ON SUNDAY, September 18, 1949, the British Chancellor of the Exchequer, Sir Stafford Cripps, announced over the air, in effect, that the pound was henceforth to be worth $2.80 instead of $4.03, a devaluation of 30.5 percent, in terms of our dollar. Promptly, like tenpins before the ball of a skilled bowler, many of the world's currencies fell in unison. All (except Pakistan) of the countries of the sterling area in Asia, Africa and the islands of the seas, and in Europe the Scandinavian countries and Holland and Greece, also devalued their currencies by 30.5 percent or thereabouts. France, Belgium, Western Germany and Portugal in Europe, and our neighbor Canada devalued their currencies, though to a lesser extent; and the Italian lira though not devalued was permitted to depreciate and to fluctuate. And that is not all. This momentous event, affecting the dollar exchange value of the currencies of some one-third of the human race, indeed almost all of the world except the Communist area and the dollar area, dramatizes the unbalanced state of the world's trade with the United States, and the key position of sterling in spite of its weakness, and the fact that the dollar is the world's monetary standard, the measure by which other currencies are valued.

There is no great mystery about these devaluations. They reflect the famous, or infamous, dollar shortage or dollar gap. The United States produces more goods than it consumes, and many European countries, due chiefly to the two world wars and their consequences, are as yet unable to produce and sell for dollars enough goods and services above their own needs to pay for their necessary dollar imports. Thus European countries are spending more dollars than they earn, living beyond their means. Many of them have been forced to use up their gold and dollar reserves, to seek loans and gifts from us. If a nation lives beyond its means it is spending its substance and impoverishing itself; just as you, gentle reader, or I would do if we lived beyond our means. This expresses itself for a nation in currency depreciation: in exchange depreciation abroad and in the high cost of living at home.

But, let us Americans remember, this is more Europe's misfortune than her fault, and let us not feel superior because of what has happened. But for the kindness of Providence, and the enterprise of our ancestors, we should be in Europe's fix ourselves. It is not solely by our own virtue or effort that we have a continent to enjoy and exploit, which is geographically remote as yet from Europe's wars, in spite of our vigorous and effective participation in them. The bombs have not yet fallen here. Europe's problem is ours too if we want peace and law and order in the world and solvent partners in the human enterprise. It is our problem unless we think we can sit safe and unmolested on our money bags while the world falls apart. It is our problem, so we had better try to understand it and to solve it.

In spite of the British wish and determination to avoid it, devaluation of sterling had finally become inevitable because almost everyone had come to believe sterling was overvalued; meaning that the British price level was too high for British goods to compete with American. The supply of sterling exceeded the demand for it, and this resulted in black and grey market prices for sterling and sterling securities much lower than $4.03. This opinion affected, adversely to Britain, the action of buyers and sellers of goods and sterling exchange in world markets. Thus the general distrust of the pound hastened sterling devaluation.

Sterling devaluation proved contagious; and no wonder. The pound is still the greatest trading currency in the world. Furthermore, many countries were in the same predicament as Britain and were merely waiting for Britain to take the lead and to give a touch of respectability to devaluation. So only the timing and extent of sterling devaluation were unexpected; and they were unexpected indeed.

Though so eagerly demanded by so many here and abroad, devaluation is a grave and deplorable event, only justified -- though amply justified -- by grim necessity. Devaluation strikes at the very basis of contracts. It upsets the terms of the world's trade. It arbitrarily scales down all foreign debts, whether public or private, expressed in the devalued currencies and not entitled to exchange guaranties. It tends to domestic inflation and the consequent depreciation in value of domestic money contracts, wages, insurance policies, annuities, pensions, savings and bonded debt. Inflation is a capital tax and an income tax, indiscriminately burdening the rich, the well-to-do, the thrifty, and the poor and helpless. It is the worst and cruelest of all taxes.

Currency devaluation, moreover, is the symptom of a disease; it is not a cure. For a time, it may stimulate exports, and it will retard imports, of the devaluing countries, and so reduce their trade deficits; but if costs and prices are permitted to reflect the devaluations, as they most probably will after a time, these advantages will wear away and dwindle to nothingness, and the essential maladjustments will reassert themselves unless something effective is done to correct them. These maladjustments have been staring us in the face ever since the First World War.

Since the industrial revolution a great part of Europe's business had been to buy food and raw materials, to feed her men and her machines, from less industrialized countries to the east and west, and to sell back to them the products of her factories. But even before the First World War many European countries had a deficit of goods, a deficit in their trade balances, which they covered by their so-called invisible income, from foreign investments, shipping, insurance and banking services, emigrants' remittances and tourists' expenditures. The First World War left the world topsy-turvy. America, previously Europe's debtor, suddenly had become her creditor; and Europe's invisible income, her external wealth, had been impaired. In 1918 it had already become a difficult question whether the great populations of industrial and urban Europe could reduce their consumption and increase their production, and whether America, with her great natural resources and relatively small population, could readjust her production and increase her consumption to such an extent as to bring the world's trade into balance. The Second World War further shattered the European economy and shrunk Europe's invisible income. Her foreign and colonial wealth, except Belgium's, has been further impaired, and foreign debts and demands for help from dependent areas have taken the place of income.

Britain's Second World War debts to the sterling area, the so-called sterling balances, at the old rate of $4.03 to the pound, were some three times her First World War debt to the United States, which proved unbearable; and some of her present creditors are more intractable and exigent in their demands than we were. The inability of Britain to maintain the value of sterling was in large measure due to her creditable, if imprudent, effort to pay these war debts -- an effort which required her to make exports without being paid for them, the so-called unrequited exports. The invisible income of Britain included the earnings of British bankers, brokers, insurance men, merchants and traders from their innumerable services in the conduct of the business of the world throughout the world. British skill and experience, and British character, with the support the British Government gave to Britons as they went about the world on their business, made these earnings an important factor in the balance of payments. This source of income has been impaired by the war and postwar unsettlement, by the loosening of the bonds of Empire, by the inconvertibility of sterling, and by nationalization, bulk buying and other policies which tend to make the services of these merchants and traders and brokers and bankers less necessary and less profitable.

Europe's monopoly of the manufacturing business of the world, which was fairly complete in the early days of the industrial revolution, and through much of the nineteenth century, has disappeared. Every nation everywhere to a greater or less extent has gone into the manufacturing business, or wants to, and wants to become independent as far as possible of imports from Europe. President Truman's Point Four will, if implemented, advance this trend. The wars not only impaired Europe's manpower and plant, but greatly stimulated the technological development of American factories, mines and farms; and diverted to us much of Western Europe's purchases which had formerly been made in Eastern Europe and the Far East. The iron curtain and the military occupation of Germany have bisected Europe's trade. Trade with the Orient has been disrupted by war and revolution in Asia.

For these among other good reasons Europe has a deficit in her balance of payments. Her foreign wealth and income are lost or impaired and her imports exceed her exports. This is the fundamental disequilibrium. No export drive, no directed exports, no export bonus, no devaluation, no import restriction, can, with the best will in the world, produce net exports, if the people consume more goods than they produce. Only out of the surplus production can net exports be made. So it is that Europe is living beyond her means; and small blame to her under all the circumstances.

Spending more than her income abroad has involved inflation for Europe. Less blameless inflationary forces have been powerful too, and cumulative. Over-spending at home and inflation lead to the distrust of paper money, which the devaluations will aggravate, and to difficulty in capturing, in taxes and loans from savings, money enough to pay the governments' bills. Domestic deficits have to be paid by printing more money, foreign deficits by sacrifice of reserves and borrowing and gifts.

Great capital expenditure was necessary to repair war damage; but the immense capital expenditure in Europe since the war on public improvements, and on plant and machinery, under five-year plans or in a race to achieve greatly improved methods of production by 1952, has been inflationary. It has diverted labor and material from production to construction. It has increased the peoples' spending power without increasing the present supply of consumers' goods, thus giving the people too much money to spend and too few things to buy with it. It is doubtful that all of these capital expenditures will in the end fully justify themselves. When war shortages are satisfied and the sellers' market is past and all the new plants are in production everywhere, who will buy their product?

Ordinarily we associate inflation with an unbalanced budget, and with printing paper money and creating bank credit to fill the gap between a government's receipts and its expenditures. That has been part of the trouble in France. But England has had a balanced budget, or an approximately balanced budget; and one must pay deference to the British people who have carried the heavy load of taxation necessary to balance the immense expenditures of the Government. But too much taxation is part of Britain's trouble. It adds to costs and destroys incentive. Inflation in Britain has been due also to the fact that not only excessive capital expenditures but also subsidies, social services and civil and military expenditures, however necessary or desirable, add to the people's incomes and spending power without adding currently to the supply of consumers' goods for their use. Meanwhile the controls imposed by the British Government on prices have enhanced the buying power of the people by preventing prices from reflecting the inflation which has taken place.

It is sometimes said that Europe will have to accept a lower standard of living. Perhaps it is not the peoples' standard of living that is too high. It may be the governments' standard of living that is too high -- just as it is here at home. Governments spend too much money. There are too many civil servants, performing too many useless, or obstructive, tasks. There is too much government. What is needed in Europe, I suspect, is even better pay, incentive pay, for the workers who really work, and greater mobility of labor; and that the workers be able to buy the things they want, or their wives and children want, with their pay. This is the incentive that gets results.

Evidently a fundamental imbalance in the world's trade was the underlying cause of the devaluations, and inflation the secondary cause, while world opinion was the proximate cause that precipitated them.

To what extent will devaluation relieve the problem? The 30.5 percent depreciation of sterling makes possible a considerable cut in British selling prices, and should increase the quantity of their dollar sales; but whether Britain's sales for dollars can be increased enough in quantity to much more than make up for any reduction in prices is doubtful. Britain's facilities, both in plant and manpower, are pretty fully employed, and she has been enjoying profitable sellers' markets at home and in the sterling area for what she can produce. Where then are the goods to be found that are to be sold in the difficult dollar markets? American competition will not long be idle; and the American consumer may be the chief beneficiary of cut prices. On the whole it is not probable that Britain will gain much from increased exports to the United States. On the other hand, the 30.5 percent depreciation of sterling results in a 43.9 percent increase in the sterling equivalent of our dollar prices for British and sterling area purchases here. This will help balance Britain's trade, for it imposes an obstacle to our exports, in addition to existing and proposed British quantitative restrictions on imports, and the dollar scarcity. Nobody ought to object to these British restrictions, for there is nothing discreditable or unfriendly about not buying goods one can't pay for.

The deflations initiated by the dear money policy -- the 6 percent and 7 percent bank rates of the Bank of England and the Federal Reserve Bank -- in 1920 and 1929 turned the terms of trade in Britain's favor. That is to say, the prices of food and raw materials, which she imported, came down faster and farther than the prices of manufactures, which she exported. Now, however, instead of dear money, the central banks are keeping money cheap, and the United States Government is supporting farm prices and stockpiling raw materials and doing some deficit financing. All this will tend to keep up the prices of what Britain has to buy. But the outer sterling area, which is normally an exporter of food and raw materials, should benefit by the higher prices. It is hard to tell where the advantage of the terms of trade will lie.

There is not much reason to expect any great flow of money toward sterling now, such as occurred after 1919 and again after 1931. Then the pound was depreciated; it was not devalued, but allowed to float or drift downward. The gold or dollar rate was established in a free market, by the process of trial and error. After falling as low as $3.19 in 1920, the pound came back to its old parity $4.86 in 1925; and after falling as low as $3.14 in 1932 the pound rose as high as $5.53 in 1933. As soon as the world became convinced after 1919, and again after 1931, that the free pound was undervalued, sterling attracted flight money, the money of speculators and investors all over the world, who bought the free pound cheap for a profit. So the depreciation of the pound influenced the movement of money, as well as the balance of trade, in favor of Britain. Now, however, the pound is not free, but is an inconvertible pegged currency, and foreign investors who hold sterling and sterling securities have had their investments frozen for years, and now devalued, and still they can't get their money out. On the whole the present sterling devaluation can scarcely be expected to have the consequences here or abroad which sterling depreciation had after 1919 and 1931.

Some persons propose the homeopathic cure, similia similibus curantur, or a hair of the dog that bit me. It has been suggested, in the interest of the gold producers, or in a spirit of good clean fun, that the United States should devalue the dollar too, that is, pay more than $35 an ounce for gold. Let's make devaluation unanimous, they seem to say. Thirty-five dollars an ounce was the price fixed in 1934. That price was too high then, and it has remained high enough ever since to make the United States the chief market for the world's gold production. The Federal Reserve has more than 55 percent gold cover for its currency and deposits. The legal requirement is only 25 percent. It is unthinkable that the United States should set to work to defeat the foreign currency devaluations, by devaluation of the dollar, and thus restore the overvaluation of foreign currencies which their devaluation was meant to correct. It would be deplorable for the United States, whose position as a creditor nation is so strongly entrenched, to engage again in the futile race of competitive depreciation which contributed to the world catastrophe in the thirties. If there is to be peace and reconstruction there must be faith in somebody's money, some nation's money. If there is to be a solid rock on which to build our own welfare and European and world reconstruction, it must be the honor and impregnability of the United States dollar and its redeemability for settling international balances at the gold price fixed in 1934. We should not raise the gold price, and we shall not. The Secretary of the Treasury has again and again denied any intention to do so and the President himself has spoken wisely and decisively on this question. Let us hope that will end this nonsense. Nor should we put gold coin in circulation; we should keep it in reserve to settle international balances. Do let's let our money be.

What other remedies may there be? Freer trade in Europe, lower tariffs, the removal of embargoes and quotas, and convertible currencies, are most desirable. But let us not exaggerate what free trade within Europe can do, nor forget that it is free trade with us that Europe needs to close the dollar gap. Europe is densely populated and highly industrialized, and her problem essentially is to make exports to the dollar area to pay for the food and raw materials which she must import from the outer world. Indeed too much intra-European trade may divert needed labor and materials from the necessary task of making exports to the outer world, and leave a yawning dollar gap. A stronger and better integrated Europe is greatly to be desired, but the solution of the European economic problem is not intra-European trade, but extra-European trade. It is hard to see how the consolidation of the dollar deficits of the deficit countries can reduce the dollar deficit.

Some go further and demand a Western European political or economic union. That seems hardly feasible in time to solve Europe's problem. The analogy to our federal union, our great free trade area, is imperfect. Our people had one language, one literature, one common law and one King, when they rebelled and formed a confederation which later became a union. Even so it took 90 years and a civil war to confirm the union. Free trade within the United States has been a great blessing to us. But we had no established manufactures to be displaced when we adopted that great principle. Europe, however, has an economic history; it has been a going concern for a long time. The removal of quantitative barriers and lowering of tariffs seems feasible, but free trade as we have it within the United States might mean that some protected industries would collapse in Europe. How then are the necessary migration and resettlement of laborers from the abandoned inefficient plants to be arranged? Must these newly displaced persons learn a new language, a new patriotism? If nationalism is discarded, what substitute is there for patriotism, for the love of country? Can the whole of Europe be of one language, and of one speech? Or can a polyglot European Union maintain democracy and freedom and quicken the peoples' blood and warm their hearts? It seems that a too hurried union would involve a great upheaval, and this at a time of trouble, when every minute counts and every disturbance should be avoided. European union may come by evolution. It can't come by fiat. No shotgun wedding will do the job.

Monetary union without political union is impossible. There cannot be a common currency without common sovereignty and a common parliament and common taxes and common expenditures. The very life of the government of any nation, and the welfare of its citizens, depend on its control of money and credit within its borders; and the value of its money depends upon the way that control is exercised. To put these at the disposal of a foreign nation or committee of foreign nations would be suicidal.

If neither devaluation, nor intra-European trade, nor union now, will solve the problem, what then can be done? First and foremost, for our own sake and Europe's sake, we should manage our own economy so that it will continue to grow and prosper, but without inflation. Nothing more certainly will precipitate disaster in Europe than a depression here, or a boom and bust here. Our fiscal and monetary policy must be a middle-of-the-road policy, avoiding rigorously both inflation and deflation.

We should be more liberal in regard to the movement across our frontiers of men and of trade and of money. We should open our doors a little wider to desirable immigration. We should let Europeans earn dollars from their shipping, banking, insurance and trading services, if they can, in free and fair competition. We should eliminate our own subsidies and quotas. We should further reduce our tariffs, all across the board, unilaterally, to the point where they let more goods in. As a creditor nation, our tariffs should be for revenue only, except where needed to protect industries essential for the national defense. Merely reciprocal reduction of tariffs is inadequate to the present situation, for it means we hope to increase our exports as much as our imports. What we need to do is to increase our imports more than we increase our exports, if we are to reduce the dollar gap.

Private American foreign investment would help. Indeed, the fundamental trade disequilibrium is so great that the international accounts can scarcely be balanced without great American investment overseas, both public and private. There has been some direct investment by American companies and will be more no doubt. The more the better. But private American investors whose foreign investments have been frozen for years, and are now devalued, and are still frozen, will be slow to make much more such investments. Surely in vain the net is spread in the sight of any bird. We are told foreign countries must not be exploited for profit. In the experience of American investors it has been too often the case that American capital sent abroad has been not the exploiter but the exploited. It has been subject to excessive taxation, to default, confiscation and repudiation, and now to inconvertibility and devaluation. If American foreign investment is to be encouraged, our Government and foreign governments must reverse their policies and give firm assurance to American investors that their investments will be respected and protected, and that they may hope to profit by them, and collect their profits. Otherwise, indeed, our Government should discourage American foreign investments, whether in developed or underdeveloped areas.

Until currencies are convertible and government policies are more helpful to private foreign investment, our Government will have to continue to help to fill the dollar gap. Our postwar loans to Britain and France and other European countries, whether made by our Government or by our wholly owned governmental agencies, should be extended, principal and interest, or cancelled. Let us follow the precedent of lend-lease and Marshall aid rather than the less happy precedent of the First World War debts.

Marshall aid must continue at least until 1952. The problems of each country should be dealt with practically, in the light of its own peculiar requirements and our own national interest. Britain has problems quite different from those of any other country. Her currency is a key currency. She is banker for the dollar pool. She alone incurred a great external war debt, the sterling balances. These should be scaled down and funded; and we should help arrange it. If that results in hardship in special cases the United States should lend or grant money direct to the sterling area countries concerned for urgent needs. France has no foreign war debt but a heavy postwar debt to the United States. She lives in the memory and under the shadow of invasion and occupation. She has no permanent problem of balancing her international accounts. But France has failed for a long time to balance her internal budget and to maintain the soundness of her currency, and still needs our help. Italy has recently pursued a classically sound fiscal and monetary policy, but has a chronic unemployment problem. Holland suffers from the burden of her losses in Indonesia.

Capital expenditures of most European countries, and their imports of capital goods, should be drastically curtailed. Our aid should be increasingly restricted to necessary purchases of food and raw materials and, where adequate measures are being taken to achieve balanced budgets and balanced international accounts, to support currency convertibility. Some continental countries should be nearly self-supporting by now. They will not be fully self-supporting until compelled to be by shrinking our aid, which has tended to continue after the war the undue concentration on the United States of European purchases.

In view of all these considerations, it would seem well to allow the able administrator of Marshall aid great latitude in allocating to the European countries what money Congress decides to grant, to be spent pretty much as he may deem best. Too great specification about what European countries may buy must lead to waste and inefficiency. Indeed, it would be much better if the money granted were not spent at all but were added to the European countries' gold or dollar reserves, and used to support their currencies in foreign exchange when the need arises.

We might well take a further step toward currency stability and offer continuing aid specifically for exchange support at approved rates to those nations which stop inflationary expenditures, balance their budgets and their current international accounts, and (while restricting export or flight of capital) make their currencies freely convertible for current transactions. Such a plan would offer a strong incentive to the nations to achieve convertibility. With nations as with men, the incentive system is more effective than the lecture system. Nobody disputes the desirability of restoring a system of multilateral trade and payments, but many experts doubt that the world will have the economic strength and flexibility to restore such a system in the near future. I, on the other hand, doubt that the world can recover economic strength and flexibility until a system of multilateral trade and payments is restored.

Though the Economic Cooperation Administration is to end in 1952, it is unduly optimistic to suppose that all aid to Europe can stop short then. The aid we give should be reduced gradually from year to year and be spread over a greater number of years. Abrupt termination would mean that all the $30 billion or thereabouts we have spent or promised postwar, through UNRRA, direct government loans, World Bank, World Fund, Export-Import Bank, Marshall aid and military aid, might be wasted and we might lose the cold war. Our aid must taper off, not just stop. In spite of war's dreadful losses, and war-weariness, Europe has made immense strides since the war. American aid, and notably, the brilliant and nobly conceived Marshall Plan, have contributed greatly to this progress.

Though we must help her on the way, Europe must save herself in the end. Her chief contributions to recovery must be balanced budgets, greater production, greater savings, greater freedom and greater enterprise. Europe cannot recover without stopping inflation and establishing monetary order. Europe cannot recover until mobility is restored to capital and labor, nor until the direction of the effort of both is determined by prices and wages instead of by politicians and civil servants. Europe cannot recover until the price system, the profit and loss system, the incentive system, are restored, and competitive enterprise and risk-taking replace controls by governments, by cartels and by trade unions. We can help Europe to survive, but only she herself can do what is necessary to recovery. The mistakes being made in Europe, however great they may be, are, like our own, still the mistakes of free peoples, made by their own choice, and, above all else, they remain free and free to change again. It is in our interest to defend their survival with our resources and our might.

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  • R. C. LEFFINGWELL, Chairman of the Executive Committee of J. P. Morgan and Company; Assistant Secretary of the Treasury, 1917-20; Chairman of the Carnegie Corporation; Chairman of the Council on Foreign Relations
  • More By R. C. Leffingwell