To Arms

by Hew Strachan

  This, then, was the background to the tripartite allied conference on finance held in February 1915. At that meeting the French and Russians, albeit reluctantly, supported the British lead on the gold exchange standard.456 The Russians, for their part, got about half of what they wanted but more than the British Treasury thought they needed—£25 million and 625 million francs.

  The Russians were proved right. On Kitchener’s suggestion the War Office set up a Russian purchasing committee in May 1915. Running in parallel with the Commission Internationale de Revitaillement, its job was to channel orders for munitions to the United States on Russia’s behalf. But Russia persisted in buying outside both organizations. So great were Russian demands that a fresh loan was needed by June, and pressure on Britain to export gold to America followed in July. During the late summer orders were processed without the credit to fund them. On 30 September the British agreed to advance the Russians £25 million per month for the next twelve months. The money was secured by Russian treasury bills, but Petrograd was to be prepared to ship £40 million in gold within twelve months. The threat to the rouble caused by the export of gold was to be offset by a British credit of £200 million, on the basis of which new paper money could be issued. The agreement thus marked a further meshing of Entente finances. The Russians accepted that their gold could be advanced for the purposes of securing the credit of the whole Entente—not just of Russia—in the United States; they also acknowledged—in principle, if still not in practice—that they had no powers to purchase munitions abroad on a unilateral basis. Britain, for its part, had sacrificed long-term financial prudence for immediate victory.457

  Bark, his negotiations in London complete, then crossed over to Paris at the beginning of October. His demands of the French were exorbitant, but he had most, if not all of them, met. He put Russia’s needs at 1,500 million francs over the next twelve months. This total included provision for municipal loans, for the acquisition of foreign exchange for trade and industry, and for the maintenance of credits in Italy. In exchange he offered a hypothetical condition— the shipment of wheat and alcohol on the assumption that the Dardanelles would be reopened. Ribot refused to support Russia’s Italian borrowing but he did accept the rest, for all its lack of direct application to the war effort. On 4 October 1915 Bark was given 125 million francs a month by France—a rate of payment endorsed in July 1916 and sustained until November 1917.458

  The irony of Russia asking France to support its borrowing in Italy cannot have been lost on Ribot. Italy entered the war on the Entente’s side on 24 May 1915. By the time of Bark’s request the Entente had already had to come to terms with the indigence of its new ally. Indeed, both Britain and France had used the offer of loans from the outset in their wooing of Italy. Thus they accepted, at least implicitly, that if Italy waged war it would be at their expense. What was surprising was the low price Salandra, the Italian prime minister, put on Italy’s entry on the Entente side. He demanded £50 million, a figure arrived at without discussion with the Ministry of Finance. Its small size reflected Salandra’s conviction that the war would be short, and that Italy’s primary objectives—not to be forfeited to requirements generated by financial necessity—were political and territorial. Nobody pretended that it was likely to be adequate.459 By the end of the financial year 1918/19 Italy owed Britain £412.5 million.460

  Italy had had a healthy balance of payments in August 1914, but by April 1915, even before its entry to the war, its holdings of foreign exchange were running low. The war demands of the belligerent nations had meant that for the first time exports had exceeded imports. Nonetheless, the total volume of trade had declined, and the visible surplus was not sufficient to offset the loss of invisible earnings. Tourism, a major earner of foreign exchange for Italy, collapsed with the outbreak of war. More serious still was the decline in remittances from Italian emigrants. In 1913 these totalled 828 million lire; by 1915 they had fallen to 497 million lire, or 390 million in 1913 prices. Much of the fall was in US dollars, and was not balanced by any compensating increase in exports to America.461 Italy tried to float treasury bonds on the American market in the autumn of 1915, but found themselves cutting across the negotiations of their more senior Entente partners, and had to be content with $25 million raised in October 1915.462

  Italy’s principal pre-war creditor was France. In 1911–12 the latter recovered about three-quarters of Italy’s foreign debt repayment, and in 1914–15 France used this status in its bid to break down Italian neutrality. But the leverage vouchsafed France by its money market diminished as Italy increased its ability to contract debt at home: in 1909–10 only 11.8 per cent of Italy’s debt was placed abroad, as opposed to nearly half in 1892–3. Furthermore, the balance of French loans was skewed to public funding rather than to private investment; here Germany was an increasingly important player. France therefore saw Italy’s decision to join the Entente as an opportunity to re-establish its suzerainty over Italian finance. Its efforts focused on the Banca Commerciale Italiana, which in 1914 had eleven German directors to four French, although Frenchmen were responsible for six times more business than were Germans. By the end of 1915 France had two plans—one drawn up by a banker, Guiot, and driven by financial considerations, and the other developed by an industrialist, Devies, of Creusot. The Foreign Ministry went for Devies’s scheme, principally because it could not agree on Guiot’s. Its objective was to gain control of the Banca Commerciale Italiano, and then to establish a Franco-Italian industrial consortium as a basis for cornering the Italian import market for France. But Germany’s pre-war influence in Italian finance was a paper tiger; Italy, with seventeen directors, already dominated the board of the Banca Commerciale Italiano, and it had no intention of using its escape from Germany’s thrall (if such it was) to resubordinate itself to France’s. Italian industry boomed on the back of the war, and it did so in conjunction with a banking sector that was increasingly independent of foreign influences. France failed in its bid to re-establish pre-eminence in post-war Italian industry, and the focus of its efforts diverted it from a primary role in funding Italy’s war effort. That responsibility passed to Britain.463

  The terms agreed between Britain and Italy in Nice on 5 June 1915, a month after Italy’s formal entry to the Entente, reflected the principles thrashed out by the three original partners in Paris in February. Italy, to its surprise, was required to transfer £10 million in gold to the Bank of England. In addition it deposited sterling treasury bills to the value of £50 million; the British then sold treasury bills for the same amount on the London market. The total credit of £60 million was made available at the rate of £2 million per week. The funding was therefore deemed sufficient for about seven months.

  In fact it was in November 1915 that Italy’s monthly credit was increased from £8 million to £10 million with effect from April 1916. As in their earlier negotiations, Britain insisted on a deposit of gold—a tenth of the total. Revealing of new pressures, however, were the restrictions on Italy’s use of the money in the United States. Not more than £65 million could be spent in America, and Britain reserved the right to reduce Italy’s dollar credits after March 1916 in the event of London being unable to procure sufficient loans in New York.464

  The machinery of Entente finance that evolved in 1915 therefore rested on a fundamental premiss—that of British credit in international markets, and specifically in the largest neutral market, New York. Thus, while Britain and France extended loans to Russia and Italy, they in their turn had to seek advances from the United States. France’s experience over the first year of the war suggested that this would not be straightforward.

  On 3 August 1914 the French government approached Rothschild’s in Paris and J. P. Morgan in New York about the possibility of placing a loan for $100 million in the United States. Morgan’s advised against. Both the fall of European trade and the sale of European stocks on the outbreak of war suggested that the American market was not primed to rea
ct positively. These commercial causes for hesitation were reinforced by political factors. William Jennings Bryan, the secretary of state, argued that loans to the belligerents were incompatible with American neutrality. He saw money as the most powerful contraband of all, since it directed all other commodities, and he feared that once Americans invested their wealth in the outcome of the war their loyalties would be divided, domestic disharmony would follow, and the United States itself might be propelled into hostilities.

  In October the French government renewed its efforts in a much more modest form. It approached the head of the National City Bank, a Frenchman called Maurice Léon, with a view to placing £10 million in French treasury bonds. Léon consulted Bryan’s subordinate, Robert Lansing. Lansing’s response was predicated not on political principle but on financial self-interest. He argued that, if the United States blocked the belligerents’ efforts to get credits, they would take their trade elsewhere and the American economy would remain depressed. He saw no incompatibility between neutrality and the private issue of bank loans to belligerents; America’s objection was to the public flotation of government stocks. Thus, the National City Bank loan went ahead, and an important precedent was set.465

  By the beginning of 1915 the contribution to American economic recovery of allied orders for munitions and other supplies was manifest. Between August and December 1914 French payments in America averaged 53.8 million francs a month; in February 1915 they rose to 76.9 million, in March to 135 million, and in April to 186 million.466 British imports from America in 1915 were 68 per cent greater by volume and 75 per cent by value than they had been in 1913; they cost £237.8 million.467

  To administer these orders, and to prevent confusion and competition between government departments, Britain appointed J. P. Morgan and Company as its sole agent in January 1915. Morgan’s took a 2 per cent commission on the net price of all goods up to £10 million, and 1 per cent thereafter. To some the appointment seemed perverse: finance, not purchasing, was Morgan’s forte. These doubts were allayed by the fact that it was indeed as financial agents that Morgan’s fulfilled their most important services. Their attraction to Britain was their combination of Wall Street expertise and Anglophilia. As they emphasized discount business rather than the integration of industry and investment banking, their style and expertise accorded with British practices. Their profits derived from the flotation of loans, not from securing a niche for American exports. Thus, they were not exploiting Britain’s short-term need in order to undermine Britain’s long-term economic position. Others in America, particular Frank Vanderlip of the National City Bank, took a diametrically opposed line. But until 1918 it was the Morgan’s approach which dominated American finance.468

  With associated firms in London (Morgan Grenfell) and Paris (Morgan Harjes), Morgan’s were well poised to represent the interests not just of Britain but of the Entente. Lloyd George pressed this point on Ribot in the aftermath of the February 1915 conference. As a result France agreed on 1 May to appoint Morgan’s as its representative, but the relationship never became as close or as comprehensive. France appreciated full well how handsomely Morgan’s was doing out of the Entente’s needs. Between May 1915 and November 1918 Morgan’s handled 2,445 French contracts, worth a total of $1,073.2 million, and paid out £18,000 million on behalf of the British. Octave Homberg was convinced that the cushion provided by their Entente contracts prevented Morgan’s taking sufficient initiative on their clients’ behalf. He accused them of favouring firms to which they were financially linked and of failing to increase their staff in line with the increase in business for fear of reducing their profits. In 1917 both governments reflected these criticisms by increasingly representing their own interests—France through Homberg himself.469

  The basis of the French dislike of Morgan’s was established in March 1915. Ribot sought to place $50 million in treasury bonds in America. Morgan’s and the National City Bank were both keen to act, but proposed to buy the bonds in francs and sell them in dollars so as to elevate their own commissions. Ribot rejected their terms. The two banks, now joined by the First National Bank, came back, agreeing to take $25 million in French treasury bonds and to offer a further $25 million at option. Only $1.2 million of the second instalment was subscribed, despite the fact that France was paying a higher rate of interest (5.5 per cent) than that prevailing in the United State (4.5 per cent). French government credit was thereby impugned. Ribot’s solution in June 1915 was to use French holdings of US railway stocks as security. Not only did Ribot raise $42 million in this way, but he also did so on very advantageous terms: he borrowed from the Banque de France at 1 per cent to buy shares selling at up to 4.56 per cent. In September he repeated the formula through Kuhn Loeb, and raised a further $2.5 million.470

  Despite the eventual success of this operation, France never took a tight grip of foreign securities and thus failed to maximize their use in generating foreign credits. This caused particular annoyance in Britain. France’s foreign investments in 1914 were as high as half those of Britain, but during the war it sold only 8 per cent of its entire foreign security portfolio. Part of the problem was that France’s foreign investment was concentrated in the wrong places— countries like Russia where payments were slowed or blocked by moratoriums, and where military self-interest worked against their withdrawal. Not enough had been invested in the United States. But a further significant factor was France’s reluctance to coerce the market. Thus, 30 per cent of privately held dollar securities still remained in individual ownership at the war’s end.471 Fear that restrictions on the market would forfeit France’s international status circumscribed policy. Between 1915 and 1917 efforts focused on preventing the settlement in Paris—through the mediation of neutral banks—of shares held by the Central Powers. Even in 1917 French citizens holding neutral shares came under no more than moral pressure to pass them over to the government. The contrast with Britain was instructive. The Bank of England began buying dollar securities on the Treasury’s instructions in July 1915. By the end of 1915 $233 million had been acquired in this way. The government then went public, offering either to buy securities at the current price or to borrow them at 0.5 per cent over their actual return. It thus approached the American money market as an owner, and could threaten to sell if New York did not lend. More significantly, stick followed carrot. In the April 1916 budget foreign securities became liable to punitive rates of income tax, and in January 1917 the Treasury was empowered to requisition all such securities.472

  Nor was France any firmer in its management of foreign exchange. When Ribot suggested on 1 July 1915 that controls on foreign exchange might be appropriate, the Banque de France argued that the market was too sophisticated for controls to be possible: all that followed was a voluntary code. A whole succession of regulations, based on postal and commercial intelligence garnered by the general staff and by the organizations responsible for the blockade, took the form of advice and lacked legal penalties. After the entry of the United States the pressures on France were political as well as fiscal: France’s western allies, fierce with themselves, expected France to fall into line. By not doing so, Paris was increasing the burden borne by New York and London. But the commission on exchanges, established by the Ministry of Finance in July 1917, built on the established regulations rather than began afresh. The banks were invited to restrict their sale of foreign exchange to legitimate operations, but their freedom of operation was circumscribed only by an appeal to their patriotism, not by the law.473

  The combination of laxity in relation to foreign exchange and a severe imbalance in payments was soon evident in France’s faltering exchange rate. In August 1914 the franc had gained 3.5 per cent on the dollar. However, by February 1915 the exchange was back to par, by April 1915 the dollar was trading at 8.5 per cent above the franc and by August at 15 per cent. The Swiss franc stood at 6.5 per cent above par in July 1915 and the Dutch florin at 9.69 per cent.474

  The weakn
ess of the franc generated friction within the alliance. French imports from Britain more than doubled in value in the second quarter of 1915, and, with the pound at a premium of 7.3 per cent over the franc at the end of June, a significant element of this expense was going on exchange. France protested that it was denied the access to the London money market promised it in February in Calais, but for the time being London itself remained unresponsive. Partly this was due to surprise; as recently as the new year France had seemed second only to Britain in its strength on international markets. But it was also due to McKenna’s own priorities.475

  The London-New York axis was more important to the pound than that between London and Paris. At the start of the war sterling too rose against the dollar, but by December 1914 it had fallen back to par, $4.86. In June 1915 it stood at $4.77. Morgan’s reminded the Treasury of the surcharge thus being put on Britain’s American purchases, but McKenna seemed relatively indifferent to exchange-rate problems. His fear was British indebtedness to the United States. His policies came under attack from two directions. Cunliffe resented the fact that the Bank of England was battling with the exchange rate single-handed, and in the cabinet both McKenna’s predecessor at the Treasury, Lloyd George, and his successor, Bonar Law, were less fearful of American credits. The wavering market reflected the conflicting policies which emanated from London.

  On 25 July Asquith told McKenna that contracts were not to be lost through lack of exchange.476 In that month Morgan’s arranged a loan of $50 million, four-fifths of which was guaranteed by American securities and one-tenth in gold from the Bank of England. But by August almost all this loan had gone and the exchange rate was still tumbling. On 14 August alone it fell from $4.73 to $4.64. Four days later the cabinet agreed to ship $100 million in gold to America, as well as to buy up British-held American shares.477