POSITIVE SUGGESTIONS FOR THE FUTURE REGULATION OF MONEY
A sound constructive scheme must provide--if it is to satisfy the
arguments and the analysis of this book:
I. A method for regulating the supply of currency and credit with a
view to maintaining, so far as possible, the stability of the internal
price level; and
II. A method for regulating the supply of foreign exchange so as to
avoid purely temporary fluctuations, caused by seasonal or other
influences and not due to a lasting disturbance in the relation between
the internal and the external price level.
I believe that in Great Britain the ideal system can be most nearly
and most easily reached by an adaptation of the actual system which
has grown up, half haphazard, since the war. After the general idea
has been exhibited by an application in detail to the case of Great
Britain, it will be sufficient to deal somewhat briefly with the
modifications required in the case of other countries.
I. _Great Britain._
The system actually in operation to-day is broadly as follows:
(1) The internal price level is mainly determined by the amount
of credit created by the banks, chiefly the Big Five; though in a
depression, when the public are increasing their real balances, a
greater amount of credit has to be created to support a given price
level (in accordance with the theory explained above in Chapter III.,
p. 84) than is required in a boom, when real balances are being
diminished.
The amount of credit, so created, is in its turn roughly measured by
the volume of the banks’ deposits--since variations in this total
must correspond to variations in the total of their investments,
bill-holdings, and advances. Now there is no necessary reason _a
priori_ why the proportion between the banks’ deposits and their
“cash in hand and at the Bank of England” should not fluctuate within
fairly wide limits in accordance with circumstances. But in practice
the banks usually work by rule of thumb and do not depart widely from
their preconceived “proportions.”[51] In recent times their aggregate
deposits have always been about nine times their “cash.” Since this
is what is generally considered a “safe” proportion, it is bad for a
bank’s reputation to fall below it, whilst on the other hand it is bad
for its earning power to rise above it. Thus in one way or another
the banks generally adjust their total creation of credit in one form
or another (investments, bills, and advances) up to their capacity as
measured by the above criterion; from which it follows that the volume
of their “cash” in the shape of Bank and Currency Notes and Deposits at
the Bank of England closely determines the volume of credit which they
create.
[51] The Joint Stock banks have published monthly returns
since January 1921. Excluding the half-yearly statement
when a little “window-dressing” is temporarily arranged,
the extreme range of fluctuation has been between 11·0
per cent and 11·9 per cent in the proportion of “cash”
to deposits, and between 41·1 per cent and 50·1 per cent
in the proportion of advances to deposits. These figures
cover two and a half years of widely varying conditions.
The “proportions” of individual banks differ amongst
themselves, and the above is an average result, the
steadiness of which is strengthened by the fact that each
big bank is pretty steadfast in its own policy.
In order to follow, therefore, the train of causation a stage further,
we must consider what determines the volume of their “cash.” Its amount
can only be altered in one or other of three ways: (_a_) by the public
requiring more or fewer notes in circulation, (_b_) by the Treasury
borrowing more or less from the Currency Note Reserve, and (_c_) by the
Bank of England increasing or diminishing its assets.[52]
[52] For the aggregate of its liabilities in the shape of
deposits and of notes in circulation automatically depends
on the volume of its assets.
To complete the argument, one further factor, not yet mentioned, must
be introduced, namely (_d_) the proportion of the banks’ second-line
reserve in the shape of their holdings of Treasury Bills, which
can be regarded as cash at one remove. In determining what is a
safe proportion of “cash,” they pay some regard to the amount of
Treasury Bills which they hold, since by reducing this holding they
can immediately increase their “cash” and compel the Treasury to
borrow more either from the Currency Note Reserve or from the Bank of
England. The ninefold proportion referred to above presumes a certain
minimum holding of Treasury Bills, and might have to be modified if a
sufficient volume of such Bills was not available. This factor (_d_)
is, however, also important because the banks in their turn are open to
pressure by the Treasury, whenever it draws to itself the resources of
their depositors--whether by taxation or by offering them attractive
longer-dated loans--and uses them to pay off, if not Ways and Means
advances from the Bank of England (which reduces the banks’ first-line
reserve of cash), then alternatively Treasury Bills held by the banks
themselves (which reduces their second-line reserve of bills).
Items (_a_), (_b_), (_c_), and (_d_) together, therefore, more or less
settle the matter. For the purpose of the present argument, however, we
need not pay much separate attention to (_a_) and (_b_), since their
effect is, for the most part, reflected over again in (_c_) and (_d_).
(_a_) depends partly on the volume of trade but mainly on the price
level itself; and in practice fluctuations in (_a_) do not _directly_
affect the banks’ “cash,”--for if more notes are required under
(_a_), more notes are issued, the Treasury borrowing a corresponding
additional amount from the Currency Note Reserve, in which case the
Treasury either repays the Bank of England, which diminishes the Bank’s
assets and consequently the other banks’ “cash,” or withdraws an
equivalent amount of Treasury Bills, which diminishes the other banks’
second-line reserve; _i.e._ a change in (_a_) operates on the banks’
resources through (_c_) and (_d_).[53] Whilst as for (_b_), a change in
the amount of what the Treasury borrows from the Currency Note Reserve
is reflected by a corresponding change in the opposite sense in what it
borrows in Ways and Means Advances or in Treasury Bills.
[53] If the additional issue of notes is covered by transferring
gold from the Bank of England, this is merely an
alternative way of diminishing the Bank of England’s assets.
Thus we can concentrate our attention on (_c_) and (_d_) as the main
determining factors of the price level.
Now (_c_), namely the assets of the Bank of England, consist (so far as
their variable part is concerned) of
(i.) Ways and Means advances to the Treasury.
(ii.) Gilt-edged and other investments.
(iii.) Advances to its customers and bills of exchange.
(iv.) Gold.
An increase in any of these items tends, therefore, to increase the
other banks’ “cash,” thereby to stimulate the creation of credit, and
hence to raise the price level; and contrariwise.
And (_d_), namely the banks’ holdings of Treasury Bills, depend on
the excess of the expenditure of the Treasury over and above what it
secures (i.) from the public by taxation and loans, (ii.) from the Bank
of England in Ways and Means advances, and (iii.) by borrowing from the
Currency Note Reserve.
It follows that the capacity of the Joint Stock banks to create credit
is mainly governed by the policies and actions of the Bank of England
and of the Treasury. When these are settled, (_a_), (_b_), (_c_), and
(_d_) are settled.
How far can these two authorities control their own actions and how
far must they remain passive agents? In my opinion the control, if
they choose to exercise it, is mainly in their own hands. As regards
the Treasury, the extent to which they draw money from the public to
discharge floating debt clearly depends on the rate of interest and
the type of loan which they are prepared to offer. A point might be
reached when they could not fund further on any reasonable terms; but
within fairly wide limits the policy of the Treasury can be whatever
the Chancellor of the Exchequer and the House of Commons may decide.
The Bank of England also is, within sufficiently wide limits, mistress
of the situation if she acts in conjunction with the Treasury. She can
increase or decrease at will her investments and her gold by buying or
selling the one or the other. In the case of advances and of bills,
whilst their volume is not so immediately or directly controllable,
here also adequate control can be obtained by varying the price
charged, that is to say the bank rate.[54]
[54] It is often assumed that the bank rate is the _sole_
governing factor. But the bank rate can only operate by its
reaction on (_c_), namely, the Bank of England’s assets.
Formerly it acted pretty directly on two of the components
of (_c_), namely, (_c_) (iii.) advances to customers and
bills of exchange and (_c_) (iv.) gold. Now it acts only
on one of them, namely, (_c_) (iii.). But changes in (_c_)
(i.) the Bank’s advances to the Treasury and (_c_) (ii.)
the Bank’s investments can often be nearly as potent in
their effect on the creation of credit. Thus a low bank
rate can be largely neutralised by a simultaneous reduction
of (_c_) (i.) or (_c_) (ii.) and a high bank rate by an
increase of these. Indeed the Bank of England can probably
bring the money-market to heel more decisively by buying or
selling securities than in any other way; and the utility
of bank rate, operated by itself and without assistance
from deliberate variations in the volume of (_c_) (ii.), is
lessened by the various limitations which exist in practice
to its freedom of movement, and to the limits within which
it can move, upwards and downwards.
Therefore it is broadly true to say that the level of prices, and
hence the level of the exchanges, depends in the last resort on the
policy of the Bank of England and of the Treasury in respect of the
above particulars;--though the other banks, if they strongly opposed
the official policy, could thwart, or at least delay it to a certain
extent--provided they were prepared to depart from their usual
proportions.
(2) Cash, in the form of Bank or Currency Notes, is supplied _ad
libitum_, _i.e._ in such quantities as are called for by the amount of
credit created and the internal price level established under (1). That
is to say, in practice;--in theory, a limit to the issue of Currency
Notes has been laid down, namely the maximum fiduciary issue actually
attained in the preceding calendar year. Since this theoretical
maximum was prescribed, it has never yet been actually operative;
and, as the rule springs from a doctrine now out of date and out of
accordance with most responsible opinion, it is probable that, if it
were becoming operative, it would be relaxed. This is a matter where
the recommendations of the Cunliffe Committee call for urgent change,
unless we desire deliberately to pursue still further a process of
Deflation. A point must come when, a year of brisk trade and employment
following one of depression, there will be an increased demand for
currency, which must be met unless the revival is to be deliberately
damped down.
Thus the tendency of to-day--rightly I think--is to watch and to
control the creation of credit and to let the creation of currency
follow suit, rather than, as formerly, to watch and to control the
creation of currency and to let the creation of credit follow suit.
(3) The Bank of England’s gold is immobilised. It neither buys nor
sells. The gold plays no part in our system. Occasionally, however, the
Bank may ship a consignment to the United States, to help the Treasury
in meeting its dollar liabilities. The South African and other gold
which finds its way here comes purely as a commodity to a convenient
_entrepôt_ centre, and is mostly re-exported.
(4) The foreign exchanges are unregulated and left to look after
themselves. From day to day they fluctuate in accordance with the
seasons and other irregular influences. Over longer periods they
depend, as we have seen, on the relative price levels established here
and abroad by the respective credit policies adopted here and abroad.
But whilst this is, for the most part, the actual state of affairs,
it is not, as yet, the avowed or consistent policy of the responsible
authorities. Fixity of the dollar exchange at the pre-war parity
remains their aspiration; and it still may happen that the bank rate
is raised for the purpose of influencing the exchange at a time when
considerations of internal price level and credit policy point the
other way.
* * * * *
This, in brief--I apologise to the reader if I have compressed the
argument unduly--is the present state of affairs, one essentially
different from our pre-war system. It will be observed that in practice
we have already gone a long way towards the ideal of directing bank
rate and credit policy by reference to the internal price level and
other symptoms of under- or over-expansion of internal credit, rather
than by reference to the pre-war criteria of the amount of cash in
circulation (or of gold reserves in the banks) or the level of the
dollar exchange.
I. Accordingly my first requirement in a good constructive scheme can
be supplied merely by a development of our existing arrangements on
more deliberate and self-conscious lines. Hitherto the Treasury and
the Bank of England have looked forward to the stability of the dollar
exchange (preferably at the pre-war parity) as their objective. It
is not clear whether they intend to stick to this irrespective of
fluctuations in the value of the dollar (or of gold); whether, that
is to say, they would sacrifice the stability of sterling prices to
the stability of the dollar exchange in the event of the two proving
to be incompatible. At any rate, my scheme would require that they
should adopt the stability of sterling prices as their _primary_
objective--though this would not prevent their aiming at exchange
stability also as a secondary objective by co-operating with the
Federal Reserve Board in a common policy. So long as the Federal
Reserve Board was successful in keeping dollar prices steady the
objective of keeping sterling prices steady would be identical with
the objective of keeping the dollar sterling exchange steady. My
recommendation does not involve more than a determination that, in
the event of the Federal Reserve Board failing to keep dollar prices
steady, sterling prices should not, if it could be helped, plunge with
them merely for the sake of maintaining a fixed parity of exchange.
If the Bank of England, the Treasury, and the Big Five were to
adopt this policy, to what criteria should they look respectively
in regulating bank-rate, Government borrowing, and trade-advances?
The first question is whether the criterion should be a precise,
arithmetical formula or whether it should be sought in a general
judgement of the situation based on all the available data. The
pioneer of price-stability as against exchange-stability, Professor
Irving Fisher, advocated the former in the shape of his “compensated
dollar,” which was to be automatically adjusted by reference to an
index number of prices without any play of judgement or discretion.
He may have been influenced, however, by the advantage of propounding
a method which could be grafted as easily as possible on to the
pre-war system of gold-reserves and gold-ratios. In any case, I doubt
the wisdom and the practicability of a system so cut and dried. If
we wait until a price movement is actually afoot before applying
remedial measures, we may be too late. “It is not the _past_ rise in
prices but the _future_ rise that has to be counteracted.”[55] It
is characteristic of the impetuosity of the credit cycle that price
movements tend to be cumulative, each movement promoting, up to a
certain point, a further movement in the same direction. Professor
Fisher’s method may be adapted to deal with long-period trends in the
value of gold but not with the, often more injurious, short-period
oscillations of the credit cycle. Nevertheless, whilst it would
not be advisable to postpone action until it was called for by an
actual movement of prices, it would promote confidence and furnish an
objective standard of value, if, an official index number having been
compiled of such a character as to register the price of a standard
composite commodity, the authorities were to adopt this composite
commodity as their standard of value in the sense that they would
employ all their resources to prevent a movement of its price by more
than a certain percentage in either direction away from the normal,
just as before the war they employed all their resources to prevent
a movement in the price of gold by more than a certain percentage.
The precise composition of the standard composite commodity could be
modified from time to time in accordance with changes in the relative
economic importance of its various components.
[55] Hawtrey, _Monetary Reconstruction_, p. 105.
As regards the criteria, other than the actual trend of prices, which
should determine the action of the controlling authority, it is beyond
the scope of this volume to deal adequately with the diagnosis and
analysis of the credit cycle. The more deeply that our researches
penetrate into this subject, the more accurately shall we understand
the right time and method for controlling credit-expansion by bank-rate
or otherwise. But in the meantime we have a considerable and growing
body of general experience upon which those in authority can base their
judgements. Actual price-movements must of course provide the most
important datum; but the state of employment, the volume of production,
the effective demand for credit as felt by the banks, the rate of
interest on investments of various types, the volume of new issues,
the flow of cash into circulation, the statistics of foreign trade and
the level of the exchanges must all be taken into account. The main
point is that the _objective_ of the authorities, pursued with such
means as are at their command, should be the stability of prices.
It would at least be possible to avoid, for example, such action
as has been taken lately (in Great Britain) whereby the supply of
“cash” has been deflated at a time when real balances were becoming
inflated,--action which has materially aggravated the severity of
the late depression. We might be able to moderate very greatly the
amplitude of the fluctuations if it was understood that the time to
deflate the supply of cash is when real balances are falling, _i.e._
when prices are rising out of proportion to the increase, if any, in
the volume of cash, and that the time to inflate the supply of cash
is when real balances are rising, and not, as seems to be our present
practice, the other way round.
II. How can we best combine this primary object with a maximum
stability of the exchanges? Can we get the best of both
worlds--stability of prices over long periods and stability of
exchanges over short periods? It is the great advantage of the gold
standard that it overcomes the excessive sensitiveness of the exchanges
to temporary influences, which we analysed in Chapter III. Our object
must be to secure this advantage, if we can, without committing
ourselves to follow big movements in the value of gold itself.
I believe that we can go a long way in this direction if the Bank
of England will take over the duty of regulating the price of gold,
just as it already regulates the rate of discount. “Regulate,” but
not “peg.” The Bank of England should have a buying and a selling
price for gold, just as it did before the war, and this price might
remain unchanged for considerable periods, just as bank-rate does.
But it would not be fixed or “pegged” once and for all, any more than
bank-rate is fixed. The Bank’s rate for gold would be announced every
Thursday morning at the same time as its rate for discounting bills,
with a difference between its buying and selling rates corresponding to
the pre-war margin between £3 : 17 : 10½ per oz. and £3 : 17 : 9 per
oz.; except that, in order to obviate too frequent changes in the rate,
the difference might be wider than 1½d. per oz.--say, ½ to 1 per cent.
A willingness on the part of the Bank both to buy and to sell gold at
rates fixed for the time being would keep the dollar-sterling exchange
steady within corresponding limits, so that the exchange rate would
not move with every breath of wind but only when the Bank had come to
a considered judgement that a change was required for the sake of the
stability of sterling prices.
If the bank rate and the gold rate in conjunction were leading to an
excessive influx or an excessive efflux of gold, the Bank of England
would have to decide whether the flow was due to an internal or to an
external movement away from stability. To fix our ideas, let us suppose
that gold is flowing outwards. If this seemed to be due to a tendency
of sterling to depreciate in terms of commodities, the correct remedy
would be to raise the bank rate. If, on the other hand, it was due to
a tendency of gold to appreciate in terms of commodities, the correct
remedy would be to raise the gold rate (_i.e._ the buying price for
gold). If, however, the flow could be explained by seasonal, or other
passing influences, then it should be allowed to continue (assuming,
of course, that the Bank’s gold reserves were equal to any probable
calls on them) unchecked, to be redressed later on by the corresponding
reaction.
Two subsidiary suggestions may be made for strengthening the Bank’s
control:
(1) The service of the American debt will make it necessary for the
British Treasury to buy nearly $500,000 every working day. It is clear
that the particular method adopted for purchasing these huge sums will
greatly affect the short-period fluctuations of the exchange. I suggest
that this duty should be entrusted to the Bank of England to be carried
out by them with the express object of minimising those fluctuations
in the exchange which are due to the daily and seasonal ebb and flow
of the ordinary trade demand. In particular the proper distribution
of these purchases through the year might be so arranged as greatly to
mitigate the normal seasonal fluctuation discussed in Chapter III. If
the trade demand is concentrated in one half of the year the Treasury
demand should be concentrated in the other half.
(2) It would effect an improvement in the technique of the system here
proposed, without altering its fundamental characteristics, if the
Bank of England were to quote a daily price, not only for the purchase
and sale of gold for immediate delivery, but also for delivery three
months forward. The difference, if any, between the cash and forward
quotations might represent either a discount or a premium of the latter
on the former, according as the bank desired money rates in London to
stand below or above those in New York. The existence of the forward
quotation of the Bank of England would afford a firm foundation for
a free market in forward exchange, and would facilitate the movement
of funds between London and New York for short periods, in much the
same way as before the war, whilst at the same time keeping down to a
minimum the actual movement of gold bullion backwards and forwards. I
need not develop this point further, because it is only an application
of the argument of Section III. of Chapter III. which will be most
readily intelligible to the reader, if he will refer back to the
previous argument.
There remains the question of the regulation of the Note Issue. My
proposal here may appear shocking until the reader realises that,
apart from its disregarding the conventions, it does not differ in
substance from the existing state of affairs. The object of fixing
the amount of gold to be held against a note issue is to set up a
danger signal which cannot be easily disregarded, when a curtailment
of credit and purchasing power is urgently required to maintain the
legal tender money at its lawful parity. But this system, whilst far
better than no system at all, is primitive in its ideas and is, in
fact, a survival of an earlier evolutionary stage in the development
of credit and currency. For it has two great disadvantages. In so far
as we fix a minimum gold reserve against the note issue, the effect
is to immobilise this quantity of gold and thus to reduce the amount
actually available for use as a store of value to meet temporary or
sudden deficits in the country’s international balance of payments.
And in so far as we regard an approach towards the prescribed minimum
or a departure upwards from it as a barometer warning us to curtail
credit or encouraging us to expand it, we are using a criterion which
most people would now agree in considering second-rate for the purpose,
because it cannot give the necessary warning _soon enough_. If gold
movements are actually taking place, this means that the disequilibrium
has proceeded a very long way; and whilst this criterion may pull us
up in time to preserve convertibility on the one hand or to prevent
an excessive flood of gold on the other, it will not do so in time to
avoid an injurious oscillation of prices. This method belongs indeed to
a period when the preservation of convertibility was all that any one
thought about (all indeed that there was to think about so long as we
were confined to an unregulated gold standard), and before the idea of
utilising bank-rate as a means of keeping prices and employment steady
had become practical politics.
We have scarcely realised how far our thoughts have travelled during
the past five years. But to re-read the famous Cunliffe Report on
Currency and Foreign Exchange after the War, published in 1918, brings
vividly before one’s mind what a great distance we have covered since
then. This document was published three months before the Armistice.
It was compiled long before the unpegging of sterling and the great
break in the European exchanges in 1919, before the tremendous boom
and crash of 1920–21, before the vast piling up of the world’s gold
in America, and without experience of the Federal Reserve policy
in 1922–23 of burying this gold at Washington, withdrawing it from
the exercise of its full effect on prices, and thereby, in effect,
demonetising the metal. The Cunliffe Report is an unadulterated pre-war
prescription--inevitably so considering that it was written after four
years’ interregnum of war, before Peace was in sight, and without
knowledge of the revolutionary and unforeseeable experiences of the
past five years.
Of all the omissions from the Cunliffe Report the most noteworthy is
the complete absence of any mention of the problem of the stability of
the price-level; and it cheerfully explains how the pre-war system,
which it aims at restoring, operated to bring back equilibrium by
deliberately causing a “consequent slackening of employment.” The
Cunliffe Report belongs to an extinct and an almost forgotten order
of ideas. Few think on these lines now; yet the Report remains the
authorised declaration of our policy, and the Bank of England and the
Treasury are said still to regard it as their marching orders.
Let us return to the regulation of note issue. If we agree that gold
is not to be employed in the circulation, and that it is better to
employ some other criterion than the ratio of gold reserves to note
issue in deciding to raise or to lower the bank rate, it follows that
the only employment for gold (nevertheless important) is as a store
of value to be held as a war-chest against emergencies and as a means
of rapidly correcting the influence of a temporarily adverse balance
of international payments and thus maintaining a day-to-day stability
of the sterling-dollar exchange. It is desirable, therefore, that the
whole of the reserves should be under the control of the authority
responsible for this, which, under the above proposals, is the Bank
of England. The volume of the paper money, on the other hand, would
be consequential, as it is at present, on the state of trade and
employment, bank-rate policy and Treasury Bill policy. The governors
of the system would be bank-rate and Treasury Bill policy, the objects
of government would be stability of trade, prices, and employment,
and the volume of paper money would be a consequence of the first
(just--I repeat--as it is at present) and an instrument of the second,
the precise arithmetical level of which could not and need not be
predicted. Nor would the amount of gold, which it would be prudent
to hold as a reserve against international emergencies and temporary
indebtedness, bear any logical or calculable relation to the volume of
paper money;--for the two have no close or necessary connection with
one another. Therefore I make the proposal--which may seem, but should
not be, shocking--of separating entirely the gold reserve from the note
issue. Once this principle is adopted, the regulations are matters of
detail. The gold reserves of the country should be concentrated in the
hands of the Bank of England, to be used for the purpose of avoiding
short-period fluctuations in the exchange. The Currency Notes may,
just as well as not--since the Treasury is to draw the profit from
them--be issued by the Treasury, without the latter being subjected to
any formal regulations (which are likely to be either inoperative or
injurious) as to their volume. Except in form, this régime would not
differ materially from the existing state of affairs.
The reader will observe that I retain for gold an important rôle in
our system. As an ultimate safeguard and as a reserve for sudden
requirements, no superior medium is yet available. But I urge that
it is possible to get the benefit of the advantages of gold, without
irrevocably binding our legal-tender money to follow blindly all the
vagaries of gold and future unforeseeable fluctuations in its real
purchasing power.
II. _The United States._
The above proposals are recommended to Great Britain and their details
have been adapted to her case. But the principles underlying them
remain just as true across the Atlantic. In the United States, as in
Great Britain, the methods which are being actually pursued at the
present time, half consciously and half unconsciously, are mainly on
the lines I advocate. In practice the Federal Reserve Board often
ignores the proportion of its gold reserve to its liabilities and
is influenced, in determining its discount policy, by the object
of maintaining stability in prices, trade, and employment. Out of
convention and conservatism it accepts gold. Out of prudence and
understanding it buries it. Indeed the theory and investigation of
the credit cycle have been taken up so much more enthusiastically and
pushed so much further by the economists of the United States than by
those of Great Britain, that it would be even more difficult for the
Federal Reserve Board than for the Bank of England to ignore such ideas
or to avoid being, half-consciously at least, influenced by them.
The theory on which the Federal Reserve Board is supposed to govern its
discount policy, by reference to the influx and efflux of gold and the
proportion of gold to liabilities, is as dead as mutton. It perished,
and perished justly, as soon as the Federal Reserve Board began to
ignore its ratio and to accept gold without allowing it to exercise its
full influence,[56] merely because an expansion of credit and prices
seemed at that moment undesirable. From that day gold was demonetised
by almost the last country which still continued to do it lip-service,
and a dollar standard was set up on the pedestal of the Golden Calf.
For the past two years the United States has _pretended_ to maintain
a gold standard. _In fact_ it has established a dollar standard; and,
instead of ensuring that the value of the dollar shall conform to that
of gold, it makes provision, at great expense, that the value of gold
shall conform to that of the dollar. This is the way by which a rich
country is able to combine new wisdom with old prejudice. It can enjoy
the latest scientific improvements, devised in the economic laboratory
of Harvard, whilst leaving Congress to believe that no rash departure
will be permitted from the hard money consecrated by the wisdom and
experience of Dungi, Darius, Constantine, Lord Liverpool, and Senator
Aldrich.
[56] The influx of gold could not be prevented from having
_some_ inflationary effect because its receipt
automatically increased the balances of the member banks.
This uncontrollable element cannot be avoided so long as
the United States Mints are compelled to accept gold.
But the gold was not allowed to exercise the multiplied
influence which the pre-war system presumed.
No doubt it is worth the expense--for those that can afford it. The
cost of the fiction to the United States is not more than £100,000,000
per annum and should not average in the long run above £50,000,000 per
annum. But there is in all such fictions a certain instability. When
the accumulations of gold heap up beyond a certain point the suspicions
of Congressmen may be aroused. One cannot be quite certain that some
Senator might not read and understand this book. Sooner or later the
fiction will lose its value.
Indeed it is desirable that this should be so. The new methods will
work more efficiently and more economically when they can be pursued
consciously, deliberately, and openly. The economists of Harvard know
more than those of Washington, and it will be well that in due course
their surreptitious victory should swell into public triumph. At any
rate those who are responsible for establishing the principles of
British currency should not overlook the possibility that some day soon
the Mints of the United States may be closed to the acceptance of gold
at a fixed dollar price.
Closing the Mints to the compulsory acceptance of gold need not affect
the existing obligation of convertibility;--the liability to encash
notes in gold might still remain. Theoretically this might be regarded
as a blemish on the perfection of the scheme. But, for the present at
least, it is unlikely that such a provision would compel the United
States to deflate,--which possibility is the only theoretical objection
to it. On the other hand, the retention of convertibility would remain
a safeguard satisfactory to old-fashioned people; and would reduce to
a minimum the new and controversial legislation required to effect the
change. Many people might agree to relieve the Mint of the liability to
accept gold which no one wants, who would be dismayed at any tampering
with convertibility. Moreover, in certain quite possible circumstances,
the obligation of convertibility might really prove to be a safeguard
against inflation brought about by political pressure contrary to the
judgement of the Federal Reserve Board;--for we have not, as yet,
sufficient experience as to the independence of the Federal Reserve
system against the farmers, for example, or other compact interests
possessing political influence.
Meanwhile Mr. Hoover and many banking authorities in England and
America, who look to the dispersion through the world of a reasonable
proportion of Washington’s gold, by the natural operation of trade and
investment, as a desirable and probable development, much misunderstand
the situation. At present the United States is open to accept gold at
a price in terms of goods above its natural value (above the value it
would have, that is to say, if it were allowed to affect credit and,
through credit, prices in orthodox pre-war fashion); and so long as
this is the case, gold must continue to flow there. The stream can
be stopped (so long as a change in the gold-value of the dollar is
ruled out of the question) only in one of two ways;--either by a fall
in the value of the dollar or by an increase in the value of gold
in the outside world. The former of these alternatives, namely the
depreciation of the dollar through inflation in the United States,
is that on which many English authorities have based their hopes.
But it could only come about by a reversal or defeat of the present
policy of the Federal Reserve Board. Moreover, the volume of redundant
gold is now so great, and the capacity of the rest of the world for
its absorption so much reduced, that the inflation would need to be
prolonged and determined to produce the required result. Dollar prices
would have to rise very high before America’s impoverished customers,
starving for real goods and having no use for barren metal, would
relieve her of £200,000,000 worth of gold in preference to taking
commodities. The banking authorities of the United States would be
likely to notice in good time that, if the gold is not wanted and must
be got rid of, it would be much simpler just to reduce the dollar price
of gold. The only way of selling redundant stocks of anything, whether
gold or copper or wheat, is to abate the price.
The alternative method, namely the increase in the value of gold in
the outside world, could scarcely be brought about unless some other
country or countries stepped in to relieve the United States of the
duty of burying unwanted gold. Great Britain, France, Italy, Holland,
Sweden, Argentine, Japan, and many other countries have fully as much
unoccupied gold as they require for an emergency store. Nor is there
anything to prevent them from buying gold now if they prefer gold to
other things.
The notion, that America can get rid of her gold by showing a greater
readiness to make loans to foreign countries, is incomplete. This
result will only follow if the loans are inflationary loans, not
provided for by the reduction of expenditure and investment in other
directions. Foreign investments formed out of real savings will no more
denude the United States of her gold than they denude Great Britain
of hers. But if the United States places a large amount of dollar
purchasing power in the hands of foreigners, as a pure addition to
the purchasing power previously in the hands of her own nationals,
then no doubt prices will rise and we shall be back on the method
of depreciating the dollar, just discussed, by a normal inflationary
process. Thus the invitation to the United States to deal with the
problem of her gold by increasing her foreign investments will not be
effective unless it is intended as an invitation to inflate.
* * * * *
I argue, therefore, that the same policy which is wise for Great
Britain is wise for the United States, namely to aim at the stability
of the commodity-value of the dollar rather than at stability of the
gold-value of the dollar, and to effect the former if necessary by
varying the gold-value of the dollar.
If Great Britain and the United States were both embarked on this
policy and if both were successful, our secondary desideratum, namely
the stability of the dollar-exchange standard, would follow as a
consequence. I agree with Mr. Hawtrey that the ideal state of affairs
is an intimate co-operation between the Federal Reserve Board and
the Bank of England, as a result of which stability of prices and of
exchange would be achieved at the same time. But I suggest that it is
wiser and more practical that this should be allowed to develop out of
experience and mutual advantage, without either side binding itself to
the other. If the Bank of England aims primarily at the stability of
sterling, and the Federal Reserve Board at the stability of dollars,
each authority letting the other into its confidence so far as may be,
better results will be obtained than if sterling is unalterably fixed
by law in terms of dollars and the Bank of England is limited to using
its influence on the Federal Reserve Board to keep dollars steady. A
collaboration which is not free on both sides is likely to lead to
dissensions, especially if the business of keeping dollars steady
involves a heavy expenditure in burying unwanted gold.
We have reached a stage in the evolution of money when a “managed”
currency is inevitable, but we have not yet reached the point when the
management can be entrusted to a single authority. The best we can do,
therefore, is to have _two_ managed currencies, sterling and dollars,
with as close a collaboration as possible between the aims and methods
of the managements.
III. _Other Countries._
What course, in such an event, should other countries pursue? It is
necessary to presume to begin with that we are dealing with countries
which have not lost control of their currencies. But a stage can and
should be reached before long at which nearly all countries have
regained the control. In Russia, Poland, and Germany it is only
necessary that the Governments should develop some other source of
revenue than the inflationary or turn-over tax on the use of money
discussed in Chapter II. In France and Italy it is only necessary that
the franc and the lira should be devaluated at a level at which the
service of the internal debt is within the capacity of the taxpayer.
Control having been regained, there are probably no countries, other
than Great Britain and the United States, which would be justified in
attempting to set up an independent standard. Their wisest course would
be to base their currencies either on sterling or on dollars by means
of an exchange standard, fixing their exchanges in terms of one or the
other (though preserving, perhaps, a discretion to vary in the event
of a serious divergence between sterling and dollars), and maintaining
stability by holding reserves of gold at home and balances in London
and New York to meet short-period fluctuations, and by using bank-rate
and other methods to regulate the volume of purchasing power, and thus
to maintain stability of relative price level, over longer periods.
Perhaps the British Empire (apart from Canada) and the countries of
Europe would adopt the sterling standard; whilst Canada and the other
countries of North and South America would adopt the dollar standard.
But each could choose freely, until, with the progress of knowledge and
understanding, so perfect a harmony had been established between the
two that the choice was a matter of indifference.
INDEX
American debt, 191
Aurelian, 152
Austria, elasticity of demand for money, 48
value of note issue, 52
currency of, 55
Bank of England, and forward exchange, 135
and gold, 171, 184, 190, 192
and existing system, 178
Bank rate, and prices, 21
and forward exchange, 136
pre-war effect of, 159
“Big Five,” 178
British Empire, currency of, 205
Business class, 18, 29
Cannan, Professor, 47
Capital, diminution of, 29
Capital levy, _versus_ currency depreciation, 63, 65
in Great Britain, 68
Cassel, Professor, 87, 92
Chervonetz, 51, 57
Consols, 12, 15
Credit-cycle, 83, 86, 187, 188
Cunliffe Committee, 140, 184, 194, 195
Cuno, Dr., 60
Currency depreciation, in history, 9, 11
advantage to debtor class, 10
incidence of, 42
_versus_ capital levy, 63
social evils of, 65
Czecho-Slovakia, 143, 146
Debtor class, political influence of, 9
Deflation, 143
and distribution of wealth, 4
and production of wealth, 4, 32
meaning of, 82
arguments for, 147
and Aurelian, 152
Devaluation, 64, 67
and deflation, 141, 142
and currency reform, 145
Dollar, forward exchange in, 118, 123, 125
Edward III., 163
Equation of exchange, 93, 97, 99
Estcourt, Dr., 107
Exchange speculation, effect of, 112
and forward market, 130, 138
services of, 136
External purchasing power, 88
Federal Reserve Board, and gold, 86, 167, 175, 197
index number, 94
co-operation with, 186
Fisher, Prof. Irving, 78, 148, 155, 163, 187
Foreign exchange, and purchasing power parity, 87
forward market in, 115
stability of, 141, 154, 189
Forward market in exchanges, 115
as an insurance, 121
and interest rates, 124
and State banks, 133
and bank rate, 136
Franc, exchange, 73
purchasing power parity, 101, 104
seasonal movement, 111
forward exchange in, 116, 118, 120, 125
devaluation of, 143, 145
France, losses of investors, 13, 65
burden of internal debts, 70
Genoa Conference, 134, 142, 143, 173
Germany, interest rates in, 22
and currency inflation, 41
elasticity of demand for money in, 48
value of note issue, 51
currency of, 54
sums raised by inflation, 58
recent financial history, 61
equation of exchange, 99
Gibbon, 152
Gold and State banks, 81
price of, 190
cost of burying, 199
Gold discoveries, 164
Gold mining, 165
Gold standard, 9, 12
restoration of, 149, 163
Great Britain, capital levy in, 68
currency statistics of, 83
seasonal trade, 108
ideal currency, 177, 203
banking system of, 178, 185
note issue, 193
Harvard, economists of, 199
Hawtrey, R. G., 163, 173, 174, 176, 187, 203
Hoover, Mr., 200
Huskisson, 153
Index numbers, for regulating money, 187
India, 141
prices in, 156
Individualism, and monetary stability, 40
Inflation, and distribution of wealth, 4, 5
and production of wealth, 4, 32
and redistribution of wealth, 30
as a method of taxation, 41
importance of rate of, 49
sums raised by in Russia, 57
sums raised by in Germany, 58
meaning of, 82
Interest, “money” and “real” rates of, 20
Interest rates and forward exchange, 129
Internal purchasing power, 88
Investment system, 5
Investors, losses of, 13, 16
Italy, losses of investors, 14, 65
Bank of, and forward exchange, 134
Labour, effect of rising prices on, 27
Lasteyeri, M. de, 71
Lehfeldt, Professor, 48
Lira, purchasing power parity, 101
seasonal movement, 111
forward exchange in, 116, 119, 129
devaluation of, 143, 145
“Managed” currency, 166
Marks, speculation in, 113
forward exchange in, 119
Marshall, Dr., 78, 79
Middle Ages, and currency debasement, 162
Middle class, losses of, 30
Money, elasticity of demand for, 47
stability of, 40
future regulation of, 177
Moscow, and use of money, 46
Mussolini, 145, 153
Note issue, existing system in G.B., 183
suggested system, 193
Pigou, Professor, 74, 78
Poland, elasticity of demand for money, 48
Population, 31
Prices, index numbers for various countries, 1913–1923, 3
fluctuations in nineteenth century, 2
steadiness in nineteenth century, 11
raw materials, 1919–1922, 19
effect of expectation of rise or fall, 22, 33, 37
effect of falling, 24
stability of, 154
Profiteers, 25, 26, 28
Purchasing power parity, 87
Quantity theory, 42, 74
Rasin, Dr., 146, 147
Real balances, 78, 83
Reichsbank discount rate, 23, 60
Ricardo, 87, 152, 153, 154
Risk, and production, 35
Rupee exchange, 157
Russia, and currency inflation, 41, 63
value of note issue, 52
currency of, 55
Saving, 7
Seasonal movement of exchanges, 106, 108, 111, 177, 191
Sterling, purchasing power parity, 100, 102
seasonal movement, 111
forward exchange in, 116, 117, 125
Taxation, by means of inflation, 41
Treasury Bills, relation of, to currency, 179, 196
Trustee investments, 8
United States, proposals for, 197
closing mints of, 200
and redundant gold, 201
Vienna, and use of money, 46
Wages, and prices, 27, 29
“Ways and Means” advances, 180
THE END
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Transcriber’s Notes
Punctuation, hyphenation, and spelling were made consistent when a
predominant preference was found in the original book; otherwise they
were not changed.
Simple typographical errors were corrected; unbalanced quotation
marks were remedied when the change was obvious, and otherwise left
unbalanced.
Illustrations in this eBook have been positioned between paragraphs
and outside quotations.
Some tables have been rearranged to make them narrower, and some have
been repositioned to fall between nearby paragraphs.
The index was not checked for proper alphabetization or correct page
references.
Page 98: “goods exported by Europe” probably was intended to be “goods
exported by Westropa”.