On Saturday, August 22, the Morgan partners assembled at the house of F. D. Bartow in Glen Cove, Long Island, and after a long weekend of debate, gave the budget their blessing on Sunday afternoon. A telegram signaling their approval, its language suitably camouflaged to hide any hint that the budget had been submitted to the American bankers for vetting, was dispatched to Sir Ernest Harvey, deputy governor of the Bank of England, anxiously waiting at his City office. It arrived at 8:45 p.m. London time. He rushed it over personally to 10 Downing Street, outside which a large crowd had gathered as it always did at a time of national emergency—the street was littered with cigarette boxes, burned matches, paper bags, and newspapers. It was a balmy summer evening and the cabinet members were in the garden, nervously pacing around. When Harvey arrived, the prime minister snatched the telegram from his hands and rushed toward the Cabinet Room. Minutes later, the sound of angry voices emerged. To Harvey it seemed that “pandemonium had broken loose.”
Despite the promise of Morgan money, the cabinet remained split over the cuts in unemployment benefits, and that evening the prime minister went to Buckingham Palace to tender his government’s resignation. Two days later, the Daily Herald, official organ of the Labor Party, believing erroneously that the telegram had come from the Fed and not from Morgan, carried a photograph of George Harrison on its front page under the headline “Banker’s Ramp,” a ramp being a fraudulent move by financiers to manipulate the market. Within Britain, it remained an article of faith among left-wingers that the Labor government had been deliberately undermined by American fat-cat bankers opposed to socialism.
Within three days, a new National government, a coalition of fragments of Labor and the Liberals with a united Conservative Party, assumed office led by MacDonald and introduced much the same budget package that had split the previous ministry. In addition to cutting the dole by 10 percent, at the king’s insistence his Civil List, the provision by the state for his expenses, a total of $2.25 million a year, was also reduced by 10 percent. Other members of the royal family copied his example, the Prince of Wales even returning $50,000 of his income of $300,000 from the Duchy of Cornwall. No one knows whether the next time George V and his friend Jack Morgan went out shooting, the topic of the loan and the king’s economies ever came up in conversation.
On August 28, the British government received a $200 million loan from a consortium of American banks led by Morgans and a further $200 million from a group of French banks. It was gone within three weeks. The budget cuts did no good, largely because they were beside the point. A reporter for the British left-wing magazine New Statesman and Nation tried to describe the issue in the simplest of terms, as follows:What the City did in fact was to borrow from the French at 3% in order to lend to the Germans at 6% or 8%. Then came the crash in Vienna; the Bank [of England] lent money. Next the crash in Berlin, and again the Bank [of England] lent money. The French thereupon had a vision: they saw the various banks. Austrian, German, and English tied together like Alpine climbers above the abyss. Two of them had tumbled over; might they not drag the third with them? Acting on this vision they started a run on the Bank of England; in plain words they called in their deposits. . . . The “dole” has nothing to do with it.
In other words, Britain’s problem was not its budget deficit, but rather that it had clung to the role of banker to the world without any longer having the money or the resources to do so and at a time when most of the world was a damn poor risk.
It was by now increasingly obvious to most observers that Britain would have to cut loose from gold. Back from America on July 18, Maynard Keynes, in a private letter, warned the prime minister, “It is now clearly certain that we shall go off the existing parity at no distant date . . . when doubts as to the prosperity of a currency, such as now exist about sterling, have come into existence, the game’s up.” In a series of magazine articles he argued that the deflationary budget cuts would only make the situation worse, describing them in a meeting with parliamentarians as “the most wrong and foolish things which Parliament has deliberately perpetrated in my lifetime.” Even though he made an effort to be restrained in his public criticism of the Bank of England, recognizing that it would only add to the currency’s problems, on August 10, Harry Siepmann invited him to the Bank to persuade him to tone down his writings. In fact, by now even such Bank men as Siepmann were losing faith. According to one visiting New York Fed official, Bank officers “admit quite frankly that the way out is for England and most of the other European countries to go off the gold standard temporarily, leave France and the United States high and dry, and then return to gold at a lower level.”
The UK Treasury became the last bastion of the diehards. When a journalist even raised the question at a press conference there of whether Britain could or should remain on a gold standard that had become unworkable, required Britain to borrow gigantic amounts of money to sustain it, and was imposing intolerable sacrifices on the great mass of people, Sir Warren Fisher, head of the civil service and permanent secretary to the treasury, “rose to his feet, his eyes flashing, his face flushed with passion,” and berated the journalists as if he had caught them “exchanging obscenities.” “Gentlemen, I hope no one will repeat such sentiments outside this room,” he scolded. “I am sure all those of you who know the British people will agree with me that to make such a suggestion is an affront to the national honor and would be felt as a attack on their personal honor by every man and woman in the country. It is quite unthinkable.” Meanwhile, the flight from sterling continued unabated.
Among the new government’s economy measures were pay cuts for all public employees, including the military. Within the navy, a flat shilling a day was taken from the pay of all ranks from admirals to ordinary seamen. Not surprisingly, this provoked enormous resentment among the lower decks at the unfairness of the differential burden so imposed. On September 14, a group of sailors of the Atlantic Fleet at Invergordon refused to muster and put to sea. It was a minor incident of no great significance but was reported in the foreign press as a mutiny, conjuring up the image that Britain was on the verge of revolution and that that last bastion of empire, the Royal Navy, was falling apart.
By now the Bank was losing $25 million of gold a day. Ministers kept leaking the figures on reserves to their cronies on the backbenches, who promptly passed them along to City speculators. On Thursday, September 17, the losses rose to over $80 million and similarly the following day. Since the crisis had begun, the Bank had watched $1 billion fly out of the window.
On Saturday, September 19, the British government made a last desperate plea to the Hoover administration for help. An emotional Stimson, a great Anglophile, called the British ambassador to the White House, to explain that every possible avenue for helping Britain had been explored, including further reductions in war debt, but that the United States was helpless. That weekend, the prime minister, after meeting with the officials of the Bank of England, took the decision to suspend gold payments.
A telegram was dispatched to Norman, then in mid-Atlantic aboard the HMS Duchess of Bedford, on his way home from Canada but still two days from shore. He had not taken his codebook and the radio message had to be sent on an open line. There is a wonderful but apocryphal story that to disguise the message, the deputy governor wrote, “Old Lady goes off on Monday.” Puzzled by this cryptic note, Norman assumed that it referred to his mother’s plans to go on holiday and thought nothing further of it.
The real story is almost as good. The cable in fact read, “Sorry we have to go off tomorrow and cannot wait to see you before doing so.” Norman assumed that it meant Harvey was going to be away on the day of his return to Britain. He only discovered the truth when he landed at Liverpool on Wednesday, September 23. After meeting with the prime minister, he departed for a long weekend in the country to get over the shock. As his friend Baldwin put it indelicately, “Going off the gold standard was for him as though a daughter should lose her virginity.�
� But, for all his anger, it is hard to see what he would or could have done differently had he been around.
The initial public reaction that week was one of alarm and astonishment. Few people understood what it meant. Most newspapers lamented it as the end of an epoch. Only the Daily Express, organ of that clear-sighted financial adventurer Lord Beaverbrook, called it a victory for common sense. “Nothing more heartening has happened in years . . . we are rid of the gold standard, rid of it for good and all, and the end of the gold standard is the beginning of real recovery in trade,” he beamed.
The Sunday Chronicle of September 20 carried a profile of Montagu Norman by Winston Churchill, as part of a commissioned series on contemporary figures. Since leaving office in June 1929, Churchill had quarreled with his Conservative colleagues over Indian self-rule and, now isolated and out of favor, felt free to express his disillusionment with the gold standard orthodoxy openly. The problem was not so much the standard itself, he argued, but the way it had been allowed to operate. It was the hoarding of gold by the United States and France and the resulting shortage in the rest of the world that had brought on the Depression. He had begun to sound almost like Keynes—in a speech to Parliament the week before he had described how gold “is dug up out of a hole in Africa and put down in another hole that is even more inaccessible in Europe and America.”
That weekend Churchill had the star of The Gold Rush, Charlie Chaplin, as a guest at Chartwell, his country house in Kent—they had met in Hollywood when Churchill was visiting the United States in October 1929 at the time of the crash. Over dinner Chaplin opened the conversation by saying, “You made a great mistake when you went back to the gold standard at the wrong parity of exchange in 1925.” Churchill was somewhat taken aback. As the film star proceeded to hold forth at length about the subject with a great deal of knowledge, Churchill, who hated to be reminded of past mistakes, sank into a morose silence, a mood broken only when the comedian picked up two rolls of bread, put two forks in them and did the famous dance from the movie.
The next day, Monday, September 21, the first day off gold, by an odd quirk of fate, Churchill lunched with Maynard Keynes, now an ally and friend. Churchill spent much of the time protesting that he had never been in favor of returning to gold in 1925 and been overridden by Norman and the rest of the City. For Keynes it was a day of celebration and not regret. He could hardly contain his glee, “chuckling like a boy who has just exploded a firework under someone he doesn’t like.” “There are few Englishmen who do not rejoice at the breaking of the gold fetters,” he wrote in an article later that week. “We feel that we have at last a free hand to do what is sensible. . . . I believe that the great events of the last week will open a new chapter in the world’s monetary history.”
But among bankers, especially European bankers, the British departure from gold was seen as an utterly dishonorable step, a “tragic act of abdication” that “inflicted heavy losses on all those who had trusted” the word of the Bank of England. Within a few days the pound had fallen by almost 25 percent in the foreign exchange markets from $4.86 to $3.75. By December it was a little below $3.50, a drop of 30 percent. Altogether twenty-five countries followed Britain off gold during the next few months, not only the nations of the empire and its satellites Canada, India, Malaya, Pales-tine, and Egypt, but also the Scandinavians—Sweden, Denmark, Norway, and Finland—and finally those European countries with close commercial ties to Britain: Ireland, Austria, and Portugal.
Though the papers kept telling him that it was the end of an era, for the average Englishman, after a few days of stunned confusion, it was as if nothing had happened. There were no bank runs, no food shortages, no rush to the stores, no hoarding of goods. Indeed, while wholesale prices in the rest of the world would continue to fall, dropping 10 percent over the next year, in Britain deflation came to an end—prices over the next year even rose a modest 2 percent.
The one group who received a big shock was the small number of British people traveling abroad. Time magazine recounted how one man in an Old Etonian tie was sufficiently incensed at being offered only $3 for his pounds in New York—a “hold-up,” he called it—that he stormed off muttering, “A pound is still a pound in England. I shall carry my pounds home with me.”
The recriminations began almost immediately. Snowden in his speech to the Commons on September 20 blamed the debacle on the gold policies of the United States and France. Though Americans came in for their fair share, the greatest vituperation was reserved for the French. Margot Asquith, in a letter to Norman wishing him well on his return, captured the country’s mood when she wrote, “France will be heavily punished for her selfish short-sightedness. She has been the curse of Europe. . . .” Ironically, the one institution upon which the devaluation wrought disaster was the Banque de France. For years an urban myth insisted that it had been French selling of the pound that had set off the debacle. In fact, the Banque had hung on to every penny of its $350 million in sterling deposits. So supportive had it been during the crisis that Clément Moret was later named an honorary Knight Commander in the Order of the British Empire. The Banque de France ended up losing close to $125 million, seven times its equity capital. A normal bank would have been driven under.
Other central banks, especially those of Sweden, the Netherlands, and Belgium, that had been persuaded during the 1920s to keep part of their reserves in sterling lost enormous amounts. The Dutch central bank lost all its capital—the bitterness ran particularly deep because a few days before the devaluation, its governor, forgetting that only simpletons ask a central banker about the value of his currency and expect an honest answer, had inquired whether his deposits were safe and had been unequivocally reassured. Norman was so embarrassed by the losses sustained by his fellow central bankers that he contemplated submitting a letter of resignation to the BIS. It would have been a quaintly anachronistic gesture—like an ashamed bankrupt resigning from his club—but he was persuaded that it would be impractical for the institution to operate without a Bank of England presence at its meetings.
No ONE HAD done more to prop up Europe that summer than George Harrison. It must have seemed to him at times that he had spent most of the summer on transatlantic telephone calls—at the height of the Central European crisis he and Norman must have spoken on the phone, not a simple matter in those days, more than twenty-five times. After the first Austrian loan back in May, when few could have foreseen how far the panic would go, the Fed had provided the Reichsbank with $25 million, been ready to throw in a mammoth $500 million for the second loan that never got off the ground, supplied a further $250 million to the Bank of England, and, finally, been instrumental in orchestrating the last $200 million loan from the Morgan consortium to the British government. It had all been to no effect. Europe’s problems had proved to be much deeper, and its needs far larger, than the Fed was capable of handling.
After Britain left the gold standard, the financial crisis now spread across the Atlantic. Over the next five weeks, Europeans, fearing that the United States would be next to devalue, converted a massive $750 million of dollar holdings into gold. While some popular accounts attributed the outflow of gold to “panicky millionaires” and speculators hoping to make a buck from such a collapse, it was not private investors who were principally behind the flow but European central banks, the largest single mover of capital being the staid and upright Swiss National Bank, which transferred close to $200 million. The National Bank of Belgium moved $130 million; the already badly burned Netherlands Bank, $77 million; and the Banque de France, $100 million. Having lost its capital seven times over during the sterling devaluation out of a misplaced sense of “solidarity and politeness”—Governor Moret’s words—and having been rewarded with a campaign of public vilification in Britain, the Banque de France had learned its lesson. The cost of being a responsible global citizen was just too great.
The outflow of gold came at a particularly crucial juncture for the U.S. banking
system, then reeling under the wave of failures that had begun in the spring in Chicago. By September, the panic had swept Ohio and was circling back to Pittsburgh and Philadelphia. A committee of prominent Philadelphians, including the president of the University of Pennsylvania, the cardinal archbishop, and the mayor, published an appeal in the newspapers urging faith in local banks. To no avail—39 banks in the city with over $100 million dollars in deposits were forced to close down. In one month alone after the British departure from gold, 522 American banks went under—by the end of the year, a total of 2,294, one out of every ten in the country, with a total of $1.7 billion in deposits, would suspend operations.
The mounting bank failures intensified hoarding—$500 million dollars in cash was pulled from banks. While most of this was stashed away in traditional hiding places—socks, desks, safes, strongboxes under the bed, deposit vaults—some found its way to very unconventional spots, including, according to a congressional report, “holes in the ground, privies, linings of coats, horse collars, coal piles, hollow trees.” Anywhere but bank accounts.
The Fed had begun 1931 with a massive $4.7 billion in gold reserves. Even after the fall outflow, it had more than enough bullion and was never at any risk of being stripped bare as the Bank of England or the Reichsbank had been. Nevertheless, because of a strange technical anomaly in its governing laws, it found itself facing an artificial squeeze on its reserves.
By statute, every $100 in Federal Reserve notes had to be backed by at least $40 in gold, the remaining $60 by so-called eligible paper—that is, prime commercial bills used to finance trade. Even though the Federal Reserve banks were permitted to hold government securities, and the buying and selling of such securities—open market operations—was one of the mechanisms by which the Fed injected money into the system, government paper could not be employed as an asset to back currency. Even when first introduced in the original 1913 legislation setting up the Fed, the restriction had been redundant, since the 40 percent gold requirement was enough to prevent the central bank from being used as an instrument of inflation. By 1931, with no risk of inflation—the country in fact facing a problem of deflation—the restriction served no purpose. Nevertheless, it remained obstinately on the books.
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