I Introduction

In ordinary times the world lives from hand to mouth. With all our accumulation of wealth we are never far removed from famine or from shortages of consumptio"n goods. The stored" up wealth of the world, railroads and bridges, buildings, fac tories, machinery, farm improvements, household furnishings, 3 4 EFFECTS OF THE WAR ON MONEY, CREDIT AND BANKING museums and art galleries, and the like, are not available for direct consumption, and with the stoppage of the current flow of goods from farms and factories, fisheries and mines, the world is speedily placed on short rations. It was, therefore, vitally necessary that new supplies should be secured promptly by the belligerent powers, and for this there were several sources. The matter was accomplished most simply in Germany, which was early blockaded and unable to draw in very much from the outside world. There were labor reserves, old men, women and children, and for the labor that was not mobilized there was the possibility of overtime work. This resource was not the first in France, but, none the less, in France by November, 1917, with 24 per cent of the normal labor force mobilized in the army, there was 98 per cent of the normal labor supply at work-which meant a heavy draft on the women, children and old men, and also a draft on colonial and foreign labor brought into Frat:ce.

France and England commanded the seas, and their first resource for the immediate increase in the volume of goods and supplies required for the war was in neutral countries, notably the United States. The one big outstanding fact in the course of international trade during the war has been the gigantic in crease in American exports to England, France and others of the Entente Allies-an increase of exports not met by an increase of imports and constituting consequently a net addition to the physical resources of the Entente. This addition to the power of the countries opposed to Germany was no doubt crucial in saving them from defeat. To a much less extent, neutral resources of goods and sup plies were available for Germany. Germany has drawn on the Netherlands, Switzerland, Norway, Sweden and D'enmark-to some extent on Italy and Roumania in the early period of the war-and on some other countries. Some supplies from America went, in the early part of the war, to Germany, by means of transshipments through the Netherlands, Sweden and other neu tral markets. This, however, has been exaggerated on the basis of the figures for imports from the United States of certain neutral countries, notably the Scandinavian countries. It is INTRODUCTION 5 worth while to point out that in the ordinary course of trade before the war a considerable volume of American goods was sent first to the Free Port of lIamburg and subsequently trans shipped to the Scandinavian countries. When Hamburg was blockaded, these goods were shipped directly to the countries of their ultimate destination, thereby swelling the import figures of these countries from the United States, but not proportion ately increasing their actual imports from the United States. To a very large degree, the Central Powers have been self-sufficing during the whole course of the war.

Viewing the matter in physical terms, therefore, it is fairly easy to see the main transforn1ations that the war has brought about in industry and trade. On the side of money, credit, banking and finance, the outhnes are not so clear and easily drawn. The first effect of all of the outbreak of the great war -indeed an effect that manifested itself with the mere prospect of war-was a greatly increased significance attached to a spe cial function of money, namely, money as a " bearer of options" and as a "store of value." In tranquil times, men are often content to keep their wealth in nonliquid forms. Men can make long run plans and long time investments, and are often glad to get such investments which combine high yield with slight liquidity. But when danger, uncertainty and emergencies come, men prefer gold to real estate. The effort is made, even at the price of a heavy sacrifice, to accumulate econo!11ic resources in form suitable for immediate use. Not knowing which way to turn, .men seek to' prepare themselves to turn in any way that.

the future may indicate to be most advantageous. The effort to sell real estate or other absolutely fixed forms of investment at the outbreak of the war was futile. There were no buyers. But it was possible, to a very considerable extent, to turn securi ties quoted in the great stock exchanges into cash in the form of bank deposits or bank notes, and it was possible,' to a con siderable extent, to turn bank notes and bank deposits into gold; and the first indications of cOlning war manifest themselves in these two operations. The effort to turn bank credits into gold manifested itself 6 EFFECTS OF THE WAR ON MONEY, CREDIT AND BANKING first as German bankers, as early as 1912, began to take steps to increase their gold supply. In order to take gold out of the hands of the people and carry it to the reserves of the Reichs bank, fifty and twenty mark bank notes were issued to t~ke the place of the gold 'in circulation. German agents regularly ap peared as bidders for gold at the London auction rooms. Gold was shipped from the United States to Germany, and the famous Spandau treasure was transferred to the vaults of the Reichs bank. By 1914, Germany ceased to take much gold, having pre sumably decided that her resources were adequate. 1 France and Russia made strong efforts to increase their gold reserves during the spring and summer of 1914. In eighteen months preceding the outbreak of the war, the gold holdings of the central banks of Germany, France and Russia were estimated to have increased by $360,000,000. This drift of gold to these great central reservoirs led to a tightening of the money 'markets of the rest of the world, and led to an unusually large drain on the gold supply of the United States.

So far the movement was silent and unaccompanied by excite ment. It increased the tendency to gloom and depression which most of the financial centers of the world felt in any case, but it was skilfully managed and did not occasion great alarm. Fol lowing the assassination at Sarajevo on June 28, 1914, however, and the alarms that followed, the effort to convert securities into bank credit began to assume great proportions. ·Starting with heavy selling on the bourse of Vienna, with a fall in the prices of stocks of from 10 to 12 per cent on July 13, it spread rapidly to the other great markets, culminating in panics in the bourses of Vienna, Berlin, Paris and other continental centers and forc ing them to suspend operations. The selling spread to London and New York, and, by the time 'war became certain, all Europe was selling in New York, without limit of price, such securities as it held as ·were listed in the New York market. Europe, par ticularly Great Britain, had invested heavily in American securi1 Goodhue. E. W.: " Some Economic Effects of the European War on the United States," Journal of the American Bankers' Association, May, 1916, page 1034: Cotlant: "American Finance in the War Tern·pest," Review of Reviews, vol. 50, page 326.

INTRODUCTION 7 ties, and the efforts to realize upon these investments finally forced even far a~ay New York to close its stock exchange on July 31, a few hours after the London stock exchange closed. In connection with this effort to get wealth into the most liquid possible form, there manifested itself promptly in the con tinental countries a strong preference for gold as compared with bank notes or bank credit, a preference reflecting distrust of the paper money, and reflecting a general belief that the central banks would not preserve the convertibility of their notes into gold. Gold quickly disappeared from circulation; central banks quickly suspended gold redemptioh; and continental Europe went promptly to a paper money basis. The preference for " hard money'" over paper even extended to the silver coin, whose bullion value was less than the value of the bank notes which the people distrusted. This preference for " hard ~oney "

has even extended at times, particularly on the part of peasants, to copper, so that copper coins have been hoarded where bank notes have been paid out. W ~ shall later discuss this phe nomenon in detail in connection with the medium of exchange in France. The strong preference for wealth in liquid form is in itself an evidence of a demoralization of credit, but there were inevitable factors which would have demoralized the credit fabric even in the absence of this dramatic psychological change. At the out break of war, with belligerent cruisers seeking to capture the merchant ships of their enemies, ocean trade was suddeniy inter rupted. The shipments of gold from one country to another be came impossible. The shipment of goods from one country to another became impossible. Unable to ship either gold or goods, unable to sell securities because the stock exchanges were closed, unable to borrow at foreign banks because of the uncertainties of the credit situation and because. 0.£ the weakness of many banks, men in one country who had bought goods from another country and who had payments to make in that other country, were unable to meet their obligations. This situation ce.ntered in London, which, by long standing custom, is the center for making international payments. The whole world was indebted 8 EFFECTS OF THE WAR ON MONEY, CREDIT AND BANKING to London and the world was unable to meet its debts. London institutions, unable to collect from their various debtors, were similarly unable to pay their creditors. The credit situation was necessarily demoralized. The declaration of war, moreover, at once made it impossible that creditors in England could collect from debtors in Germany or vice versa.

The credit system is dependent upon a steady flow of funds from debtor to creditor. Each business man in general is both debtor and creditor; funds starting from an ultimate consumer may go through many hands, canceling many debts in the process. An interruption anywhere -in this chain of payments may de moralize the credit system. There was further the collapse of security values and the inability of those who had borrowed at the banks on stock and bond collateral security, often on call, to pay their obligations at the banks. The volume of such stock and bond collateral loans is in normal times enormous and the banks were greatly weakened by the situation. . The demoralization of industry by mobilization of labor, and through much of France and Belgium by actual invasion, again made it .impossible for great numbers of debtors to meet their obligations. For all these reasons, it is clear that a difficult sit uation was created for banks and the whole credit system. When to this is added the fact that France had been in depression and even crisis for two years preceding the war; that the great private banks of Fra.nce were demoralized by losses in the period pre ceding the outbreak of the war, growing largely out of bad foreign investments; that the private banks in France a.nd joint stock banks in England showed themselves unexpectedly cow ardly-in France much more than in England-it is perfectly clear that the situation called for extraordinary remedies.

The first of these extraordinary remedies we have already mentioned, the closing of the stock exchanges. This was done in considerable degree for the protection of the banks. By long standing tradition, banks are accustomed to reckon the price of the stock exchange collateral on which. they lend, during the hours that the stock exchange is closed, at the closing price of INTRODUCTION 9 "t the last session. With the certainty that stock exchange prices would go indefinitely lower if the stock exchanges remained open, there was also the certainty that the margin of protection which the bankers require in connection with collateral loans would be more than wiped out. The usual remedy which a banker can apply when his margin on a, collateral loan is in danger was not available. In such a situation, a banker com monly calls on the borrower to provide more security, and if the borrower is unable to do this, the banker sells the collateral for what it will bring in the market, applies the proceeds to paying off the collateral loan and turns over the balance, if any, to the borrower. But in this great emergency, neither bankers nor anyone else could have any reasonable expectation of selling securities in considerable amount for enough to protect the loans they were supposed to secure. When the stock exchanges closed, the banks could continue to reckon the securities at the last closing price and thus avoid the technical admission that their assets were impaired, and brokers could be protected against the danger of the banks' " selling them out" at a loss.

But more drastic measures were applied in England and France, and for that matter, despite denials/ in Germany. Moratoria. were ~pplied. By decree of the state, debtors were relieved in varying degree of the necessity of meeting their obligations at the time they fell due and were given time to gather their wits, to set their houses in order and to make such use as they could of slow assets in protecting their solvency. There were no moratoria in the United States, but in New York and other financial centers, by general agreement of the banks, clearing houses, stock exchanges and other financial institutions, the aebtors were protected from pressure by creditors in connection with stock exchange engagements. . Another means of meeting the collapse of the credit system was aid from the central banks in Germany, France and England. This aid in Germany, England and France took the form of rediscounting the paper held by the private banks and other dealers in bills and notes and in a great expansion of 1 Vide Laughlin: Credit of the Nations. New York, 1918, pages 224-227.

10 EFFECTS OF THE WAR ON MONEY, CREDIT AND BANKING the notes or deposits of the central banks. In New York, where there was no central bank, there was still an informal pooling of bank resources and .close cooperation among the banks. Another remedy applied very generally was the issue in one form or another of emergency currency for general circulation: in the United States the i\ldrich-Vreeland notes, in Great Britain a special emergency currency issued by the government, and in France a great flood of notes of the Banque de France with some special emergency currency. A further form of extraordinary remedy was concerted action to handle the foreign exchange problem. One of the first great problems which the outbreak 'of the war occasioned, and a problem of the very first magnitude throughout the war, has been that of obtaining funds for the gigantic war expenditures by the governments, a fiscal problem. In general, there are five main ways in which states may provide for war expenditures: (a) By taxation (b) By long term bonds (c) By short term Treasury bills (d) By advances from a state bank of issue in the form of bank notes (e) By a direct issue of paper money by the government The last method was used to a considerable extent by the North ern government du.ring the American Civil War. It is commonly recognized as the least desirable form of financing a war, and in form 'has been avoided by all the major belligerents in the present war. Practically, however, the distinction between government paper and note issue by the national banks of Russia or Austria is ha'rd to draw; while the legal tender notes of the German loan bureaus (Darlehnskassenscheine) , available as legal reserve for the notes of the Reichsbank, are also practically not to be dis tinguished from a paper money issued directly by the govern ment, with legal tender privilege, to meet the fiscal needs of the state. The notes of the Banque de 'France also have been issued largely in response to fiscal needs. The government paper issued by Great Britain has apparently been kept carefully divorced from INTRODUCTION 11 the fiscal operations of the sta'te and apparently has been issued ' by the government to the banks to meet the needs of circu lation.

On the whole, Great Britain and the United States have made large use of long time loans and taxes, and have called on the banks chiefly in connection with short time Treasury bills or certi ficates, although, of course, banks in Great Britain and the United States have purchased long time bonds and ·have made substantial loans with such bonds as collateral security. To a much greater extent, however, than in continental Europe, Great Britain anq. the United States have financed the war by real sub tractions r'rom the incomes of the people rather than by mere additions to bank credit. It is less easy to speak with confidence of the situation in France. France has done little with taxation, and, to a very large extent, has relied on short term loa~s. But the short term loans appear to have been taken in France largely by the people, and, with the exception of the Banque de France itself, there has probably been an actual contraction of bank credit in France during most of the war. It is probably true that France, as well as Great Britain and the United States, has secured the major part of her fiscal resources during the war from the current income of the people.

We have already seen that the changes in foreign trade are, on the physical side, matters of outstanding significance. The European Entente Allies, purchasing heavily in the United States and from other neutrals, have had an ever increasing 'adverse balance of trade, which at the present aggregates many billions of dollars. This fact has given rise to some of the most critical and interesting financial problems of the war. Ordinarily, within fairly short intervals, a country's exports and imports roughly balance. If, through considerable periods, the physical items of exports and imports do not balance, it is usually easy to find invisible items that complete the balance sheet: interest pay ments, freights, insurance premiums, banking commissions, travelers' expenditures, investments. Items of this sort can usually be counted on to explain such differences between imports 12 EFFECTS OF THE WAR ON MONEY, CREDIT AND BANKING and exports as occur. Balances still unmet are commonly settled with small shipments of gold.

The credit resources of France, England and other European belligerents have been strained in meeting such an adverse trade balance as' the past four years have brought about. The out break of the war saw England and France favorably placed. New York was indebted to them partly because of shipments of commodities earlier in the year, but more because of the heavy fjelling of securities on the New York stock exchange. For a time the exchange rates in New York ruled in favor 0 f Paris and London and New York exported gold, not indeed to London because of dangers at sea, but to Ottawa, where the Bank of England established a depository. With December, 1914, the tide turned, however, as a consequence of increasing shipments of goods from the United States to the Allies and from the beginning of 1915 to March, 1917, when'the United States broke with Germany, there was a steady stream of gold coming to the United States, chiefly through England, amounting in all to over a billion dollars. .

This gold, h~wever, paid for a minor fraction of the adverse •trade balance. The rest was paId for partly by the return of securities to the United StCl:tes, partly by direct government bor rowings by France and Great Britain in.the United States, and partly by adjustments of short term mercantile credits. With the entry of the United States into the war, the adverse trade balance has been met by direct loans by the federal government to its allies. In connection with the loans made before the entry of the United States into the war, it is interesting to note that some of them have been based upon American securities owned by European investors, mobilized by the governments of France and Great Britain, and hypothecated in New York. The progress of the war has been marked by more and more direct governmental control of prices, industry, shipping, basic raw materials, railway transportation, etc., as the world's phys ical.resources have been progressively strained. The course of prices during the war has attracted great attention and has been one of the dramatic features of it. There has been a worldwide INTRODUCTION 13 rise of commodity prices, the inevitable consequence of a world wide scarcity of commodities, due to the fact that 50,000,000 men have been withdrawn from industry and have been put to work in the most destructive kind of consumption of the products of industry, to the fact that transportation resources have been diminished and made precarious, and to the fact that industry, where not directly destroyed, has been demoralized and rendered less productive by the general interruption of the ordinary course of trade. In terms of gold, therefore, commodities in general have risen in price.

To this rise in gold prices, there has been superadded in various countries a further rise in prices occasioned by the depreciation of paper currency no longer convertible into gold. This is true in an overwhelming degree in Russia, in large degree in Austria and Germany, in considerable measure in France, and to some extent in Great· Britain. The change in prices, however, has not been all in one direction. A few commodities have not risen. Coffee and India rubber in the United States would be cases where commodities were as abundant for ordinary civilian consumption during the war as they were before the war. They did not rise in price in the United States. In countries where currency depreciation is not a major factor, the prices of stocks, bonds and real estate have , shown a large decline. This is due partly to uncertainty as to the future of certain securities, but chiefly to a rising discount on the future, as the pressure of present needs forces governments and .

peoples to mortgage future incomes increasingly to obtain the means of carrying on the war and sustaining life. The correla tives are of course rising long time interest rates and rising com modity prices. This is strikingly true in the United States and Great Britain. It appears to be true also in France, at least so far as the securities on the French bourse may be taken as typical. In general, the war has been accompanied by a large expansion of bank credits. This has been true in Great Britain; it has been true in the United States; it has been true to a very great degree in Germany. In France, however, although the Banque de France has expanded credits enormously, the whole increase 14 EFFECTS OF THE WAR ON MONEY, CREDIT AND BANKING being in credits to the state, the other banks have, on the whole, contracted their lending operations and their volume of deposits subject to·check or draft, at least through most of the war period.

In Great Britain, France and the United 'States, the savings banks have all been in some measure alarmed by the shrinkage in the market quotations of their investments and by the ten dency during the earlier period of the war o.f depositors to with draw funds. In all three countries there has developed the understanding that public action will be taken to the extent that is necessary to protect savings banks from insolvency. The problem seems to have cleared for the savings banks of the United States without much positive action. More serious in Great Britain and France, the problem now appears to be a manageable one. The position of the savings banks is typical of all recipients of fixed incomes in a period of rapidly rising prices and rapidly rising interest rates. Railroads and municipal public utilities, whose charges are fixed and whose costs are rising, have suffered during the war; the gold mining industry has suffered; men on fixed salaries or retired capitalists living on investments have found their real income steadily reduced with the rising prices.

In England, France and the United States, some form of gov ernment guarantee of railroad credit has been found necessary. Partly as a consequence of the heavy drains made by the warring states upon the loanable funds of the various countries, it has been increasingly difficult to finance private enterprises. In part, this has been desirable. It is not well that new enterprises producing luxuries or other things that the people can get along without should expand, competing with the governments for labor and supplies in the market, but the necessity for financing the new war time industries has been very great. On the whole, private capital has been adequate for this in Great Britain and the United States, though some state assistance has been neces sary. In France, however, state aid on a considerable scale has been extended to necessary enterprises, including agriculture. The enormous volume of war time expenditures has led to great industrial activity throughout most of the world, and the INTRODUCTION 15 huge profits resulting from the rising prices connected with the war have in large degree buried the financial difficulties which the outbreak of the war occasioned. The credit system has come to life again, moratoria have largely been dispensed with, and pending insolvencies largely averted. To a very consid~rable e~tent, it seems, moreover, particularly in the United States, that business men, foreseeing a shock when the war is over, anticipating a drastic drop in prices with the falling off of war orders and with the return of labor to ordinary pursuits, have buttressed their positions with large reserves, have charged to depreciation the extraordinary expenditures for new. buildings and equipment in connection with the war time industries, and are prepared to readjust themselves to a lower level of com modity prices without bankruptcy.

The problem of the huge debts of the warring states, which we shall deal with in later chapters, has given concern to very many students. It appears probable, however, that there need not be in these war debts any insurmountable dangers to solvency after the war. In what follows we shall undertake to treat these major topics and others necessarily connected with them, with considerable fulness'in the case of France. The discussion of money, credit and bankingin the United States will be much briefer. The rea son for putting the chief emphasis upon France in our discussion is that the war time developments of the United States are much more familiar to American readers than are those in France.

PART I FRANCE CHAPTER II Money, Credit and Banking in France It would be hard to find a sharper contrast among the great banking systems of the world than that between France and the United States. The difference is so great that it is 'not always easy for trained students whose background is primarily French, and trained students whose background is primarily American, to find a common language or to realize that beneath the differ ences in forms there are many common principles in operation. The American takes for granted many practices, and theories regarding those practices, of which some of the best informed French bankers seem to know little; while the French student takes for granted doctrines and practices which must be very carefully explained indeed to the American student of this subject. One difficulty in the way of understanding the French system is the paucity of statistical materials in usable shape.1 With the exception of the Banque de France, the Caisse des Depots et Consignations, and some minor semi-public institutions of bank ing character, French banks are wholly private institutions. If incorporated at all, they are incorporated under the .general corporation laws, and subject to no more state control than a manufacturing corporation would be. The state requires no reports from them in uniform style, or, indeed, any reports at all, in general, except for taxation purposes. Commonly they make annual reports to their stockholders, and frequently they publish some sort of balance sheet statements at intervals between the annual reports. But it is not easy to get information from 1 Cf. opinion expressed in Statesman's Year Book, 1912, page 794, where figures for the private banks are declared to be so unsatisfactory as not to justify republication.