Currency Reform; H. Sennholz

The most spectacular effect of monetary depreciation, however, is the gold and foreign exchange dilemma. It is an effect that, be fore the days of the New Deal, also made its domestic appearance in the shape of gold and bank runs. When commercial banks had overextended their credit in pe riods of business boom and ex pansion, and depositors became doubtful of the liquidity or sol vency of their banks, they began to withdraw their demand de posits and converted their bank notes into gold. The overextended banks dreaded this moment when only banking "holidays" could save them. Severe credit contrac tions usually followed, leading to periods of business depression. President Roosevelt's nationaliza tion of all gold holdings in 1933, which "temporarily" deprived Dr. Sennholz is head of the Department of Economics, Grove City College, Pennsylvania. HANS F. SENNHOLZ American people of the freedom to hold gold,made further gold runs' futile and meaningless. Why should anyone today run to the bank for his deposits if he can only demand paper money of which there is an abundance?

Gold as Medium of Exchange In international affairs, how ever, gold continues to be the ulti mate medium of exchange. While the U.S. government can force its citizens to accept U.S. dollars in settlement of all legal debts, it is hardly conceivable that the Bra zilian government could force citi zens of the United States to deal in Brazilian cruzeiros. In our trans18 THE FREEMAN September actions with Brazilians, whether in the form of current trade or long-term capital loans, we insist on payment in gold or dollars. We refuse acceptance of Brazilian cruzeiros that are depreciating at a rapid rate. The same is true with foreigners. The U.S. govern ment is in no position to force paper dollars on reluctant for eigners. To make payment to them, we have to satisfy them as to the quality and quantity of the medi urn of exchange. True, as long as they readily accept our dollars, we may use them in ex change. But if they should prefer gold, or Swiss francs, or German marks, we have no way to compel their use of our paper money.

In times when men distrust the future of paper money, gold itself rises in value as measured not only against paper money but also against goods. Men turn to gold as the one sure thing that will survive the wreck of paper cur rencies and the changing policies of government. They seek to pro tect themselves by hiding their wealth instead of using it cour ageously in production as they do in a world of reasonable financial certainties. Since the mid-1950's the United States has been in a position simi lar to that of the overextended commercial bank before 1933. Pil ing deficit upon deficit, and continuing to announce huge spend ing programs, increases the dan ger of an international gold run. If foreign central banks were sud denly to demand gold for their dollars, they could topple the money and credit structure of the United States. This precarious monetary situa tion gives rise to numerous pro posals for monetary reform. They range from a return to sound money and the unadulterated gold standard, as it existed at times during the nineteenth century, to proposals for foreign exchange control and gold payments suspen sion.

Dollar Devaluation One possibility would be to devalue the dollar, as was done in 1934; that is, cut the gold content of the monetary unit or, expressed in the currencies of other countries, reduce the num ber of foreign units which can be had for one dollar. The devalua tion would reduce the burden of the U.S. government debt at home and abroad. In particular, it would reduce the claims on gold of 30 billion dollars now held by for eigners. A 50 per cent devaluation, for instance, would enable the U.S. Treasury to discharge its foreign liabilities with payment of half the quantity of gold it has contracted to pay.

1965 CURRENCY REFORM 19 But the champions of dollar de valuation frequently overlook that Americans are net creditors to the rest of the world in spite of the currency liabilities of the U.S. government. Dollar devaluation, therefore, means that, on net bal ance, we make a gift to our foreign debtors who can discharge their liabilities in dollars of lower gold conten t. They also over look the fact that the U.S. dollar is the leading world reserve currency that sets the pace for most other national currencies. If our government de values the dollar, we must antici pate immediate imitation on the part of most free world govern ments. It is unlikely that the United States can devalue its cur rency while the other countries abstain from doing so. But if the other countries devalue in the same proportion, no trade advan tage can be derived from such a devaluation. Our deficits in for eign payments would continue.

Payment Suspension Instead of outright devaluation, an alternative might be attempted in the form of gold payment sus pension by the United States. In this case, all other free world countries would have no choice but to follow suit. Even Switzer land, the free world's banker, would have to follow the U.S. ex ample because a sudden decline of the U.S. dollar in the international money market would invite with drawal of large funds from Swiss banks. The American depositors, for instance, who in the past made Swiss franc deposits, would find it more profitable to withdraw their funds, reconvert them into U.S. dollars which then would be sell ing at large discounts, and return those dollars to the United States. And even countries that lack American deposits would have to follow the U.S. gold payment sus pension because of its severe im pact in foreign trade relations. A worldwide suspension of gold payment also could initiate in Lon don, for the British pound sterling is even weaker than the U.S. dol lar and subject to even greater pressures of devaluation and sus pension. As Switzerland would have to follow our payment sus pension, so would the United States probably have to follow suit in the case of pound sterling decline. Foreign investors with dollar deposits in American banks would find it rather profitable to quickly withdraw their funds and convert them into pounds sterling selling at a devaluation discount.

Furthermore, a pound sterling de valuation would mean instant re duction in the gold and dollar price of English goods, which would invite more American pur chases and discourage American 20 THE FREEMAN September sales to England. Our balance of payments would worsen and our currency situation deteriorate fur ther. This is why a pound sterling devaluation or gold payment sus pension would put the U.S. dollar to a gruesome test. A series of gold payment sus pensions, however, would afford no real solution to currency problems. The weak currencies, no longer payable in gold, might decline con siderably, while the sound cur rencies, although also irredeem able, would tend to resist the de cline. In the end, all currencies no longer backed by gold would soon find international exchange ratios in accordance with their domestic purchasing powers. But this is not all. If the United States should suspend gold pay ments, 30 billion dollars now held abroad, plus an unknown quantity of unrecorded holdings abroad, could be expected to come home to roost. While foreign dollar holders could no longer buy gold from us, they could buy American goods and services. Thus, we might .anticipate a great export boom, the monetary man ifesta tion of which would be the return of many billions of U.S. dollars to our shores. This would provide the fuel for a rapid increase in domestic prices, which makes the precarious gold situation a grave concern for every American. When and if foreign holders of U.S. cur rency begin to exchange their money for goods and services, many millions of Americans might be expected to imitate the for eigners and try in turn to ex change their cash for goods and services.

Exchange Control A third possible manifestation of the monetary crisis would be foreign exchange control. Such control already may be seen in the shape of "voluntary" restrictions on bank lending abroad. Manda tory controls over capital trans actions as well as all foreign trade could follow. American tourists might be restrained from travel ing abroad. Refusal to allocate gold or foreign money could pre vent certain imIX>rts of manufac tured goods and raw materials; and private foreign investments might be curtailed on account of the "scarcity" of media of for eign exchange. The net result of such a series of restrictions would be comprehensive government con trol over all foreign transactions and dealings, which is tantamount to "nationalization." If one coun try adopts such measures, foreign governments will do the same and thus contribute to the gradual destruction of world trade and world division of labor.

It is obvious that foreign ex1965 CURRENCY REFORM 21 change control would have great est significance for industries that largely depend on imports. We may derive consolation from the fact that American .foreign trade amounts to only 10 per cent of all our trade, and that this nation alization through foreign ex change control will affect only that portion. But another 10 per cent on· top of the present government regulation and control would fur ther deplete the remnant of our individual enterprise system. A New Plan In addition to the foregoing pos sibilities, there is a new proposal according to which the United States, by unilateral action, is to transform the world monetary sys tem. Its author is Stanford Uni versity economist, Emile Despres, who also serves as an advisor to the government on international financial questions. According to the Despres Plan, the dollar is inherently far more valuable than gold, for it is the most popular international medi um of exchange. The plan is based on the recognition that the last three presidents have pledged to continue to sell gold at $35 an ounce. But according to Despres, while the selling policy is a matter of national honor, the buying pol icy may be changed. With special exceptions for Great Britain and less developed countries, the United States in the future would pay dollars for only one-third of any nation's gold holdings as they existed before the' change in pol icy was announced. Mr. Despres assumeS that such a U.S. policy would immediately cause the gold price to plummet, and would cul minate in the dethronement of gold and its replacement by the U.S. dollar.

It is true, of course, that the U.S. dollar is the mainstay of the official currency reserves for scores of countries. Foreign gov ernments use dollars in foreign ex change markets to support their own currencies when necessary. The dollar is being used in settle ment of aU kinds of payments. It also is true that the gold purchase policies of the U.S. government have greatly affected the value of gold. During the 1920's and 1930's, for instance, when the United States accumulated a large share of the total world supply, this gov ernmental action afforded value and stability to gold. On the other hand, U.S. governmental action greatly depressed the world mar ket value of gold through the 1933 prohibition of all private gold holdings. This makes it im possible to surmise what the free market price of gold would be if people were free to buy and hold gold and if the governments and 22 THE FREEMAN September central banks would refrain from hoarding it in their vaults.

But how can the U.S. g-overn ment possibly declare certain for eign gold holdings ineligible for purchases in the United States? How can the U.S. government prevent Switzerland, for instance, from using its gold for purchases from various countries other than the U.S.? Could it not trade its gold with Great Britain or the underdeveloped countries, whose gold, according to the Despres Plan, will continue to be eligible for purchases in the U.S.? How can the U.S. government police the gold trade and movements all over the world? Beyond all this, when men distrust the future of paper money, including the paper dollar, gold itself rises in value as measured not only against paper money but also against goods. Men turn to gold as the one thing that may survive the wreck of paper currencies and the chang ing policies of government. The enthronement of the U.S. dollar as currency king appears to be but another desperate scheme of inflationists who are disturbed by men's confidence in gold rather than paper money. From the be ginning of inflation some 2,500 years ago, governments have waged war on gold. Yet gold has survived as a medium of exchange throughout these millennia. ~ Monetary Crisis NOBODY traded [France in 1796] except for metallic money. The specie, which people had believed hoarded or exported abroad, found its way back into circulation. That which had been hidden reappeared; that which had left France returned. The southern provinces were full of piasters, which came from Spain, drawn from across the border by the need for them. Gold and silver, like all commodities, go wherever demand calls them; only their price is higher, it is held at that point which attracts sufficient quantity to satisfy the need. People were still exposed to some cheating by payments in mandats, because the laws, giving legal tender value to paper money, permitted people to use it for the satisfaction of written liabilities; but few dared to do so; and with regard to all agreements, they were kept in metallic money. In every market one saw only gold or silver; the workers were paid in this manner only. One would have thought there was no longer any paper in France. The mandats were then found only in the hands of speculators, who received them from the government and re-sold them to those who bought the national lands. In this manner the financial crisis, although still existing for the state, had all but ended for private persons.

As translated from THIERS' History of the French Revolution. 7th edition (Brussels, 1838) 12. The Democratic Illusion CLARENCE B. CARSON CUSTOMS do change. It was once the custom for children to read and be told fairy stories, fables, legends, and myths. Young chil dren were taught to believe in Santa Claus (and, in this case, still are), told of the legend of Robin Hood, read stories of fairies who performed work for adults, and led to believe that there was a pot of gold at the end of each rainbow. Generally speaking, such fables are no longer approved by the "experts" on child rearing. The stories have been taken out of the textbooks in the early years of schooling. Parents have been warned against filling their chil dren's minds with illusions. AcDr. Carson is Professor of American History at Grove City College, Pennsylvania. Among his earlier writings in THE FREEMAN were his series on The Fateful Turn and The Ameri can Tradition, both of which are now avail able as books.