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THE CRISIS
by
Ernest Bevin and G.D.H.Cole
III.—THE GOLD STANDARD BREAKS DOWN
[FLOW OF GOLD TO AMERICA AND FRANCE]
The gold standard demands for its successful working that the available gold supply of the world shall be distributed among the leading nations roughly in proportion to their needs. This does not mean that each country in the world needs to have a supply of gold corresponding to the volume of its currency and the quantity of goods it needs to buy and sell. For many of the smaller countries can manage with a quite tiny amounts of gold, by keeping always available large credits in the banks of the leading countries. Thus, as long as London was a free market for gold, i.e. as long as gold for export could be got at a fixed rate in exchange for British currency, a credit on London was practically as good as gold; and many of the smaller nations, under what is known as the gold exchange standard, held claims on London instead of gold as a basis for a large part of their currency and credit operations. But the gold exchange standard has always been held to imply the existence of countries on the gold standard proper; and it is essential, if the gold standard is to work, that the available supply of gold should be distributed among those major financial centres roughly in accordance with their needs.
In the years since the war, this condition has never been fully satisfied; and there has been constant and serious danger of it not being satisfied at all. There has been a steady and persistent drift of the world’s gold to the United States, and latterly to France, until these two countries have accumulated gold reserves far in excess of any rational estimate of their needs, while the rest of the world has been forced to go short. If the United States and France had followed the old course of banking orthodoxy by issuing currency and credit to the full extent apparently authorized by their stocks of gold, the inevitable effect would have been to raise their prices well above the level of prices in the rest of the world. This would have destroyed their export trade, and caused an increase of imports into their markets unless they had raised their tariffs to absolutely prohibitive heights. The result would have been that the gold accumulated by them would have flowed out and been redistributed over the world in payment for these increased imports.
But in fact neither France nor America has increased its issue of currency and credit in proportion to the growth of its stock of gold. Both countries, in order to prevent their prices from rising far beyond the world level, have sterilized a large part of their gold by keeping it in the vaults of their banks without making any use of it at all. Of course, gold so sterilized is a dead loss. It earns no interest, and it performs no manner of service. But to keep it idle has seemed preferable to allowing the rise in prices which would have followed its use as a basis for a larger issue of currency and credit.
Moreover, in the case of the United States at least, the tariff, while it is not prohibitive, has been raised very high against most classes of manufactures, and does have a big effect in excluding imports. The gold stocks of France and the United States have therefore not been automatically redistributed to the rest of the world by that change in relative prices which, according to orthodox economics, is the natural means of correcting a mal-distribution of gold.
There remains, however, another way in which this redistribution can be brought about. If France and the United States, or rather their investing classes, are prepared to make large loans of capital to other countries, these loans can be made out of the surplus gold lying in the French and American banks. In the case of the United States, it is only because such loans have been made in past years on a very large scale that far more even of the world’s total gold supply has not been locked up idle in the American banks.
But if at any time this flow of investment abroad ceases, or is seriously diminished, at once the flow of gold to the United States is resumed, and the rest of the world, finding itself short of the basis on which its currencies rely, proceeds to restrict credit at the cost of causing disastrous contraction of trade. Other countries raise their bank rates of interest, in the hope of attracting gold or at least preventing a further outflow. This raises their costs of production, hampers their trade, and adds to the burdens of taxation for the maintenance of the unemployed. As long as the present tendency of the world’s gold to drift to France and the United States remains in being the prosperity of other countries depends on the willingness of French and American investors to keep up a large and constant stream of foreign loans of capital.
[TO AMERICA]
But why, it will be asked, does this tendency for the world’s gold to drift to France and America exist at all? The answer, though it is not quite the same in the two cases, is as easy as the tendency is hard to remove. Take the case of America first.
Before the war the United States was a debtor country. Its capitalists had borrowed large sums of money from the investors of Great Britain and other European countries for the purpose of developing the vast natural resources of the American continent. On these borrowings they owed and paid interest, chiefly in the form of exported foodstuffs and raw materials. The United States was moreover, still borrowing capital from abroad, though at a diminishing rate.
During the war, all this was altered. The Americans bought back a large part of the stocks and bonds of American enterprises held by foreign investors; and they also lent huge sums to Europe, in order to enable the European nations to pay them for the foodstuffs and munitions which they supplied, at a time when the European export trades had been thrown out of gear by the war, and Europe had no means of paying with her exports for her inflated imports.
The United States therefore emerged from the war, no longer a debtor, but a great creditor country, to which European nations, and especially Great Britain, owed large sums in annual interest. How were these sums to be paid? The natural means of payment would have been for Europe to export to the United States far more goods than she imported from them. But this was impossible, both because Europe imperatively needed a huge volume of American goods, and because the United States maintained a high protective tariff in order to exclude just those manufactures in which alone Europe had the means to pay. Europe therefore owed America each year not only the interest on her debts, but also a further balance on account of the excess of European imports from America.
This unbalanced situation sufficiently accounts for the persistent tendency of gold to drift to the United States. Between 1920 and 1924 the gold holdings of the U.S.A. rose by over 1,600 million dollars; and in 1924 the U.S.A. had nearly as much gold as all the rest of the world put together, excluding only France. Thereafter, a further increase of the American gold stock was prevented, and even a small diminution secured, by heavy lending of American capital overseas. But when, in the American boom of 1929, the American investor saw more chance of making high profits by using his capital at home than by lending it abroad, the flow of gold to the United States was at once resumed; and a crisis at once arose in the financial affairs of other countries, which had to raise their bank-rates and restrict credit on account of the loss of the gold. Not that America wanted the gold, far from it. She had far too much already, and could make no use of it at all. But that did not check the flow; for Europe had to pay its debts, and in face of the high American tariff there was no other means of payment.
Nor was the situation bettered when the American boom ended in the crisis which ushered in the world slump. For the American investor was now unwilling to lend because the world-wide slump made him distrustful of the profitableness, and even of the security, of foreign investment. American gold holdings grew rapidly in 1930; for, slump or no slump, the rest of the world was due to pay its debts, and these debts were mostly fixed in terms of gold dollars.
We have, then, in the case of the United States a supremely ludicrous situation. The Americans, on account of their great natural resources, have a tendency to export more goods than they import. They exaggerate this tendency by maintaining a high protective tariff against manufactured imports. They have large sums invested abroad, and large claims on foreign Governments, on which annual interest and dividends are due to be paid. Not all the world’s gold would suffice for long to balance this account. It can be balanced only if American investors regularly lend enough abroad to balance it—in other words, if America foregoes present payment with the result of adding the annual interest for ever to the sum due. In plain terms, America can never be paid. The logical end to her attempts to exact payment would be that she should gradually buy up the whole world on condition of receiving nothing from it.
[TO FRANCE]
The French situation is somewhat different, though France has, during the past few years, been drawing in gold quite as sensationally as the United States. France, too, is a creditor country, though not on the same colossal scale as the United States. The French situation, indeed, arises largely out of the history of the French financial system since the war.
France, as we have seen, returned to the gold standard on a basis, not of pre-war parity, but of drastic devaluation of the franc, roughly to one-fifth of its pre-war gold value. Stabilization at this lower figure was preceded by a period of inflation, during which the value of the franc fell sharply over a long period. While the fall was in progress, there was a "flight from the franc"—in other words, French capitalists changed their money into other more stable currencies in order to avoid the consequences of a further fall. Above all, they changed francs into pounds sterling, and kept large balances in London. London, in turn, used these balances to re-lend at interest to borrowers at home and abroad, and found them very useful as a protection for the British gold reserve against the drain of gold to America.
But in due course the franc was stabilized at its new value; and gradually the French capitalists began to take their money home again, thus causing a drain of gold from London to Paris. Between 1926 and 1929 French gold holdings much more than doubled; and again and again a serious strain was put on the British financial system. For it was impossible for British finance at once to recall the loans which it had made on the strength of the French balances, as any attempt to do this would have at once provoked a world financial crisis, and above all, a collapse of German credit.
Now, France is to a considerable extent a self-contained country, depending less on imports and exports than either Great Britain or Germany, or even the United States. Her imports and exports, are nearly balanced; and there is certainly no tendency for gold to flow out from Paris in payment for imports. Accordingly, the only way in which the surplus gold uselessly accumulating in France could be redistributed would be for the French capitalists to make foreign loans on a sufficient scale to cause an outflow of gold.
The French investor, however, especially since he has been badly bitten in the past, is very fearful of foreign investments; and the French have been in fact lending abroad less than the amount of their annual balance, thus accentuating the flow of gold to Paris. Moreover, what they have lent they have often preferred merely to deposit in foreign banks or to lend at short term, rather than invest in long-term securities. They are therefore in a position at any moment to upset the financial equilibrium of the rest of the world by a sudden recall of their loans; and such a recall may always be prompted by political as well as by economic motives. The large mass of French short-term credits still outstanding in London thus gives the French financiers a strong economic pull; and this is the more dangerous because Great Britain, holding French money on short-term conditions, has lent largely to Germany, against which French political animosity is especially directed.
[CONSEQUENCES FOR BRITAIN AND THE WORLD]
The fundamental trouble, however, in relation to both the United States and France, lies in their being creditor countries which are at present unwilling to invest enough capital abroad to offset the tendency of gold to drift into their banks in payment of the world’s debts to them. This drift of gold accordingly results in locking up uselessly a large part of the world’s gold supply, and in keeping the rest of the world short of gold. This shortage, in its turn, tends to force down the world price-level, by restricting the amounts of currency and credit which the world is able to create, in accordance with its existing laws and conceptions of financial rectitude. Thus restriction of currency and credit is added to the other factors, such as the collapse of the American market, making for a fall in world prices; and the fall in prices, thus accentuated, results everywhere in trade depression and in frantic efforts to restrict production in order to prevent prices from falling yet more.
The gold standard, under post-war conditions, thus produces highly unfortunate results for most of the world. It has indeed been evident for some time past that, failing a removal of existing tendencies, it could not possibly long continue in operation. For the debtor countries of the world had been, even before the recent crisis drove Great Britain off the gold standard, losing gold at such a rate as to make the total exhaustion of their supplies only a matter of two or three years at most. Several of these countries had been driven off the gold standard before Great Britain; and others are already following Great Britain’s example.
In these circumstances, a return to the gold standard by Great Britain and the other countries which have abandoned it for the time would be likely to lead only to a resumption of the drain of gold to France and the United States, unless it were accompanied by far-reaching measures for the revision of existing international obligations and probably by a lowering of the United States tariff wall. For, as long as Europe owes huge sums to America, she can pay only in goods or in gold; and, even if the American tariff were greatly reduced, she could not hope to pay in goods and gold together nearly all she owes, even if all her gold were drained away. But the resumption of American lending, even on a scale sufficient temporarily to reduce the balance, can afford no lasting remedy; for its result is to swell each year the sum of European indebtedness, and the amount payable in interest upon it. There can be no remedy without a thoroughgoing revision of existing international debts, including reparations payments. Given such a revision, the form and extent of which we must next proceed to consider, a return to the gold standard, at a new and lower gold parity of the pound, may prove to be desirable. Without such revision, emphatically it is not.