The Hollow Order
Rebuilding an International System That Works
THE German Government on June 14 declared the discontinuance from July 1 until further notice of all payments in foreign currencies on its foreign market debt, the major issues of which are known as the Dawes and the Young bonds. This important declaration followed an announcement by the Reichsbank that for a period of six months the Bank would be unable to provide any more foreign exchange for the transfer of service on German long and intermediate term obligations of any kind. The Reichsbank pronouncement brought to a definite close the negotiations which foreign committees had been carrying on at Berlin on behalf of the holders of German bonds other than those of the Reich. The declaration by the Government brought into serious question the integrity of the external market obligations of the Reich itself -- a matter of far greater importance in principle even though substantially less significant in amount involved.
Strong protests against the unilateral action of the German Government in suspending transfers on the Dawes and the Young loans were promptly lodged by the trustees of the two issues, by the bankers who had sponsored the sale of the American participations therein, and by the interested governments, including that of Great Britain, which was one of the co-signatories of the underlying treaties, and that of the United States, whose investors had purchased the largest single national share of the bonds. These protests alleged generally breach of contract, and absence of force majeure as justification for the breach, and drew attention in vigorous terms to the privileged and unusually solemn character of these particular issues and hence the serious nature of the action of the German Government. Simultaneously discussions of the capacity and willingness of Germany to meet the service of the whole body of its foreign debt flared up all over the world in a way that recalled past discussions of the now substantially extinguished reparation obligation.
Of the nations directly interested in the prospective defaults on the Dawes and the Young bonds at their next semi-annual coupon dates, all but the United States normally show passive ("unfavorable") trade balances with Germany. Thus the European creditor nations found themselves in a position readily to collect the interest receivable, should they deem it expedient, out of sums currently due by their nationals for merchandise imported from Germany. Clearing systems for the sole purpose of enforcing debt collection are objectionable; they hamper trade and are likely to react unfavorably sooner or later on the creditors themselves. Nowhere are the objections more clearly recognized than in Great Britain, a trading nation interested in restoring the unimpeded flow of commerce. The British Government, however, with characteristic realism, proceeded to equip itself with the bargaining weapon which the nation possessed by virtue of being one of Germany's best customers.
On June 15 (a date the significance of which as also marking the British default on the American war debt was not overlooked by some British commentators) the Chancellor of the Exchequer moved to obtain from Parliament, and a few days later did obtain, discretionary authority to set up debt collection machinery through clearings. The German reply was a threat of retaliation against the British Dominions, which sell more to Germany than they buy from her. Nothing came of this, however, and by July 4 Germany had agreed, in consideration of London's suspension of the clearing system, to provide sterling to pay British holders of coupons maturing to December 31, 1934, on bonds of the two issues which on June 15 had been in the ownership of British holders. Subsequently France, Switzerland and Holland obtained agreements according similar treatment to their nationals.
Meanwhile the United States Government, in a note dated June 27 (apparently not published in Germany) set out in admirable outline the case against the general moratorium. Not having been a party to the international treaties underlying the Reich bonds, it dealt with the special question of their status largely as a part of the broad question of the status of all American investments in Germany. Another note soon followed (July 16) protesting against the discriminatory agreements.
The moratorium announcement expressed the desire of the German Government and of Dr. Schacht as head of the Reichsbank to obtain special concessions for the German export trade, as a consideration for ending or modifying the suspension of transfers on the bonds. The avowed purpose and justification of this suggestion were to enable the Reichsbank, as a result of an expansion of exports, to procure increased supplies of foreign exchange with which to meet the service of the debts. When the American Government came to deal with the merits of this proposal the agreement in favor of British bondholders had been concluded, and the American Government firmly rejected the necessity or propriety of its "entering into special agreements as new and additional inducements" to the observance of an existing obligation of the German Government to accord equal treatment to American investors. It stood on the unassailable ground that "the credit of the German Government is pledged on terms of unconditional equality to investors in all parts of these [the Dawes and the Young] issues," and that, in favor of all the creditors without distinction, "exactly the same revenues were hypothecated with a clear absence of reservations, written or implied, at the time the obligations were contracted."
On July 26 it was reported in a press despatch from Berlin that Germany had replied with an assurance of equality of treatment to the United States. At the present writing, this information has not been officially confirmed.
The German Government's unilateral denunciation of its obligations having substantially failed of its purpose, and the substitute régime of discriminatory fulfilments having apparently broken down, it is presumably still open to that Government to deal with the situation by the diplomatic method which would be correct under international law. The obligations undertaken by Germany on the Dawes and the Young bonds were of the highest and most solemn character possible for a nation to enter upon; they were promises offered by a sovereign Power to individuals outside its jurisdiction and without means of ultimate recourse through processes of civil law; the promises were voluntarily given by the obligor; they were pledged on the faith of the nation; and they were ratified by treaties to which Germany was a party. As for the other governments, parties to the creation of the obligations and to the treaties underlying their flotation, those European co-signatory Powers stand as moral guarantors to the whole body of creditors without discrimination.
The German Government upon reaching the conclusion that circumstances rendered impossible the honoring of its obligation, obviously had open to it the proper and adequate procedure of convening a conference of the treaty signatories to consider the case for a moratorium. Such action even now might repair the prejudicial consequences to the structure of international relations and credit set in motion by the moratorium declaration and subsequent diplomatic events.
The critical October 15 interest date of the Dawes loan is now not far distant. The breach by Germany does not at present consist in any failure to pay semi-annual coupons in foreign currencies; all such payments, prior to those due October 15 on the Dawes loan and December 1 on the Young loan, have been made.[i] The present breach consists in the failure since July 1 to pay to the Trustees instalments in foreign currencies on the fifteenth of each month, as required by the contracts, to be accumulated against the next succeeding interest maturity. In lieu of foreign currencies the Reich is now currently paying the monthly instalments in equivalent reichsmarks to Trustees' accounts in the Reichsbank.[ii]
A reliable estimate of the approximate amount required annually to serve all tranches of the two loans (without giving effect to the "gold clauses") is, for interest, Rm. 89,000,000[iii] (of which Rm. 28,600,000 relates to the Dawes loan) and for sinking funds Rm. 36,800,000 (of which Rm. 21,700,000[iii] relates to the Dawes loan) or a total of Rm. 125,800,000, equivalent, at a recent current official rate of exchange,[iv] to $49,800,000, of which $35,200,000 represents interest.
In the moratorium note the German Government made an extended explanation of the current deficit in German foreign trade and the related shortage of gold and foreign exchange available to the Reichsbank, which it stated had resulted in the decision to suspend foreign currency payments on the whole body of the foreign debt. In the course of that presentation it was stated: "Germany has never spoken of a repudiation of the loans placed on the market, regardless of whether their aim or their effect was of a productive nature or was for payment of reparations. On the contrary she has always emphasized her determination to honor these loans. . . ." Regarding the Reich loans it stated that "the rights and special position of the two loans will in no way be prejudiced by the contemplated regulation of transfers," and that the Government was "cognizant of the special obligations entered into with regard to these loans."
The general denial of intention to repudiate did not carry the quality and degree of reassurance which the creditors would have been only too glad to be able to gather from it. The agitation in Germany of the past several months directed against foreign debts is too recent and has been too intense and the German internal political situation is too complex for the misgivings aroused abroad to be abruptly dispelled by a formal disclaimer at this time. There was also the palpable fact that the announced suspension of transfers on the Reich loans constituted in itself a treaty violation and breach of contract. A further disquieting factor was the suggestion appearing in the note and elsewhere that the Reich loans and the private debt as well had a political origin and were predominantly connected with the payment of reparations.
Nor were the specific statements on the Dawes and the Young loans found sufficiently reassuring, in the absence of concrete steps to maintain their service. Considering the importance of the subject, they were brief to the point of curtness. They constituted extremely faint acknowledgment of the peculiarly privileged legal and moral position of the two loans, of the importance of the needs which they had served in the post-war rehabilitation of Germany and of the voluntary and solemn nature of the covenants entered into by Germany for their service. And the assertion that the position of these loans would in no way be prejudiced by transfer suspension could not be accepted. Creditors everywhere have a well-founded conviction that moratoria, once assented to, are extremely tenacious, and that unpaid balances rapidly mount to unmanageable proportions. Supporting this feeling there were disquieting reports of opinion in Germany, illustrated by a Berlin despatch in the London Economist of June 23, which in explanation of a revival of business optimism and a recovery of stock prices on the Bourse, said that "the conviction prevails that a complete transfer suspension, if it can be put through against the retaliation threats of debtor countries, means the definite extinction of the debts."
Secretary Hull brought out the basic weakness of the declaration of June 14, as it related to the Reich bonds, when he said (note of June 27): "It has generally been judged that it is the obligation of a debtor government to so direct its policies that sums required to meet external obligations receive priority over all but the essential needs of the government." The reference which he then proceeded to make to reported extensive German purchases of foreign material susceptible of military use need not, perhaps, here be emphasized. Though the difficulties confronting German financial policy are very great, a nation of Germany's towering position in the world economic structure can hardly in any conceivable circumstances enter a convincing plea of incapacity with relation to an obligation of the order of $50,000,000 a year. The representation of the American Secretary of State as quoted seems therefore capable of standing alone as a conclusive rejoinder. Its pertinence and force are derived from basic conceptions of credit.
Last March, while discussing foreign debts and credit problems, Dr. Schacht said: "I believe one could name several South and Central American republics which defaulted three or four times, but have always been given credit again." [v] This utterance and the declaration of June 14 were depressing to that large body of students and men of affairs who believe that a world organized around credit will again emerge when the follies of economic nationalism have lost their lure. It was a matter of concern that the governors of the policy of one of the world's greatest economic units are unable to recognize the principle of credit -- commonly accepted as fundamental to the maintenance of a nation's world position, whether as seller or borrower -- that the payments on the national debt owing to foreign investors must be maintained at all hazards.
The German Seven Percent External Loan of 1924 was issued for the purpose of putting into effect the report of the Dawes Committee which had been set up to "consider the means of balancing the budget and the measures to be taken to stabilize the currency of Germany." The loan was issued in the United States, Great Britain, France, Switzerland, Holland, Belgium, Sweden, Italy and Germany (listed in order of size of allotments) in bonds of various currencies in a principal amount equivalent, at par of exchange, to approximately Rm. 968,000,000.[vi] This amount at old parity of exchange was equivalent to approximately $230,000,000. The American block was $110,000,000, of which $60,844,300 was still outstanding on April 15, 1934. Slightly more than a quarter of the total was sold in England. The loan was to be fully retired in 25 years. It was issued (except for the Swedish tranche, constituting 3.4 percent of the total) at 92 and the proceeds were paid over to the German Government in gold and foreign exchange.
The principal amount of the loan outstanding March 31, 1934, was the equivalent, without allowance for currency depreciation, of Rm. 648,700,000. Allowing for the depreciation of sterling and Swedish crowns by about 40 percent of their par values, it was the equivalent of Rm. 502,600,000; if effect is not given to the "gold coin" clause contained in the bond of the American issue, the amount outstanding (taking dollars as depreciated by about 40 percent) was the equivalent of Rm. 399,900,000. On the latter basis, the original loan has been reduced by 58.6 percent. Of this reduction, Rm. 249,000,000 is due to the depreciation of dollars, sterling and Swedish crowns, and Rm. 318,000,000 to the operation of the sinking fund through drawings or purchases on the market below the call price of 100 (105 for the American tranche).
The service of the Dawes loan is a direct and unconditional obligation of the Reich, chargeable on all its present and future assets and revenues. For the amounts required there was constituted as collateral security a specific first charge on the gross revenues from the customs and from the taxes on tobacco, beer and sugar and from the net revenue of the German Government from the spirits monopoly. In addition, the German Government and the reparation authorities agreed, "for the purpose of providing the necessary foreign currencies for the service of the Loan, that funds required to be sent abroad shall have an absolute right of remittance which right shall have priority over the remittance of funds required to be remitted in discharge of reparation payments or other liabilities," -- which at that time constituted a first charge on the assets and revenues of the German Reich.
The Experts' (Dawes) Plan of 1924 was superseded by the New (Young) Plan of 1930, which was temporarily modified by the London Protocol of August 1931 (the "Hoover Moratorium") and will be superseded by the Lausanne Agreement of July 1932, if the latter should receive the necessary ratifications. In each of these agreements the signatory governments expressly declared that nothing therein diminishes or varies the rights of the bondholders or the nature and extent of the German Government's prior obligations and engagements securing the Dawes loan. Moreover, as an essential part of the "transitional measures" as a result of which the execution of Germany's reparation payments is reserved during the interim period between the date of signature and the date of ratification of the Lausanne Agreement, it is provided that the service of the Dawes and the Young loans will not be affected by such reservation.
An essential aspect of the Hague Agreements of January 1930, putting into effect the Young Plan, was a provision for the issue on the international markets of a long term loan to the German Government to yield the equivalent of $300,000,000. One-third of the proceeds was to go to the Reich for the German Railway Company and the German Post Office and Telegraphs. Two-thirds of the proceeds were to go to the reparation creditor governments, allocated as follows: France $132,215,000, British Empire $50,000,000, Italy $13,105,000, Japan $2,060,000, Jugoslavia $1,872,000, Portugal $748,000. This represented a partial capitalization or mobilization, as contemplated by the Young Plan, of the non-postponable reparation annuities fixed thereby.
The Young bonds were issued (in order of size of the tranches) in French francs, dollars, sterling, Swedish crowns, florins, Swiss francs, reichsmarks, lire and belgas in a face amount equivalent, at then existing parities, to approximately $351,000,000. The loan, bearing interest at 5½ percent, was issued to the public at 90. The difference between the face amount and the realized net amount of approximately $302,000,000 was due to the discount of 10 points and to commissions and expenses. The principal (face) amount issued in the United States was $98,250,000, of which at December 1, 1933, $91,305,600 was still outstanding. The principal amount issued in French francs was the equivalent of $98,578,000, in sterling $58,400,000, in reichsmarks $8,568,000. The loan matures in 1965, and a sinking fund is provided, computed to be sufficient to retire the entire issue at or before maturity.
The principal amount of the loan outstanding March 31, 1934, was the equivalent, at old parities, of $327,800,000. If, however, effect is not given to the gold value clause contained in the General Bond, and if dollars, sterling and if Swedish crowns are taken as depreciated by about 40 percent of their respective par values, the amount of the loan outstanding March 31, 1934 was the equivalent of $258,600,000 (gold dollars, old parity).
As regards the two-thirds of the service monies provided out of the non-postponable reparation annuities, the German Government constituted as collateral guarantee for the annuities a special tax payable by the German Railway Company and undertook, subject to the charge securing the Dawes loan, to reserve free from any charge securing any loan or credit in priority to, or pari passu with, the said annuities, the proceeds of the customs, the tobacco taxes, the beer tax and the tax on spirits. Under the terms of the "Hoover Moratorium" and the Lausanne agreement similar guarantees against interruption of service apply to the Young loan as to the Dawes loan.[vii]
During the past two or three years there has arisen in Germany a new interpretation of the events of 1924 and 1930 which would require, for its acceptance abroad, a substantial adjustment of the historical record. The loan of 1924 was the heart of the Dawes plan, and it rescued Germany from an imminent threat of complete economic anarchy. It is not precisely that accepted fact which Germany asks the world to revise, but, more subtly, the interpretation placed upon it.
The Dawes loan operation, like every economic transaction, was a coöperative enterprise, in form two-sided, in consequences many-sided. It was a basic contract between a willing group of purchasers of a promise to pay and a willing seller of his own credit -- basic because it released the dammed up forces of production and trade throughout the world and benefited millions everywhere. It benefited Germany's neighbors and creditors, directly and indirectly, as well as Germany herself. Its initial impact, however, and its most notable effects, were felt by Germany. It immediately and directly provided the Reichsbank with the gold and foreign exchange reserves necessary for the new currency system, through the deposit by the Government of the foreign money proceeds; it immediately and directly provided, through the creation of reichsmarks against the gold deposit and their issuance to the government, the means of balancing the national budget; and it immediately and directly gave employment, through the disbursement of those reichsmarks, to German coal mines and factories for the production of deliveries on reparation account.
Under the impetus thus given to monetary, fiscal and industrial reconstruction, the whole of the German economic organism rapidly took on a healthier tone, and through the consequent reëstablishment of Germany's international credit her working capital was replenished and her industrial plant rebuilt. She experienced a marked expansion of economic activity until, when the world depression struck, Germany had resumed her place among the great producing and trading nations of the world.[viii] It can justly be said that the beneficent results of the Dawes loan were felt predominantly in Germany. Germany was in extremis, and the formation of the loan syndicate under urgent pressure of her impending collapse was one of the greatest salvaging operations of history. The Dawes loan was the basis of Germany's revival -- the foundation stone upon which has been erected her present powerful industrial structure.
What the world is now asked to accept is a characterization of the Dawes loan as one of predominantly political origin, "tainted" by reparations -- as not being really devoted to the rescue of Germany because it was also intended to assist, and did assist, her creditors to make collections on the reparation debt. The idea is untenable. If every loan contract from which someone other than the borrower derives a benefit is thereby vitiated, clearly no contracts at all have any force or meaning.
Conceivably, in rebuttal, the coals of old controversies might be fanned by a revival of the question as to the extent to which Germany was responsible for her 1924 plight, or even, going still further back, for the war. But as to the irrelevance in this connection of all that -- as to the clear break with the war psychology and controversies which the initiation of the Dawes plan genuinely meant to those responsible for its adoption -- adequate contemporary testimony not only from foreign but also from German sources [ix] could readily be adduced.
There has also been heard a suggestion, not entirely distinguishable from the one just discussed, that the undertaking of the loan obligation by Germany was not a voluntary one. What has already been said about the beneficent consequences for Germany of the Dawes loan suggests the reply. If a man whose family is down with the smallpox accepts the services of a doctor recommended by the Board of Health, it is not reasonable, when the bill is presented, for him to suggest that he did not voluntarily get the smallpox, and, therefore, did not voluntarily employ the doctor.
An effort has also been made by the German authorities, as evidenced by the suspension a year ago of foreign currency payments for the Young loan sinking fund, to drive a wedge between the Young loan and the Dawes loan and place the former in a secondary moral position.
With respect to fundamental economic benefits felt by Germany, the record of the Young loan is of course much less spectacular than the Dawes loan, although a third of it was applied directly to the requirements of essential public services of the Reich. On the other hand, the voluntary factor in its negotiation by Germany, starting in 1929, was more striking than in the case of the Dawes loan. Germany was no longer in a state of collapse. She was busy and prosperous. She was eager for a new arrangement, whereby in consideration for her agreeing to "commercialize" or, as it was represented, definitely remove from the political category, a portion of the reparation debt, she could obtain an acceleration of the evacuation of the Rhineland, the abolition of the foreign controls of the Dawes plan, a reduction of the immediate burden of that plan, and the annulment of the "prosperity index" feature of its sliding scale of payments. All in all, she wanted to face her obligations of every description as once more a wholly free and independent member of the family of nations.
These things she accomplished, and with no shadow of compulsion placed upon her to offer "commercialization." Compulsion means the use of force. When the offer was made, the Allies still had troops in the Rhineland, but they had already partly evacuated it in conformity with international agreements, and as Germany was meeting all her obligations punctually, the evacuation would have been completed in due course in conformity with those agreements. Germany's record under the Dawes plan had been unexceptionable. She enjoyed good credit, and the Young loan was floated at a favorable interest rate on the security substantially of an international treaty and a statement by the Minister of Finance that "the payment of the principal, interest and sinking fund of the loan is a direct and unconditional obligation of the German Government to the bondholder, for which the full faith and credit of the German Government are pledged." The concluding "full faith" clause, as reproduced in the prospectus for all the world to see, was offered and accepted as a gratification to German pride. Germany's aspiration to face her obligations freely had been recognized as a proper one. Its realization and the acceptance by the investors of the world of an obligation pledged on the untrammeled good faith of Germany were universally hailed as marking a great advance in the conduct of international affairs and the animating spirit of international relations.
On no ground of duress exerted when the obligation was undertaken can the Young loan contract now justly be attacked. There remains only the seemingly inconceivable assumption that the payment in 1930 of $200,000,000 made by world investors to the Allied Governments for the account of Germany might now be retroactively disavowed because of its having been made as a partial payment on a large reparations obligation, the balance remaining on which has since been substantially extinguished by the Lausanne agreement. That agreement itself, however, gives the sufficient answer to this, in the specific undertaking contained therein that the service of both the Young and the Dawes loans would be maintained. Whatever now happens, however, it is clear that the position of the American investors in the loan still will be not only legally but also morally unassailable, for as the American note of June 27 said: "The United States received no reparations from Germany."
For some time past not only the Reich loans but also German external corporate and municipal obligations have been falling under the implication in Germany of having been involuntary in their origin or predominantly reparation-connected in their effect. In a statement appearing at the same time as the moratorium declaration, Dr. Schacht said: "The so-called Layton report of the International Basel Conference of August 1931, established unambiguously the fact that of the yields of the foreign loans[x] more than half, that is, 10½ billion reichsmarks, were directly used for payment of reparations." And a similar statement appeared in the moratorium declaration. As to this, the Berlin letter of the Economist, of which Sir Walter Layton is editor, said (June 23, 1934): "Every reader must understand this to mean that the 'yields' were paid not to the German borrowers, but directly to the reparation claiming countries. This is pure central-bank nonsense."[xi]
We read further, in the declaration, that "only about half of the equivalent of the foreign capital which flowed into Germany during this period therefore became an asset of the German economic system. While 10.3 billions of reichsmarks in foreign exchange were used for reparations, and therefore could not work in the German economic system, Germany had to take over the burden of interest on and amortization of all the foreign credits."
The loans in question were obtained by industrial, utility and financial corporations and by states and municipalities for purposes represented by the borrowers to be proper and essential, and for the most part of an industrially productive nature.[xii] The proceeds were paid over directly to the borrowers for such use. The assertion that these proceeds did not "work in the German economic system" will not bear examination. They put men to work building, reconditioning and extending plant and furnished working capital -- creating new productive capacity on a large scale. Germany was equipping herself for a great place on the world markets, providing herself lavishly from foreign funds with the means to compete powerfully overseas and, incidentally, thereby to build up an export surplus which would, with a profit over, produce the foreign exchange required for service of the loans.
That productive capacity, in final result, was translated into German products which, whether consumed at home or sold abroad, supported and elevated the German standard of living and strengthened the whole economic fabric. The manufacture of those products provided means of livelihood for workers and a source of profit for employers which will continue year after year, as long as the physical assets endure -- if German policies are such as will induce foreigners to buy German goods.
The fact that part of the annual profits from the employment of the loans during the years from 1924 to 1931 went for reparation payments affects in no sense the truth of the foregoing. If there had been no loans there would have been no reparations derived from taxes on profits earned on the proceeds by the borrowers. Reparation payments, then, would have been derived entirely from existing domestic sources of German income through higher rates of taxes. The total national income, which is the index of a nation's health and prosperity, would have been substantially less, and the reparation burden, relatively to income, substantially higher. The wages which in reality were received by workers in the borrowed-money-built factories, and the earnings which in reality accrued to the employers, would not have been enjoyed. That 80 or 90 percent, say, of the employers' profits which in reality remained to them after payment of taxes levied for reparations would not have come into being and would not have been incorporated into the German economy, as in reality it unmistakably was, as new capital accretions.
Against their promises to pay, the borrowers received foreign money which they deposited in their banks. Such of that money as they spent for foreign equipment went into the German economy in the form of imported productive physical assets. The remainder of the foreign money was sold to the Reichsbank in exchange for marks, which constituted, for the borrowers, purchasing power in Germany for the construction of plants and use as working capital. The foreign exchange became part of the currency reserves of the Reichsbank, and as required by the German Government for reparation payments was sold to the latter in exchange for marks raised by the Government by taxation. The operation of the mechanism of exchange within the Central Bank established a connection between the granting of the loans and the payment of reparations which was a superficial one arising from the mere swapping of currency counters. The two transactions were unrelated in substance.
The Reichsbank currency reserves, consisting of gold and foreign exchange, operate as the principal fund through which receipts and payments of foreign currencies by the German Government and nationals are ultimately cleared. At a given date they represent the major part of the balance of foreign currencies remaining available in Germany. In recent years these reserves have been supported, at first largely by the inflow of foreign currency proceeds of loans designed to increase the country's productive capacity and competitive position, and more recently, after the loans had ceased, by a commodity export surplus and income from shipping and other services. For the years 1930-1933 the commodity export surplus was favorable, though after 1931 in decreasing annual amounts, accompanied by a marked shrinkage in volume of trade. From 1931 to 1933, exports decreased about half and imports about 37 percent. In 1934 the trade balance turned against Germany.[xiii]
The present shortage of the reserves of the Reichsbank is acute. On August 23 its gold and foreign exchange holdings amounted to Rm. 78,000,000 (or 2.2 percent cover to its note circulation), a level at which it had been stationary for two months. Other foreign currency resources available in Germany were estimated by the foreign creditors' committee, from German sources, as having been, in April 1934, not less than Rm. 312,000,000. Since August 23, 1933, the reserves of the Reichsbank have declined from a figure of Rm. 361,000,000; on August 23, 1932 they had stood at Rm. 912,000,000 (or a currency cover of 25.2 percent).
Some Rm. 425,000,000 or more of the reductions in the Reichsbank reserves resulted from the repayment in 1933 of capital liabilities of the bank, representing credits granted by foreign central banks and others in 1931; this reduction, therefore, constituted a deferred liquidation of the international financial panic of 1931, when large short-term foreign credits in Germany were called.
Other causes of the shortage, connected with trade movements, are numerous. Generally, in the world-wide battle-royal of trade deflationary measures, Germany has been, on balance, the loser. In the existing tangle of restrictions surrounding all international trade, it is useless to try to say which restrictive action in a given series was aggravating cause and which was defensive retort. There is no doubt, however, that recent German trade restriction policies have been extremely aggressive, as a result of the extraordinary emphasis placed by the Nazi Party on the idea of national self-sufficiency.
In foreign trade the element of good-will and good relations is normally very important. There is still discernible in the methods of some governments a not wholly unsuccessful technique of minimizing the offensiveness with which the rôle of economic nationalist is played. A very deft touch is required if embargoes are to be clamped down without stirring up special rancor; and this is true of embargoes on debt payments as well as on imports. The German touch has been far from delicate. In the final result, Germany relatively has lost ground.
Other factors in the foreign exchange shortage obviously include the refusal or disinclination of many foreigners to buy German goods, due to the Nazi policy of race discrimination and coercion of political dissenters, and, more recently, to the "purging" methods of June 30. Discussion of these matters is not called for in this place.
A further cause of the shrinkage in Germany's foreign earnings, to which some observers attribute very great importance, is loss of competitive power on the world markets through high costs. The most suitable remedy for this, in the opinion of some economists of standing, would be formal devaluation of the mark. This is a sensitive subject with many -- perhaps most -- Germans; and their leaders have declared positively against it. They fear, if devaluation were announced, that recollections of the destructive inflation of 1919-23 would precipitate a currency panic and an uncontrollable "flight from the mark." Consideration of these psychological aspects leads some close observers to regard devaluation as politically impossible at this time.Technical difficulties are also urged as being formidable, due, among other things, to the negligible size of existing currency reserves and the apparent absence of possible foreign sources of stabilization credits. The conviction nevertheless remains strong in many quarters abroad that the Government could successfully cope with the difficulties, both political and technical, and that devaluation is bound to come in the not distant future.
A feature of the present anomalous position of the mark, which has an important bearing on the foreign trade situation, is the existence of some six or more special kinds of "blocked" marks and scrip, selling at discounts up to 50 percent and apparently averaging 30 to 40 percent. Several classes of these represent mark collections [xiv] made in Germany for creditors on foreign long-term and short-term obligations. Under the partial transfer moratoria hitherto in force, creditors who need to realize the interest collections in their own currencies have been obliged to convert them, or substantial portions of them, at heavy discounts partly fixed by the Government. The latter has subsidized German exporters with the profits arising from the purchases, at a discount, of these mark deposits, as well as with the profits arising from repurchases abroad, also at heavy discounts, of German external bonds salable in Germany at substantially higher prices in marks. The foreign creditors' committee meeting at Berlin in May 1934 was informed that the subsidies ranged from 8 to 16 percent and averaged 12.3 percent of the exporters' invoice prices. By this means German exporters have been enabled to meet competition abroad by cutting prices, and a substantial so-called "supplementary exports" trade has been built up, recently estimated by the Deutsche Bank at 40 percent of Germany's total exports.
The supplementary exports schemes have, it is claimed, worked well. The Germans maintain that the foreign exchange thereby acquired is a bona-fide net addition to the exchange supply that would otherwise be available, and, in consequence, that there is no just cause for creditors to believe that exchange which might otherwise be available to pay their interest (also thereby maintaining the values of German bonds abroad) is being withheld in order to provide the means, through these devices, of financing German exports.
The contrary view expressed on this obscure subject is that German exporters will inevitably push the supplementary exports to the detriment of normal lines of business that would produce exchange available for debt service. The American Government (note of June 27) stated that "it is the general belief that many of these [bond] repurchases reduced exchange resources which otherwise would have been available to the Reichsbank for other purposes." These beliefs, if unjustified, ought to be, if possible, conclusively removed. The real benefits of the supplementary exports system to Germany are problematical; the apparent gains may in reality be substantially counterbalanced by adverse effects on foreign customer psychology. Abroad, the feeling persists that the devices employed are too ingenious, and the fact remains lodged in the mind -- however it may be explained away -- that the losses of the foreign investors become the profits of the German exporters.
Another substantial adverse factor in the German trade balance resulted from the policy of "work creation" adopted for the relief of unemployment and stimulation of economic activity. In that connection abnormally heavy importations of iron ore, non-ferrous metals and wood for the construction industries, and of cotton, wool and other materials for equipping millions of brown-shirted troopers, cut into the favorable balance of trade, since they were devoted to domestic construction or consumption and not to fabrication of products for the export market. This spring, confronted by the foreign exchange crisis, the Government instituted a system of rationing of raw materials and of foreign exchange required for their purchase abroad. Although the total imports for the first seven months of 1934 are higher than for the corresponding period in 1933, important industries have felt the pinch of the restrictions, and the steady improvement in general business shown during preceding months now appears to have been arrested.
It is difficult to gain a clear idea of the effective direction of present German economic trends. The years 1932 and 1933 marked a drastic decline, amounting in 1933 to some 45 percent from 1931, in the importation of foodstuffs and drink, as compared with a 30 percent decrease in raw materials and partly manufactured goods. This decline reflected a conscious policy directed toward self-sufficiency in agriculture. A logical result of its continuance would be -- if such things are possible otherwise than in the realm of logic -- to turn large numbers of factory workers into farmers. This shift would, logically, be largely from the industries manufacturing for export; for their markets would be impaired in countries which now supply foodstuffs to Germany. Another conscious effort toward self-sufficiency appears in the movement to develop domestic substitutes for industrial raw materials now requiring importation from abroad. These things look to a decreased German dependence not only on foreign sources of supply but also on sales of German products abroad.
The realization of these objectives, however, must obviously be some distance in the future. Germany's present problem is that of a nation which has achieved an important place, now threatened, as a purveyor of manufactures on the world market. Germany has to have foreign raw materials at the beginning of the manufacturing cycle and foreign customer good-will at its end. Her problem, in its immediate aspect, is how to preserve domestic industries from a collapse precipitated by the rapid shrinkage of an export trade which ordinarily pays for the raw materials. There is room for the gravest doubt whether present German policy goes to the root of the problem.
In Germany's present situation, attempts to negotiate favorable barter bargains with the various governments of nations interested in disposing of raw materials, even if successful, do not seem likely to be sufficient. The maintenance of her position is more than a matter of entering upon a new series of struggles for specific advantages with other equally astute and possibly better situated nations, and of trying to compute, as a problem in arithmetic, the uncertain effects of those negotiations, if and when completed, on her currency reserves. The matter is more urgent than that and, basically, of a different character. Germany, it would seem, needs credit -- credit of several kinds, but, first of all, basic credit in the eyes of the world. The attitude which on mature consideration Germany adopts toward her obligations on the Dawes and the Young bonds will have a fundamental bearing on the state of that credit.
[i] Subject to the fact that the Trustees claim short payments on certain coupons of the sterling, Swedish crown and dollar issues, on account of non-compliance by Germany with the "gold clause" in the contracts since the United States left the gold standard and later devalued the dollar.
[ii] Similar comments apply to sinking fund payments which are required to be made in monthly instalments and completed by October 15th of each year on the Dawes loan and by June 1st on the Young loan. A default in payments for sinking fund of the Young loan, however, has existed since July 15, 1933, when the German Government, over the protest of the Trustee (the Bank for International Settlements), suspended payments in foreign currencies, although it provided the equivalent in reichsmarks.
[iii] Slightly larger than figures appearing in the moratorium declaration, which may have excluded requirements for a small amount of bonds issued in reichsmarks, on which the question of transfer would not arise. In the declaration the amount of the annual requirement for sinking fund on the Young bonds is not stated.
[iv] Approximating nominal par of the mark, which is $.4033.
[v] "The Problem of Germany's Foreign Indebtedness." Address by the President of the Reichsbank before the American Chamber of Commerce in Germany; Berlin March 16, 1934; printed by the Reichsbank.
[vi] The dollar equivalent of the reichsmark at par at date of issue was $.238; since January 31, 1934, the date of devaluation of the dollar to 59.06 percent of former gold content, the reichsmark has had a nominal par value of $.4033.
[vii] The above paragraphs dealing with the formal characteristics of the Dawes and the Young bonds summarize relevant provisions in the governing documents, and together with the information regarding amounts of the bonds issued and outstanding, substantially reproduce matter appearing in the Fourth Annual Report (year ended March 31, 1934) of the Bank for International Settlements, which is the Trustee of the Young loan and fiscal agent of the Trustees of the Dawes loan.
[viii] As to the extent and reality of this recovery, see James W. Angell: "The Recovery of Germany," published in 1929 by the Yale University Press for the Council on Foreign Relations.
[ix] Including Dr. Schacht, speaking at the Reichsbank, October 31, 1924.
[x] Stated by the Layton Committee as having amounted to 18.2 billion marks (net) from 1924 to 1930; the gross foreign debt at the end of 1930 was estimated at 25.5 billion, and the net (i.e. less German holdings abroad) at 15.8 billion. As of December 31, 1933, the foreign debt was estimated by the Institut für Konjunkturforschung at Rm. 12.8 billion (including 6.0 billion short-term, of which 2.5 billion were "Standstill" credits). A large part of the reduction is due to depreciation of the dollar and of sterling. American holdings have been estimated at 30 percent of the short-term, and 50 percent of the long-term debt. These percentages may now be high due to relatively heavy retirements of American-held debt, resulting from depreciation of the dollar and the relatively low prices of German bonds in this country.
[xi] Succeeding extracts from this letter are of interest: "The representation of the 'transfer question' during the Reparation years as a running currency sore which had to be perpetually salved with foreign loans is a perversion of the truth. Had such been the condition in 1924-31, the Reichsbank in the matter of its reserves would have been, as it now is, living from hand to mouth, and seeking itself to borrow directly. But it never did this before 1931 . . . There was no hint of a difficulty in the transfer of recurring liabilities until after the crisis of July 1931, which was due to inability to transfer large capital sums [short-term debt]."
[xii] Such of the loans to public authorities as were not intended for or applied to industrially productive projects were devoted to objects of current expenditure, including social betterment, approved by the authorities as a dead-weight budgetary charge, and as such could not of course be expected to "work in the German economic system," unless indirectly. It is a matter of record that a serious tendency to over-borrow in this connection was emphasized by Mr. S. Parker Gilbert in advice on the public finances given to the German Government by him in his capacity of Agent General for Reparation Payments under the Dawes plan.
[xiii] Space does not permit a discussion of the German foreign trade statistics, or of the problem of service on the whole body of the foreign debt. Some significant primary figures are as follows: The German commodity export balance in 1933 fell by Rm. 402,000,000 (almost 40 percent) to Rm. 668,000,000, exports having declined 15 percent to Rm. 4,871,000,000 and imports 10 percent to Rm. 4,203,000,000. It is claimed that during the latter half of the year the value of "supplementary exports" was Rm. 480,000,000, of which only half brought in foreign exchange, thus reducing the effective export balance, from a foreign exchange viewpoint, to Rm. 428,000,000.
In a statement issued by the Reichsbank on December 31, 1933, Germany's net foreign receipts for 1934 from shipping and other services were estimated at Rm. 250,000,000, showing a decrease of Rm. 270,000,000 from a previous estimate for the year ending June 30, 1934, due to the elimination of an item of Rm. 120,000,000 regarded as non-recurring, representing return of hoarded foreign exchange, etc., and to other estimated decreases of Rm. 150,000,000, resulting from depreciation of foreign currencies, shrinkage in the shipping trade and the use of blocked marks by foreign tourists in Germany.
In the same statement the full annual interest requirements on the foreign debt (based on an estimate of debt outstanding September 30, 1933) were estimated at Rm. 834,000,000. This figure was later reduced to Rm. 734,000,000 by the Institut für Konjunkturforschung by eliminating interest on miscellaneous investments held in Germany not requiring immediate transfer. As of December 31, 1933 the Institut published a revised estimate of the outstanding debt, showing a decrease of Rm. 1,800,000,000 (of which 1,200,000,000 was in short-term debt) from the September estimate. Allowing for this decrease, the estimate of annual interest would be reduced to about Rm. 670,000,000. A further reduction of Rm. 30,000,000, as originally estimated by the Reichsbank, should be made for interest to be saved on repatriated German bonds, bringing the total annual interest requirements to about Rm. 640,000,000. Of this some Rm. 250,000,000 represents full interest on short-term debt, including from Rm. 90,000,000 to Rm. 100,000,000 representing interest on "standstill" credits. Transfers on these credits have not been suspended by Standstill Agreements, nor of course by the Moratorium Declaration, which relates to long and medium term debts.
During the first seven months of 1934 Germany's foreign merchandise trade was reported as showing an unfavorable balance of Rm. 258,000,000. Exports were Rm. 2,407,500,000 and imports Rm. 2,665,300,000, as compared with 1933 figures for the corresponding period of: exports, Rm. 2,765,000,000; imports, Rm. 2,448,000,000.
[xiv] The German debtors generally seem able to meet, in marks, the service of their foreign obligations.