How America Can Shore Up Asian Order
A Strategy for Restoring Balance and Legitimacy
THE June twenty-fifth issue of the Official Journal of the French Republic published the text of the Monetary Law under which France returned to the gold standard. Thus almost exactly twenty-three months after accepting the portfolio of Minister of Finance, M. Poincaré brought to a conclusion the task of fiscal reform which he had set himself.
If M. Poincaré's achievements in his first year were remarkable,[i] those in his second have been no less so. Not only have the measures which were adopted in 1926-1927 continued to be strictly enforced, but new ones have been sought and applied which have resulted in a further strengthening of the credit structure of the State proper and of the national economy as a whole. So careful and complete were the preparations for de jure stabilization of the franc that the event itself was received in France almost phlegmatically. Yet it is no exaggeration to say that of all the programs of fiscal reform which have been applied in the past ten years, the French is in many ways the most interesting.
By July 1926 the gradually growing uneasiness with which the French people had watched the efforts of successive parliaments and ministries to develop a comprehensive program of fiscal reform was manifest. Confidence in the integrity of the fiscal methods of the French State was more seriously impaired than it had been at any time since 1792. On the 23rd of that month the 4 percent rente of 1918, a typical State issue, sold to yield 9.30 percent per annum. The Treasury was without current funds to meet its month-end payments and had no borrowing margin at the Bank of France. Its foreign balances barely totaled $10,000,000. There was every indication that the budget for the year would show a deficit of over six thousand million francs. The floating debt totaled nearly 90 thousand million francs, of which over 50 thousand million francs was in the hands of the public. This debt matured at the rate of 7.5 thousand million francs per month, and so uneasy were its holders that maturities had largely exceeded renewals for some time past. In addition, the Treasury was required to make provision to meet or refund heavy approaching maturities of short term debt. In the meanwhile the franc had fallen to nearly 250 to the pound sterling, one-tenth of its pre-war value.
It is a tribute to M. Poincaré that he found it unnecessary to adopt extreme measures to deal with this situation; the French Parliament abrogated none of its authority in his favor; no forced consolidation of the floating debt took place; no fresh advances were sought at the Bank of France; no large foreign loans or credits were obtained by the Government. There was no display of fiscal virtuosity. On the contrary, a reform program based on sound principles was adopted and enforced. First, the budget was balanced by means of new taxation; the year 1926 closed with a surplus of over 1,500 million francs in the hands of the Treasury. A Sinking Fund and Public Debt Management Commission was created to manage the floating debt and administer the newly created sinking fund. The Bank of France was authorized to purchase and sell foreign exchange and to purchase gold at approximately its current value from its holders in France. The policy of paying the market price for money was adopted and a series of floating and short term debt consolidation loans were successfully offered. The efficacy and adequacy of these measures have received striking proof.
On the eve of the de jure stabilization, the 4 percent rente of 1918 sold to yield 5.05 percent. The Treasury was amply supplied with cash. Its foreign balances cannot have been much under $100,000,000. Budgetary receipts in the first five months of 1928 were one thousand million francs in excess of estimates. The budget for 1928 will yield a surplus as did those of 1926 and 1927. The floating debt in the hands of the public, which now consists entirely of two year bills, has been reduced by over 20 percent, and that in the hands of the Bank of France by over 50 percent. No floating debt matures before January 1, 1929, and maturities thereafter will not average over two thousand million francs a month. Not only has the Sinking Fund Commission been successful in its efforts to fund or lengthen the term of the floating debt, but it has been able to do so on such excellent terms that the service charges on the floating debt have actually been reduced by over 300 million francs per annum. Furthermore, between 25 and 30 thousand million francs of short term debt have been refunded. No short term debt matures before 1931. In the meanwhile the franc, which had doubled in value between July 23 and December 20, 1926, had been de facto stabilized for nearly eighteen months at 124 to the pound sterling.
While this improvement in the position of the Treasury was taking place, the position of the Bank of France was being even more markedly strengthened. Acting under the authority of the Law of August 7, 1926, the Bank in addition to purchasing gold at home had undertaken to regulate the exchange market for the account of the Government. During the period of rapid appreciation of the franc it slowly increased its holdings of foreign exchange. After the de facto stabilization in December, 1926, its valuta purchases grew at an amazingly rapid rate. In the Spring of 1927 the Bank was enabled to liquidate its indebtedness to the Bank of England, a transaction involving a net outgo of approximately $90,000,000. Between August 1926 and June 1928 the Bank acquired gold and valuta to the extent of nearly two thousand million dollars. It should be noted that the Government coöperated in this program of exchange regulation and purchase by using the cash supplied by a series of consolidation loans to pay off 18 thousand million francs of its indebtedness to the Bank.
By the beginning of 1928, therefore, it was clear that M. Poincaré had laid the basis for a return to the gold standard. A political factor, however, complicated the problem. The country faced a general election in April. M. Poincaré hesitated to take definite action until the country had had an opportunity to express itself concerning his policies since taking office. No doubt he recalled the violent criticism with which both press and parliament had greeted the Experts' recommendations concerning de jure stabilization in June 1926. But the lessons of the first eighteen months of his administration had been well learned and, however the results of the April elections may be interpreted, this much is quite clear, the French people by an enormous majority indicated their confidence in M. Poincaré's administration of the office of Minister of Finance. Further confirmation of this feeling was offered by the extraordinary success which attended the issue of the 5 percent Consolidation Loan which was offered immediately after the elections in May. In six business days cash subscriptions to this Loan totaled over $400,000,000, foreign subscriptions being unusually heavy. Indeed it was the very success of M. Poincaré's measures which made a definite return to the gold standard at an early date essential if this success were not to be jeopardized.
As has been noted, subsequent to the de facto stabilization of the franc, the Bank of France found itself obliged to make increasingly heavy purchases of foreign exchange. The Bank was able to make such purchases for a considerable period of time without their involving any important increase in the note issue. Between the Fall of 1927 and the Spring of this year, however, a 10 percent increase in the note issue, which could be wholly ascribed to the exchange purchases of the Bank, did take place. The satisfactory outcome of the elections and the great success which greeted the 5 percent Consolidation Loan so accelerated the flow of capital to France that the Bank was faced with the choice of either continuing to increase its note issue in order to purchase the excess exchange offered, and thus inaugurate a first rate gold inflation, or abandoning the de facto stabilization of the franc and allowing it to rise to whatever point speculation could drive it. The only alternative to either one of these courses was a return to the gold standard, which would at once put a stop to speculation for the rise of the franc and at the same time enable the Bank to obtain control of the internal money market. It was upon this course that M. Poincaré determined, in spite of the fact that he may have wished for a further period of time in which to study the measures necessary to de jure stabilization.
The choice of the de facto rate for de jure stabilization has been the subject of some criticism both in France and abroad. It has been argued that M. Poincaré should have stabilized at a higher level, at just what level his critics do not agree: some say 100 francs to the pound sterling, others say 75 francs to the pound. Those who argue for a higher rate, whatever figure they choose, agree that they do so in the interest of the rentier. Without questioning the justice of the thesis that the losses of the rentiers should be reduced to a minimum, M. Poincaré was bound to consider whether the losses which the country as a whole would suffer as a result of stabilization at a higher rate than 124 to the pound would be compensated for by the gains which would accrue to the rentiers. De facto stabilization had been determined upon in December 1926 in order not to prolong and intensify the effects of the deflation which followed the rapid appreciation of the franc in the preceding five months. In the six months which followed de facto stabilization all the chief characteristics of a post deflation period were noted. There was unemployment, an increase in bankruptcies, receipts from taxation temporarily declined, car loadings and railway traffic receipts fell off. There was a general slackening in the demand for goods. That this depression was shortlived and rather mild in character was due to the fact that the rate of de facto stabilization did not require any very wide readjustment of the internal price level upward or downward.
The growing prosperity of the second six months of 1927 and the first quarter of 1928 demonstrated that the country had adjusted itself with remarkable rapidity to the new condition of affairs. Trade improved, unemployment disappeared, tax returns again began to exceed estimates, and -- particularly satisfactory -- it was made clear that the weight of taxation which had to be borne in order to balance the budget, while heavy, was not so heavy as to act as a hindrance to the normal growth of industry and commerce. Considering that nearly 46 percent of all the taxes levied in France are expended in the payment of past services, this fact proved most reassuring. For while it is true that the wide distribution of public debt in France (it is estimated that there are 1,900,000 holders of Government stock) makes the huge debt service charge for which the budget must provide seem a less serious problem than would be the case if the debt were concentrated in a few hands, nevertheless, in the actual circumstances of France every Finance Minister must shrink from adding to the dead weight charges which the current productivity of the country must bear. The real weight of present taxes in France is 43 percent above the corresponding weight in 1914. If M. Poincaré had allowed the franc to rise from four to five cents in value the real weight of taxes would have been increased to about 54 percent above the 1914 level, whereas, the actual sum of the taxes collected would have declined in terms of francs without any corresponding decline in 46 percent of the Government's annual expenditure. Furthermore, in order to maintain budgetary equilibrium the Finance Minister would have been obliged to increase the rates of existing taxes to the extent necessary to compensate for the loss of revenue which the rise in the value of the franc would have occasioned, and this at a time when the business community would have been suffering from the severe deflationary crisis which would have inevitably followed a 20 per cent appreciation in the value of the currency.
In addition to such large considerations, M. Poincaré must certainly have had in mind the fact that a rise in value of the franc from four to five cents would have obliged him to find a sum of 10 thousand million francs with which to compensate the Bank of France for the loss which it would have incurred owing to its heavy foreign exchange purchases at the four cent level. He has himself admitted that he at one time favored a further rise in the value of the franc -- to what level he did not indicate -- but that the more carefully he examined the question in all its aspects the more firm became his conviction that it was in the best interests of the country as a whole to return to the gold standard at the de facto rate of stabilization rather than at any other level. During the parliamentary debate of the stabilization bill no one presented, and outside of parliament no one has as yet presented, an argument which would lead any informed person to doubt the soundness of his contention and of the decision to which it led.
The new Monetary Law and the Conventions with the Bank of France, and the Sinking Fund Commission which supplement it, contain a number of provisions which imply a radical departure from the pre-war monetary practice of France. The franc, which remains the French monetary unit, consists of 65.5 milligrams of gold, 900/1000 fine. It is convertible at this rate on demand into either gold coin or bullion at the option of the Bank of France and in minimum quantities to be fixed by agreement between the Bank and the Finance Minister. Thus a gold currency is not contemplated for the present, although provision is made for the introduction of gold coin into circulation at some later date; for the moment, as in Great Britain, the gold bullion standard is to suffice.
Article Four of the Monetary Law abolishes previous legal provisions fixing a maximum total note circulation. It requires the Bank to maintain a gold coin and bullion reserve equal to at least 35 percent of its demand liabilities, that is to say, of its note circulation and deposits combined. Thus the Law of the 17th Germinal of the year XI, which required a fixed legal limitation to the note issue, is abrogated and a limitation on the usefulness of the Bank is removed. The decision to require the Bank to maintain a minimum reserve against demand liabilities is in accordance with the almost universal modern practice in this respect. It is based on the recognition of the fact that deposits are potential currency and therefore should carry a reserve.
It should be noted that bimetalism is abolished. The Monetary Law in fact reduces silver to its proper role as a material for minor coinage; it is legal tender for only small amounts. One further provision of the law is of especial interest: deposit accounts of Banks or individuals with the Treasury are abolished. The Treasury thus quits the Banking business, thereby considerably enhancing the Bank of France's control of the money market.
The tendency to give the Bank of France the dominant control over the monetary system of the country, which is noted in the Monetary Law itself, is confirmed by the Convention entered into between the Bank of France and the Government which supplements the law. The Convention provides that the profits of the revaluation of the Bank's reserves shall be devoted to the liquidation of the residue of the State's debt to the Bank and to the repayment of a sum of 1,350,000,000 francs formerly carried in the Bank's statements as "gold pledged abroad." The Bank retains the valuta which it has purchased in the last two years. It is required to make a permanent, non-interest bearing advance to the State of 3,000,000,000 francs the proceeds to be credited immediately to the current account of the State with the Bank. The debt of the State to the Bank on account of Treasury Bonds discounted for foreign governments, totaling 5,930,000,000 francs, is taken over by the Sinking Fund Commission to which certain specified sums are to be paid for its amortization. The Bank is granted the right to purchase short term bills and securities for such foreign banks of issue as have current accounts with it. On the demand of such banks the Bank of France may rediscount such bills for their account. The Bank is given the means and authority to undertake open market operations with a view to controlling the volume of credit when such a course seems advisable.
The effect of the above is to make the Bank of France one of the most powerful central banking institutions in the world. Its gold reserve at home, which is equal to about 40 percent of its demand liabilities, totals nearly $1,160,000,000. Its assets include foreign exchange holdings which aggregate approximately $1,425,000,000. Thus over 80 percent of its assets are in the form of gold or foreign exchange. It has the means at its disposal to obtain complete control of the internal money market and to act as a depositary and in other banking transactions for foreign central banks. Its management is in the hands of men who have so clearly demonstrated their skill, foresight and judgment in the past two years that the prestige of the Bank has been enormously enhanced. So complete is the restoration of confidence in the soundness of the Bank that the weeks immediately following stabilization were characterized by a steady flow of hoarded gold into its coffers. No more striking tribute could have been paid to the success of France's monetary reform than this spontaneous desire of the public to exchange hoarded gold for bank notes.
With the exception of the United States, France is the only belligerent state which has returned to the gold standard without the aid of foreign loans or credits. Not only has she brought to a conclusion the work of physical reconstruction, involving a total expenditure of nearly $7,000,000,000, six-sevenths of which sum she provided from her own resources, but she has similarly, through a further mobilization of her resources, successfully concluded the task of fiscal reform. When one considers the diversity and complexity of the problems which France was called upon to solve after the Armistice the promptness and completeness of their solution is astounding.
The French seem to have made the art of recovery from war and its consequences their own. After the Religious Wars, under the Regency, under the Directorate, after Waterloo, after 1870, in a surprisingly short time, almost imperceptibly, France has reconstituted her power and wealth. Competent leadership such as she now enjoys has been forthcoming at such times, and the national genius has promptly responded. Small wonder that the French now face the future and its problems, internal and external, with equanimity and renewed confidence in their capacity to find a solution.
[i] The first year of M. Poincaré's financial administration was examined in FOREIGN AFFAIRS for October, 1927.