Christopher Hollis
Two Nations

Chapter XVIII — The 1920s

It is a platitude that an old world came to an end when the guns spoke in the summer of 1914. From time to time one hears sincere, if sentimental, plans for a return to that halcyon world before the death. But, even though the historian may debate whether those years were in truth good or bad, the practical politician cannot but record that the dead, whatever were their virtues, are dead. The world of Edward VII has passed away as completely as the world of Richard Coeur de Lion.

Let us explain.

Sir Charles Morgan-Webb in his admirably lucid Rise and Fall of the Gold Standard has shown most clearly the enormous confusion that has been introduced by the vague use of the phrase, "the gold standard," for any system in which the amount of money in circulation is in any way regulated by the country's holdings of gold. There have been in the last 120 years, he very clearly shows, four quite distinct "gold standards," bearing but little relation to one another and at times even in open conflict with one another. The system that ruled in England, when it was not suspended, during the nineteenth century, he calls "the sterling standard." The essence of that system was that gold should have monetary value in every country, at least to the extent that an increase in that country's gold holdings would cause an increase in its monetary supply, a decrease in its gold holdings a decrease in that supply. Its claim was that, so long as each country allowed its gold to have its full monetary effect, no change other than a temporary change in the distribution of gold between the various countries was possible. The virtue of the gold standard was that it prevented trade from being in gold. Thus suppose that the British want some wine from the French but have not at the moment any convenient commodity to exchange for it. The British pay in gold. As a result there is rather more money in France and rather less in England. Every price in France therefore goes up a little and every price in England comes down a little. Therefore Englishmen, finding French goods dearer, buy less of them, and Frenchmen, finding English goods cheaper, buy more of them. Therefore the French cannot export to England, and, to make up the balance, they have to send back the gold which they had originally received for their wine.

Therefore the first requisite of the sterling standard is that every country should allow its gold to have its full monetary effect. As the Macmillan Report put it,(197) "Countries which are losing gold must be prepared to act on a policy which will have the effect of lowering prices, and countries which are receiving gold must be prepared to act on a policy which will have the effect of raising prices." The second requisite is that the world should contain large undeveloped areas, whose inhabitants cannot as yet exchange goods for the goods of the developed countries which they require, and who are therefore desirous of loans. It is a system therefore which can of its nature only work for a short time. For, if the borrowing country will never be in a position to have a favourable balance of trade, it is folly to lend to it, while, when it comes to have such a favourable balance, it no longer wishes to borrow. It was inevitable from the first that, one by one, the new countries would emerge from the borrowing stage until there must be no one left in that stage. It is only a calamity such as that of war or disruption — a calamity such as that which fell on Central Europe in 1918 — which can reduce to borrowing a country which has once risen above the necessity for it. The third requisite is that the important creditor should be a free-trade country, willing to accept the payment of its dividends in whatever goods its debtors choose to offer. We have seen how in the years between the Boer War and the European War the system was already with every year growing increasingly difficult to work owing to the challenge to the primacy in the world's foreign lending of Free Trade Britain by Protectionist France and Germany.

The world that emerged from the European War was a world unrecognizably different from that of 1914. It was now Great Britain who had an inconvertible currency, the United States who were "on gold." Great Britain was indeed still on balance a creditor country and still prepared to export large quantities of capital, but the major creditor country, the greatest exporter of capital, was now the United States. Great Britain was in debt to the United States.

If by some miracle the nations of the post-War world could have been induced to work the nineteenth century monetary system, there can be little doubt what the consequence must have been. When the nineteenth century financiers of the European countries were competing against one another to find extra-European destinations for their loans, they assumed always that the non-European was a convenient creature — just intelligent enough to use machines and tools, not intelligent enough to use them for his own advantage. They took for granted the continuing domination of the white race over every portion of the world in which he cared to exercise it. That dream of confidence has been quickly shattered, and few would to-day be willing to prophesy how large a portion of the world will be under white man's government by the time that this century comes to an end. Meanwhile one non-European country at any rate — Japan — has proved itself fully capable of handling all the tools and machinery of Western industrialism. Only half a century ago Gilbert, desiring some completely comic country for his fantastic songs, chose Japan and gave us the Mikado. To-day it is the Japanese who have the laugh. According to the Huskissonian formula, the basic formula of the nineteenth century, that money should be allowed to find its own level, British money at the end of the last century and at the beginning of this flowed out from London to Japan. The exact figures of British investments there it was, and is, to the common interest of British financiers and the Japanese to conceal. The present writer once made inquiries of an eminent cotton statistician concerning the proportion of British money behind the Japanese cotton trade and received the answer, "No one knows except the Japs and they won't tell." But there is little doubt that substantially the original capital was entirely British and that to-day through the Hong-Kong and Shanghai Bank and other channels British capital is still pouring into Japan. As Mr. Feis puts it,(198) "The technical knowledge and equipment of the world were drawn upon, but the capital came mainly from Great Britain. By virtue of that capital no less than through its political alliance Great Britain may be said to have made a Great Power of Japan.... In London the capital was chiefly found to develop those agencies with which the Japanese Government exerted itself to create a strong modern industrial system."

Japanese industrialism is then the creature of the City of London, the industrialism of a people who do not produce in order that they may consume but to whom low costs of production are a weapon to be used for the overthrow of the white man's hegemony. Under the conditions of Cobdenite competition Japan's victory over the industry of Lancashire or of any other place in Europe is merely inevitable. As that most important Polish economist, M. Otto Bankwitz, wrote(199) in his report to the International Cotton Congress in August, 1933, "the European industry is powerless." He noted as the most important factor in post-War industry "the migration of industry from Europe and the United States to Asia." Before many years, if we continue to live our lives according to the canons of sound finance, we shall be faced with a situation unparalleled since Christendom began — with the situation that the centre of gravity of civilization has passed to a country in whose making the Christian tradition has played no part at all. Are we prepared to accept such a situation? Sentimentalists sometimes tell us that our troubles are due to the fact that, what with tariffs and quotas and restrictions, the old pre-War system is not allowed to function properly. Tariffs and quotas and restrictions are not in themselves lovely things, yet it is clear enough in truth that the only reason why we have survived at all is that the old pre-War system has not been allowed to function properly. Had it functioned properly we would have had no defence at all against the attack from Japan.

Most fortunately the United States, the greatest lending country of the post-War world, refused to play the game. The United States, in contrast to the Great Britain of before the War, was a highly protectionist country. Therefore foreign goods could not obtain admission there. Therefore, when the time came for her debtors to pay their debts, prevented from paying in goods, they could not but pay in gold. During the years between 1914 and 1922, to quote again from Mr. Peek's analysis, American exports exceeded their imports by so gigantic a figure that, though the Americans took over from foreigners investments in the United States to the value of $2,422 million, though they lent to foreigners no less than $17,083 million there still remained owing to them from abroad another $1,746 million which they could not but take in gold — about a sixth of the total monetary gold of the world.

Now, had the American gold standard of these years been the British gold standard of the nineteenth century, "the sterling standard," such a country as the United States would not have been protectionist at all. She would have been Free Trade and would have taken payments of her debts in goods. Had the exigencies of war prevented its debtors from paying in goods and compelled them to pay in gold, then she would have allowed that gold to have had its full monetary effect on the domestic market. She would have put it into circulation, thus causing an enormous domestic inflation and consequent rise in the American domestic price-level. Prices would have risen so high that, even in spite of the tariff, foreign goods would have come into America and undersold the native product, and the gold would then of course have flowed out again in payment for those foreign goods.

But the Americans, though they said that they were "on gold," neither used nor ever had any intention of using gold as the British had used it in the nineteenth century. Their concern was with a stable domestic price-level, and, therefore, when they found that gold was coming into their country so rapidly that, if allowed its monetary effect, it would drive up prices, they refused to allow it to have its monetary effect. They "sterilized" it. As a result, so far from the gold flowing out of America, during the remaining years of the 1920's more gold flowed into that country. Between 1923 and 1929 the United States increased her gold holdings by another $175 million. She only did not increase it by very much more because she only accepted payments on vastly the greater part of her debts by the time-honoured dodge of lending her debtors the money to pay with. On balance her foreign investments during these same years increased by $2,572 million.

Sir Robert Kindersley in his evidence before the Macmillan Commission said,(200) "America went on her bended knees, almost, to the rest of the world to adopt the gold standard — but no sooner had she got them to adopt it than she refused to allow it to work," and "Although New York professed to be on the gold standard she never really allowed the gold standard to work properly." But really little purpose is served by using such question-begging words as 'properly.' As the Federation of British Industries report to the same commission more sensibly put it,(201) "So far as the U.S.A. is concerned, the Federal Reserve Board, as far back as 1923, openly proclaimed its deliberate abandonment of the automatic pre-War gold standard with its regulation of the volume of credit by gold, and the substitution of a system of credit control designed primarily to promote the 'national' industrial and commercial development of the United States." That is to say, the Americans never pretended that they were going to play according to the rules of the nineteenth century system and, if anybody expected them to do so, he had only his own folly to blame.

What then did they want the gold for at all? What was the point of saying that you were "on gold" if your true policy was simply one of price stabilization? One is tempted to say that there was no point, and indeed there is some truth in such an answer. The main reason why the Americans insisted on this curious arrangement was a psychological and not a financial one. No American politician was willing to take the responsibility of advocating cancellation of America's foreign debts. At the same time no economist was willing to answer for the disruptive consequences on American life, if they were truly paid — that is, paid by the import of foreign goods. Therefore some trick had to be discovered by which they could be paid — both paid and not paid at the same time. The trick by which they should be paid in gold and the gold then buried under the earth was as good as another.

The present writer has been warned by one who holds a very distinguished position in the banking world that there is no more fatal error in the interpretation of financial history than to imagine that financiers have any far-sighted motives for their actions. The explanation of by far the greater part of the important financial decisions of recent years is quite certainly that those who have taken them have had but a small acquaintance with history, with psychology, or with economics, to say nothing of the laws of simple arithmetic. Yet there was a reason for American policy — a reason but little understood in England. That portion of popular opinion in America which at all understood what was happening favoured it for this reason. Among the masses of the Middle West there was but little feeling of cousinly love for the English. The Americans had in the end come into the War not because they liked the English but because they disliked the Germans. But, even when the necessities of co-operation in arms made it inconvenient to say so, their private opinion remained very much that which President Wilson expressed in the War's first days, when he said that there was not much to choose between the two combatants. To Middle Western opinion the Treaty of Versailles seemed a confirmation of President Wilson's judgment.

On the other hand, what the Western farmer did feel about England was that owing to her command of the machinery of credit she had been able to deprive Americans of the reality of independence for some 130 years after that independence had been won in arms. It is true that they did not draw a sufficient distinction between the City of London and the people of England, and talked about "English policy" in the same way that people in England were talking in equally preposterous generalizations about the "aims of Germany" or the "ambitions of Japan," but men always exaggerate the single-mindedness of distant countries of which they are ignorant.

The Great War had at last put America out of debt. For her it had indeed been a war of freedom, but it was not only from Potsdam that she had won her freedom. She had won it also from London. The main determination of wise Americans was never again to submit to the humiliation of being in foreign debt. Now the stage property with which London had played its confidence trick was gold. The pretence by which Governments were induced to prefer the bankers' paper to paper of their own printing was the pretence that the bankers' paper was a mere symbol for gold. Therefore the one certain way of preventing the City of London from reasserting its claim to dominate the world was to drain it of gold, or alternatively to compel it to repudiate.

The system established by the Americans in the years after the War must eventually have worked to this end. For not only did the English have to pay English debts to America; they had to pay the debts of other countries, too. For those countries, not possessing sufficient gold, were in no position to pay their debts in gold. They could only pay in goods. Now America, it is true, being a protectionist country, would not take their goods, but Great Britain, being still Free Trade, would take them. Therefore the policy of all the nations of the Continent was to dump all their cheap goods in Great Britain and to pay to America the British gold which they received in exchange for them. This suited the Americans well enough, for it made impossible the reassertion by the City of London of its historic claims. But the very fact that such was their objective proves that the American gold standard of the twentieth century, so far from being the same as the British gold standard of the nineteenth century, only existed at all for the purpose of making impossible the return of the British gold standard.

Now it was the boast of the nineteenth century sterling standard that, since it had erected a delicate machinery to prevent large fluctuations in the amount of gold in the country, it was able, while keeping the foreign exchange value of the pound stable, at the same time to give a reasonable stability of prices. How far the boast was justified has been discussed in previous chapters, but at any rate that was the boast — that was the argument for the nineteenth century sterling standard, and there was no other argument for it. If then we made Great Britain's monetary supply dependent on her gold-holdings at a time when there was a steady drain of gold to America, which the Americans were not allowing to have its monetary effect, then the gold standard, instead of giving the stability which under other circumstances it at least professed to give, would impose upon the country a necessary instability. It was not a question of balancing the advantages of a return to gold against the disadvantages; there were no advantages. Politicians made speeches about the pound being able at last to look the dollar in the face again; and it is true that the return to gold did, of course, fix the pound-dollar exchange rate. But what advantage was there in that when it was accompanied by a complete disorganization of the British internal price-level. The advantage of fixed exchanges is that our foreign customers will be the more ready to do business with us if they can calculate in certainty how much of their money will be required in order to obtain a given quantity of our money. But what advantage was it to an American customer to be completely certain how many English pounds he could get for his dollars if he had no notion at all how many English goods he could buy with his pounds?

It is indeed true that it would have been a grave disaster to Great Britain had her pound collapsed completely in the 1920's and gone the way of the German mark. But there was not the remotest prospect of that happening. Experience had completely shown that the stability of the pound was not in the least dependent on its pretended convertibility into gold. On the other hand, while there were no advantages in the return to gold under the circumstances of 1925, there were the very gravest disadvantages. It was inevitable that the next years must see a drain of gold from Great Britain to America, and, with the pound tied to gold, that drain must have a deflationary effect at home and produce the misery which invariably accompanies deflation. It is of course easy to be wise after the event, but the politicians cannot here plead that they were not forewarned of the consequences of their policy. For in July, 1924, the Federation of British Industries presented to the Cunliffe Commission a memorandum,(202) in which it claimed that the return to the gold standard and the consequent "immediate return to parity with the dollar ... would represent for us a measure of drastic deflation." It would, it said, raise the real value of our money by 10 per cent and the consequences of that would be: —

"(a) Serious temporary dislocation of trade and a probable increase in unemployment due to the effect of the certainty of a period of falling prices on producers, traders, and buyers:

"(b) A severe fall in British prices involving serious loss to all holders of stocks and commodities and on all who trade on borrowed money.

"(c) A serious industrial dislocation due to the necessity of reducing money wages by 10 per cent, which would in present circumstances seriously increase the difficulty of maintaining industrial peace.

"(d) A strong probability that a severe check would be administered to export trade since the improvement in the exchange value of sterling would be likely to precede and to move faster than the adjustment of internal prices.

"(e) An increase in the real burden of the National Debt as a result of revenue falling with prices, while interest charges would remain unaltered."

Mr. Baldwin, as Chancellor of the Exchequer under Mr. Bonar Law, had been responsible for the American debt settlement which made inevitable the drain of gold from Great Britain to America. As Prime Minister, he was responsible for restoring the country to the gold standard. Mr. Winston Churchill was the Chancellor of the Exchequer. The Governor of the Bank of England was the newly appointed Mr. Montague Norman, until recently associated with Brown, Shipley and Co., a City firm with American affiliations. The prediction of the Federation of British Industries was fulfilled in every detail. The return to gold was, as Mr. Keynes describes it in his Treatise on Money, "a rapid and cold-blooded deflation." As Mr. Montague Norman himself confessed before the Macmillan Commission "so far as the international position is concerned, we have been continuously under the harrow." At a time when science was clamouring as it had never clamoured before for the opportunity to enrich mankind by the exploitation of its inventions, the Bank of England put the Bank rate at 5½ per cent lest people should demand too much credit and thus make the gold standard insecure. As the depression deepened, the Bank replied in September, 1929, by moving the bank rate up to 6½ per cent.

By such methods of what one can only call desperate lunacy the British were able for a time to borrow back from the Americans the gold which they had paid to them, and throughout the 1920s the physical stock of the country's gold reserves did not vary greatly. They remained at round about £150 million. Yet with the increased quantity of goods even a constant gold reserve was not sufficient to keep prices stable, and from 1921 to 1929 British internal prices, taking 1913 as 100, ran, 197, 159, 159, 166, 159, 148, 142, 140, 137, whereas the American prices for the same years ran 140, 139, 144, 141, 148, 143, 137, 140, 138.(203) The British index moved sixty points while the American moved two. Nor was the effect of living on American loans any other than to make the British crash more sudden, and therefore worse, when it came. These loans could not in the nature of things be repaid so long as America had a high tariff. It was inevitable that the lenders would find this out sooner or later and recall their gold. They found it out after the slump of 1929, when the American gold reserve jumped from $4,284 million to $4,593 million. For a year the British were able to keep up their reserve by borrowing from France what they lost to America. Then owing to the Austrian troubles France got frightened and refused to lend any more. The British gold reserve sank from £148 million in 1930 to £121 million in 1931. Wholesale prices fell from 120 to 104, a National Government had to be formed and the gold standard to be suspended.

Naturally the result of these falling prices was exactly what the Federation of British Industries had prophesied that it would be. The Macmillan Report tells us that "Great Britain established a gold parity which meant that her existing level of sterling incomes and costs was relatively too high in terms of gold, so that, failing a downward adjustment, those of her industries which are subject to foreign competition were put at an artificial disadvantage." That is to say, to put the point in somewhat blunter language, the working-classes were offered their choice between lower wages or unemployment. In an earlier age, when trades unionism was less strong, advantage would have been taken of the dilemma to smash down their wages and to rob them of that advance in their standard of living which the necessity of rapidly attracting workers into munitions had gained for them. As it was, they resisted wage-reductions with the strike weapon — the General Strike and a number of particular strikes. Mr. Winston Churchill claimed that the return to gold was no more responsible for the troubles in the mining industry than was the Gulf Stream. But all serious students agreed with Mr. Keynes in dismissing the argument as "feather-brained."(204) And, while other Conservative politicians who had the good fortune to be ignorant of the laws of simple economics were able to assure their constituents that there was no intention of a general attack on wages, Lord Hugh Cecil, possessed of a brain and of a University constituency, pointed out the truism that there was no conceivable sense in going back to gold if there was not going to be such a general attack. The gold standard could not conceivably be made to work without lower wages, any more than the proverbial quart could be got into the pint pot. Public opinion was opposed to the General Strike but, in spite of the efforts of the finance controlled press, it remained unconvinced that in a world of rapidly increasing productivity drastic reduction of wages was the solution of the country's troubles. The dole made impossible any such reductions on a large scale, for it is not possible to pay the employed man less than the unemployed. Therefore the working class, while suffering a certain reduction of wages, received the greater part of their punishment in increased unemployment.

Yet a British deflation is much more than a domestic blunder; it is a world calamity. For Great Britain is by far the largest importer of food in the world, so that the world price of foodstuffs is settled by the price that can be paid on the London market. Now in a deflationary fall of prices the price of foodstuffs always falls much more steeply than those of manufactured goods, for the manufacturer can adjust his supply to the effective demand from week to week, but the farmer has to make his calculations a year before when he does not yet know how much purchasing power will be available to buy his products by the time that they come to the market. It is extremely difficult also to get co-operative action between all the farmers of the world to restrict production. And thus it is that a British deflation not only spreads unemployment throughout Great Britain. It spreads ruin throughout all the great food exporting countries of the world. This the policy of the British Government did.


197. Quoted by Morgan-Webb, Rise and Fall of the Gold Standard, p. 84.

198. Europe, The World's Banker, Feis, p. 422.

199. Quoted by Jeffrey Mark, The Modern Idolatry, pp. 158, 159.

200. Op. cit., Morgan-Webb, p. 83.

201. Ibid., p. 82.

202. Ibid., pp. 91-2.

203. Intelligent Man's Guide Through World Chaos, G. D. H. Cole, p. 194.

204. Essays in Persuasion, Keynes, p. 246.