Defense In Depth
Why U.S. Security Depends on Alliances—Now More Than Ever
FOR the men who lived before 1914 the western economic order represented a final conquest by the modern world. That there should be famine or that money should not be convertible seemed to them as inconceivable as a change in the movement of the stars. Some of them recognized that the division of wealth permitted the existence of grave social inequalities and that the cycle of periods of prosperity and of depression inflicted sufferings on large sections of the population which nothing justified. But no one imagined that it could become necessary to ration foodstuffs for a lengthy period, if not indefinitely, or that a considerable mass of the people could, for several decades, be condemned to unemployment. Even in 1918 expert opinion believed that there would be a rapid return to prewar conditions, and the possibility of large-scale monetary depreciation was not taken seriously.
But the order which our fathers thought so durable was slipping away under their feet. The disorders first appeared in isolated patches, painful but localized. In France in 1919, for example, it was discovered with astonishment that living accommodations (the price of which was controlled) could not be found. At the end of 1920 unemployment made its appearance in England. This created no surprise because it followed an economic crisis, and an upset in price movement had always been accompanied by unemployment. At the end of several months, as in earlier crises, unemployment began to decrease. But the factor which was new was that in 1924, when the fall in unemployment came to an end, there were still more than a million unemployed workers in England. The number of unemployed practically never fell below this level until 1939.
Opinion noted these unhealthy symptoms, but since it did not believe they were permanent, it did not at first attach great importance to them. The explanations put forward for the housing shortage were wartime destruction, population movements, the interruption in building, the change in the nature of demand. The explanation of unemployment was the closing of certain markets as a result of political changes or industrialization of undeveloped countries, the replacement of coal by oil or water power, technical progress causing the replacement of men by machines. The characteristic common to these various explanations lay in their quantitative nature: there was a crisis because supply or demand had changed.
A young economist (the author of this article) published in 1925 an unusual diagram showing that from 1919 to 1925 there had been a close correlation between the fluctuation of unemployment in England and that of real wages, defined as the ratio of the wage index to the index of the general price level.[i] In 1931 he brought his graphs up to date and pointed out that the correlation still existed and that, in fact, it was sufficiently accurate to enable effective forecasts to be made of the fluctuation in unemployment in England, on the basis of the wage index and the price index.[ii] At the same time, Lord Stamp -- then Sir Josiah Stamp -- noted in an article published in the Times [iii] the accuracy of this correlation. It continued until 1939 and formed one of the most solidly based of economic phenomena. Unemployment in England thus appeared as a manifestation comparable to the housing shortage in France; in the first case, minimum prices had maintained a surplus of supply, in the second, maximum prices had caused a surplus of demand.
Many economists, particularly in England, did not accept this thesis. Some busied themselves, not in questioning the existence of the relation pointed out but in refuting the lessons to which it seemed to lead. But if opinion neglected the theory, it could not fail to be profoundly affected by the fact. No one can paint in sufficiently strong words the suffering and demoralization inflicted by permanent unemployment, and, above all, no one can overemphasize the influence which permanent unemployment exercised on the development of ideas between the two wars.
In the social domain it made general the feeling that the liberal system had become inadequate for the new structure of the economic world. It led many generous minds to believe that a system which permitted the existence of such anomalies and inflicted such suffering was indefensible. It prompted an overwhelming desire for change in the existing system. With extraordinary rapidity the idea that the price mechanism had become ineffective for establishing and maintaining economic order became general. This consensus expressed itself in measures aiming at abolishing the hard law of prices. The period 1920-1930 saw an unprecedented development of producers' associations, trusts and cartels, which under various pretexts (all nominally in the general interest) aimed at "disciplining production." Economists concentrated their attention on "rationalizing" the social structure, that is to say, on the search for procedures making it possible to replace the blind price mechanism by the conscious will of men. The Macmillan Committee, which investigated the causes of the economic depression, gave the clearest expression to these new tendencies: "The essential characteristic of our age," it stated, "is the development of the knowledge which we have acquired of ourselves. Both in regard to our financial institutions and to our political or social institutions, we would appear to have reached the stage when a régime of conscious organization ought to succeed to the age of spontaneous development. We are at the crossroads, and the future depends on our choice." Nevertheless, the achievements which these aspirations inspired at the time -- at least in western Europe -- were all limited in their object and their extent.
The scope of the program and its practical possibilities completely changed after an event in the summer of 1931, the immense historical importance of which was not suspected by those who witnessed it. This event was the forced immobilization of short-term capital in Germany, under the auspices of the great liberal Powers, the forerunner of exchange control. After the First World War the great waves of currency depreciation had been considered irresistible forces -- the unavoidable results of the disaster of war. Germany, Austria, Hungary, Poland and, to a lesser extent, Italy and France, experienced such depreciation of their currency. By reducing and in some cases by wiping out monetary obligations, and by stimulating exports and discouraging imports, it constituted a genuine process of financial restoration. But the suffering and injustice which inflation inflicted left a tragic memory, and imbued the peoples affected by it with the firm resolve to avoid a repetition of the experience at all costs.
In the spring of 1931 it became evident that the mark was again about to depreciate. To meet this danger, President Hoover proposed a one-year moratorium on war debt and reparations payments, and suggested that an international conference be held to save the German currency. This led to the "standstill" arrangements, which removed the principal source of the pressure exercised on the mark by laying down a plan for the slow but progressive repayment of the credits invested in Germany.
But any repayment of credit also removes the possibility of importing. Anxiety to maintain the rate of the mark therefore compelled the Reich authorities to control imports into Germany and to stimulate exports. And authoritarian control of imports and exports is inconceivable without authoritarian organization of the whole of production. It was thus that the London decision set in train the whole monetary policy attached to the name of Dr. Schacht, though its authors did not realize that.
To distinguish the new policy from the one which almost all European states had followed from 1920 to 1930, it is sufficient to point out that the latter left exchange rates free to fix themselves at the level which ensured the balance between the supply and demand for foreign exchange placed on the market -- after application of more or less effective controls -- while the former aimed at fixing the supply and demand for foreign exchange placed on the market at the level necessary to maintain the existing rate of exchange. The first policy entrusted the establishment of the balance in international settlements to fluctuations in the price of foreign currencies, the second to the authority of the government. The extent of the change which had taken place in men's minds can be clearly seen if we remember that after the First World War none of the states faced with a currency depreciation had thought of maintaining its currency by repudiating its obligations.
The policy recommended for Germany was soon adopted by a great number of debtor countries. Faced with the choice between depreciation of their currency or suspension of the service of their debt, they chose the second solution. England alone chose the first. But it was to be Hitler's privilege to draw all the conclusions implied in the solution put forward by the Conference of London. His program required that he should arm without limit. Abandoning all care for a balanced budget, he therefore spent without levying the necessary revenue, and obtained from discount of treasury bills the resources which he could not obtain from taxation or loan. Such a policy would normally have implied a constant rise in prices and exchange rates. But the experience derived from the "standstill" agreements showed that it was possible to maintain the exchange rate of a currency indefinitely, provided that the demand for that currency was limited. Hitler applied this lesson to the whole market. He decreed a general immobilization of prices. To ensure that the procedure be effective, he introduced in 1933 the system which forbade producers of every kind, including businessmen, workers and people with savings, to use their productive power in the way that market prices rendered most profitable. Instead, he obliged them to use it in the way that the state thought necessary for the satisfaction of certain public and private needs. Since producers had to be compelled to take such a course, he organized agriculture, industry and commerce hierarchically and regimented all workers.
The majority of European states were forced to set up a similar system during wartime. The costs of the war or the charges imposed by the occupying Power brought heavy deficits. Desiring to avoid the disorders of inflation, all of them were compelled to immobilize prices and neutralize the excess in purchasing power by means of rationing. All productive forces were completely controlled. In France, for example, the Vichy Government was required to turn over 400,000,000 francs each day to the occupying authorities, and since this sum could not be raised either by taxes or loans, it imposed a corporate system of agriculture, a network of committees supervising industry, and compulsory labor service. The productive forces of the country were grouped in a military hierarchy.
The system was to a large extent effective everywhere. In Germany and the occupied countries it was enforced by the Gestapo, through a system of informers and severe penalties for the smallest infraction of the orders of the planning authority. In England and other countries enjoying government by consent, the system was sanctioned by motives of patriotism, and by the feeling that the restrictions imposed by the government were necessary in a fight for survival. And the policy of economic organization was facilitated in every country by the circumstances inherent in a state of war. The demands of individuals were reduced to the minimum; production was simplified by the standardization of products; the state held a monopoly of transport and a monopoly of imports, and it could exercise strict postal censorship and could offer labor a choice between performing the tasks allotted it and military service.
In all belligerent countries the system began to produce a new type of man who no longer acted after weighing advantages and disadvantages, profit and loss, but who did what he was ordered to do, like a soldier. The need for such sacrifices was accepted as an unavoidable part of wartime conditions.
The end of hostilities completely changed the situation. In all the German-occupied countries the Gestapo disappeared. The police force which remained did not have at its disposal the chain of informers, the postal censorship or the apparatus of torture which had revealed violations of the system to the German inquisitors. Penalties could be imposed only by a decision of a court of justice after a breach of the law had been committed. When the concentration camps disappeared, there also vanished the threat of arbitrary punishment, which had covered a man's intentions as well as his actions, and extended not only to opposition to the decisions of authority but even to slackness.
From the moment of liberation, the agricultural corporative system, the Committees of Organization and compulsory labor service were violently rejected in the occupied countries. In countries which had not been conquered, the instruments of economic organization remained, but their effectiveness declined greatly because people no longer felt that such sacrifices could legitimately be demanded of them. At the same time, industry began to try to meet more than the bare minimum of private needs, and the productive machine lost its wartime simplicity. Finally, in every country exhaustion undermined public spirit and resulted in an easygoing atmosphere.
For all these reasons the system of economic organization in most of the countries of the world was greatly changed. Largescale and nationalized industry remained more or less subject to direction, but most medium and small undertakings, and all independent workers and producers, freed themselves from public control in practice, and usually in law as well. Farmers were now free in the choice of their crops. Labor once more became entirely free to choose jobs and employers. And though England recently attempted to reëstablish a system of governmental direction of labor, the suggestion that this should be done in peacetime shocked the modern conscience, and it remains to be seen how effective the attempt will be. Very importantly, consumers lost much of their respect for the rules governing rationing. In the countries of continental Europe, at present, the effort to control production and restrict demand by rationing no longer affects more than a small number of markets. In most it is no more than a façade behind which producers and consumers act with complete freedom.
It is said that regulation in England is more strictly respected, but even there governmental decisions are by law applicable to only a limited sector of the economy and leave individuals -- agricultural laborers, skilled and unskilled workmen and businessmen -- with a degree of choice as to the way they use their powers of production. To say today that in western Europe production and consumption are organized by the state is to close one's eyes to reality. In a large majority of cases, production and consumption are what individuals, in the circumstances under which they are living, wish them to be.
Nevertheless, in many European countries a great number of prices, as well as all wages and nearly all the rates of exchange, remain fixed by the state and, so far as possible, immobilized. Moreover, it is clear that the maintenance of price control is not only desired by governments but also by a large part of the people. The latter believe -- unfortunately only too justifiably -- that the great deficits and the excess purchasing power that are the legacy of war would inevitably give rise to great and probably unlimited price increases if fluctuation were permitted. This feeling is strengthened by the memories of past inflation during which wages always lagged behind prices, and it is strengthened by the knowledge that such an increase in prices brings unjustifiable profits to holders of stocks. What is surprising, however, is that it is supported by the peculiar doctrines of a number of economists more anxious to follow opinion than to guide it, who teach that the remedy for the evil is to intensify it.
Thus at the very moment when men were again becoming more and more free to decide their economic behavior on the basis of market conditions -- that is, on the basis of prices -- prices themselves remained fixed by governmental action at different levels from those which, through the interaction of producers and consumers, would have brought the market into balance. Price control tended always to maintain prices below the level at which a free system would have established them. As a result, demand always remained above the value of supply, and the impression of shortage was created in fields where it need not have existed. Of course, there were and are real shortages: the destruction resulting from the war (and a disastrous harvest) reduced existing supplies cruelly. But control of prices in a period of deficit does not lessen shortages; it simply makes it possible for consumers to continue to demand more than can be supplied on the market. This is the explanation of the paradoxical uniformity of shortage. Not only bread and meat are in short supply, but also books, camera films, hotel accommodations, and seats in railways, theaters and cinemas. Universal price control has standardized the situation which existed before the war in France in the sphere of housing. It is often said that prices will be freed when there is sufficient production. That is the same as saying, as is said in France about the rents, that there will be a free market as soon as there are enough flats. But everyone knows that so long as rents are held down there will be no flats available.
At the same time that the freezing of prices maintains unsatisfied demand it destroys the regulating influence which price fluctuations in a free market exercised on the way in which means of production are used. During the last war, as during this one, entire regions were devastated, but after 1918 the increase of wages in the workshops of the devastated areas, and of the price of all materials which they used, attracted a considerable army of workers and led to a veritable fever of reconstruction. The control of wages and of prices after this war prevented the often scandalous profits derived last time from the exploitation of the devastated areas, but it did away with any real reason for workers to give up their current employment and to accept the risks of a new trade of limited duration and the uncomfortable accommodations which made family life impossible.
In the same way, industry has not found the stimulus which would have induced business men to intensify production and to accept new investment of a nature to make the necessary expansion possible. Hence the lethargy in reconstruction in all the areas ravaged by war.
Coal supplies another example. The problem here is not to equal 1938 production but to exceed it considerably. In a system of free wages the urgency of the need would have raised the pay of miners to the level necessary to attract a sufficient labor force to the coal mine despite the unattractive nature of a miner's life. And rising prices would have raised the profits from the industry to the level necessary to encourage the capital investment which is indispensable for the increase in production. Instead of that, wages and prices have been strictly controlled. Since men are now practically free in the choice of their trade, it has been impossible to raise the labor force in the mines to the level which the well-being of Europe requires. And the price of coal has been maintained at a level which not only fails to encourage the mining industry to accept the enormous effort of investment and modernization which is indispensable for expansion, but in addition induces users not to make a maximum effort to economize fuel. Price fixing in coal has thus discouraged production and encouraged consumption, a result exactly contrary to that which was desired.
Similarly, by failing to relate the stimulus to the need, price fixing has caused farmers to reduce their production to the level of their own needs and those of their families. Lack of an adequate return has prevented innumerable manufacturers from obtaining the maximum production from their machinery. And worst of all, it has caused workmen to lose practically all interest in the duration and intensity of their efforts, since, whatever their pay may be, their rations of all kinds of commodities will never be more than that which the state is pleased to grant them. Hence, also, illegal markets; for though the control of prices is crippling to the forces which would tend to adapt production to demand, it is never wholly effective in what it tries to do. When the official price is markedly lower than the price which purchasers are prepared to pay, a "black-market" arises. Because of the risks involved for black market operators, its prices are always on a higher level than those which would be established on a free market. When a product is vitally important -- wheat in France, for example -- the government maintains a relatively low price in order to try to maintain the standard of life of the workers and to discourage demands for an increase in wages, and it adopts strict measures to make the official price respected. But for products which affect the people's standard of life less directly -- for example, the less important cereals in France -- the official price is relatively higher and control is considerably less effective. Sometimes the price is free in law or in practice. The result of this is that farmers concentrate on these profitable crops. In other words, the kind of production which the state wishes to encourage is discouraged, and that in which the state is not interested expands.
In the same way, large-scale business, which is easy to control, is unable to escape price and wage regulations, while small business and the one-man producer can sell on the black market without any great risk. Presently, industries in the first category begin to show smaller profits and reduce their production, or perhaps become insolvent and close down. Small-scale production, however, prospers and expands. Price control thus promotes a form of economic Malthusianism, at the same time that it directs toward the satisfaction of secondary needs the forces which it diverts from vital production.
The disturbing effect of price control is nowhere more clearly shown than in the sphere of international exchange. The immobilization of the rates of exchange at a level below that which would be assured by the balance of the market discourages export and often entirely closes foreign markets. For example, it is certain that so long as prices and rates of exchange remain fixed, countries which do not produce petrol will not enjoy freedom of motor traffic. On the other hand, it provides maximum stimulus to the desire to purchase abroad. It therefore inevitably creates a hunger for foreign currency. Further, the position will continue to deteriorate so long as exchange rates are thus artificially determined. The deficit has a continual tendency to increase those prices which are free as well as black market prices, with the result that production is more and more diverted toward the free or black markets, thereby increasing scarcity on the official markets.
The longer the present system lasts, the less its price tickets will be honored, the greater will be the falsehood it causes, and the greater will be the hardship it inflicts on the poor and the honest. The partially effective system of price fixing under which a great part of Europe lives today creates hunger, poverty and disorder.
In short, Europe's crisis is aggravated because, in the majority of the countries constituting Europe, men make decisions freely in that they are not coerced by the police, but they do so on the basis of prices which do not induce them to perform the actions which they must perform if there is to be economic order.
If this analysis is accurate, there are two solutions to the problem. The first is to disengage the economic action of men from the price mechanism and compel them directly and by force to do what must be done to ensure economic balance; this is what I term the solution by planning. The second is to establish prices, or to allow them to establish themselves, at the level which will induce men to perform voluntarily the actions which will ensure economic order; this is what I term the price solution. Either solution is possible provided the conditions which determine its effectiveness are accepted.
A "plan" can be limited to certain articles, the price of which is fixed, provided the budget is balanced and the currency sound. If this is not the case, the plan will have to cover the whole economy, since the excess of purchasing power diverted from the controlled markets would turn to the free markets, where it would increase prices and all the disorders of inflation. Thus a plan fixes the obligations of producers and the opportunities of consumers. In that way it imposes on the plan-making authority a choice among innumerable alternatives. In time of war the state knows its own needs, and does no more than meet the subsistence needs of individuals. But in time of peace the greater part of the productive machine is devoted to the satisfaction of individual needs. The state must decide which ones are to be satisfied; that is, substitute its own choice for that of individuals. To simplify its choice, the state takes into consideration only average needs and average qualities. A planned economy ignores not only subtle distinctions, but also differences in kind. It recognizes neither Burgundy nor Bordeaux, neither beef nor mutton, but only wine or meat. It is inevitably a rudimentary economy, which can offer satisfactions very imperfectly adapted to individual taste.
But its essential feature is that it demands from producers and consumers alike actions different from those which market prices would make them want to take. Producers will have to be compelled to carry out the tasks which the plan lays down for them, and consumers compelled not to try to get more than the rations which it provides for them. This means that if the plan is to be more than window dressing, the behavior of all citizens must be subject to police authority, backed up by severe penalties for breaches of the regulations. If the plan is willed, the instruments for carrying it out must be willed also.
The price solution is the antithesis of this one. It ensures economic balance by giving to each individual the opportunity of molding a part of the productive machine by his demands. The price mechanism enables each consumer to impose distinctions on production and thus to force it to serve his own tastes. It thus constantly organizes a plebiscite of the holders of purchasing power. It is the instrument of economic democracy. The essential feature of the price mechanism is that it induces each individual to perform the actions which he ought to perform to ensure economic order, without force of any sort.
However, in order that free fluctuations of prices do not destroy the stability of the general price level, it is essential that a budgetary balance be assured. Some people fear that this need to keep the budget in balance causes systems which are founded on freedom of prices to be niggardly in public expenditures, particularly for social measures. But does anyone believe that nobody pays for expenditures which are met by deficit financing? They are paid for by the rise in the general price level, that is, by levies made on the holders of fixed incomes and of assets payable in money, and therefore without regard to social justice and with no exemptions at the foot of the ladder. A system of free prices simply compels governmental expenditures to be covered consciously. It does not rule out the possibility of social intervention. All it rules out is the possibility of giving without stating that something is being taken to pay for it. It may readily be granted that a system of free prices is possible only for peoples who require that their governments treat them as adults, and who are capable of taking conscious decisions as to the sum total of public expenditure, the uses which will be made of it, and the manner in which the necessary resources are to be obtained. In short, the conditions of a successful system of free prices are the conditions of the freedom of men.
The system of fixing prices without really organizing the economy, as now practised in most of the countries of western Europe, cannot last. If Europe chooses the way of planning, the simple design created by Hitler is at hand for reproduction. But if it chooses the price solution, the course of action is somewhat more complex because the present state of immobilization must be transformed into a free market economy. The central feature of the problem of returning to the free system is that free prices can be stable only if, at their level, a balanced budget has been attained; and, vice versa, a budget can be balanced only when taxes are no longer based on artificial prices and when the proportion of "secret" business concluded at black market prices has declined. The problem is to reduce the disturbance from the change in systems to the minimum. The policy to be sought is one which tends to lower to the greatest possible extent the level at which prices will establish themselves: that is, the level at which the double balance of supply and demand and of the budget will be assured. A few general principles can, I think, be suggested.
1. When a product cannot in fact be obtained at official prices -- in other words, when no efficient system of distribution at the legal price has been set up -- price control should simply be abolished. On the other hand, when there is only a shortage, the official prices can be increased by several stages, until the free price has become lower than the official price. For certain products of vital necessity, a double-price system can be established during the transitional period when effective machinery for distribution at the legal price exists; the objective is to hold rations of these commodities at a low price during the period of adaptation of wages. In short, where prices are concerned, nothing dogmatic: individual decisions adapted to the conditions proper to each market, but all tending to a rapid return to the market-price level.
2. To minimize the rise which will be caused by freeing prices, it will be necessary to lower black-market prices by increasing production. With this in view, cut out of the economic system all the Malthusian measures which war, the pressure of private interests and demagoguery have introduced into them.
3. The quicker the budget is balanced, the quicker the level of stability will be reached. The budgetary results to be expected from a decrease in public expenditure or from improvement in the fiscal system are slight in comparison with those which will be brought about by freeing prices. However, they should be achieved to the greatest possible extent. The need for a decrease in public expenditure will in many countries require a strict review of the war-swollen administrative machine, as well as a pruning of much unessential expenditure. At the same time, the rise in official prices ought to make it possible to dispense with all subsidies. Improvement in the fiscal system ought to result in some increase in revenue, but the increase in fiscal returns should in the large majority of cases be expected more from the increase in the value and quantity of taxable items than from a rise in rates of taxation.
4. It is self-evident that the rise in prices will have to carry with it a rise in wages. This rise should not be taken out of the hands of public authority, but should be decided on governmental initiative as a factor in a policy of social justice. The myth of fixed wages must be publicly abandoned with the myth of fixed prices. But adaptation does not mean surrender to blind forces. In the transitional period -- which ought to be as short as possible -- until the return to the system of collective bargaining, the state will have to continue fixing wages.
5. Experience alone will make it possible to say, in each particular case, whether or to what extent any modification in the monetary level is indispensable to the reëstablishment of equilibrium in the balance of payments. The one indispensable condition of success is that during the period of the rise in official prices, treasury expenditure does not increase more rapidly than public revenue. It will therefore be necessary during the whole of this period for the government to maintain control over its expenditure and, in particular, over salaries, pensions and wages which form its most important component.
In short, if a country will accept the discipline implied by the effort of recovery, the effort will succeed and, after some months, the country will once again have prosperity in conditions of order and freedom. If it is not sufficiently adult to face the truth, the only solution will be to impose on it the discipline of thoroughgoing planning, under which freedom disappears.
To choose between plan and prices is therefore to decide man's future rôle in society -- to decide whether he will become an automaton, activated by forces outside himself, or whether he will recover in freedom the characteristics which in the past were the symbols of his dignity. The choice between plan and prices is, therefore, not a purely economic one. It is the major problem which is placed today before human conscience.
[i] Revue Politique et Parlementaire, December 10, 1925.
[ii] Revue d'Economie Politique, March-April, 1931.
[iii] The Times, June 11 and 12, 1931.