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.” 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. 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. 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_). 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. 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. 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.” 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. 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, 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. 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 _Printed in Great Britain by_ R. & R. CLARK, LIMITED, _Edinburgh_. BY THE SAME AUTHOR 8_vo._ ~8s. 6d.~ _net_. THE ECONOMIC CONSEQUENCES OF THE PEACE _THE TIMES._--“Mr. Keynes writes with knowledge; he was himself one of the chief actors in the Conference, and his book is an important political event.... He brings great literary ability, a broad view, a clear grasp of general principles, to bear upon the very complicated matters with which he is occupied, and in his hands these questions of coal, exchange, and reparation can be read with pleasure by the non-technical student.” _THE WESTMINSTER GAZETTE._--“Mr. Keynes has produced a smashing and unanswerable indictment of the economic settlement.” _THE ATHENÆUM._--“This book is a perfectly well-equipped arsenal of facts and arguments, to which every one will resort for years to come who wishes to strike a blow against the forces of prejudice, delusion, and stupidity. It is not easy to make large numbers of men reasonable by a book, yet there are no limits to which, without undue extravagance, we may not hope that the influence of this book may extend.... Never was the case for reasonableness more powerfully put. It is enforced with extraordinary art. What might easily have been a difficult treatise, semi-official or academic, proves to be as fascinating as a good novel.” 8_vo._ ~7s. 6d.~ _net_. A REVISION OF THE TREATY Being a Sequel to “The Economic Consequences of the Peace.” _THE SPECTATOR._--“The sequel, like the earlier book, is a brilliant performance regarded as economic argument and compact analysis, and it also has the advantage of dealing in sardonic and sometimes pitiless humour.” _THE NATION._--“We found Mr. Keynes’s second book to be of the same delightful texture as his first; showing a playfully impressive irony, alternating with warning seriousness, and the extraordinary power of economic analysis which has made him the greatest intellectual force in the work of European restoration.” _THE TIMES._--“Mr. Keynes has the gift of interesting his readers in problems that are at once vital and obscure.” _THE NEW STATESMAN._--“It is, like its predecessor, a pleasure to read, lucid and concise in its economic arguments, dashing in its political satires and its judgment of persons.” 8_vo._ ~18s.~ _net_. A TREATISE ON PROBABILITY _THE TIMES._--“Mr. Keynes’s book will certainly add to his reputation, and is, indeed, in our opinion, the best book he has yet written.” _THE NEW STATESMAN._--“The book will be at once ranked among the most important contributions to the subject.” _Prof. PIGOU in the ECONOMIC JOURNAL._--“The problems which Mr. Keynes has touched, he has not only illuminated with a marvellous lucidity of style, but has also substantially advanced.” _THE MANCHESTER GUARDIAN._--“Mr. Keynes’s book is undoubtedly one of first-rate importance, and it is especially valuable on account of the extension of its subject beyond the bounds of purely mathematical probability.” _THE SPECTATOR._--“The book contains a great deal that the general reader will find both interesting and exhilarating.” 8_vo._ ~7s. 6d.~ _net_. INDIAN CURRENCY AND FINANCE _THE ECONOMIC JOURNAL._--“The book is, and is likely long to remain, the standard work on its subject.... While academic students will be grateful for this acute and informing work, it will be read with as much interest, and perhaps even greater appreciation, by men of business and affairs.” _THE SPECTATOR._--“Mr. Keynes’s careful and disinterested study of the monetary facts of twenty years, and his methodical marshalling of facts and figures, will be useful even to those--and they will probably be few--who are not convinced by his reasoning.” _THE CLARE MARKET REVIEW._--“By his really masterly treatment of the Indian currency system, the author has made a very valuable addition to our economic literature.” LONDON: MACMILLAN AND CO., LTD. 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”.