in Austria, ·67 in
Poland, and ·5 in Germany. Thus in the last stages of inflation the
prodigious increase in the velocity of circulation may have as much,
or more, effect in raising prices and depreciating the exchanges than
the increase in the volume of notes. The note-issuing authorities often
cry out against what they regard as the unfair and anomalous fact of
the notes falling in value _more_ than in proportion to their increased
volume. Yet it is nothing of the kind; it is merely the result of the
one method to evade a crushing burden left open to the public, who
discover for themselves, sooner than the financiers, that the law of
unit elasticity in their demand for money can be escaped.
Nevertheless, it is evident that so long as the public use money at
all, the Government can continue to raise resources by inflation.
Moreover, the conveniences of using money in daily life are so great
that the public are prepared, rather than forego them, to pay the
inflationary tax, provided it is not raised to a prohibitive level.
Like other conveniences of life the use of money is taxable, and,
although for various reasons this particular form of taxation is
highly inexpedient, a Government can get resources by a _continuous_
practice of inflation, even when this is foreseen by the public
generally, unless the sums they seek to raise in this way are very
grossly excessive. Just as a toll can be levied on the use of roads or
a turnover tax on business transactions, so also on the use of money.
The higher the toll and the tax, the less traffic on the roads, and
the less business transacted, so also the less money carried. But
some traffic is so indispensable, some business so profitable, some
money-payments so convenient, that only a very high levy will stop
completely all traffic, all business, all payments. A Government has
to remember, however, that even if a tax is not prohibitive it may be
unprofitable, and that a medium, rather than an extreme, imposition
will yield the greatest gain.
Suppose that the rate of inflation is such that the value of the money
falls by half every year, and suppose that the cash used by the public
for retail purchases in shops is turned over 100 times a year (_i.e._
stays in one pocket for half a week on the average); then this is
only equivalent to a turnover tax of ½ per cent on each transaction.
The public will gladly pay such a tax rather than suffer the trouble
and inconvenience of barter with trams and tradesmen. Even if the
value of the money falls by half every month, the public, by keeping
their pocket-money so low that they turn it over once a day on the
average instead of only twice a week, can still keep the tax down to
the equivalent of less than 2 per cent on each transaction, or more
precisely 4d. in the £. Even such a terrific rate of depreciation as
this is not sufficient, therefore, to counterbalance the advantages
of using money rather than barter in the trifling business of daily
life. This is the explanation why, even in Germany and in Russia, the
Government’s notes remained current for many retail transactions.
For certain other purposes, however, to which money is put in a modern
community, the inflationary tax becomes prohibitive at a much earlier
stage. As a store of value, for example, money is rapidly discarded, as
soon as further depreciation is confidently anticipated. As a unit of
account, for contracts and for balance sheets, it quickly becomes worse
than useless, although for such purposes the privilege of the current
money as legal-tender for the discharge of debts stands in the way of
its being discarded as soon as it ought to be.
In the last phase, when the use of the legal-tender money has been
discarded for all purposes except trifling out-of-pocket expenditure,
inflationary taxation has at last defeated itself. For in that case the
total value of the note issue, which is sufficient to meet the public’s
minimum requirements, amounts to a figure relatively so trifling that
the amount of resources which the government can hope to raise by yet
further inflation--without pushing it to a point at which the money
will be discarded even for out-of-pocket trifles--is correspondingly
small. Thus at last, unless it is employed with some measure of
moderation, this potent instrument of governmental exaction breaks in
the hands of those that use it, and leaves them at the same time with
the rest of their fiscal system in total ruins;--out of which, in the
ebb and flow of the economic life of nations, may emerge once more a
reformed and admirable system. The chervonetz of Moscow and the krone
of Vienna are already stabler units than the franc or the lira.
All these matters can be illustrated from the recent experiences of
Germany, Austria, and Russia. The following tables show the gold value
of the note issues of these countries at various dates:
+----------------+-----------------+----------------+-----------------+
| | Volume of Note | Number of | Value of Note |
| GERMANY. |Issue in Milliard| Paper Marks |Issue in Milliard|
| | Paper Marks. | = 1 Gold Mark. | Gold Marks. |
+----------------+-----------------+----------------+-----------------+
| December 1920 | 81 | 17 | 4·8 |
| December 1921 | 122 | 46 | 2·7 |
| March 1922 | 140 | 65 | 2·2 |
| June 1922 | 180 | 90 | 2·0 |
| September 1922 | 331 | 349 | 0·9 |
| December 1922 | 1,293 | 1,778 | 0·7 |
| February 1923 | 2,266 | 11,200 | 0·2 |
| March 1923 | 4,956 | 4,950 | 1·0 |
| June 1923 | 17,000 | 45,000 | 0·4 |
| August 1923 | 116,000 | 1,000,000 | 0·116 |
+----------------+-----------------+----------------+-----------------+
+----------------+-----------------+----------------+-----------------+
| | Volume of Note | Number of | Value of Note |
| AUSTRIA. |Issue in Milliard| Paper Krone |Issue in Million |
| | Paper Krone. |= 1 Gold Krone. | Gold Krone. |
+----------------+-----------------+----------------+-----------------+
| June 1920 | 17 | 27 | 620 |
| December 1920 | 30 | 70 | 430 |
| December 1921 | 174 | 533 | 326 |
| March 1922 | 304 | 1,328 | 229 |
| June 1922 | 550 | 2,911 | 189 |
| September 1922 | 2,278 | 14,473 | 157 |
| December 1922 | 4,080 | 14,473 | 282 |
| March 1923 | 4,238 | 14,363 | 295 |
| August 1923 | 5,557 | 14,369 | 387 |
+----------------+-----------------+----------------+-----------------+
+----------------+-----------------+----------------+-----------------+
| | Volume of Note | Number of | Value of Note |
| RUSSIA. |Issue in Milliard|Paper Roubles[B]|Issue in Million |
| | Paper Roubles. |= 1 Gold Rouble.| Gold Roubles. |
+----------------+-----------------+----------------+-----------------+
| January 1919 | 61 | 103 | 592 |
| January 1920 | 225 | 1,670 | 134 |
| January 1921 | 1,169 | 26,000 | 45 |
| January 1922 | 17,539 | 172,000 | 102[C] |
| March 1922 | 48,535 | 1,060,000 | 46 |
| May 1922 | 145,635 | 3,800,000 | 38[D] |
| July 1922 | 320,497 | 4,102,000 | 78 |
| October 1922 | 815,486 | 6,964,000 | 117 |
| January 1923 | 2,138,711 | 15,790,000 | 135 |
| June 1923 | 8,050,000 | 97,690,000 | 82[E] |
+----------------+-----------------+----------------+-----------------+
[B] “Gosplan” figures for 1923, Moscow Economic Institute
figures previously.
[C] The increase is due to the reintroduction of the use of
money in State transactions as a result of the New Economic
Policy.
[D] Lowest point reached.
[E] The decrease may be attributed to the introduction of the
chervonetz (see p. 57 below).
The characteristics of each phase emerge clearly. The tables show,
first of all, how quickly, during the period of collapse, the rate
of the depreciation of the value of the money outstrips the rate of
the inflation of its volume. During the collapse of the German mark
beginning with December 1920, the rate of depreciation proceeded
for some time roughly twice as fast as that of the inflation, and
eventually by June 1923, when the volume of the note-issue had
increased 200-fold compared with December 1920, the value of a paper
mark had fallen 2500-fold. The figures given above for Austria begin
at a rather later stage of the _débâcle_. But if we equate Austria in
June 1920 to Germany in December 1920, the progress of events between
that date and September 1922 is roughly comparable to that in Germany
between December 1920 and May 1923. The figures for Russia between
January 1919 and the early part of 1923 also exhibit the same general
features.
These tables all commence after a considerable depreciation had
already occurred and the gold-value of the aggregate note-issue had
fallen considerably below the normal.[12] Nevertheless their earliest
entries still belong to the period when an eventual recovery was still
widely anticipated and the general public had not at all appreciated
what they were in for. They indicate that as the situation develops
from this point onwards and the use of money is discarded except for
retail transactions, the aggregate value of the note-issue falls by
about four-fifths. As the result of extreme panic or depression a
further fall may occur for a time; but, unless the money is discarded
altogether, a minimum is reached eventually from which the least
favourable circumstance will cause a sharp recovery.
[12] The pre-war currency of Germany was estimated at about 6
milliard gold marks (£300,000,000), or nearly £5 per head.
The temporary recovery in Germany after the collapse of February 1923
exhibited how a point may come when, if the money is to continue in
use at all, a bottom is reached and a technical position is created in
which some recovery is possible. When the gold value of the currency
has fallen to a very low figure, it is easy for the Government, if
it has any external resources at all, to give sufficient support to
prevent the exchange from falling further for the time being. And since
by that time the public will have carried their attempts to economise
the use of money to a pitch of inconvenience which it is impracticable
to continue, even a moderate weakening in the degree of their distrust
of the future value of the money will lead to some increase in their
use of it; with the result that the aggregate value of the note issue
will tend to recover. By February 1923 these conditions existed in
Germany in a high degree. The German Government was able within two
months, in the face of most adverse political conditions, to double the
exchange-value of the mark whilst simultaneously more than doubling
the note circulation. Even so the gold value of the note issue was
only brought back to what it had been six months earlier; and if even
a moderate degree of confidence had been restored, it might have been
possible to bring the value of the note circulation of Germany up to
(say) 2 milliard gold marks (£100,000,000) at least, which is probably
about the lowest figure at which it can stand permanently, unless every
one is to put himself to intolerable inconvenience in his efforts to
hold as little money as possible. Incidentally the Government is able
during the period of recovery to obtain, once more, through the issue
of notes the command over a considerable amount of real resources.
In Austria, where, at the date of writing, the exchange has been
stabilised for a year, the same phenomenon has been apparent with
the growth of confidence, the gold value of the note issue having
been raised to nearly two and a half times the low point reached in
September 1922. The fact of stabilisation, with foreign aid, has,
by increasing confidence, permitted this increase of the note issue
without imperilling the stabilisation, and will probably permit in
course of time a substantial further increase.
Even in Russia a sort of equilibrium seems to have been reached. There
the last phase had appeared by the middle of 1922, when a tenfold
inflation in six months[13] had brought the aggregate value of the
note issue below £4,000,000, which clearly could not be adequate
for the transaction of the business of Russia even in its present
condition. A point had been reached when the use of paper roubles
was being dispensed with altogether. At about that date I had the
opportunity of discussion at Genoa with some of the Soviet financiers.
They have always been more self-conscious and deliberate than others
in their monetary policy. They maintained at that time that, with the
help of legal compulsion to employ paper roubles for certain types of
transaction, these roubles could always be maintained in circulation
up to a certain _minimum_ real value, however certain the public might
be as to their ultimate worthlessness. According to this calculation,
it would always be possible to raise (say) £3,000,000 to £4,000,000
per annum by this method, even though the paper rouble regularly fell
in value at the rate of a tenfold or a hundredfold a year (one or more
noughts being struck off the monetary unit annually for convenience of
calculation). During the year following they did, in fact, decidedly
better than this, and, by reducing the rate of inflation to a figure
not much in excess of 100 per cent per three months, were able to raise
the aggregate value of the note issue to more than double the lowest
point reached. The equivalent of something like £15,000,000 seems to
have been raised during the year (April 1922–April 1923) by this means
towards the expenses of government, at the cost of having to strike
only one nought off the monetary unit for the whole year![14] At the
same time, in order to furnish a reliable store of value and a basis
for foreign trade, the Soviet Government introduced in December 1922 a
new currency unit (the chervonetz, or gold ducat), freely convertible
on sterling-exchange standard principles, alongside the paper rouble,
which was still indispensable as an instrument of taxation. So far this
new bank note has kept respectable. By August 1923 its circulation had
risen to nearly 16,000,000 having a value of about £16,000,000, and its
exchange value had kept steady, the State Bank undertaking to convert
the chervonetz on a parity with the £ sterling.[15] Thus by the middle
of 1923 the aggregate value of the Russian note issues, good and bad
money together, had risen to the substantial figure of £25,000,000, as
compared with barely £4,000,000 at the date of the Genoa Conference
in May 1922, thus indicating the return of confidence and the
re-inauguration of a monetary _régime_. Russia provides an instructive
example (at least for the moment) of a sound money for substantial
transactions alongside small change for daily life, the progressive
depreciation on which merely represents a quite supportable rate of
turn-over tax.
[13] Recent experience everywhere seems to show that it is
possible to inflate 100 per cent every three months without
entirely killing the use of money in retail transactions,
but that a greater rate of inflation than this can only be
indulged in at the peril of total collapse.
[14] The Soviet Government have always regarded monetary
inflation quite frankly as an instrument of taxation,
and have themselves calculated that the purchasing power
secured to the State by this means has amounted in the past
to the following sums:
1918 525 million gold roubles
1919 380 „ „ „
1920 186 „ „ „
1921 143 „ „ „
1922 (Jan. to March) 58 „ „ „
or (say) £130,000,000 altogether.
[15] So far the chervonetz has generally sold at a small
premium, the rates being:
March 15, 1923 ch. 1 = £1·07
April 17, 1923 ch. 1 = £1·05
June 15, 1923 ch. 1 = £0·94
July 27, 1923 ch. 1 = £1·05
The collapse of the currency in Germany which was the chief
contributory cause to the fall of Dr. Cuno’s Government in August 1923,
was due, not so much to taxing by inflation--for that had been going
on for years--as to an increase in the _rate_ of inflation to a level
almost prohibitive for daily transactions and quite destructive of
the legal-tender money as a unit of account. We have seen that what
concerns the use of money in the retail transactions of daily life
is the _rate_ of depreciation, rather than the absolute amount of
depreciation as compared with some earlier date.
In the middle of 1922 I estimated, very roughly, that the German
Government had then been obtaining for some time past the equivalent of
something between £75,000,000 and £100,000,000 per annum by means of
printing money. Up to that time, however, a substantial proportion of
these receipts had been contributed through the purchase of mark-notes
by speculative foreigners. Nevertheless the German public itself
had probably paid upwards of £50,000,000 per annum in this form of
taxation. Since the German note issue was still worth £240,000,000 so
lately as December 1920 (see the table on p. 51) and had not fallen
below £100,000,000 even in the middle of 1922, the rate of depreciation
represented by the above, whilst sufficiently disastrous to the mark
as a store of value or as a unit of account, had been by no means
prohibitive to its continued use in daily life. In the latter half of
1922, however, the public learnt to make enough further economies in
the use of the mark as money to reduce the value of the total note
issue to about £60,000,000. The first effect of the Ruhr occupation
was, as we have seen above (p. 54), to bring down the note issue below
the minimum to which the public could adjust their habits, which
resulted in the temporary recovery of March 1923. Nevertheless by the
middle of 1923 the public was able to get along with a note issue worth
about £20,000,000. All this time the German Government had continued
to raise resources equivalent to round about £1,000,000 a week by
note-printing--which meant a depreciation of 5 per cent a week even
if the public had been unable to reduce any further the value of the
aggregate note issue, and came in practice to about 10 per cent a week
allowing for their yet further economies in the use of mark-currency.
But the expenses of the Ruhr resistance, coupled with the complete
breakdown of other sources of taxation, had led, by May and June 1923,
to the Government’s raising the equivalent of, first, £2,000,000
and then £3,000,000 a week by note-printing. On a note issue, of
which the total value had sunk by that time to about £20,000,000,
this was pushing inflationary taxation to a preposterous and suicidal
point. The social disorganisation, resulting from a rapid movement
to do without the mark altogether, quickly resulted in Dr. Cuno’s
fall.[16] The climax was reached when, in Dr. Cuno’s last days, the
Government doubled the note issue in a week and raised the equivalent
of £3,000,000 in that period out of a note issue worth about £4,000,000
altogether,--a performance far transcending the wildest extravagances
of the Soviet.
[16] It is necessary to admit that Dr. Cuno’s failure to control
incompetence at the Treasury and at the Reichsbank was
bound to bring this about. During this catastrophic period
those responsible for the financial policy of Germany did
not do a single wise thing, or show the least appreciation
of what was happening. The profits of note-printing were
not even monopolised by the Government, and Herr Havenstein
continued to allow the German banks to share in them, by
discounting their bills at the Reichsbank at a rate of
discount far below the rate of depreciation. Only at the
end of August 1923 did the Reichsbank begin to require that
borrowers should make good on repayment a percentage of
the loss due to the depreciation of the borrowed marks (as
reckoned by the dollar exchange) during the currency of the
loan.
By the time this book is published, Dr. Cuno’s successors may have
solved, or failed to solve, the problem facing them. However this may
be, the restoration of a serviceable unit of account seems to be the
first step. This is a necessary preliminary to the escape of the German
financial system from the vicious circle in which it now moves. The
Government cannot introduce a sound money, because, in the absence
of other revenue, the printing of an unsound money is the only way by
which it can live. Yet a serviceable unit of account is a pre-requisite
of the collection of the normal sources of revenue. The best course,
therefore, is to remain content for a little longer with an unsound
money as a source of revenue, but to introduce immediately a steady
unit of account (the relation of which to the unsound money could be
officially fixed daily or weekly) as a preliminary to the restoration
of the normal sources of revenue.
The recent history of German finance can be summarised thus. Reliance
on inflationary taxation, whilst extremely productive to the exchequer
in its earliest stages especially whilst the foreign speculator
was still buying paper marks, gradually broke down the mark as a
serviceable unit of account, one of the effects of which was to render
unproductive the greater part of the rest of the revenue-collecting
machinery--most taxes being necessarily assessed at some interval of
time before they are collected. The failure of the rest of the revenue
rendered the Treasury more and more dependent on inflation, until
finally the use of legal-tender money had been so far abandoned by the
public that even the inflationary tax ceased to be productive and the
Government was threatened by literal bankruptcy. At this stage, the
fiscal organisation of the country had been so thoroughly destroyed
and its social and economic organisation so grievously disordered, as
in Russia eighteen months earlier, that it was a perplexing problem to
devise ways and means by which the Government could live during the
transitional period whilst the normal machinery for collecting revenue
was being re-created, especially in face of the struggle with France
proceeding at the same time. Nevertheless the problem is not insoluble;
many suggestions could be made; and a way out will doubtless be found
at length.
* * * * *
It is common to speak as though, when a Government pays its way by
inflation, the people of the country avoid taxation. We have seen that
this is not so. What is raised by printing notes is just as much taken
from the public as is a beer-duty or an income-tax. What a Government
spends the public pay for. There is no such thing as an uncovered
deficit. But in some countries it seems possible to please and content
the public, for a time at least, by giving them, in return for the
taxes they pay, finely engraved acknowledgements on water-marked
paper. The income-tax receipts, which we in England receive from the
Surveyor, we throw into the wastepaper basket; in Germany they call
them bank-notes and put them into their pocket-books; in France they
are termed Rentes and are locked up in the family safe.
II. _Currency Depreciation_ versus _Capital Levy_
We have seen in the preceding section the extent to which a Government
can make use of currency inflation for the purpose of securing income
to meet its outgoings. But there is a second way in which inflation
helps a Government to make both ends meet, namely by reducing the
burden of its pre-existing liabilities in so far as they have been
fixed in terms of money. These liabilities consist, in the main, of the
internal debt. Every step of depreciation obviously means a reduction
in the real claims of the _rentes_-holders against their Government.
It would be too cynical to suppose that, in order to secure the
advantages discussed in this section, Governments (except, possibly,
the Russian Government) depreciate their currencies _on purpose_.
As a rule, they are, or consider themselves to be, driven to it
by their necessities. The requirements of the Treasury to meet
sudden exceptional outgoings--for a war or to pay the consequences
of defeat--are likely to be the original occasion of, at least
_temporary_, inflation. But the most cogent reason for _permanent_
depreciation, that is to say _Devaluation_, or the policy of fixing
the value of the currency permanently at the low level to which a
temporary emergency has driven it, is generally to be found in the fact
that a restoration of the currency to its former value would raise the
recurrent annual burden of the fixed charges of the National Debt to
an insupportable level.
There is, nevertheless, an alternative to Devaluation in such cases,
provided the opponents of Devaluation are prepared to face it in time,
which they generally are not,--namely a Capital Levy. The purpose of
this section is to bring out clearly the _alternative_ character of
these two methods of moderating the claims of the _rentier_, when the
State’s contractual liabilities, fixed in terms of money, have reached
an excessive proportion of the national income.
The active and working elements in no community, ancient or modern,
will consent to hand over to the _rentier_ or bond-holding class
more than a certain proportion of the fruits of their work. When the
piled-up debt demands more than a tolerable proportion, relief has
usually been sought in one or other of two out of the three possible
methods. The first is Repudiation. But, except as the accompaniment of
Revolution, this method is too crude, too deliberate, and too obvious
in its incidence. The victims are immediately aware and cry out too
loud; so that, in the absence of Revolution, this solution may be ruled
out at present, as regards _internal_ debt, in Western Europe.
The second method is Currency Depreciation, which becomes Devaluation
when it is fixed and confirmed by law. In the countries of Europe
lately belligerent, this expedient has been adopted already on a
scale which reduces the real burden of the debt by from 50 to 100 per
cent. In Germany the National Debt has been by these means practically
obliterated, and the bond-holders have lost everything. In France
the real burden of the debt is less than a third of what it would be
if the franc stood at par; and in Italy only a quarter. The owners
of small savings suffer quietly, as experience shows, these enormous
depredations, when they would have thrown down a Government which had
taken from them a fraction of the amount by more deliberate but juster
instruments.
This fact, however, can scarcely justify such an expedient on its
merits. Its indirect evils are many. Instead of dividing the burden
between all classes of wealth-owners according to a graduated scale,
it throws the whole burden on to the owners of fixed interest bearing
stocks, lets off the _entrepreneur_ capitalist and even enriches him,
and hits small savings equally with great fortunes. It follows the
line of least resistance, and responsibility cannot be brought home
to individuals. It is, so to speak, nature’s remedy, which comes into
silent operation when the body politic has shrunk from curing itself.
The remaining, the scientific, expedient, the Capital Levy, has never
yet been tried on a large scale; and perhaps it never will be. It is
the rational, the deliberate method. But it is difficult to explain,
and it provokes violent prejudice by coming into conflict with the
deep instincts by which the love of money protects itself. Unless the
patient understands and approves its purpose, he will not submit to so
severe a surgical operation.
Once Currency Depreciation has done its work, I should not advocate
the unwise, and probably impracticable, policy of retracing the path
with the aid of a Capital Levy. But if it has become clear that the
claims of the bond-holder are more than the taxpayer can support, and
if there is still time to choose between the policies of a Levy and
of further Depreciation, the Levy must surely be preferred on grounds
both of expediency and of justice. It is an overwhelming objection
to the method of Currency Depreciation, as compared with that of the
Levy, that it falls entirely upon persons whose wealth is in the form
of claims to legal-tender money, and that these are generally, amongst
the capitalists, the poorer capitalists. It is entirely ungraduated; it
falls on small savings just as hardly as on big ones; and incidentally
it benefits the capitalist _entrepreneur_ class for the reasons
explained in Chapter I. Unfortunately the small savers who have most to
lose by Currency Depreciation are precisely the sort of conservative
people who are most alarmed by a Capital Levy; whilst, on the other
hand, the _entrepreneur_ class must obviously prefer Depreciation which
does not hit them very much and may actually enrich them. It is the
combination of these two forces which will generally bring it about
that a country will prefer the inequitable and disastrous courses of
Currency Depreciation to the scientific deliberation of a Levy.
There is a respectable and influential body of opinion which,
repudiating with vehemence the adoption of either expedient, fulminates
alike against Devaluations and Levies, on the ground that they infringe
the untouchable sacredness of contract; or rather of vested interest,
for an alteration of the legal tender and the imposition of a tax on
property are neither of them in the least illegal or even contrary to
precedent. Yet such persons, by overlooking one of the greatest of
all social principles, namely the fundamental distinction between the
right of the individual to repudiate contract and the right of the
State to control vested interest, are the worst enemies of what they
seek to preserve. For nothing can preserve the integrity of contract
between individuals, except a discretionary authority in the State
to revise what has become intolerable. The powers of uninterrupted
usury are too great. If the accretions of vested interest were to grow
without mitigation for many generations, half the population would be
no better than slaves to the other half. Nor can the fact that in time
of war it is easier for the State to borrow than to tax, be allowed
permanently to enslave the taxpayer to the bond-holder. Those who
insist that in these matters the State is in exactly the same position
as the individual, will, if they have their way, render impossible
the continuance of an individualist society, which depends for its
existence on moderation.
These conclusions might be deemed obvious if experience did not show
that many conservative bankers regard it as more consonant with their
cloth, and also as economising thought, to shift public discussion of
financial topics off the logical on to an alleged “moral” plane, which
means a realm of thought where vested interest can be triumphant over
the common good without further debate. But it makes them untrustworthy
guides in a perilous age of transition. The State must never neglect
the importance of so acting in ordinary matters as to promote certainty
and security in business. But when great decisions are to be made,
the State is a sovereign body of which the purpose is to promote the
greatest good of the whole. When, therefore, we enter the realm of
State action, _everything_ is to be considered and weighed on its
merits. Changes in Death Duties, Income Tax, Land Tenure, Licensing,
Game Laws, Church Establishment, Feudal Rights, Slavery, and so on
through all ages, have received the same denunciations from the
absolutists of contract,--who are the real parents of Revolution.
In our own country the question of the Capital Levy depends for its
answer on whether the great increase in the claims of the bond-holder,
arising out of the fact that it was easier, and perhaps more expedient,
to raise a large part of the current costs of the war by loans rather
than by taxes, is more than the taxpayer can be required, in the
long run, to support. The high levels of the Death Duties and of the
income- and super-taxes on unearned income, by which the net return
to the bond-holder is substantially diminished,[17] modify the case.
Nevertheless, immediately after the war, when it seemed that the normal
budget could scarcely be balanced without a level of taxation of which
a tax on earned income at a standard rate between 6s. and 10s. in the
£ would be typical, a levy seemed to be necessary. At the present
time the case is rather more doubtful. It is not yet possible to know
how the normal budget will work out, and much depends on the level at
which sterling prices are stabilised. If the level of sterling prices
is materially lowered, whether in pursuance of a policy of restoring
the old gold parity or for any other reason, a levy may be required.
If, however, sterling prices are stabilised somewhere between 80 and
100 per cent above the pre-war level--a settlement probably desirable
on other grounds--and if the progressive prosperity of the country
is restored, then perhaps we may balance our future budgets without
oppressive taxation on earned income and without a levy either. A levy
is from the practical view perfectly feasible, and is not open to more
objection than any other _new_ tax of like magnitude. Nevertheless,
like all new taxes, it cannot be brought in without friction, and
is, therefore, scarcely worth advocating for its own sake merely
in substitution for an existing tax of similar incidence. It is to
be regarded as the fairest and most expedient method of adjusting
the burden of taxation between past accumulations and the fruits of
present efforts, whenever, in the general judgment of the country, the
discouragement to the latter is excessive. A levy is to be judged, not
by itself, but as against the practicable alternatives. Experience
shows with great certainty that the active part of the community will
not submit in the long run to pay too much to vested interest, and, if
the necessary adjustment is not made in one way, it will be made in
another,--probably by the depreciation of the currency.
[17] The net return to the French _rentier_ is more than 6 per
cent; to the British not much above 3 per cent.
In several countries the existing burden of the internal debt
renders Devaluation inevitable and certain sooner or later. It will
be sufficient to illustrate the case by reference to the situation
of France,--the home of absolutism of all kinds, and hence, sooner
or later, of _bouleversement_. The finances of Humpty Dumpty are as
follows:
At the end of 1922 the internal debt of France, excluding altogether
her external debt, exceeded 250 milliard francs. Further borrowing
budgeted for in the ensuing period, together with loans on
reconstruction account guaranteed by the Government, may bring this
total to the neighbourhood of 300 milliards by the end of 1923. The
service of this debt will absorb nearly 18 milliards per annum. The
total normal receipts under the provisional[18] Budget for 1923 are
estimated at round 23 milliards. That is to say, the service of the
debt will shortly absorb, at the value of the franc current early in
1923, almost the entire yield of taxation. Since other Government
expenditure in the ordinary budget (_i.e._, excluding war pensions and
future expenditure on reconstruction) cannot be put below 12 milliards
a year, it follows that, even on the improbable hypothesis that further
expenditure in the extraordinary budget after 1923 will be paid for by
Germany, the yield of taxation must be increased permanently by 30 per
cent to make both ends meet. If, however, the franc were to depreciate
to (say) 100 to the pound sterling, the ordinary budget could be
balanced by taking little more of the real income of the country than
in 1922.
[18] The forecasts of the final outcome of the year are
frequently changed and may be somewhat different from the
above,--though not sufficiently to affect the argument.
M. de Lasteyrie has lately pointed out with pride how
the further depreciation of the franc, since he first
introduced his budget, is already improving the receipts
measured in terms of francs.
In these circumstances it will be difficult, if not impossible, to
avoid the subtle assistance of a further depreciation. What, then,
is to be said of those who still discuss seriously the project of
restoring the franc to its former parity? In such an event the already
intolerable burden of the _rentier’s_ claims would be about trebled.
It is unthinkable that the French taxpayer would submit. Even if the
franc were put back to par by a miracle, it could not stay there. Fresh
inflation due to the inadequacy of tax receipts must drive it anew on
its downward course. Yet I have assumed the cancellation of the whole
of France’s external debt, and the assumption by Germany of the burdens
of the extraordinary budget after 1923, an assumption which is not
justified by present expectations. These facts alone render it certain
that the franc cannot be restored to its former value.
France must come in due course to some compromise between increasing
taxation, and diminishing expenditure, and reducing what they owe their
_rentiers_. I have not much doubt that the French public, as they have
hitherto, will consider a further dose of depreciation--attributing it
to the “bad will” of Germany or to financial Machiavellism in London
and New York--as far more conservative, orthodox, and in the interest
of small savers, than a justly constructed Capital Levy, the odium of
which could be less easily escaped by the French Ministry of Finance.
If we look ahead, averting our eyes from the ups and downs which can
make and unmake fortunes in the meantime, the level of the franc
is going to be settled in the long run not by speculation or the
balance of trade, or even the outcome of the Ruhr adventure, but by
the proportion of his earned income which the French taxpayer will
permit to be taken from him to pay the claims of the French _rentier_.
The level of the franc exchange will continue to fall until the
commodity-value of the francs due to the _rentier_ has fallen to a
proportion of the national income, which accords with the habits and
mentality of the country.