Aspects of the Pathology of Money

7 The Monetary Aspect of the Raw Materials Problem and the Revival of International Trade1

Preface

In the following pages, I have partly reproduced and considerably developed my memorandum on The Monetary Aspects of the Raw Materials Problem (Les aspects monétaires du problème des matières premières), presented in April 1937 to the International Studies Conference (Tenth Session: General Study Conference on the Problem of the Peaceful Solution of Certain International Problems—Peaceful Change). Account has been taken, in the present study, of the discussions at the Conference, which was held in Paris from June 28 to July 3, 1937. In addition, I have made abundant use of two important documents which were published respectively in September 1937 and at the end of January 1938: the Report of the Committee for the Study of the Problem of Raw Materials (appointed by the Council of the League of Nations), and the Report on the Possibility of Obtaining a General Reduction of the Obstacles to International Trade, presented by M. Paul van Zeeland to the governments of the United Kingdom and France.

The suggestions relative to the reconstruction of international economic relations, while somewhat amplified, are essentially identical with those which I had presented more than a year ago. The events which have since occurred do not seem to me to necessitate the modification of these suggestions. I am persuaded now, as I was then, that, in the words of the Report of the Committee for the Study of the Problem of Raw Materials, ‘the only general and permanent solution of the problem of commercial access to raw materials consists in the largest possible revival of international trade’.

M.A.H

Geneva, May 1938.

I The Nature of the Problem

A problem possesses a monetary aspect when it gives rise to considerations of price, of income, of debt; to monetary calculations such as those of costs of production, of profit, etc.; or again to money payments. Everything is monetary that can be expressed, evaluated, or calculated in monetary units. In one sense, political economy is the science of monetary phenomena. This definition gives a somewhat restricted sense to the concept of ‘political economy’; but on the other hand it considers the concept of ‘monetary phenomena’ in a very broad sense. Thus, in limiting our study to the monetary aspects of the problem of raw materials,2 we are stating beforehand that our investigations will deal exclusively with the economic side of this problem, leaving aside everything which belongs to the field of politics. However, even thus circumscribed, the subject is too large for the limits assigned to the present publication. A further limitation is necessary, and I have followed, for that purpose, those specialists who define the raw materials problem as being the problem of commercial access to these products. ‘Commercial access’ means possibility of purchase in the markets under consideration; but this possibility in turn may be analysed into two distinct elements, the first of which is the willingness to sell of the producer or seller of the products in question, and the second, the capacity to buy of the potential purchaser, that is, his capacity to pay for the goods which he desires to purchase.3

The capacity to purchase depends, no doubt, on the resources of the purchaser and on the price of the products that he wishes to acquire compared with those of the products which he himself sells. His resources depend on the proceeds of his sales, and on his credit. The comparative prices of his purchases and his sales depend on the course taken by the economic process. All these elements are subject to many variations, and these may result in disturbances, more or less serious and more or less prolonged, in the relations between buyers and sellers, between the desire to procure certain products and the possibility of satisfying that desire.

The last paragraph is intentionally worded so as to leave undetermined the nature of the goods in question. For it should be noted at once that the problem is in large measure the same, whether we consider the purchase of raw materials by the producers of manufactured goods, or, on the contrary, the purchase of manufactured goods by the producers of raw materials.

The following passage from the Report of the Committee for the Study of the Problem of Raw Materials provides an excellent statement of the changes of circumstances and of the difficulties often encountered in trade between countries producing raw materials and countries producing manufactured goods:4

‘In normal times, countries supplying mainly manufactured goods—which usually have a developed economy and, in many cases, important invisible resources—are better able to accumulate foreign exchange than countries producing mainly raw materials and agricultural products. In fact, it was not the inability of the manufacturing countries to acquire foreign exchange, but the inability of the raw material-producing countries to do so, which was one of the principal symptoms of the great depression, of which the effects have not yet disappeared. There will always be differences between the movement of supply and demand for raw materials and that for industrial products; and these differences affect their price relations; but, in times of crisis, conditions of exchange operate in favour of industrial countries. These countries have recently lost a part of this advantage, owing to the rise in raw material prices, but raw material prices are still, in general, relatively lower than those of manufactured goods. Thus the manufacturing countries ought not to have any special reason to complain of difficulties in obtaining supplies of raw materials; and, in fact, many of them have never experienced any difficulties. If, in the circumstances, certain countries have encountered such difficulties, it would appear to be due to a change in their relative competitive position as compared with their position in normal times. The complaints, in fact, come in the main from certain great industrial countries of Central Europe and the Far East. Apart from these cases, certain complaints are also made by the countries of Central and Eastern Europe which are in the main dependent on the export of agricultural products. In this connexion, it should be mentioned that, if the overseas countries which have also felt the effects of the agricultural crisis have not experienced the same difficulties in regard to the supply of raw materials, they have nevertheless had to restrict considerably their imports of manufactured goods.’

Thus the problem which we are considering is not specifically limited to raw materials; the most that can be said is that it arises also with regard to them. Moreover, as the passage quoted above recalls, this problem arises for the countries which produce raw materials as well as for the countries which buy raw materials abroad.

Since the end of the world war, the ‘problem of raw materials’ has arisen twice for the buyers and once for the sellers. It arose first between 1918 and 1921, when the international markets were disorganized, means of transport inadequate, monetary conditions unstable, and the national economy of a large number of countries disordered. The supply of raw materials was at that time deficient from every viewpoint, for both monetary and non-monetary reasons. Various discussions took place, various projects were worked out; we can neither discuss nor even enumerate them here. Suffice it to say that the problem became less acute and less important with the revival of more active and better organized commercial and financial relations during the period 1920–30. This revival was of short duration, and amid the wreckage of an artificial prosperity the problem which concerns us appeared once more in an acute form, first for the producers, then for the buyers of raw materials. Thus the problem arises when the world is disorganized and unstable, and disappears when it is organized and prosperous.

In the present study, we shall concern ourselves especially with the difficulties encountered by the countries which buy raw materials when it becomes necessary to pay for the purchases which they would like to make. We shall adopt as a working hypothesis the assumption that the producers of raw materials ask nothing better than to sell at a profit the product of their work. We shall thus put aside certain questions which arise from the existence of monopolies, of restrictions and prohibitions on exportation, and of export duties on raw materials, as well as from the preferential treatment of certain groups of buyers to the disadvantage of the others. There exists an abundant literature relative to this aspect of the problem, to which we refer the reader. This leaves us faced with a single apparently simple question: to what are due the monetary difficulties in the way of the purchase of raw materials abroad?5 With this question, evidently, two others are connected: what is meant by the lack of monetary means of purchasing raw materials—by ‘lack of foreign exchange’; and how can such a situation be remedied? An attempt to answer these three questions will be made in the following chapters of the present study.

II The Mechanism of International Payments

A country6 may pay for its imports with the proceeds of its exports, with funds placed at its disposal by foreign lenders, or again with the funds which it possesses abroad or which are due to it because of previous investments abroad. This is the fundamental principle of international commercial relations. We may add that a country which imports goods has only these three ways of procuring the necessary funds to pay for them.

It follows that a country can procure foreign products to a value superior to that of its own exports only in so far as it receives an income from earlier investments abroad or in so far as it can obtain foreign credits.

If a country must make a net payment abroad on account of previously contracted debts, the value of the goods which it can import is determined by the difference between the proceeds of its exports and the amount of the financial payments to be made. This amount may be increased by credit operations. New loans contracted abroad increase the available sums which the country can use to pay for its foreign purchases.

Conversely, a country may employ the funds at its disposal abroad to buy goods, to pay its debts, or to make investments.

The service of debts previously incurred constitutes at any given moment, in the equation of international payments, an element determined beforehand by the state of such commitments (unless new agreements are made or moratoria declared; but these suppositions take us away from our hypothesis of an international system functioning normally). Thus, in order to keep its imports at a constant level, the country must maintain the level of its exports and of the inflow of foreign capital, according to circumstances, by a proper adaptation of domestic prices and of interest rates. This is notably true in the case of the so-called debtor countries. The creditor countries, which reinvest abroad a part of their income from investments, possess a margin which may make it easier for them to stabilize the volume of their imports.

The foregoing remarks are merely a brief reminder of well-known relations between the different elements of the balance of payments. It is perhaps worth while to mention them here, since they are not always sufficiently kept in mind in current discussions of the problem of raw materials. A country can make foreign purchases only if it possesses means of payment. It acquires means of payment by its sales to foreign countries or by borrowing. Raw materials enter into this network of transactions as one of the groups of goods which the country buys abroad and as one of the elements which enter into the production of the goods which are manufactured in the country and which are exported. Thus the problem of raw materials takes its place within the whole network of problems relative to international trade, and is not, properly speaking, an isolated problem which can be discussed by itself. If the question of raw materials were not linked, in current discussion, with the question of colonies and of territorial revisions, it is hardly probable that anyone would have thought of making a separate problem of it. That difficulties have arisen, and that they are great today, no one will deny. But it would be a mistake to pretend that these difficulties arise exclusively with regard to the obtaining of raw materials7 by industrial countries. The countries which produce industrial raw materials and agricultural products experienced difficulties of their own in obtaining manufactured goods, during the period when agricultural prices were sharply declining;8 and this decline was due at least in part to the autarkic tendencies of the industrial countries. For the countries producing raw materials, these difficulties resulted in a slowing down of their economic development and in a lowering of their standard of living. Not being able to obtain manufactured products, the prices of which, compared with those of agricultural products and of industrial raw materials, had risen very high, these countries had to do without the industrial products which they had been accustomed to buying abroad. In the face of these difficulties, would it not be possible for these countries, borrowing the language used in countries where there is difficulty in obtaining raw materials, to talk of a ‘bad distribution of capital and of industries in the world’, or, again, to complain of the ‘lack of foreign exchange for the purchase of industrial products’? If this way of presenting things is correct in the one case, it certainly is also correct in the other. Thus we see that the problem of capacity for buying abroad presents itself under a very general aspect, and that the problem of raw materials reduces itself to a particular case within the larger problem.

In a free international economy, it is the markets for foreign exchange which are the regulators of the mechanism of international payments. On these markets, the supply of and the demand for foreign exchange arising from the various sources meet, and prices, that is exchange rates, are established by the free play of this supply and demand. Owing to arbitrage operations, the various free money markets are interdependent and interacting. Owing to forward exchange operations, stability in time is added to stability in space, or at least many temporary and accidental fluctuations are eliminated or minimized. Nevertheless, exchange rates are subject to fluctuations, which, under the gold standard, are limited by international movements of gold and remain between the so-called ‘gold points’. Changes in the internal monetary circulation, the resulting variations of prices, and, on the other hand, the fluctuations of discount rates, are induced, under the gold standard, by the imports and exports of gold, movements which in turn depend on the situation in the foreign exchange markets. The movements of short-term funds, and even, though less directly, those of long-term capital, follow the movements of the discount rate. While the effect of gold movements on prices and, consequently, on international trade, were necessarily slow under the pre-war gold standard, the effects of modifications of the discount rate on the movements of short-term funds were direct and rapid. Short-term funds, flowing towards the countries where their investment was most remunerative, constituted a very effective instrument for bringing international payments into equilibrium. Where great discrepancies between the price structures of different countries existed, this means no longer sufficed, and readjustments of prices themselves became necessary.

In the absence of the gold standard, fluctuations of exchange rates would have a greater amplitude; their effects would be more direct with regard to the relations between prices in different countries than is the case under the mechanism of the gold standard, and perhaps slower with regard to capital movements. The mechanism of the readjustment of the balance of payments is so well known that we need not describe it here in greater detail.9 I wish merely to stress the fact that the restoration of the balance between the payments which a country has to make and those which it has to receive takes place by means of modifications in the comparative value of imports and exports and of modifications in the direction and volume of capital movements and of short-term credit operations. Thus we are once more faced with the two elements mentioned above: trade in commodities and services on the one hand, and international credit operations on the other.

The mechanism of readjustment of international payments can function only when certain conditions are fulfilled. These conditions are as follows:

1. Stability of commercial policies of the different countries. Readjustments in international trade must not be made impossible by an active tariff policy and various other trade restrictions.

2. Absence of currency inflations.

3. Absence of important monetary and financial panics, the effect of which is to provoke large and sudden movements of short-term funds and to destroy international confidence.

4. Continuity in long-term foreign investments. This condition is linked with the preceding one. Sudden changes in the policy of creditor countries impose on debtor countries the necessity of adjustments which it is often impossible to carry out with the necessary rapidity.

If the system of international economic relations gets disorganized because the above-mentioned conditions are not satisfied, the fault obviously does not lie with the system, but with the circumstances under which it was made to work. It will be observed that the conditions enumerated above must be fulfilled as well under the system of the gold standard as under any other, if international monetary stability is to be maintained.10 It follows that, to restore order, it is necessary to re-establish the conditions rather than to change the system, especially in view of the fact that under no system whatever of economic relations is it possible to avail oneself of purchasing power otherwise than by selling the product of one’s labour or by borrowing. In order to possess a large purchasing power, it is necessary to create conditions such that one can sell a great deal and borrow a great deal. To be able to sell, it is necessary to produce goods, or to furnish services for which there is a sufficient demand abroad, and to offer these goods and services at prices sufficiently low to find buyers. International short-term credit enables countries which are poor in capital to finance their trade and even the final stages of production. International long-term credit operations enable countries whose own capital formation is slow to increase their imports beyond the value of the goods which they are able to export, and thus to speed up their industrial and, more generally, their economic development. International credit thus enables new or poor countries to profit by the resources of the wealthier countries, and to attain, with the help of these resources, an increasingly high standard of living. On the appropriate orientation of these investments, on the possibility of finding foreign markets for the national production, on the continuity of this whole evolution, notably with regard to new investments by foreign capitalists, depends the solvency of the debtor country.

In describing this process, there is no need to make special mention of raw materials. The different countries import the goods which they need and which they do not produce economically themselves; what difference does it make whether these goods are raw materials or machines? The essential thing is to produce articles which are in demand in the world, and to be able to sell them. This depends both on the orientation of production in each country and on the commercial policy pursued by the different countries. The so-called ‘triangular trade’ enables a country to sell to another more than it buys from that country, and to buy from a third country more than it sells to it. In this way, the total volume of trade expands beyond what could have been the object of purely bilateral transactions. Furthermore, when it is no longer necessary to buy in a given country the exact equivalent of what one sells to that country, it becomes possible to buy on the basis of quality and of comparative prices to a much greater extent than under purely bilateral trade. The result is a more developed international division of labour, a progressive lowering of the costs of production, and an increase both of the volume of trade and of the standard of living in the different countries.11

The system described in the preceding pages is far removed from the evolution of international economic relations in the course of the past few years. To recall its essential features and to evoke the harmony and the stability which it is capable of ensuring seems like the recital of an economic idyll of the past. We shall see in the next chapter the characteristic features of modern restrictionism, and we shall see how the destruction of the ‘idyll’ brought with it the problem of raw materials along with other problems. Restrictionism, destroyer of ‘economic harmonies’, is generally the result of national policies adopted for non-economic reasons by individual governments. It is no part of our present task to challenge the non-economic aims of national policies. We shall merely seek to show the nature of our problem and to indicate, in conclusion, possibilities of peaceful settlement through the application of an economic system which by its very functioning can ensure all the peaceful change in the field of international trade which may be required for the economic prosperity of the individual countries.

III Modern Restrictionism and its Effects on the Problem of Raw Materials

The ‘restrictionism’ practised in recent years, and which, in 1938, is still growing in intensity in certain parts of the world, is the offspring of the economic nationalism of the post-war period and of the special difficulties caused by the world economic depression. Above all, it is the product of autarkic tendencies due in most cases to purely political considerations. The methods of restrictionism lie within the field of commercial policy (excessively high tariffs; quotas; bilateral clearing agreements) or of monetary policy (exchange control) and financial policy (restrictions on investments abroad). In fact, the measures of commercial policy have important monetary consequences, while exchange control, in turn, is a very effective instrument for restricting import trade.

ORIGINS OF MODERN RESTRICTIONISM

It is worth while to distinguish, at the origin of the recent developments—so sharply opposed to the ideas of economic liberalism set forth in the preceding chapter of this study—three elements, widely different in nature, but all converging in the direction of restrictionism: 1. Difficulties in the way of making payments abroad; 2. state socialism (or control of economic life by the state—étatisme); 3. war economy: (a) preparation for the possibility of a war, of a blockade, of the interruption of the ‘normal’ currents of international trade; (b) rearmament.

As regards difficulties in the way of making payments abroad, they have been due to the great changes which have occurred in the structure of international operations. These changes have been particularly serious with regard to the flow of long-term capital. International trade, increasingly hampered by the growing protectionism of the post-war period, was unable to adjust itself to the destruction of equilibrium in the national balances of international payments, caused by the cessation of capital investment. Gold was exported to the creditor countries. Then came financial panic, with vast movements of short-term funds, of hot money, leading to the destruction of the monetary internationalism which had just been re-established with so much difficulty.12 This evolution is described as follows in the Report which has already been quoted several times:13

‘The influence of the depression on the economic structure of individual countries, and especially on their balance of payments, has not been uniform. Generally speaking, it may be said that creditor countries possessing large financial reserves have been able more easily to correct an adverse balance of payments and have not met with the same difficulties in supplying themselves with, and paying for, the raw materials they needed. In order to do this, however, they often imposed restrictions which made it difficult or impossible for the debtor countries to maintain, still less to expand, their exports. The position of the debtor countries was aggravated by the cessation of the flow of fresh capital, which was a natural result of the depression. Moreover, in countries where the borrowing took the form of short-term loans, the sudden withdrawal of short-term capital previously available made the situation worse. The result was that the net balance of the capital movement was suddenly turned into a debit item in the balance of payments of debtor countries. Certain debtor countries thus found themselves compelled to introduce some form of currency control—affecting either all financial transactions or only the movement of capital or of goods—in order to preserve the artificial equilibrium of their balance of accounts and to earmark such foreign exchange as they could still obtain for their most vital economic needs. . . .

‘. . . Before the depression, many debtor countries had recourse to foreign long-and short-term capital, which helped to make good the deficit in their balance of payments. Sometimes, even, the influx of new capital in a year exceeded the reserves of the bank of issue of the country concerned. The sudden cessation of foreign lending and the attempts to repatriate as quickly as possible the loans made in the period 1924 to 1928 undoubtedly precipitated the financial crisis of 1931, as most of the countries concerned were quite unable to finance this repatriation, even by making use of their central banks’ reserves of gold and foreign exchange. Similarly, the almost complete disappearance of international credit led to changes in the trend of trade. This led to defaults, ‘standstill’ arrangements and exchange restrictions, which had a deterrent effect on investors and are largely responsible for the fact that international lending to these countries has not yet been resumed. Moreover, political apprehensions accentuate the purely financial difficulties, particularly for long-term lending, where investors must be assured of reasonable political stability for some time ahead. These difficulties cannot be solved by purely technical measures, which will remain ineffective as long as the underlying conditions which brought about the collapse of credit are unremedied.’

In view of the disequilibrium of their balances of payments—a disequilibrium which was not only profound but cumulative and without hope of an automatic return to normal—the debtor countries, after losing what gold they still possessed—or at least as much as they were willing to lose—were forced to choose between (a) internal deflation; (b) devaluation of the national currency; and (c) the establishment of an exchange control and of other restrictions on commercial and financial transactions with foreign countries.

The first of these means was more readily available to the industrial countries than to the others, since the prices of manufactured products declined less during the depression than other prices. In general, a deflation of prices should be accompanied, if it is to be efficacious, by a policy of stimulating production. From the point of view of our problem, it is production for export that should have increased. To secure outlets for this increased production, it would have been necessary to conquer foreign markets by the choice and quality of the products offered and by their price. A combination of deflation and devaluation would have been useful in certain cases. However, the rigidity of the internal system, protectionism in the foreign markets, and other factors which we shall have occasion to discuss later, prevented the utilization of such methods on a large scale.

It is true that the disorders in international payments caused by sudden and massive movements of short-term funds would have been difficult to offset by favourable commercial balances; and that, in a world suffering from an economic depression, it was in any case difficult to obtain the desired favourable balances. Devaluation, if attempted, threatened to be far-reaching and to get entirely out of control. These considerations led to the adoption of the various methods of modern restrictionism.

At the same time, numerous suspensions of payments dealt a blow to international credit from which it has hardly yet recovered. In addition, national programmes for fighting the depression, pursued by the creditor countries and based on a great internal liquidity of the money market and of the capital market and on a very low rate of interest (cheap money), led to an almost complete abandonment of long-term foreign issues on the great financial markets. The monetary instability which followed the abandonment of the gold standard by Great Britain, and the psychological effects of the failure of the London Economic and Monetary Conference (1933), hastened the development of restrictionism. The struggle to maintain parities was one of the most powerful motives of the establishment of restrictions on exchange operations. However, economic and financial difficulties are not the only reasons why obstacles to the free circulation of goods and funds have become so numerous in the past few years. Tendencies to autarky existed before the depression. The latter intensified them. Disturbing political events, the stagnation and failure of the Disarmament Conference, the progressive disappearance of collective security brought on a new wave of spending for rearmament. Economic activity was increasingly subordinated to rearmament, while the expectation of war strengthened the autarkic tendencies of a certain number of countries.

And now it so happened that the measures taken in the midst of the financial crisis placed in the hands of the men who determine economic policy a weapon capable of advancing with the greatest effectiveness the cause of autarkic nationalism. Gradually restrictions were increased in a certain number of countries. No one thought of abolishing them.

AUTARKY AND STATE CONTROL OF ECONOMIC LIFE (étatisme)

Is it a mere coincidence that the most autarkic countries are those which have régimes tending more and more to the establishment of a complete control of economic life by the state? State control of economic activity finds admirable means of action in exchange control and in the gradual establishment of a state monopoly of business transactions with foreign countries. Thus exchange control has been increasingly developed.14 The concentration in the hands of the state of all commercial and financial relations between the country and foreign countries followed. The allocation of exchange by the state according to different needs became a ‘normal’ factor in the economic life of these countries, and the progress of state socialism was the necessary consequence.

LACK OF FOREIGN EXCHANGE

With the allocation of foreign exchange, the notion of a ‘shortage of exchange’ rapidly gained ground, in connexion particularly with the purchase of raw materials. But where are we to find, in such an economic system, the criterion of adequacy or shortage? Foreign exchange is being secured by trade and by credit. In an economic system which has come under state control, the distribution of exchange for various purposes no longer takes place through the mechanism of the markets, but according to the authoritative decisions of a government agency. And it has been clearly seen that in Germany, one of the countries that used to complain most bitterly of lack of exchange for the purchase of raw materials, the volume of these purchases increased at the very time when the complaints were loudest.15 Purchases of raw materials have undoubtedly increased in all the countries because of the great rearmament activities. Let us quote once more the Report of the Committee appointed by the League of Nations to study the problem with which we are concerned:16

‘The difficulties in procuring a number of raw materials have been increased by the heavy expenditure on armaments incurred by most countries. It has been pointed out that the demand for raw materials for armament purposes has been one of the factors which have led to a sharp increase in prices and a shortage in the supplies available. It is true that countries commanding ample financial resources have no serious difficulty in obtaining raw materials for armament purposes, but, even in these countries, economic progress is indirectly handicapped by the fact that their industries are partly diverted from manufacturing for export to manufacturing for unproductive purposes. But the situation is much more difficult for countries which do not dispose of a large amount of foreign exchange. If these countries employ their reduced supplies of foreign exchange available for raw materials primarily for purposes of armaments, they may well have difficulty in obtaining the raw materials required for normal purposes.’

However, as there is hardly any economic limit to armaments, it is impossible to talk of a natural limit to the needs for raw materials arising from this source. This is perhaps an indication that ‘need’ is not a good criterion in a discussion of this sort. We know, moreover, that in the allocation of foreign exchange to pay for goods purchased abroad, the authorities of the countries which practise this system may favour the importation of raw materials which have a military value to the detriment of the importation of goods for current ‘civilian’ consumption. The problem, then, cannot be stated in the form: ‘Is there, or not, enough foreign exchange for the purchase of raw materials?’ It must rather be worded: ‘Is there, or not, enough foreign exchange to pay for goods purchased abroad and for other foreign obligations?’ Let us examine this formula more closely, and try to get rid of the criterion of ‘need’ which it still implicitly contains. For it is impossible to talk of adequacy or lack without introducing the comparison between an a priori need and the way in which that need is satisfied.

AGGRAVATION OF DIFFICULTIES BY THE EFFECT OF RESTRICTIONISM

We have seen in the preceding section of this memorandum how a country obtains foreign exchange with which to make payments abroad. If any one of the countries which are suffering today from the ‘lack of foreign exchange’ wishes to remedy that situation, it can do so only by increasing the surplus of its exports over its imports and by attracting foreign funds, or again by reducing or abolishing its payments to foreign countries resulting from old contracts of debt. This last means has been often employed in the past few years; but it has diminished, for the countries which have resorted to it, the possibilities of obtaining new credits in the future. It is true that, if a country is to sell more goods abroad, the potential buyers must be disposed to acquire the products of the country in question, and that tariffs and other barriers should not be insurmountable. Similarly, in order to borrow, it is necessary to find potential lenders disposed to run the risks involved in the credit operation.

Most, if not all, of the countries which practise restrictions on foreign exchange operations maintain by this means a monetary parity which by no means corresponds to the situation on the international money markets and to the relation between prices in these countries and prices in other countries. By fixing and maintaining a fictitious parity, one limits the volume of transactions.17 Prices of goods exported by the countries which adopt this practice tend to become so high that, in order to be able to export at all, a complicated system of subsidies and premiums is resorted to, while ‘tourist exchange’ is sold to tourists, often at a greatly reduced price. But it is clear that devaluation pure and simple, accompanied by a progressive liberation of the money markets, would be far more efficacious than these edifices of restrictions and subsidies. The example of Austria is very instructive on this point. That country gradually abandoned a large part of its restrictions, at the same time reducing the face value of the schilling; and thus considerably improved its economic situation. We may add that foreign funds are rarely invested in countries from which they cannot be freely withdrawn (with the exception of loans made for political reasons). Is it any wonder, then, that the countries which practise the system of exchange control, selling less goods and unable to obtain foreign credits, find it difficult to buy, and that the volume of their foreign trade remains far below the pre-depression level?

Another consequence of autarkic tendencies aggravates these difficulties: if a country imports raw materials with the intention of selling the finished product abroad, thus recovering the price of the raw materials purchased, the operation finances itself and can easily be facilitated by foreign credits. But if a country uses the raw materials imported to produce chiefly goods for domestic consumption, to intensify autarky by the production of substitutes,18 and especially to produce armaments—then the corresponding exports are small and do not pay for the goods imported. Then difficulties follow, which are all the greater because the possibility of obtaining credits abroad is reduced for the countries which practise an economic policy of this sort within their frontiers.

Bilateralism in international trade which accompanies exchange control also tends to restrict the volume of trade and consequently the available amount of foreign exchange. I have mentioned this point above, and I repeat it here merely to make the picture complete. Bilateralism presents, in addition, the disquieting characteristic of being very contagious. Large countries which practise it easily draw into the same current of commercial policy the smaller countries which depend, or think they depend, for their exports on trade with the ‘bilateralist’ countries. On this point, the relations between Germany and the Balkan countries are very instructive. In addition, many countries which in general do not practise bilateralism in their foreign trade accept it in their relations with the ‘bilateralist’ countries.

To sum up, contemporary restrictionism considerably aggravates trade difficulties instead of diminishing them.19 As the situation increases in complexity, more and more political solutions are proposed. While some despair of finding solutions which are economically rational and at the same time acceptable in practice, others profit by this state of affairs to propose political methods of getting out of the blind alley. It is not my object here to criticize these proposals, however doubtful their efficacy may appear. I shall, however, in the last part of the present study, discuss the economic means which would lead to a solution of the problem of raw materials by reconstructing the world economy. For it is only by re-establishing the normal currents of trade and finance that there is any hope of bringing a remedy to the present difficulties of international economic relations, one of the special aspects of which is the difficulty of procuring raw materials.20

IV The Solution of the Problem of Raw Materials by the Re-establishment of a Free International Economy

The foregoing analysis brings us to the conclusion that, in so far as it does not arise from situations of monopoly and discrimination, the problem of commercial access to raw materials (the problem, that is, of the capacity to purchase these products) arises from the disorganization of international financial and commercial relations and, more particularly, from economic restrictionism in all its forms. Thus the problem of raw materials is not, economically speaking, a problem in itself, but only a corollary of the more general problem of the state of international economic relations.21 The problem of securing raw materials exists for the industrial countries, just as that of securing manufactured goods exists for the countries which produce raw materials. It would hardly be possible to solve the one without the other, for they are merely two aspects of a single fundamental problem. As has been said so well by the experts called together by the League of Nations: ‘It is essential. . . that action should be taken to lower trade barriers not only in order to facilitate the acquisition of raw materials, but also to facilitate access to markets of manufactured products’.22

Of the three causes of modern restrictionism which we enumerated above,23 only one is properly speaking economic. This cause is the destruction of economic internationalism, bringing about difficulties in the making of payments abroad. We shall examine at present what remedies can be applied to restrictionism caused in this way. Autarkic tendencies have their roots in political aims sought by the governments which adopt such an economic policy. The speeches and declarations of Herr Hitler and of Signor Mussolini provide sufficient proof of this fact. Let us merely note here that the choice of such a policy brings with it, as a necessary consequence, difficulties in economic relations. Is the price in proportion to the advantages? That is a question which we need not answer here. The same is the case as regards the state control of economic life, i.e. state socialism in all its forms. It is difficult to imagine a state-controlled economy which would not be guided by political considerations at least in its relations with foreign countries. Autarky and state control of economic life are linked together, and both of them are bound, under certain circumstances, to lead to political friction. Bearing in mind that the question which brought the International Studies Conference to take up the study of the raw materials problem was that of the peaceful settlement of international problems (Peaceful Change), we should not lose sight of the fact that certain forms of organization of international relations make the peaceful settlement of problems easier than do others. The ‘liberal’ mechanism described in Chapter II provides an excellent instrument of peaceful change, while the dissociation of normal economic relations from political preoccupations makes political friction due to economic causes less frequent and less probable. The tendency to autarky is justified only by the expectation, the preparation, or the fear of war; economic interdependence presupposes durable peace. The international division of labour, by raising the standard of living for all, also contributes to the cause of peace.

Having shown that the solution of the monetary problem of raw materials depends on the restoration of peaceful and stable economic relations, and having pointed out the advantages of an internationalist and liberal solution, I shall now pass in review the different elements of such a solution.

THE CONFERENCE ON PEACEFUL CHANGE

At the Paris Conference held in June and July 1937,24 the problem of raw materials was subdivided into the problem of restrictions on sales and the problem of the means of purchase. This division corresponds with that made in the Report of the Committee appointed by the League of Nations and with that adopted as the basis of the present study. As to solutions, the Conference adopted the classification suggested in the preliminary report and approved by the Programme Committee, which was as follows: (a) Solutions within the framework of autarky; (b) Solutions by means of international agreements; (c) Suggestions looking to general solutions.

The first of these classes of solutions met with considerable opposition in the Conference’s round table on Raw Materials. It is to be noted that the Committee appointed by the League of Nations has not considered this type of solution at all in its recommendations. For to accept autarky as a state of fact to which solutions must be adapted is to give up all hope of eradicating these tendencies, so disturbing for international economic relations. As I had the opportunity of pointing out during the discussion at Paris, when opposing the suggested solutions within the framework of autarky, ‘to perpetuate the disease while making its symptoms less painful amounted to the suppression of all desire to cure it’.25

The solutions by way of international agreements ‘encountered among the members of the round table a more favourable reception. These are solutions which, without necessitating a complete transformation of economic policies, make it possible to arrive at international agreements capable of facilitating access to the purchase or to the production of raw materials’.26 The solutions considered under this heading have, in my opinion, the drawback of not going to the root of the problem and of accepting, in fact, autarky and restrictionism as realities which there is no hope of changing. They are therefore open to the same criticism which has just been expressed in speaking of the first class of solutions. A field in which special agreements can undoubtedly render great services is that of restrictions on the sale of raw materials. These will not be discussed here, in order not to transgress the limits of the present study.

There remain the suggestions looking to a general solution. This is the type of solution contemplated by the Geneva experts and by the ‘majority of the speakers’ who attended the round table on Raw Materials at the Paris Conference. Let us quote the summary report of the debates of the latter meeting:27

‘. . . for the majority of the speakers, the true solution is not to be found in conventions directly concerning the production or the export of raw materials. It resides in a complete transformation of present economic régimes, in a decline of economic nationalism, in a return to a more active circulation of goods and of capital. Just as certain speakers had pointed out that there was not, in their opinion, a specific problem of raw materials, but a more general problem of trade and credit, so, they declared, an increase of exports and of loans could alone solve the difficulties encountered by certain peoples in procuring supplies.

‘If the great majority of the members of the round table seemed to favour solutions of a liberal character, many speakers nevertheless declared that the only possible policy was one of managed economic expansion.

‘This twofold tendency, the desire for control, and the desire for a return to a more liberal commercial and financial policy, is particularly characteristic of the opinions which prevailed in the round table. The members of the round table appeared almost unanimously in favour of adopting the idea of an international control of restriction schemes. Their agreement seemed no less clear with regard to the necessity of a policy which would make possible, by reciprocal concessions, the return to a more active circulation of goods and capital.’

If it is possible to envisage an international control of restriction schemes, as much cannot be said with regard to a ‘managed expansion’ of international commercial and financial transactions. In order to revive these transactions and to ensure their steady and stable development, which alone can give a lasting solution of such problems as that of raw materials, one must allow normal economic currents to take place freely, supported by general and reciprocal confidence. The ‘management’ should be limited to the establishment of a framework and to its preservation; any attempt to go farther than that will make it difficult to avoid a relapse into restrictionism.

ELEMENTS OF A PROGRESSIVE GENERAL SOLUTION

In considering a general solution of our problem within the framework of the revival of international trade and of international financial currents based upon a restored monetary stability, it is well to recall that it is the absence of international collaboration in the face of the economic crisis which, reinforced by political autarky, has given so strong an impulse to restrictionism in the past few years. Amid the general stampede, each nation was thrown upon its own resources, and the search for national solutions imperilled relations between countries and the stability of these national solutions themselves. Nevertheless, the desire to return to international collaboration has increasingly made itself felt in the very midst of the disintegration of that collaboration. While certain countries have adopted outright the policy and the doctrine of autarky, chiefly for political reasons, others practise it without conviction, for want of something better, and would be glad to be able to return to a free international economy. But in addition to these countries there is a large group of nations—economically very important—which remain essentially attached to the free organization of international economic relations, even if they have more or less wandered away from it under the stress of circumstances. It is these countries alone which can give a new impulse to economic internationalism.

The suggestions which I presented in April 1937 in the memorandum cited above28 were based on a diagnosis which has been confirmed both by the debates of the International Studies Conference of the same year and by the work of the Committee of experts created under the auspices of the League of Nations, whose opinions I have abundantly quoted in the preceding pages. In view of this confirmation, and of the economic evolution of the world in the sixteen months which have elapsed since the memorandum was written, I shall here repeat those suggestions, in a somewhat broader outline, but without modifying their sense.

My proposals aim at a progressive return to economic internationalism. A progressive return, because the obstacles to overcome are great, and the process must necessarily be slow; progressive also because certain countries are favourable to it, others indifferent, and still others hostile, so that it is hardly possible to hope for the rapid achievement of world-wide success. To wait until all the governments agree to collaborate fully with one another in the establishment of stable and free international economic relations would, I believe, endanger the very purposes which are aimed at. Disorder is favourable to bilateralism, and the latter is closely linked with restrictionism. The majority of countries practise bilateralism because of the absence of an international system in which they could play their part.

If, on the other hand, it is necessary to act without waiting for the agreement of all the countries, it is important to create conditions which will be attractive to countries which are indifferent and capable of weakening the resistance of countries hostile to international collaboration. It is obviously impossible to impose collaboration on countries which are refractory to it; but it is possible to try to make the advantages of co-operation great enough, and the price of non-co-operation high enough, so that the autarkic countries may have a real reason to reconsider their position.

What is, therefore, to be aimed at, is the organization of a sort of ‘group of free international economic relations’, access to which would be open to all states without exception, if they consent to accept its rules governing their conduct towards the other members of the ‘group’. All the advantages which the members of the ‘group’ would grant one another would be limited to those members; the ‘outsiders’ could not share in them. There would have to be a premium attached to co-operation; otherwise the ‘group’ would have little chance of developing.

Between a free international economy and an economy based on relations between the governments of countries in which there is a state monopoly of economic and financial foreign relations, compromise, it seems to me, is hardly possible. Problems like that of raw materials can be solved economically and peacefully only when international economic relations are free. The countries which are in favour of this kind of relations are at present more numerous and economically more important than the others, and can offer them great advantages. The object of my proposals is to create a framework for evolution in this direction and to demonstrate the nature of the advantages which would be offered to the restrictionist countries if they abandoned their present policy, and the nature of the disadvantages to which they would expose themselves by persevering in restrictionism.

THE ‘VAN ZEELAND PLAN’

The Report of Monsieur Paul van Zeeland, an important document in which the eminent economist and statesman seeks bases for a world-wide agreement in which all the countries could take part immediately, contains passages which can be interpreted as favourable to a progressive evolution of the kind which is here proposed. Speaking of means that should be adopted ‘to reduce or to suppress the element of insecurity in monetary matters’, M. van Zeeland proposes ‘the revision and extension of the agreement reached in the form of a tripartite declaration by the United States of America, the United Kingdom, and France with the adherence of Belgium, the Netherlands, and Switzerland. This agreement should be adapted to the new conditions and extended in such a way as to embrace all the countries participating in the effort of collaboration’.29

The object of my suggestions is the establishment not only of a monetary group, but of a group for international commercial, financial, and monetary collaboration, open to ‘all the countries participating in the effort of collaboration’. On this point, it seems to me, the authority of the ‘van Zeeland Plan’ can also be invoked as regards, particularly, the treatment, in that plan, of the ‘most-favoured-nation clause’.

In the opinion of M. van Zeeland, ‘the clause should remain, in principle, general and unconditional; nevertheless, there should be provided an exception, allowing its application to be suspended in the case of countries which employ inadmissible discrimination or which refuse to participate in a general effort aiming at the reduction of obstacles to international trade; finally it ought to be drawn in such a way as not to obstruct the conclusion of group agreements or regional pacts, so long as these do not tend to constitute a discriminatory régime, but to lower tariff barriers, and so long as they are open to the accession of all those who are willing to accept the combined obligations and advantages’.30

In my opinion, and here I am perhaps going farther than does M. van Zeeland in his Report, one should include under the heading ‘unacceptable discriminations’ everything that is opposed to the functioning of a free international economy, viz.: (a) all measures of ‘bilateralism’; (b) quotas; (c) exchange control; (d) tariff and other measures inasmuch as they are of a discriminatory kind.

Countries which practise measures coming under these four points would then be acting in opposition to the ‘rules of the game’, and the treatment of the ‘most favoured nation’ could not be granted them. It is a delicate question whether it is in accordance with the spirit of the most-favoured-nation clause to conclude agreements among a more restricted number of states within the proposed ‘group’, with the object of lowering tariff barriers still more effectively. I am inclined to doubt it. In any case, extreme care must be taken in order to avoid a relapse into systems of discrimination. The expression of M. van Zeeland, agreements ‘open to the accession of all those who are willing to accept the combined obligations and advantages’, expresses very happily the idea which seems to me fundamental for the realization of a programme for the restoration of international trade and of international capital movements. In attempting the application of such a programme, we must be prepared to see certain states, even certain important states, abstain from joining the ‘group’ at first. They will join it when their interests demand it. If essential elements of the conception of the ‘group’ were sacrificed in order to secure the immediate adhesion of all the great states, I believe that failure would be certain in the long run. In this belief I differ, perhaps, from the ‘van Zeeland Plan’, while wishing that, on the ruins of autarky and bilateralism, the ‘group’ that I propose may soon cease to be a ‘group’ and may include in a common effort of collaboration all the countries of the world.

POSITIVE SUGGESTIONS FOR A RETURN TO ECONOMIC INTERNATIONALISM

I come now to a summary statement of my suggestions:31

1. The point of departure for the reorganization of international economy is the ‘tripartite agreement’ referred to in the passage quoted above from the Report of M. van Zeeland,32 and the existence of the ‘sterling group’, which contains elements of a genuine international collaboration. The policy of commercial agreements practised since 1934 by the government of the United States furnishes another element on which could be based a concerted international economic action. This policy marks an important stage in the development of American commercial policy, its aim being a reduction of protectionism. In brief, the point of departure is the establishment of increasingly closer links of collaboration, in the field of commercial, monetary, and financial relations, between the countries which have preserved, essentially, the régime of economic liberty. It is true that even the states belonging to this group practise certain forms of restrictionism, having been led to do so by the international economic disintegration of the years after 1930. These countries should begin by giving up the use of such instruments of economic policy in their reciprocal relations and in their relations with all the countries which would join this group. The ‘prohibited’ instruments include besides the four points listed above, p. 201, also embargoes on capital movements. As a possible measure, provision should be made for the generalization of the ‘tripartite agreement’ and the application to the members of the ‘group’, and to them alone, of the most-favoured-nation clause.33 The ‘group’ would be constituted by a ‘pact of international economic collaboration’ (to adopt the expression employed by M. van Zeeland34). This pact should not aim immediately at universal acceptance, but should, on the contrary, incorporate rigorously the ‘rules of the game’ which are the very essence of the work of restoration which we are aiming at. The pact would be open to all the states willing to accept the ‘rules of the game’. It is true that this would imply a certain pressure; but, after all, it is necessary in the long run to choose between autarky, state socialism, and war economy, on the one hand, and a liberal and peaceful international economy, on the other. It is up to the countries which desire the second solution, which is that of ‘peaceful settlement’, to organize themselves and to try to carry their programme out.

2. Once constituted, the ‘group’ would take up the task of ‘making converts’, by seeking to win over the countries which are practising restrictionism because the disorganization resulting from the years of crisis has scarcely left them any other possibilities of action. These countries, in order to be able to return to the midst of an international economic community, should be admitted to benefit by the following measures:

(A) Long- or medium-term international credits having as their object:

(a) to enable them to abolish exchange control without endangering the stability of their currency; economically adequate parities would, of course, be established, and the countries in question would adhere to the ‘tripartite agreement’;

(b) to stimulate their industrial activity by new productive investments.

(B) Advantages resulting from the commercial agreements concluded among the members of the ‘group’ and from the operation of the most-favoured-nation clause. These countries, chiefly debtor countries, must be placed in a position to secure markets for the future so that they can in time repay the credits which will have been granted to them.

These monetary, financial, and commercial measures will no doubt make it possible to secure for the ‘group’ the participation of all the ‘restrictionist’ countries which are neither autarkic for doctrinal reasons nor bound by close political ties to the autarkic countries.

3. There remain the countries which accept the economic drawbacks of autarky in order to achieve certain political ends. These countries will probably not want to join the ‘group’, and will look askance at the establishment of such a group. In dealing with them, patience and firmness will be equally necessary. The larger and more effective the ‘group’ becomes, the greater will be the price that must be paid for autarky by the countries which still persist in practising it. They will have to choose between costly isolation and a return to the international community with all the advantages attached to it. The ‘group’ will have less need of the ‘outsiders’ than the ‘outsiders’ of the ‘group’. If it remains firmly attached to the principles incorporated in its ‘rules of the game’, time will work in favour of the ‘group’.

When the second stage of these suggestions has been realized, it will be possible to think of stabilizing currencies and returning to the international gold standard. Here the existence of the Bank for International Settlements will be of vital importance. In addition, the economic organs of the League of Nations, as well as the International Chamber of Commerce, would no doubt play an important part in the formation of the ‘group’.

In formulating this economic programme, I am fully aware of the political difficulties which its application might encounter. These difficulties are great, and by no means do I underestimate them. But is it a proof of excessive optimism to believe that these difficulties are not insurmountable, that the final result depends chiefly on the firm will to succeed? And is it, on the other hand, too much pessimism to think that the eleventh hour is striking on the clock of history and that what is still possible today may perhaps not be possible any more in a year or two? I do not believe so.

 

35 This monograph was published by the International Institute of Intellectual Co-operation of the League of Nations, Paris, 1938. It was originally copyrighted by the International Institute of Intellectual Co-operation, a section of the League of Nations, which has been replaced by UNESCO.

36 The question whether foodstuffs should be included among raw materials has been much discussed, notably by the Committee for the Study of the Problem of Raw Materials, set up by the League of Nations, in 1937. The arguments for and against including foodstuffs among raw materials seem equally interesting. The Committee decided to consider two groups of products—foodstuffs and industrial raw materials—and this point of view is adopted in the present study also. Economically, the producers of these two groups of products are in a similar situation, which differs from that of the producers of manufactured goods. It should be observed, however, that for the purposes of the present study—which is concerned with the monetary aspects of the problem, and the object of which is to clarify certain general and fundamental relations—it is a matter of indifference whether the broader or the narrower definition of raw materials be adopted.

37 Cf. Report of the Committee for the Study of the Problem of Raw Materials. League of Nations Document A. 27. 1937. II. B., 1937, p. 11:

‘It has been pointed out above that the Committee’s particular duty was to examine, and if possible to pronounce upon, the complaints regarding difficulties in respect of raw materials which had come to its notice, and a preliminary examination of them soon disclosed the fact that these difficulties fall into two quite different classes. On the one hand, difficulties were felt regarding the supply of raw materials—that is, certain countries considered that, even when they were in a position to pay for all the raw materials they required, they either could not obtain them at all or were compelled to pay what was in their view an excessively high price for them. On the other hand, certain countries experienced principally difficulties in regard to payment—that is, they felt that, even when ample supplies were available, they themselves were, for reasons beyond their own control, unable to obtain the necessary foreign exchange to pay for their requirements.’

38 Cf. Report of the Committee for the Study of the Problem of Raw Materials. League of Nations Document A. 27. 1937. II. B., 1937, p. 22.

39 The expression ‘lack of foreign exchange’ for the purchase of raw materials is frequently used.

40 When I speak in this chapter of a country, I use that term as a short way of referring to the individual merchants, manufacturers, etc., and the government of the country.

41 Cf. note I, p. 182.

42 See above, pp. 183 et seq.

43 Cf. my book: Monnaie, crédit et transfert, Paris, 1932, Chapter IV.

44 Cf. my study ‘Monetary Internationalism and its Crisis’, in The World Crisis, London, 1938 (reprinted in the present volume, pp. 75 et seq.).

45 The following passage from the Report of the Committee for the Study of the Problem of Raw Materials, p. 24, illustrates the advantages of triangular trade and the drawbacks resulting from its disorganization:

‘It may, in general, be said that the European countries [whose economic structure is largely based on production and export of agricultural goods] all depended upon favourable balances of trade with other European countries, in order to finance their purchases of raw materials from the overseas countries which bought very little from them in return. Since their European trade—partly as a consequence of the serious fall in prices of agricultural produce during recent years—no longer supplies them with the necessary foreign exchange, a difficulty in paying for raw materials from overseas is inevitable.’

46 Cf. my study, Monetary Internationalism and its Crisis, op. cit., Chapter III (reprinted in the present volume, pp. 85 et seq.).

47 Cf. Report, op. cit., pp. 22–3 and 26.

48 It is often claimed that exchange restrictions have been reluctantly introduced under the pressure of events. Whether this claim is true or not may be ascertained by examining the policy pursued after their introduction. If this policy aims at the creation of conditions in which the abolition of the restrictions becomes possible, it may be said that they were introduced simply through necessity. But it is impossible to make that claim if the policy subsequently followed tends to develop these restrictions and to make them an instrument of economic nationalism and autarky.

49 Cf. the very interesting article on this subject, accompanied by statistical tables, in The Economist of the 16th January 1937, pp. 112–13.

50 Op. cit., p. 23.

51 Cf. Report, op. cit., p. 23: ‘In certain countries, difficulties caused by the withdrawal of capital have been accentuated by the fact that the high prices of their products have limited their export opportunities and consequently the amount of foreign exchange available for the purchase of raw materials. In spite of this internal rise in prices, they have maintained their currencies at a high parity as compared with those of their competitors, and none of the measures which they have taken (exchange control, clearing agreements, subsidies, etc.) could ease the situation. It would be interesting to speculate whether, in lieu of exchange control and export bounties, an adjustment of the foreign value of their currencies to the very high internal price-level would not have placed more foreign exchange, available for the purchase of raw materials, at the disposal of some of these countries.’

52 Cf. Report, op. cit., pp. 23–4: ‘This situation has, in some cases, led the countries concerned to seek, in the production of substitutes, a remedy for their temporary difficulties in importing raw materials. But the production of these substitutes involves large capital expenditure, and in so far as they are uneconomic—i.e. more costly and less efficient than the natural products—and if the purpose of their production is self-sufficiency rather than economic progress, no real improvement in the situation will result. Although a reduction may be made in the foreign-exchange resources required for the importation of raw materials, a charge will be imposed on the internal economy of the country and its capacity to export will be adversely affected.’

53 It may be of interest to reproduce at this point the following observations made by the Committee for the Study of the Problem of Raw Materials (Report, op. cit., pp. 24–5):

  ‘Whatever may be the reasons which lead a country to institute foreign-exchange control, there can be no doubt that this expedient frequently leads to fresh difficulties which hinder countries adopting it from returning to permanent equilibrium. Such control tends to raise the home price-kvel to such a degree that the export trade is seriously hampered. In its turn, the decrease in exports automatically reduces the amount of foreign exchange which should be available. Furthermore, exchange control, and particularly restrictions on capital transfers” shakes confidence, is an inducement to exporters to refrain from repatriating payments received in foreign exchange, and keeps away foreign capital in “the form of commercial or other credits. When, as in the majority of cases, a clearing system is superimposed on exchange control, the proceeds of such export transactions as can still be carried on are paid into blocked accounts which must be used for the purchase of the goods available in the importing countries (frequently finished articles), instead of for the purchase of raw materials elsewhere. Moreover, an internal policy of inflation or the burden of social charges may affect the balance of payments, even when these circumstances are not accompanied by exchange control. In all these cases, a country’s internal policy may exert a vital influence upon its capacity to acquire raw materials from abroad.’

54 The Report from which I have already quoted numerous passages contains (p. 27) the following affirmation, which concords with those which I formulated in the memorandum submitted to the ‘General Study Conference’ six months before the publication of that Report:

‘. . . the solution of the present difficulties in regard to the payment for raw materials is in large part bound up with the solution of wider economic problems which requires concerted action to restore freer circulation of capital, goods, and labour. Any progress realized in this direction should help to meet certain countries’ complaints in regard to payments for raw materials.’

55 Nor are monetary relations left out. But they depend for their stability on financial and commercial relations. The Report frequently quoted in the preceding chapters declares (p. 26) that ‘the interruption of capital movements is the consequence of the breakdown of the gold standard . . .’. I cannot completely accept this thesis, though I agree as to the advantages of the gold standard for monetary internationalism. This system broke down in consequence of disturbances in international capital movements. These disturbances occurred in 1929, 1930, and 1931, while the first serious blow to the system of the gold standard was struck only in the autumn of 1931. After that, there was an interaction between monetary instability and the interruption or disorganization of financial movements. I consider that a return to international monetary stability is indispensable; but, as is pointed out below, such a return cannot precede the re-establishment of stable and free international financial and commercial relations. They are both interrelated and the one is unthinkable without the other.

56 Report, op. cit., p. 28.

57 Cf. p. 189.

58 International Studies Conference, Tenth Session, Paris, June 28–July 3, 1937. Cf. Coopération Intellectuelle, Bulletin published by the International Institute of Intellectual Co-operation. No. 80–81 (August-September 1937). See especially pp. 337–44.

59 Coopération Intellectuelle, op. cit., p. 341.

60 Ibid.

61 Ibid., pp. 343–4.

62 See Preface (p. 181 above).

63 Report presented by Monsieur van Zeeland to the Governments of the United Kingdom and France on the possibility of obtaining a general reduction of the obstacles to international trade, January 26, 1938, London, His Majesty’s Stationery Office, Cmd. 5648, Miscellaneous No. 1 (1938), p. 38.

64 Ibid., p. 34.

65 Cf. Report of the Committee for the Study of the Problem of Raw Materials, op. cit., pp. 27–9.

66 See above p 201

67 Here I diverge somewhat from the ‘van Zeeland Plan’.

68 Cf. van Zeeland Report, op. cit., pp. 48–9, from which I quote the following passage: ‘The object of the pact would be to assist the participants to raise the standard of living of their nationals by improving the general well-being. It would contain two parts, one negative, by which the participating countries would bind themselves to abstain from a certain number of practices contrary to the interests of the community of participants; the other positive, but general in its nature, by which the participating countries would bind themselves one towards the other to take up and to examine in a spirit of understanding and mutual assistance the problems and difficulties arising in their economic relations.’ I consider that all the clauses indicated in the first point of my suggestions should be included in such a pact.

• 1To illustrate, see for example the voluminous and penetrating Annual Reports of the Bank for International Settlements.
• 2The IMF takes an entirely neutral attitude towards the Gold Exchange Standard, neither endorsing nor rejecting it.
• 3James W. Angell, ‘Equilibrium in International Payments: the United States, 1919–1925’, in Explorations in Economics, Notes and Essays Contributed in Honor of F. W. Taussig, New York, 1936, p. 14, footnote (2).
• 4Vide infra, p. 28, a bibliographical footnote on inductive studies.
• 5This is an assumption which, in fact, underlies the whole of this book.
• 6Vide infra, pp. 23 et seq.
• 7In using the term ‘re-equilibrium’ for ‘restoration of equilibrium’, I adopt a term introduced by Professor Aftalion, L’équilibre dans les relations économiques internationales, Paris, 1937.
• 8The reader will find it useful to supplement this very summary statement by the excellent treatment of the subject in Jacob Viner’s Studies in the Theory of International Trade, New York and London, 1937, Chapter VII, pp. 388–436.
• 9James W. Angell, ‘Equilibrium in International Payments’, op. cit., p. 17.
• 10Ibid., p. 14. Of course no such definition can be quite rigorous and one must keep in mind, here, that short-term credit transactions occur also otherwise than in response to disequilibrium in international payments.
• 11See Jacob Viner’s Studies in the Theory of International Trade, op. cit., Chapter VI pp. 290–387.
• 12This qualification is indispensable; whenever there are credit operations the bank-rate policy appears in order to influence their size and direction.
• 13James W. Angell, ‘Equilibrium in International Payments’, op. cit., p. 15.
• 14‘On Some Applications of the Theory of International Trade’, Quarterly Journal of Economics, 1890. Quoted in Iversen, Aspects of the Theory of International Capital Movements, Copenhagen and London, 1936, p. 202.
• 15As Bastable puts it in the article quoted above, the inhabitants of the creditor country ‘having larger money incomes will purchase more at the same price’, and thus bring about the ‘necessary excess of imports over exports’. Iversen, op. cit., p. 203.
• 16See the discussion between Ohlin and Keynes in the Economic Journal for 1929. Ohlin, in fighting Keynes’s argument about the difficulties of transfer, introduces shifts in demand schedules as a factor making the transfer of reparations easier. Cf. Viner, op. cit., PP. 307–11 and 326–38; Bertil Ohlin, Interregional and International Trade, Cambridge, Mass., 1935, particularly Chapter XX; Keynes, A Treatise on Money, London, 1930, vol. I, Chapter XXI.
• 17R. F. Harrod, International Economics, London and Cambridge, 1933, Chapter VI, also The Trade Cycle, Oxford, 1936, pp. 145–58.
• 18P. B. Whale, ‘The Working of the Pre-War Gold Standard’, Economica, February 1937.
• 19Provided that there are no disturbing time-lags.
• 20Under the gold standard (as opposed to an all-gold currency) this result is obtained by a combination of automatic factors and of appropriate policies.
• 21Vide the following section of this chapter.
• 22Jacob Viner’s Canada’s Balance of International Indebtedness is a ‘classic’ among ‘inductive’ studies relating to this problem. Let us mention also the important studies by: John H. Williams (Argentine International Trade under Inconvertible Paper Money, 1880–1900, Cambridge, Mass., 1920); H. D. White (The French International Accounts, 1880–1913, Cambridge, Mass., 1933); W. E. Beach (British International Gold Movements and Banking Policy, 1881–1913, Cambridge, Mass., 1935); F. D. Graham (‘International Trade under Depreciated Paper. The United States, 1862–79’, Quarterly Journal of Economics, vol. XXXVI, 1922); R. S. Sayers (Bank of England Operations, 1890–1914, London, 1936).
• 23Assuming, as we do, the continued existence of free exchange markets.
• 24Or, more generally, of the commodity used for money or for the monetary standard.
• 25Import tariffs imposed by the country in deficit would, of course, help adjustment. But why should countries with a deficit in international payments have a monopoly of protectionism? and would they have it in fact? To the latter question the most likely answer is in the negative. Tariffs imposed by the country in deficit would be likely to provoke retaliatory measures and in the end adjustment would be rendered more difficult rather than easier. Therefore the argument favouring import tariffs as an instrument of readjustment does not appear to be a strong one. Cf. The Macmillan Report (Committee on Finance and Industry Report), London, 1931, H.M.S.O., Cmd. 3897, Addenda I and III.
• 26The position of the problem here is different from the position of the transfer problem. It clearly results from the notion of balance of payments that a net capital payment must be made by means of an export surplus in the balance of trade of the paying country and of an import surplus in the balance of trade of the receiving country (unless transfer is deferred through credit transactions). In the problem of transfer (or, as some authors call it, of real transfer) the solution depends upon the mechanism of obtaining an export surplus. For our present problem, however, it is indifferent whether equilibrium in international payments is obtained by the means of a ‘real transfer’ of the balance due on current account or through financial operations.
• 27Vide footnote, p. 32.
• 28A similar attitude is adopted by Professor von Hayek in Monetary Nationalism and International Stability, London, 1937, pp. 23–4.
• 29i.e. whenever there is no exceptional maladjustment of the type to be examined in the next section of this chapter.
• 30A similar thesis is developed at greater length in the two very interesting books anonymously published by a well-known Belgian economist and banker under the title La crise de l’étalon-or, Brussels, 1935, and Révision de valeur, Brussels, 1937.
• 31Vide supra, p. 22.
• 32As in a business cycle.
• 33Vide, footnote, p. 31.
• 34It will be noted, as an example of great adaptability of foreign trade to changing conditions, that Germany had in 1927 a surplus of merchandise imports of 2,890 million Reichsmark, while in 1930 there was a surplus of exports of 1,644 million Reichsmark. (League of Nations, Balances of Payments, 1931 and 1932, Geneva, 1933, p. 99.) See the interesting comments on that German experience by Jacques Rueff in his lecture ‘Défense et illustration de l’étalon-or’ published in Les doctrines monétaires à l’épreuve des faits, Paris, 1932, and reprinted in Travaux du Congrès international des Sciences économiques, Paris, 1937, Paris, 1937, vol. I, pp. 275–307.
• 35The fifties were a period of increasingly obvious recovery, both in world monetary affairs and in the economic life of individual countries. The great opportunities offered during that decade, however, for carrying out a sweeping international monetary reform have not been utilized. True, the European Payments Union had been formed at the beginning of the decade, to be dissolved, due to improved conditions in Europe, towards the end of it. But this was at best an attempt at making inconvertibility more liveable with and at undoing part of its evil effects on intra-European commerce. The International Monetary Fund (established by the Bretton Woods Conference in June 1944) could have blossomed up, but did not do so, during the fifties, whereas what actually did take place was a great revival of the Gold Exchange Standard, amplified into the so-called ‘key currency system’. It should also be noted that the alleged (though never really existing) ‘dollar shortage’, which caused rivers of scholarly ink to flow for many years, has been reversed and a far more real dollar glut took its place at the end of the fifties as a result of the large balance-of-payments deficits which the U.S. started to experience in 1958.
• 36The fifties were a period of increasingly obvious recovery, both in world monetary affairs and in the economic life of individual countries. The great opportunities offered during that decade, however, for carrying out a sweeping international monetary reform have not been utilized. True, the European Payments Union had been formed at the beginning of the decade, to be dissolved, due to improved conditions in Europe, towards the end of it. But this was at best an attempt at making inconvertibility more liveable with and at undoing part of its evil effects on intra-European commerce. The International Monetary Fund (established by the Bretton Woods Conference in June 1944) could have blossomed up, but did not do so, during the fifties, whereas what actually did take place was a great revival of the Gold Exchange Standard, amplified into the so-called ‘key currency system’. It should also be noted that the alleged (though never really existing) ‘dollar shortage’, which caused rivers of scholarly ink to flow for many years, has been reversed and a far more real dollar glut took its place at the end of the fifties as a result of the large balance-of-payments deficits which the U.S. started to experience in 1958.
• 37The problem of maintaining the equilibrium of balances of international payments, and of restoring it once it has been disturbed, is one of the most discussed questions in the field of international economics. The interest attached to it can be accounted for by the national and international difficulties which disequilibrium in international payments brings about if it is sudden and large or protracted and cumulative. It is the frictions caused by deficits in international payments of a country which have brought the problem of balances of payments into the important position it occupies in international relations, and which have provided the incentive for an extensive literature of the subject, which I cannot hope to discuss or even quote in the pages that follow. As has been pointed out by various writers, the problem of international payments acquires an importance which that of interregional payments does not possess, on account of the existence of various national monetary systems and of more or less uncoordinated national monetary and, more generally, economic, policies. This plurality of currencies results in the problem of foreign exchanges, which is an international and not an interregional one and is closely linked with that of balances of payments. We have seen that fluctuations of foreign exchanges are due to changes in international payments; and that these fluctuations tend to equalize the demand and the supply on foreign-exchange markets, and thus equalize payments made and payments received by a country. As Professor Angell rightly points out, ‘if the foreign exchange rates are free to move without limit in either direction, their movement will in itself keep the two current streams of credit and debit payments always equal . . .’. We shall see presently, however, that under flexible exchanges the problem arises of a possible cumulative devaluation of a currency and of its avoidance, and that the exchange fluctuation itself sets in motion forces affecting the size of transactions from which international payments result. The problem of equilibrium in international payments has its fullest significance upon the assumption of stable exchanges. The question can then be formulated in the following way: given stable exchanges, or given the desire to keep exchanges stable, how can equilibrium be restored in international payments once it has been disturbed? The restoration of equilibrium in international payments is thus a means of maintaining monetary parities by rigorously limiting exchange fluctuations. This in turn is inspired by the consideration that wide exchange fluctuations are undesirable, a position that calls for investigation. The limitation of movements of foreign exchanges calls for a ‘mechanism’ for adjusting balances of payments, and one finds that various ‘mechanisms’ can be constructed as abstract models but that only some of them can operate in the actual economic world. Most writings on this subject fall therefore into one of two groups: (1) construction of ‘models’ of ‘mechanisms’ that are conceivable in abstracto and (2) inquiry into the nature of ‘mechanisms’ that actually did operate in given circumstances. The fundamental problem is not complicated: if payments to be made and payments to be received at a particular moment do not cancel out, and if equality is not obtained through a continuous modification of the exchange relation between the respective currency units, then transactions must occur which will compensate the deficit and restore the balance (since over longer periods of time, payments received must be equal to payments made). Let us for the sake of clarity group the various questions that arise in this context and investigate each group separately. Before proceeding to this examination let us first explicitly state an important assumption that underlies all the reasonings to follow. We are going to discuss processes that are taking place in a free economic community, where there are no governmental interferences, other than tariffs, in the economic relations between countries. More precisely, it is assumed that individuals are not interfered with in either the commercial or the financial transactions which they wish to carry out.
• 38The problem of maintaining the equilibrium of balances of international payments, and of restoring it once it has been disturbed, is one of the most discussed questions in the field of international economics. The interest attached to it can be accounted for by the national and international difficulties which disequilibrium in international payments brings about if it is sudden and large or protracted and cumulative. It is the frictions caused by deficits in international payments of a country which have brought the problem of balances of payments into the important position it occupies in international relations, and which have provided the incentive for an extensive literature of the subject, which I cannot hope to discuss or even quote in the pages that follow. As has been pointed out by various writers, the problem of international payments acquires an importance which that of interregional payments does not possess, on account of the existence of various national monetary systems and of more or less uncoordinated national monetary and, more generally, economic, policies. This plurality of currencies results in the problem of foreign exchanges, which is an international and not an interregional one and is closely linked with that of balances of payments. We have seen that fluctuations of foreign exchanges are due to changes in international payments; and that these fluctuations tend to equalize the demand and the supply on foreign-exchange markets, and thus equalize payments made and payments received by a country. As Professor Angell rightly points out, ‘if the foreign exchange rates are free to move without limit in either direction, their movement will in itself keep the two current streams of credit and debit payments always equal . . .’. We shall see presently, however, that under flexible exchanges the problem arises of a possible cumulative devaluation of a currency and of its avoidance, and that the exchange fluctuation itself sets in motion forces affecting the size of transactions from which international payments result. The problem of equilibrium in international payments has its fullest significance upon the assumption of stable exchanges. The question can then be formulated in the following way: given stable exchanges, or given the desire to keep exchanges stable, how can equilibrium be restored in international payments once it has been disturbed? The restoration of equilibrium in international payments is thus a means of maintaining monetary parities by rigorously limiting exchange fluctuations. This in turn is inspired by the consideration that wide exchange fluctuations are undesirable, a position that calls for investigation. The limitation of movements of foreign exchanges calls for a ‘mechanism’ for adjusting balances of payments, and one finds that various ‘mechanisms’ can be constructed as abstract models but that only some of them can operate in the actual economic world. Most writings on this subject fall therefore into one of two groups: (1) construction of ‘models’ of ‘mechanisms’ that are conceivable in abstracto and (2) inquiry into the nature of ‘mechanisms’ that actually did operate in given circumstances. The fundamental problem is not complicated: if payments to be made and payments to be received at a particular moment do not cancel out, and if equality is not obtained through a continuous modification of the exchange relation between the respective currency units, then transactions must occur which will compensate the deficit and restore the balance (since over longer periods of time, payments received must be equal to payments made). Let us for the sake of clarity group the various questions that arise in this context and investigate each group separately. Before proceeding to this examination let us first explicitly state an important assumption that underlies all the reasonings to follow. We are going to discuss processes that are taking place in a free economic community, where there are no governmental interferences, other than tariffs, in the economic relations between countries. More precisely, it is assumed that individuals are not interfered with in either the commercial or the financial transactions which they wish to carry out.
• 39The problem of maintaining the equilibrium of balances of international payments, and of restoring it once it has been disturbed, is one of the most discussed questions in the field of international economics. The interest attached to it can be accounted for by the national and international difficulties which disequilibrium in international payments brings about if it is sudden and large or protracted and cumulative. It is the frictions caused by deficits in international payments of a country which have brought the problem of balances of payments into the important position it occupies in international relations, and which have provided the incentive for an extensive literature of the subject, which I cannot hope to discuss or even quote in the pages that follow. As has been pointed out by various writers, the problem of international payments acquires an importance which that of interregional payments does not possess, on account of the existence of various national monetary systems and of more or less uncoordinated national monetary and, more generally, economic, policies. This plurality of currencies results in the problem of foreign exchanges, which is an international and not an interregional one and is closely linked with that of balances of payments. We have seen that fluctuations of foreign exchanges are due to changes in international payments; and that these fluctuations tend to equalize the demand and the supply on foreign-exchange markets, and thus equalize payments made and payments received by a country. As Professor Angell rightly points out, ‘if the foreign exchange rates are free to move without limit in either direction, their movement will in itself keep the two current streams of credit and debit payments always equal . . .’. We shall see presently, however, that under flexible exchanges the problem arises of a possible cumulative devaluation of a currency and of its avoidance, and that the exchange fluctuation itself sets in motion forces affecting the size of transactions from which international payments result. The problem of equilibrium in international payments has its fullest significance upon the assumption of stable exchanges. The question can then be formulated in the following way: given stable exchanges, or given the desire to keep exchanges stable, how can equilibrium be restored in international payments once it has been disturbed? The restoration of equilibrium in international payments is thus a means of maintaining monetary parities by rigorously limiting exchange fluctuations. This in turn is inspired by the consideration that wide exchange fluctuations are undesirable, a position that calls for investigation. The limitation of movements of foreign exchanges calls for a ‘mechanism’ for adjusting balances of payments, and one finds that various ‘mechanisms’ can be constructed as abstract models but that only some of them can operate in the actual economic world. Most writings on this subject fall therefore into one of two groups: (1) construction of ‘models’ of ‘mechanisms’ that are conceivable in abstracto and (2) inquiry into the nature of ‘mechanisms’ that actually did operate in given circumstances. The fundamental problem is not complicated: if payments to be made and payments to be received at a particular moment do not cancel out, and if equality is not obtained through a continuous modification of the exchange relation between the respective currency units, then transactions must occur which will compensate the deficit and restore the balance (since over longer periods of time, payments received must be equal to payments made). Let us for the sake of clarity group the various questions that arise in this context and investigate each group separately. Before proceeding to this examination let us first explicitly state an important assumption that underlies all the reasonings to follow. We are going to discuss processes that are taking place in a free economic community, where there are no governmental interferences, other than tariffs, in the economic relations between countries. More precisely, it is assumed that individuals are not interfered with in either the commercial or the financial transactions which they wish to carry out.
• 40In this case we assume that gold is the only money in circulation in the various countries; we further assume that no changes will be made anywhere in the price of gold and that, therefore, there are fixed parities (mint-par) between the various gold currencies. Every net payment between countries is made in gold, and results in a reduction of the amount of circulating medium in a country which has a deficit in its balance of payments, and in a net increase in the amount of circulating medium in countries having a surplus in their balances of payments. We shall discuss later the repercussions of these changes upon the various transactions between the countries concerned and the various policies that may be adopted in response to gold movements. Let us merely point out in the present context that should a country have a persistent deficit in her international payments, the deflation caused by losses of circulating medium may become very drastic. By reason of the frictions that this involves, the country which is going through such an experience may be tempted to change its monetary system. If this should be the case and if the country in question should abandon the system of gold currency, international frictions will follow. Thus while payments in gold can always momentarily restore equilibrium in international payments, changes in international economic transactions themselves must take place if a breakdown of the monetary system is to be avoided. As it happens, however, losses of gold may set in motion some ‘mechanism’, which will be discussed presently, and help to obtain an appropriate adjustment of commercial and financial transactions.
• 41As it has been pointed out above, there are two different ways of approaching this question. One is to indicate the mechanism by which policies adopted in response to a break of equilibrium can bring about compensatory operations, and thus durably restore the disturbed equilibrium of the balance of payments. The other approach consists in demonstrating that disequilibrium releases through its very existence forces which tend to bring about the necessary adjustments in international transactions. The one type of approach arrives at a theory of what I propose to call ‘induced re-equilibrium’, while the other arrives at a theory of ‘automatic re-equilibrium’. This terminology will be justified by the discussion that follows. It will become clear too that the two theories are complementary, not alternative, and that one needs them both in order to explain empirically-known phenomena in a completely satisfactory way. It is to be regretted that most writers on the subject so little realize the complementary character of the various approaches to the problem of re-equilibrium in international payments.
• 42The classical ‘mechanism’ realizes all these effects by the single means of changes in the bank rate. Under modern banking conditions additional policies may be called for, since the monetary circulation not covered by gold is only to a small extent backed by commercial paper and to a very large extent by government securities. In order to obtain the reduction in monetary circulation which the ‘classical’ theory demands, ‘open market’ operations must supplement the movements of interest rates. It will be noted that there is, both in the ‘classical’ and in the ‘modern’ version of this mechanism, a considerable amount of judgment to be exercised by the central banking authorities; thus the mechanism in question is by no means an automatic one.
• 43It can be said that long-term equilibrium in international payments exists if short-term credit operations are always sufficient to restore the balance whenever it is disturbed. Thus Professor Angell gives a definition, which in the light of the foregoing analysis appears to be judicious and acceptable, and according to which international payments of a country are in equilibrium if ‘the net balance of the aggregated commodity, service, interest and dividend and long-term capital operations, so far as these operations entail actual payments, is zero’. Or, reciprocally, ‘a country’s international payments are “out of equilibrium” whenever short-term funds are moving to or from it, net (that is, whenever the net balance of all the other international payment items is greater or less than zero)’. In other words, international payments are in durable equilibrium if, in order to maintain that equilibrium, and in the absence of any new disturbances, no changes in the structure of foreign trade or credit operations are required.
• 44It can be said that long-term equilibrium in international payments exists if short-term credit operations are always sufficient to restore the balance whenever it is disturbed. Thus Professor Angell gives a definition, which in the light of the foregoing analysis appears to be judicious and acceptable, and according to which international payments of a country are in equilibrium if ‘the net balance of the aggregated commodity, service, interest and dividend and long-term capital operations, so far as these operations entail actual payments, is zero’. Or, reciprocally, ‘a country’s international payments are “out of equilibrium” whenever short-term funds are moving to or from it, net (that is, whenever the net balance of all the other international payment items is greater or less than zero)’. In other words, international payments are in durable equilibrium if, in order to maintain that equilibrium, and in the absence of any new disturbances, no changes in the structure of foreign trade or credit operations are required.
• 45While induced re-equilibrium is obtained by the means of policies adopted in response to symptoms of disequilibrium, such as gold-flows from country to country, automatic re-equilibrium is a direct consequence of the maladjustment of international payments. There may be two conceptions of this type of adjustment: (1) there are symptoms of maladjustment such as flows of gold, but no policy needs to be adopted since the consequences (or symptoms) of maladjustment bring themselves the cure that is required; (2) the disequilibrium has direct consequences which prevent even the appearance of the symptoms of maladjustment, considered as the ‘normal’ ones. The first case is that of the ‘classical’ mechanism of adjustment working within the monetary system of a ‘simple specie currency’ where there are no credit operations whatever. The second represents the most ‘modern’ tendencies that prevail in investigations of equilibrium in international payments.
• 46While induced re-equilibrium is obtained by the means of policies adopted in response to symptoms of disequilibrium, such as gold-flows from country to country, automatic re-equilibrium is a direct consequence of the maladjustment of international payments. There may be two conceptions of this type of adjustment: (1) there are symptoms of maladjustment such as flows of gold, but no policy needs to be adopted since the consequences (or symptoms) of maladjustment bring themselves the cure that is required; (2) the disequilibrium has direct consequences which prevent even the appearance of the symptoms of maladjustment, considered as the ‘normal’ ones. The first case is that of the ‘classical’ mechanism of adjustment working within the monetary system of a ‘simple specie currency’ where there are no credit operations whatever. The second represents the most ‘modern’ tendencies that prevail in investigations of equilibrium in international payments.
• 47(2) The modern school of thought, representing what has been called here ‘the theory of automatic adjustments’, consists of ‘those who postulate shifts of international demand schedules to right or to left without any necessary intermediation of gold flows’. Iversen traces this point of view to an article written in 1889 by C. F. Bastable, in which, in opposition to John Stuart Mill, the fact is brought out that changes in purchasing power of the respective countries brought forth by the disequilibrium in balances of payments may in themselves, and without the help of any additional policy, effect changes in the volume and direction of trade between these countries. Thus to formulate the problem briefly, the question consists in finding out whether gold movements on the one hand, and price-changes on the other, are indispensable in order to bring international payments into a new equilibrium. According to the theory which we are now discussing, neither of the two elements is absolutely necessary for an equilibrating mechanism to work. This point of view has been brought to the foreground of economic debate in the course of the reparations discussion. More recently Harrod and Whale make an extensive use of the same mechanism. While there are various nuances as between the different presentations, the essential process here involved consists in changes that are supposed to take place in reciprocal demand schedules that exist in each of the countries for the other country’s products. Thus the country whose balance of payments shows a deficit would buy less goods of the other country (assuming two countries in presence) while the latter country would increase her importations from the former. Since these surplus imports will be financed through the spending of sums due by the debtor country, no price-changes are necessary in order to bring about the adjustment.
• 48(2) The modern school of thought, representing what has been called here ‘the theory of automatic adjustments’, consists of ‘those who postulate shifts of international demand schedules to right or to left without any necessary intermediation of gold flows’. Iversen traces this point of view to an article written in 1889 by C. F. Bastable, in which, in opposition to John Stuart Mill, the fact is brought out that changes in purchasing power of the respective countries brought forth by the disequilibrium in balances of payments may in themselves, and without the help of any additional policy, effect changes in the volume and direction of trade between these countries. Thus to formulate the problem briefly, the question consists in finding out whether gold movements on the one hand, and price-changes on the other, are indispensable in order to bring international payments into a new equilibrium. According to the theory which we are now discussing, neither of the two elements is absolutely necessary for an equilibrating mechanism to work. This point of view has been brought to the foreground of economic debate in the course of the reparations discussion. More recently Harrod and Whale make an extensive use of the same mechanism. While there are various nuances as between the different presentations, the essential process here involved consists in changes that are supposed to take place in reciprocal demand schedules that exist in each of the countries for the other country’s products. Thus the country whose balance of payments shows a deficit would buy less goods of the other country (assuming two countries in presence) while the latter country would increase her importations from the former. Since these surplus imports will be financed through the spending of sums due by the debtor country, no price-changes are necessary in order to bring about the adjustment.
• 49(2) The modern school of thought, representing what has been called here ‘the theory of automatic adjustments’, consists of ‘those who postulate shifts of international demand schedules to right or to left without any necessary intermediation of gold flows’. Iversen traces this point of view to an article written in 1889 by C. F. Bastable, in which, in opposition to John Stuart Mill, the fact is brought out that changes in purchasing power of the respective countries brought forth by the disequilibrium in balances of payments may in themselves, and without the help of any additional policy, effect changes in the volume and direction of trade between these countries. Thus to formulate the problem briefly, the question consists in finding out whether gold movements on the one hand, and price-changes on the other, are indispensable in order to bring international payments into a new equilibrium. According to the theory which we are now discussing, neither of the two elements is absolutely necessary for an equilibrating mechanism to work. This point of view has been brought to the foreground of economic debate in the course of the reparations discussion. More recently Harrod and Whale make an extensive use of the same mechanism. While there are various nuances as between the different presentations, the essential process here involved consists in changes that are supposed to take place in reciprocal demand schedules that exist in each of the countries for the other country’s products. Thus the country whose balance of payments shows a deficit would buy less goods of the other country (assuming two countries in presence) while the latter country would increase her importations from the former. Since these surplus imports will be financed through the spending of sums due by the debtor country, no price-changes are necessary in order to bring about the adjustment.
• 50(2) The modern school of thought, representing what has been called here ‘the theory of automatic adjustments’, consists of ‘those who postulate shifts of international demand schedules to right or to left without any necessary intermediation of gold flows’. Iversen traces this point of view to an article written in 1889 by C. F. Bastable, in which, in opposition to John Stuart Mill, the fact is brought out that changes in purchasing power of the respective countries brought forth by the disequilibrium in balances of payments may in themselves, and without the help of any additional policy, effect changes in the volume and direction of trade between these countries. Thus to formulate the problem briefly, the question consists in finding out whether gold movements on the one hand, and price-changes on the other, are indispensable in order to bring international payments into a new equilibrium. According to the theory which we are now discussing, neither of the two elements is absolutely necessary for an equilibrating mechanism to work. This point of view has been brought to the foreground of economic debate in the course of the reparations discussion. More recently Harrod and Whale make an extensive use of the same mechanism. While there are various nuances as between the different presentations, the essential process here involved consists in changes that are supposed to take place in reciprocal demand schedules that exist in each of the countries for the other country’s products. Thus the country whose balance of payments shows a deficit would buy less goods of the other country (assuming two countries in presence) while the latter country would increase her importations from the former. Since these surplus imports will be financed through the spending of sums due by the debtor country, no price-changes are necessary in order to bring about the adjustment.
• 51(2) The modern school of thought, representing what has been called here ‘the theory of automatic adjustments’, consists of ‘those who postulate shifts of international demand schedules to right or to left without any necessary intermediation of gold flows’. Iversen traces this point of view to an article written in 1889 by C. F. Bastable, in which, in opposition to John Stuart Mill, the fact is brought out that changes in purchasing power of the respective countries brought forth by the disequilibrium in balances of payments may in themselves, and without the help of any additional policy, effect changes in the volume and direction of trade between these countries. Thus to formulate the problem briefly, the question consists in finding out whether gold movements on the one hand, and price-changes on the other, are indispensable in order to bring international payments into a new equilibrium. According to the theory which we are now discussing, neither of the two elements is absolutely necessary for an equilibrating mechanism to work. This point of view has been brought to the foreground of economic debate in the course of the reparations discussion. More recently Harrod and Whale make an extensive use of the same mechanism. While there are various nuances as between the different presentations, the essential process here involved consists in changes that are supposed to take place in reciprocal demand schedules that exist in each of the countries for the other country’s products. Thus the country whose balance of payments shows a deficit would buy less goods of the other country (assuming two countries in presence) while the latter country would increase her importations from the former. Since these surplus imports will be financed through the spending of sums due by the debtor country, no price-changes are necessary in order to bring about the adjustment.
• 52(2) The modern school of thought, representing what has been called here ‘the theory of automatic adjustments’, consists of ‘those who postulate shifts of international demand schedules to right or to left without any necessary intermediation of gold flows’. Iversen traces this point of view to an article written in 1889 by C. F. Bastable, in which, in opposition to John Stuart Mill, the fact is brought out that changes in purchasing power of the respective countries brought forth by the disequilibrium in balances of payments may in themselves, and without the help of any additional policy, effect changes in the volume and direction of trade between these countries. Thus to formulate the problem briefly, the question consists in finding out whether gold movements on the one hand, and price-changes on the other, are indispensable in order to bring international payments into a new equilibrium. According to the theory which we are now discussing, neither of the two elements is absolutely necessary for an equilibrating mechanism to work. This point of view has been brought to the foreground of economic debate in the course of the reparations discussion. More recently Harrod and Whale make an extensive use of the same mechanism. While there are various nuances as between the different presentations, the essential process here involved consists in changes that are supposed to take place in reciprocal demand schedules that exist in each of the countries for the other country’s products. Thus the country whose balance of payments shows a deficit would buy less goods of the other country (assuming two countries in presence) while the latter country would increase her importations from the former. Since these surplus imports will be financed through the spending of sums due by the debtor country, no price-changes are necessary in order to bring about the adjustment.
• 53It is certainly conceivable that the net payment will be made by the means of an appropriate change in the balance of trade brought forth by shifts in demand schedules, without either gold movements or price changes, but is it likely to happen? It will be observed that changes in the structure of trade require time, while gold shipments in response to a certain situation in the foreign-exchange market take place on a very short notice; it is therefore likely that gold movements will take place even before changes in the structure of trade could occur. Inasmuch as gold movements affect the supply of money in the countries concerned, price movements are thus likely to take place with a more or less considerable time-lag. Is it possible that these changes in the supply of money should affect the volume and direction of trade between the particular countries without first causing price-changes? This will depend upon the particular shape of the various demand curves. If the increased demand by the ‘creditor’ country for foreign goods offsets the decrease of internal demand on the markets of the ‘debtor’ country; and if the increased internal demand on the markets of the ‘creditor’ country offsets the fall in exports formerly bought by the ‘debtor’ country; then the price structure will remain intact in both countries. The off-setting would have to take place, however, not only in total values, but in each individual market as well. That this might happen is just conceivable but the probability of its happening is very small. In the contrary case changes in price structures are inevitable. It seems reasonable to conclude that: (1) changes in national price structures are practically unavoidable if equilibrium is to be realized through adjustments of the balance of trade; (2) the fact of net payments from country to country may affect the size and direction of trade between the countries concerned even in the absence of major price movements; changes in the structure of prices would then take place in each country as a consequence of changes in demand schedules; (3) the need of price movements is considerably reduced when the mechanism of re-equilibrium works primarily through credit operations (but in this case it ceases to be automatic).
• 54Thus far the process described has been ‘automatic’; it can be supplemented, however, by appropriate monetary policies. Thus the monetary authorities of the country having a deficit in its international payments may adopt a restrictive credit policy at home and cause a fall in nominal prices; similarly the monetary authorities of the country having a surplus in its balance of payments may adopt a more liberal credit policy and cause a rising price-tendency at home. In acting this way the respective policies would achieve voluntarily what is obtained automatically under a simple specie currency and would speed up the process of adjustment described above.
• 55If we complete the picture by introducing international financial operations, the adoption of certain appropriate policies becomes imperative. As we have seen, a system of freely fluctuating exchanges does not eliminate the possibility of a long-run stability (as distinct from fixity) of exchange rates. If this is the object of policy we find ourselves in a position which is not vitally different from the one described in the preceding section of this chapter. It is quite conceivable that the fluctuation of exchanges around an equilibrium position should (by keeping international payments balanced) be itself an instrument of maintaining a long-run exchange stability. This conception of exchange fluctuations as a mechanism of re-equilibrium is very important, since it conflicts with the view according to which exchange chaos is the only alternative to fixed parities. Now for various reasons fixed parities may appear to be preferable to a long-run stability of fluctuating exchanges; this latter possibility must, however, not be overlooked since it represents an interesting intermediate solution. If it is adopted as a declared objective of policy, capital and money movements may continue on the basis of anticipated long-term exchange stability; in the contrary case the anticipated instability will disorganize financial operations and thus become a real instability. Thus the real opposition is that of organized versus disorganized international monetary relations, not that of one method or organization versus another method (that is of one monetary system versus another system). The choice of methods must then depend on various other considerations, not on that of a long-run stability of foreign exchanges.
• 56In the preceding two sections I have endeavoured to give a brief outline of the principal ‘mechanisms’ through which international payments are or can be equilibrated once their balance has been disturbed. As has been pointed out above, the various mechanisms that operate under conditions of fixed parities can work together; what actually happens in any particular situation can be ascertained only by means of empirical inquiries. While some such investigations have been carried out, very much remains still to be done. This is indeed a fitting subject for institutional research: in order to make the results of such inquiries readily comparable they ought to be carried out by a group of scholars in agreement amongst themselves on the methods to be used and on the problems to be investigated. In the absence of more and better knowledge of actual processes, most detailed discussions of the ‘mechanism’ of re-equilibrium remain in the sphere of the intellectually conceivable; they are precious tools of thought for inductive research. The most that can be said is that actual situations represent variously set-up compounds of these multiple hypothetical methods of adjustment. It is only when our empirical knowledge is more developed that really significant results will be obtained through applying and testing the various abstract ‘models’. In the present study I should like to bring out certain fundamental similarities between the various ‘mechanisms’, in particular the analogies which exist between ‘mechanisms’ moving on the basis of fixed parities and those which work through exchange fluctuations. Some elements of this comparison have been already mentioned in section D of this chapter and in the light of these observations there appears a possibility of formulating a theory of re-equilibrium which would apply to any monetary system. This is what I shall now attempt very briefly to do.
• 57Symptoms of disequilibrium in international payments can be only one of two kinds: (a) flows of gold (under the gold standard); (b) depreciation of one currency in terms of the other. If deficits and surpluses are cumulative, then (a) losses of gold2 by the country in deficit will go on until this particular monetary system breaks down, or (b) the depreciation of the currency of the country in deficit will continue without limitation and monetary instability will set in. It will be noted that even if one starts from the situation (a) one ultimately lands in the situation (b) provided that the cumulative character of the maladjustments lasts long enough. Now currency depreciation, to which there is no known limitation, destroys all regularity in flows of capital and introduces into the economic process more or less wide and erratic movements of short-term funds. The destruction of confidence brings an end to financial and monetary stability; considerations of safety and not considerations of returns guide financial operations henceforth.
• 58Symptoms of disequilibrium in international payments can be only one of two kinds: (a) flows of gold (under the gold standard); (b) depreciation of one currency in terms of the other. If deficits and surpluses are cumulative, then (a) losses of gold2 by the country in deficit will go on until this particular monetary system breaks down, or (b) the depreciation of the currency of the country in deficit will continue without limitation and monetary instability will set in. It will be noted that even if one starts from the situation (a) one ultimately lands in the situation (b) provided that the cumulative character of the maladjustments lasts long enough. Now currency depreciation, to which there is no known limitation, destroys all regularity in flows of capital and introduces into the economic process more or less wide and erratic movements of short-term funds. The destruction of confidence brings an end to financial and monetary stability; considerations of safety and not considerations of returns guide financial operations henceforth.
• 59Most of the ‘mechanisms’ described in the economic literature, and summed up above, work on the assumption that international trade is the principal source of payments that take place from country to country. This easily leads to confusing the balance of trade with the balance of payments and to reducing the disequilibrium in the latter to that in the former. Whenever this is done, conclusions obtained cannot be applied, without more or less serious qualifications, to cases where financial transactions are an important source of international payments. In the assumption that no financial transactions whatever are taking place, the whole readjustment in international payments has to be obtained through export surpluses realized by the country in deficit. If the adjustment is to be made under a system of simple specie currency, the deficit of the balance of payments causes a change in the supply of money in the countries concerned and thus affects trade, (a) directly via shifts in demand schedules brought about by changes in the supply of money; and (b) indirectly through price changes resulting from movements of specie from country to country. The greater the price adjustment, the quicker will the necessary alteration in the balance of trade be obtained. It will be observed that the necessary price adjustment will be smallest when trade is free and that progressive protectionism may seriously interfere with the process of re-equilibrium.
• 60The time has now come to drop the assumption which consisted in limiting international economic relations to commercial transactions. Under modern economic conditions capital movements and short-term credit operations play too important a part to be left out of consideration. On the contrary, they ought to be introduced into the problem of international settlements with a far greater emphasis than is generally the case. If financial transactions are important components of international economic relations, then trade adjustments cannot be regarded any longer as the only, or even as the principal, factor in the process of re-equilibrium.
• 61Let us now ascertain whether this interest-rate policy is indispensable for obtaining re-equilibrium or whether, on the contrary, a mechanism is conceivable which leaves the rate of interest quite outside the process of adjustment. Should the interest rate become dissociated from the mechanism of re-equilibrium, then, under normal conditions of confidence, international credit operations would cease to operate as an instrument helping to bring about equilibrium of international payments. As far as I can see it, there is no means of attracting to a country short-term balances other than offering them a sufficiently high reward, and this can be achieved only by means of an appropriate bank-rate policy. If now, international credit operations cease to take place, the whole load of adjustment is thrown upon the balance of trade. Important consequences follow. Credit operations of the type which we are considering here reduce the net deficit (and surplus) in international payments and reduce in consequence the size of net balances which have to be settled and the volume of ‘real transfer’ which has to carry out the final settlement. The suppression of compensatory credit transactions has the contrary effect. Now it is clear that the greater is the size of adjustments to be brought about by trade items, the greater will be the need for changes in the supply of money on the respective national markets and for differential price movements. These changes in the supply of money may be carried out through open-market operations under conditions which were specified above. Whenever this method can be applied the bank rate need not be changed as soon as the mechanism of re-equilibrium begins to work. It will, however, be noticed that the change of rates is thus merely postponed. Relative changes in the supply of money call sooner or later for changes in short-term interest rates; these cannot be indefinitely avoided if re-equilibrium is to be obtained. Movements in interest rates can only be avoided if one adopts measures the final effect of which is to make the functioning of the mechanism of adjustment impossible. It is hardly necessary, after all the foregoing analysis, to emphasize further the fact that international payments are not likely to be brought into equilibrium if neither short-term credit operations, nor changes in the supply of money and in national prices, are allowed to take place.
• 62There is in the same context another misapprehension which ought to be dispelled. It is usually claimed by those who advocate the system of ‘flexible exchanges’ in opposition to that of fixed parities, that the latter imposes upon countries which are practising it the strains of repeated deflations, or rather of an alternation of inflations and of deflations. This strikes me as a rather fanciful representation under normal conditions. Price movements which enter into a process of adjustment of international payments are not likely to be of an amplitude which would seriously disturb economic activity and amount to a deflation (or inflation). If we had the necessary quantitative information about the pre-war times, we could settle the matter conclusively. While waiting for an adequate documentation to be produced we must depend on the logic of the economic system and be very careful not to exaggerate what probably consisted of relatively minor price movements; very likely the greatest part of current adjustments was carried out (as I pointed out before) by credit operations. The underestimation of the part played by international movements of short-term balances had led to an exaggeration of the rôle of price movements and of their size. A further source of confusion is the lack of differentiation between current adjustments of transactions carried out with a view to maintaining long-run equilibrium in international payments, and adjustments to violent breaks of equilibrium due to special causes and to exceptional circumstances. Under ‘normal’ conditions there is no need to choose between stable prices and stable exchanges. Not only can both be stable at the same time, but it clearly follows from all the foregoing analysis that they must be stable simultaneously, if equilibrium is to be preserved.
• 63There is in the same context another misapprehension which ought to be dispelled. It is usually claimed by those who advocate the system of ‘flexible exchanges’ in opposition to that of fixed parities, that the latter imposes upon countries which are practising it the strains of repeated deflations, or rather of an alternation of inflations and of deflations. This strikes me as a rather fanciful representation under normal conditions. Price movements which enter into a process of adjustment of international payments are not likely to be of an amplitude which would seriously disturb economic activity and amount to a deflation (or inflation). If we had the necessary quantitative information about the pre-war times, we could settle the matter conclusively. While waiting for an adequate documentation to be produced we must depend on the logic of the economic system and be very careful not to exaggerate what probably consisted of relatively minor price movements; very likely the greatest part of current adjustments was carried out (as I pointed out before) by credit operations. The underestimation of the part played by international movements of short-term balances had led to an exaggeration of the rôle of price movements and of their size. A further source of confusion is the lack of differentiation between current adjustments of transactions carried out with a view to maintaining long-run equilibrium in international payments, and adjustments to violent breaks of equilibrium due to special causes and to exceptional circumstances. Under ‘normal’ conditions there is no need to choose between stable prices and stable exchanges. Not only can both be stable at the same time, but it clearly follows from all the foregoing analysis that they must be stable simultaneously, if equilibrium is to be preserved.
• 64There is in the same context another misapprehension which ought to be dispelled. It is usually claimed by those who advocate the system of ‘flexible exchanges’ in opposition to that of fixed parities, that the latter imposes upon countries which are practising it the strains of repeated deflations, or rather of an alternation of inflations and of deflations. This strikes me as a rather fanciful representation under normal conditions. Price movements which enter into a process of adjustment of international payments are not likely to be of an amplitude which would seriously disturb economic activity and amount to a deflation (or inflation). If we had the necessary quantitative information about the pre-war times, we could settle the matter conclusively. While waiting for an adequate documentation to be produced we must depend on the logic of the economic system and be very careful not to exaggerate what probably consisted of relatively minor price movements; very likely the greatest part of current adjustments was carried out (as I pointed out before) by credit operations. The underestimation of the part played by international movements of short-term balances had led to an exaggeration of the rôle of price movements and of their size. A further source of confusion is the lack of differentiation between current adjustments of transactions carried out with a view to maintaining long-run equilibrium in international payments, and adjustments to violent breaks of equilibrium due to special causes and to exceptional circumstances. Under ‘normal’ conditions there is no need to choose between stable prices and stable exchanges. Not only can both be stable at the same time, but it clearly follows from all the foregoing analysis that they must be stable simultaneously, if equilibrium is to be preserved.
• 65(a) If price movements in different countries take place quite independently of one another and we then get ever further away from an ‘international price equilibrium’, cumulative changes in balances of trade are due to take place. This must not, and is not likely to, happen when price movements take place but are internationally co-ordinated. I am not speaking of price fluctuations which are a part of a process of adjustment and bring about equilibrating changes in balances of trade; the price movements referred to in the present context are not fluctuations of a minor amplitude but cumulative tendencies of prices to rise or to fall over longer periods of time. Thus if two countries practise in the downward phase of the cycle, the one an expansionist policy, the other a deflationary policy, frictions are likely to occur, since prices in the former country will rise in relation to prices in the latter: which is bound to affect trade between them. Unless other transactions compensate this development of balances of trade, the strain on foreign exchanges may become considerable. It will be noted that to pursue such divergent price policies is possible in the long run only when the individual countries in question disregard the rules governing mechanisms of adjustment and adopt policies which are in contradiction with those rules. The characteristic feature of the ‘rules of adjustment’ is that they demand the adoption of policies which go counter to the disturbing tendencies; policies which, on the contrary, strengthen these tendencies, such as inflationary or deflationary ones, make the functioning of mechanisms of re-equilibrium difficult or impossible while they accentuate the causes of disequilibrium. The situation is, of course, different when all the countries adopt an expansionist, or when they all adopt a deflationary, business cycle policy. Here the problem of re-equilibrium meets that of business cycle theory as a basis of policy. The divergencies existing between leading theories thus become real causes of disequilibria in international payments and of instability in international economic relations, inasmuch as some of these theories become the guide to action in some countries and others in other countries.
• 66(a) If price movements in different countries take place quite independently of one another and we then get ever further away from an ‘international price equilibrium’, cumulative changes in balances of trade are due to take place. This must not, and is not likely to, happen when price movements take place but are internationally co-ordinated. I am not speaking of price fluctuations which are a part of a process of adjustment and bring about equilibrating changes in balances of trade; the price movements referred to in the present context are not fluctuations of a minor amplitude but cumulative tendencies of prices to rise or to fall over longer periods of time. Thus if two countries practise in the downward phase of the cycle, the one an expansionist policy, the other a deflationary policy, frictions are likely to occur, since prices in the former country will rise in relation to prices in the latter: which is bound to affect trade between them. Unless other transactions compensate this development of balances of trade, the strain on foreign exchanges may become considerable. It will be noted that to pursue such divergent price policies is possible in the long run only when the individual countries in question disregard the rules governing mechanisms of adjustment and adopt policies which are in contradiction with those rules. The characteristic feature of the ‘rules of adjustment’ is that they demand the adoption of policies which go counter to the disturbing tendencies; policies which, on the contrary, strengthen these tendencies, such as inflationary or deflationary ones, make the functioning of mechanisms of re-equilibrium difficult or impossible while they accentuate the causes of disequilibrium. The situation is, of course, different when all the countries adopt an expansionist, or when they all adopt a deflationary, business cycle policy. Here the problem of re-equilibrium meets that of business cycle theory as a basis of policy. The divergencies existing between leading theories thus become real causes of disequilibria in international payments and of instability in international economic relations, inasmuch as some of these theories become the guide to action in some countries and others in other countries.
• 67Adjustment to changes in capital movements must be made through changes in trade balances, since short-term credit can, by definition, provide only temporary relief. Moreover, the reasons which bring about changes in capital movements are likely to affect short-term credit operations as well, in such a way that the maladjustment in international payments will be increased rather than diminished. Adjustment through international trade can be most easily obtained if the disequilibrium is relatively small in comparison to the value of trade transactions; and again, the fewer the obstacles that are put in the way of international trade, the easier it will be. The larger is the relative size of the maladjustment and the more drastic and active is protectionism, the less easily can the adjustment be obtained. Much will also depend upon the nature of exports and imports of the country in deficit and on the respective elasticities of demand for various goods in question. Should a country be unable to obtain the necessary adjustment then only two courses remain open: either financial assistance by means of international action, or else a cumulative loss of gold in the case of a gold-standard country and cumulative exchange depreciation in a country forced off the gold standard or in a country with a system of inconvertible currency. We shall see presently how exchange control comes to be adopted in consequence of a continuing situation of the second type.
• 68Adjustment to changes in capital movements must be made through changes in trade balances, since short-term credit can, by definition, provide only temporary relief. Moreover, the reasons which bring about changes in capital movements are likely to affect short-term credit operations as well, in such a way that the maladjustment in international payments will be increased rather than diminished. Adjustment through international trade can be most easily obtained if the disequilibrium is relatively small in comparison to the value of trade transactions; and again, the fewer the obstacles that are put in the way of international trade, the easier it will be. The larger is the relative size of the maladjustment and the more drastic and active is protectionism, the less easily can the adjustment be obtained. Much will also depend upon the nature of exports and imports of the country in deficit and on the respective elasticities of demand for various goods in question. Should a country be unable to obtain the necessary adjustment then only two courses remain open: either financial assistance by means of international action, or else a cumulative loss of gold in the case of a gold-standard country and cumulative exchange depreciation in a country forced off the gold standard or in a country with a system of inconvertible currency. We shall see presently how exchange control comes to be adopted in consequence of a continuing situation of the second type.