Much to his delight, Émile Moreau had not had to miss the fall hunting season in Saint Léomer that year. By the last week of October 1929, he and Hjalmar Schacht were at the Black Forest spa of Baden-Baden attending an international bankers’ conference to finalize the Young Plan and draw up the by-laws of the newly created Bank for International Settlements. Schacht learned of the events on Wall Street when he happened to notice the American delegation looking especially glum on the morning of October 29 and could hardly contain his glee when he discovered the reason. To a visiting Swiss banker, he announced that he hoped that the coming chaos would finally put an end to reparations.
But of all the central bankers in Europe, Montagu Norman was the most relieved. The crash had arrived just in time to rescue sterling. Convinced that it had been the rise in British interest rates on September 26 that finally burst the bubble, he started claiming credit for the collapse. So relaxed was he about the events on Wall Street, that on the morning of October 29, Black Tuesday, while the financial world was falling apart, he kept his usual appointment for a sitting with artist Augustus John, who had been commissioned by the Bank of England to paint his portrait.
During the last week of October and the first weeks of November, George Harrison kept him in touch with developments on Wall Street by cable and transatlantic telephone, his voice drifting in and out under the usual atmospherics. On October 31, Harrison called to announce cheerfully that the market had pretty much completed its fall; the bubble had been pricked without a single bank failure.
For the first few months, things went according to plan. European stock markets dropped in sympathy with Wall Street, but not having gone up so much, they fell much less precipitously. While the U.S. market slid almost 40 percent, Britain’s went down 16 percent, Germany’s 14 percent, and France’s only 11 percent. Though the size of the British stock market was comparable as a percentage of GDP to that in the United States, the average British person preferred to bet on sports and left the stock market to the City bigwigs, while in France and Germany the size of the stock markets was tiny. Thus the crash did not exert the same hold on the psychology of European consumers and investors, and the effect on their economies was correspondingly less traumatic. Moreover, as credit conditions eased in the United States, foreign lending revived. Money suddenly became more freely available. Central banks across Europe, no longer having to defend their gold reserves against the pull of New York, were able to follow the Federal Reserve in cutting interest rates. By June 1930, with U.S. rates at their postwar low of 2.5 percent, the Bank of England was down to 3.5 percent, the Reichsbank to 4.5 percent, and the Banque de France to 2.5 percent.
Just as the threat of having to fight off an attack on sterling receded, Norman found himself harassed from another, and completely unexpected, quarter. In November 1929, a few weeks after the crash, the new British Labor government responded to criticisms about the endemically poor performance of the British economy by appointing a select committee under an eminent judge, Lord Macmillan, to investigate the workings of the British banking system. Half of its fourteen members were bankers; the remainder, an assortment of economists, journalists, industrialists, among them three of the staunchest critics of the gold standard: Maynard Keynes, Reginald McKenna, and Ernest Bevin of the Transport and General Workers Union, the country’s most formidable trade union leader.
In setting up this committee, the allegedly radical government had made it clear that the issue of whether Britain should remain on the gold standard should be kept off the table. Even Keynes, the unremitting critic of the mechanism and the strains it had imposed on the British economy, was ready to concede that it was a fait accompli and that departing from gold at this stage would be just too disruptive.
Nevertheless, the Bank of England—and especially Norman—approached the committee with great suspicion. Within the City, it had always been said that the motto of the Bank of England was “Never explain, never apologize.” That he and the Bank were now to be subject to the spotlight of public scrutiny filled him with dread. The committee began its hearings on November 28; Norman was to appear as one of the first witnesses, on December 5. As the date approached, his nervous ailments reappeared, and two days before he was due to testify, he predictably collapsed. His doctors recommended a short leave of absence and Norman duly departed for the next two months on an extended cruise around the Mediterranean, ending up in Egypt.
In place of Norman, the deputy governor, Sir Ernest Harvey, appeared. Even without its chief, the Bank found its habits of secrecy just too ingrained to abandon lightly. Consider this exchange between Keynes and Harvey:
KEYNES: “Arising from Professor Gregory’s questions, is it a practice of the Bank of England never to explain what its policy is?”
HARVEY: “Well, I think it has been our practice to leave our actions to explain our policy.”
KEYNES: “Or the reasons for its policy?”
HARVEY: “It is a dangerous thing to start to give reasons.”
KEYNES: “Or to defend itself against criticism?”
HARVEY: “As regards criticism, I am afraid, though the Committee may not all agree, we do not admit there is need for defense; to defend ourselves is somewhat akin to a lady starting to defend her virtue.”
Norman finally returned in England in February 1930 and agreed to provide evidence to the select committee. He was not a good witness. Witty and articulate in private, he became sullen and defensive in public settings, replying to the questions, which in deference to his position were never aggressive, in curt sentences and sometimes even in monosyllables. Unaccustomed to having to articulate his thought processes or justify himself, he said things that he did not mean or could not possibly believe, insisting, at one point, that there was no connection between the Bank’s credit policies and the level of unemployment. He appeared to be callous and indifferent to the plight of the unemployed, reinforcing the stereotype of bankers among the Socialists of the new government and the voting public who were getting their first glimpse of this man. Confronted with Keynes’s coldly precise questions, Norman seemed to be dull and slow, retreating behind platitudes.
Finally asked by the chairman what the reasons were for a particular policy decision, he initially said nothing but simply tapped the side of his nose three times. When pressed, he replied, “Reasons, Mr. Chairman? I don’t have reasons. I have instincts.”
The chairman patiently tried to probe further, “We understand that, of course, Mr. Governor, nevertheless you must have had some reasons.”
“Well, if I had I have forgotten them.”
Keynes would later describe Norman as looking like “an artist, sitting with his cloak round him hunched up, saying, ‘I can’t remember,’ thus evading all questions.” Norman testified for only two days—the bank’s senior staff realized that he was doing more harm than good, and the remainder of the testimony was passed back to the deputy governor. But the damage to Norman’s standing had been done. In the aftermath, one banker confided to his colleagues that the governor “grows more and more temperamental, freakish, and paradoxical.”
18. MAGNETO TROUBLE
1930-31
To what extremes won’t you compel our hearts,
you accursed lust for gold?
—Virgil, The Aeneid
IN December 1930, Maynard Keynes published an article titled “The Great Slump of 1930,” in which he described the world as living in “the shadow of one of the greatest economic catastrophes of modern history.” During the previous year, industrial production had fallen 30 percent in the United States, 25 percent in Germany, and 20 percent in Britain. Over 5 million men were looking for work in the United States, another 4.5 million in Germany, and 2 million in Britain. Commodity prices across the world had collapsed—coffee, cotton, rubber, and wheat prices having fallen by more than 50 percent since the stock market crash. Three of the largest primary producing countries, Brazil, Argentina, and Australia, had left the gold
standard and let their currencies devalue. In the industrial world, wholesale prices had fallen by 15 percent and consumer prices by 7 percent.
Despite all this bad news, at this stage Keynes was uncharacteristically sanguine. “We have involved ourselves in a colossal muddle, having blundered in the control of a delicate machine, the working of which we do not understand,” he wrote. Comparing the economy to a stalled car, he declared it was a simple matter of some “magneto trouble” (a magneto was a device then commonly in use for creating an electric spark in the ignition system of automobiles), trouble that could be easily cured by “resolute action” by the central banks to “start the machine again.”
There were in fact reasonable grounds for optimism. The downturn that had hit the United States in 1930 in the wake of the stock market crash had indeed been deep, but the U.S. economy had faced a similarly sharp decline in prices and production in 1921 and had bounced back. There had been as yet no major financial disaster or bankruptcy.
Keynes did recognize that it was hard for any single central bank to act alone. To jump-start the economy, a central bank had to have enough gold, the underlying raw material for credit creation under the gold standard. The international monetary system was now operating, however, in a very perverse way. Because of investor fear, capital in search of security was flowing into those countries with already large gold reserves—such as the United States and France—and out of countries with only modest reserves—such as Britain and Germany.
As it had been during the 1920s, the United States was major haven for gold flows. Far more damaging than the effect of the protectionist Smoot-Hawley Act was the collapse in capital flows. After a brief revival early in 1930, U.S. foreign investment into Europe suddenly dried to a trickle. American bankers became risk averse and cautious and, claiming that it was hard to find creditworthy borrowers, pulled in their horns. With American capital bottled up at home and U.S. demand for European goods shrinking—a result of the weak U.S. economy and of higher import tariffs imposed in June 1930 by the Smoot-Hawley Act—Europe could only pay for its imports and service its debts in gold. During 1930, a total of $300 million in bullion was shipped across the Atlantic into the vaults of the Federal Reserve system.46
Even more disruptive to international stability, however, was the flow of gold into France, the one country in Europe that had somehow remained immune from the world economic storm. Émile Moreau’s strategy of keeping the franc pegged at a low rate had meant that French goods remained attractively priced. As a result the economy held up very well in 1929 and 1930, and capital, in search of safety, started flooding into France: a total of $500 million of gold during 1930. It was one of the startling ironies of that whole period that France, viewed by bankers in the years after the war as irresponsible and suspect, had now become the world’s financial safe haven. By the end of 1930, the Banque de France, in addition to the $1 billion it held in sterling and dollar deposits, had accumulated a gold reserve mountain of over $2 billion, three times that of the Bank of England. French officials, who only a few years before had been quick to blame their woes on the work of international currency “speculators,” now began touting the superior wisdom of these selfsame “investors” for the votes of confidence they had cast on French economic management.
While everywhere else in the global economy consumers and businesses were cutting back and slashing their budgets, in France, money remained easily available and people continued to spend. French commentators were calling their country L’Île Heureuse. In the summer of 1930, Paris was still full of tourists, and business at Au Printemps, the famed Parisian department store, was booming. The contrast with its neighbors could not have been greater. While in Germany 4.5 million men were on the dole and in Britain 2 million, in France only 190,000 men were collecting unemployment benefits. And while prices across the rest of the world were dropping like stones, in France they continued to rise.
Quite without knowing what it was doing, France had backed into the position of the strongest economy in Europe. After a decade of suffering an inferiority complex created by the combination of “the war . . . fear of Germany [and] the franc’s fall,” it responded to its unexpected good for-was tune with an outburst of self-congratulation. According to the prime minister, André Tardieu, France, having successfully navigated the economic storm, was admired by the whole for its “harmonious economic structure . . . the natural prudence of the French people, their ability to adapt, their modernity and their courage.” Tardieu, with his bejeweled pince-nez and his gold cigarette holder, his boulevardier taste in silk hats and fancy waistcoats, his fondness for raffish company, his involvement before the age of thirty-five in at least two financial scandals, was the embodiment of all that the British despised about French politicians. That this “glittering new embodiment of Gallic self confidence” could now lecture the world about prudence and indulge in his nation’s habit of attributing its successes to the innate and inestimable advantages of French civilization profoundly irritated France’s neighbors.
FIGURE 6
British commentators, unable to understand why commodity prices kept falling, why, despite the massive cuts in interest rates, production in their own country kept dropping and unemployment rising, blamed the operation of the gold standard as the primary cause of world depression, especially the role played by the Federal Reserve and the Banque de France. By the end of the year, the United States and France, between them, held 60 percent of the world’s gold, and neither was doing anything to recirculate it.
The French came in especially for blame for starving the world of liquidity by short-circuiting the gold standard mechanism. Paul Einzig, author of the influential Lombard Street column for the Financial News, wrote that it was “the French gold hoarding policy which brought about the slump in commodity prices, which in turn was the main cause of the economic depression; that it is the unwillingness of France to cooperate with other nations which has aggravated the depression into a violent crisis.” Similarly, the prominent Swedish economist, Gustav Cassell, the primary exponent of the view that world deflation in commodity prices reflected insufficient circulation of gold, argued, “The Banque de France has consistently and unnecessarily acquired enormous amounts of gold without troubling in the least about the consequences that such a procedure is bound to have on the rest of the world, and therefore on the world economic position.”
By the end of 1930, the Banque de France had begun to understand that this accumulation of gold was harming the rest of the world by starving it of reserves. It was especially damaging because of the idiosyncrasies of the French banking system. In most countries, banks worked to make every dollar of gold support a multiple of that amount in currency and credit. The French banking system, however, was unusually inefficient in putting its bullion to use. As a result, the newly arrived $500 million of gold was translated into less than $250 million in circulating currency.
French officials claimed that there was little they could do about this buildup, that the high demand for gold in France was a consequence of the rural character of the country or the innate thriftiness and risk aversion of its citizenry. In fact, it was clear that during 1930, the Banque under Émile Moreau had been very consciously and deliberately offsetting—the technical term was sterilizing—the natural tendency of an influx of gold to expand the currency, lest it lead to inflation. With prices around the world collapsing, this may sound strange, but it was a symptom of how badly scarred he and other French officials had been by the currency crises of 1924 and 1926.
Unknown to most people, much of the gold that had supposedly flown into France was actually sitting in London. Bullion was so heavy—a seventeen-inch cube weighs about a ton—that instead of shipping crates of it across hundreds of miles from one country to another and paying high insurance costs, central banks had taken to “earmarking” the metal, that is, keeping it in the same vault but simply re-registering its ownership. Thus the decline in Britain’s go
ld reserves and their accumulation in France and the United States was accomplished by a group of men descending into the vaults of the Bank of England, loading some bars of bullion onto a low wooden truck with small rubber tires, trundling them thirty feet across the room to the other wall, and offloading them, though not before attaching some white name tags indicating that the gold now belonged to the Banque de France or the Federal Reserve Bank.47 That the world was being subject to a progressively tightening squeeze on credit just because there happened to be too much gold on one side of the vault and not enough on the other provoked Lord d’Abernon, Britain’s ambassador to Germany after the war and now an elder statesmen-economist, to exclaim, “This depression is the stupidest and most gratuitous in history.”
As the French hoard kept piling up during the summer and fall of 1930—and with it tensions between Britain and France—the French went through the motions of proposing remedies. The return of French gold policy to the forefront of economic debate was too much for Norman. He happy to deal with the Americans, but having had his fingers burned by his experience with Moreau in 1927, he absolutely refused to have anything to do with French officialdom.
Instead, he wisely left it up to the British Treasury to try to negotiate with their counterparts in the Ministry of Finance. These conversations led nowhere. Indeed, they brought out the worst in the characters of both countries. The British insisted upon patronizing lectures on the primitive nature and deficiencies of the French banking system, without any sense that they themselves would have found such advice from abroad intrusive and insulting.
Lords of Finance Page 39