Collapse of a Trick Solution

September 12, 1949

Exchange control is a totalitarian device adopted by Communist Russia and systematized by Nazi Germany. As a general practice it is less than ten years old. Yet it is now so much taken for granted that commentators on the sterling crisis ignore its existence. Those who insist that the main solution is for Britain to cut its production costs in order to compete abroad overlook the enormous price barrier to export caused by a fictitious value for the pound. They want to saw off the piano legs instead of adjusting the height of the stool.

A similar false solution, whose proponents likewise pride themselves on their “realism,” is that Britain must “increase its production.” But if official statistics are trustworthy, this is what it is already doing. Britain’s index of industrial production advanced from 101 in 1935–38 and 100 in 1946 to 121 in 1948 and 133 in May of this year. As contrasted with such gains, our dollar aid to Britain under the Marshall Plan in the last fiscal year was only about 2½ percent of the total British national income.

Why should Marshall-Plan aid of only £245,000,000 a year count for so much, and the officially estimated increase in Britain’s national income of £1,275,000,000 since 1947 count for so little? Britain’s trade-balance deficit (including “invisible” items) in 1947 was £630,000,000. Why hasn’t this been more than wiped out by the estimated annual increase since then of £1,425,000,000 in Britain’s gross national product?

Although it has escaped the British bureaucrats, the answer to this puzzle ought to be obvious. The increase in Britain’s production has not gone primarily into exports. On the contrary, in spite of the best bureaucratic intentions, it has gone almost entirely into increased home consumption. It has done this because distorted price incentives and price deterrents have directed consumption into imports, and production into domestic rather than export goods. And it is precisely exchange control that has brought about these perverted price incentives and price deterrents.

The answer is to abolish exchange control, and let the pound fall to its real market level. Yet so perverted has thought itself become on this subject that this simple restoration of freedom is being dismissed as a “trick solution.” The real trick solution has been exchange control with its effort to prop up the pound to the fictitious level of $4.03. That solution has failed disastrously.

The issue is further confused by the current use of the word “devaluation” in at least three different senses:

1—To mean a cut in the official rate of the pound below its present real market value and real purchasing power. I know of no responsible person who is seriously proposing this.

2—To mean that Britain would keep exchange control but lower the “official” rate of the pound to correspond with its supposed present “real value” in terms of other currencies. This would mean an immediate improvement. But it would be at best a temporary solution and would retain the evils of exchange control.

3—To mean the simple removal of exchange control. This would allow the pound (and every other currency) to seek its market level. Only this would show what the “real” value of each currency was. Only this would bring a constant balance of supply and demand, the end of “dollar shortage” or “hard” currency shortage, a restored balance of international payments, real convertibility of currencies, and restored multilateral trade.

“But,” it will be objected, “if we leave the quotations of currencies merely to the play of supply and demand, they will become unstable.” The answer is that they already are. Exchange control is merely a discredited effort to hide their instability. The world can never get back to real monetary stability until it returns to a real international gold standard.

But that’s another story. We must do first things first. Abolish exchange control.