Economics and The Public Welfare

Chapter 21

France, 1925-1926

Crisis in Government Credit and Currency. Germany was rallying strongly in the spring of 1926. France was plunging lower and lower in a great crisis in currency and national credit. In a previous chapter we have seen the story of French postwar deficits. Government deficits had run approximately 47 billion francs in 1919, 42 billion francs in 1920, 28 billion francs in 1921, 19 billion francs in 1922, 17 billion francs in 1923, and 14 billion francs in 1924. It was harder and harder to borrow money to fill in these gaps.

Bank of France Resists. In Germany, 1918-1923, the gap had been filled simply by government borrowing from the Reichsbank. In France the Bank of France, partially independent, held back and resisted. The government got the greater part of its funds on short term paper, the so-called “bons de la defense nationale,” largely taken by the private banks or by the people. The law, moreover, put a limit on the government borrowing from the Bank of France and on the issue of notes by the Bank of France, and while this limit was from time to time raised by act of the French Parliament, it was always a humiliating experience for the Ministry to ask for an increase, and always a source of great concern to the French people when this was done.

Two figures were well understood by the working people, as well as by the merchants and financiers of France. They were the figures for “Advances to the State” on the asset side of the balance sheet of the Bank of France, and the figure for bank note issue on the liability side of the balance sheet. One saw French hotel porters eagerly scanning the newspaper on the day when the balance sheet of the Bank of France was to be issued, and saying to one another, “The bilan is good today”—or bad, as the case might be. The Bank of France fought, and held back, and protected the French franc in so doing, though the franc fell far.

But Falsifies its Balance Sheet at Year End, 1924-1925. At the year end, 1924-1925, the Bank of France falsified its balance sheet.1 It had, in fact, in making year end advances to the government and others needing to meet year end commitments, exceeded its legal note issue. The year end statement showed the notes below the legal limit, but showed also an immense increase in a previously small item, Divers or miscellaneous, which did not deceive the informed reader of the balance sheet. Subsequently Baron Rothschild, a Director of the Bank of France, forced a disclosure of this deception by threatening to make the facts public himself, and the Bank of France made the humiliating confession that it had exceeded its legal limit and that it had falsified its balance sheet. Confidence in France fell low and confidence throughout the world in French finance fell low. The franc continued its downward course.2

Even So, Bank’s Resistance Helped. None the less, despite this pitiful record, the Bank did make an effort, and its effort did hold down the deficits and did retard the collapse of the franc. The effort did, moreover, leave the Bank of France in a strong position to protect the franc after the collapse and the readjustment.

Franc Drops to Two Cents, July, 1926. Between May of 1925 and late July of 1926 the franc dropped rapidly from 5¢ to 2¢ in the foreign exchange market. Every day the housewife of Paris found that her bread and her herring and her wine were rising in price. A German housewife in the late autumn of 1925, speaking of the French housewife, said “Poor thing!” The German housewife had been there herself.

Public Demands Conservative Finance—Backs Poincaré. There came a great radical change of sentiment in France towards matters both political and financial, and by June of 1926 the mob of Paris was swarming around the Palais Bourbon where the Deputies sat, threatening physical violence to the Deputies unless they should get behind the conservative old lawyer, Poincaré, who was promising to raise taxes, to cut expenses, to dismiss public employees, to cut pensions, and to save the franc.

Poincaré and Briand Unite to Save Franc. There came, too, a magnificent change in sentiment among the responsible men in public life in France. Briand had been Poincaré’s leading opponent. Briand had many admirable qualities, but financial soundness was not one of them. He knew little about finance. He did know international relations. He had fought hard to bring about French and German conciliation. He had publicly defended the good faith of Germany in a debate before the Chamber of Deputies. He had opposed the invasion of the Ruhr. Poincaré was the implacable foe of Germany. He distrusted Germany. Poincaré understood finance. He believed in economy. He believed in sound finance. The two men got together. Poincaré generously turned over to Briand the conduct of foreign affairs and the relation between France and Germany, backed him up in a policy with which he had personally little sympathy. Briand in turn gave generous, strong support to Poincaré’s financial reforms, which he inadequately understood.

There was magic in it. July of 1926 showed the bottom for the French franc. Poincaré made good in a magnificent way in his policy of cutting expenditures, cutting pensions, dismissing needless public funtionaries, and raising taxes, and created a fiscal surplus.

Poincaré, moreover, knew his countrymen. He knew that his reforms would be subject to whittling down and modification and even drastic reversal by a succeeding ministry. He therefore did everything in his power to prevent this. Certain of his basic reforms he enacted into constitutional law. He took the two chambers of the Parliament, the Senate and the Chamber of Deputies, to Versailles, where he had them vote together on the basic framework of his reform legislation, which they could not subsequently constitutionally reverse sitting as separate houses in Paris.

The Franc in Dramatic Rally. The tide of confidence at home turned radically. In the long period when the franc was slipping an immense body of French capital left France and went into foreign values. French private holdings of dollars, sterling, Swiss francs, Dutch guilders, and securities of foreign countries had grown very large. This tide turned toward France again. Frenchmen were selling their foreign exchange and buying francs. Foreigners also were buying francs as well as buying securities in the French Bourse. An immense tide of money turned toward France. With startling rapidity the French franc rose from 2¢ 3 to approximately 4¢. The Bank of France and the government appear to have been caught unawares by the extent and strength of this movement.

The Preceding Collapse in Franc Made Poincaré’s Task Technically Not Difficult. From the standpoint of technical finance, Poincaré’s task in the summer of 1926 was not unduly difficult. The collapse in the franc had already brought it lower than the fundamentals of the situation justified.4

One factor which we have already mentioned in connection with the German debacle was the fact that France relied primarily on indirect taxation and the revenue of fiscal monopolies instead of income taxes based on last year’s incomes. These revenues rose as the franc fell, as prices rose, and as the volume of transactions measured in francs rose.

Moreover, expenditures of the French Government did not rise nearly as fast as the franc declined. Approximately 53% of the expenditures in 1926 were for service on the internal debt, including pensions, and were fixed in francs.

The Bank of France had a very low reserve ratio, taking the franc at par, as shown by the following figures for June 9, 1926:

Total reserves (gold in vault, 3,684,000,000 francs, plus silver at bullion value plus foreign balances *)	4,584,000,000 francs
Notes in circulation	53,353,000,000 francs
Reserve ratio	8.6%

* Estimated. The balance sheet of the bank did not disclose the amount of the Morgan loan remaining.

If, however, the franc were taken at 4¢, the reserve ratio similarly calculated would be 41.5%, and with the franc at 3¢ the reserve ratio would be 55.3%. At 31/2¢ per franc the reserve ratio would be 37.3%.

Four factors could be considered in figuring a reasonable new gold par for the franc: (1) the ratio of gold reserves to the Bank of France, (2) the relation of France’s prices in paper money to the level of gold prices in the world outside, (3) current and recent exchange rates, and (4) most important, the relation of the public debt to the total national wealth of France. French wholesale prices in May of 1926 were below the world level even if the franc were put at 4¢, while with the franc at 3 1/2¢ French wholesale prices would have been far below the world gold level. The test of current and recent exchange rates put the franc too low.

The test of the relation of the total national wealth to the total national debt showed that a return to parity was impossible. Taking the national wealth at 300 billion gold francs, old par, and the internal debt at 309 billion paper francs plus the external debt of 23 billion gold francs (assuming the expected reduction through the then pending debt settlements), the national debt would have clearly exceeded the national wealth at the old par. With the franc placed at 3 1/2¢, the debt would bear a ratio of 26% to the national wealth. If it were felt that France could carry a debt ratio of 29% to the national wealth, then the franc could have been placed at 4¢.

Having in mind the traditional French reluctance to pay taxes and the traditional French governmental tendency toward extravagance, 3 1/2¢ would have been a safer figure at which to stabilize the French franc than the nearly 4¢ 5 finally chosen for the de facto stabilization in the winter 1926-1927 and for the de jure stabilization in 1928.

New York Price of Francs and Wholesale Prices in France * (1913 = 100)
At end of:	French Wholesale Prices					Average of franc at New York last five days each month (In cents per franc)
	In French currency	In gold	Native French products (In French currency)	Imported products (In French currency)	Average of wholesale prices in gold in certain countries †
(1925)
January	525	147.2	........	........	160	5.41
February	526	140.6	........	........	159	5.16
March	524	143.6	........	........	158	5.29
April	523	141.5	........	........	153	5.22
May	531	138.4	........	........	153	5.03
June	554	131.5	........	........	154	4.58
July	569	139.7	........	........	155	4.74
August	569	138.3	........	........	154	4.69
September	567	139.0	........	........	152	4.73
October	584	126.8	........	........	151	4.19
November	618	123.6	........	........	150	3.86
December	646	124.2	........	........	150	3.71
(1926)
January	647	125.7	........	........	148	3.75
February	649	123.1	........	........	146	3.66
March	645	115.3	........	........	143	3.45
April	664	113.9	........	........	143	3.31
May	702	118.2	........	........	143	3.25
June	754	112.5	682	883	144	2.88
July	854	107.1	733	1047	144	2.42
August	785	117.1	722	902	143	2.88
September	804	116.6	743	912	144	2.80
October	768	123.4	744	808	145	3.10
November	698	131.3	698	700	143	3.63
December	641	131.5	648	628	142	3.96

* Chase Economic Bulletin, Feb. 18, 1927, p. 27.

† Countries included: United States, Sweden, Germany, Netherlands, and Switzerland for entire period; Great Britain added May, 1925; Denmark added October, 1926; Belgium added November, 1926.

Retail Food Prices and Cost of Living in France* (Prewar = 100)
	Retail food prices (In Paris)		Cost of living (In Paris)
	(1925)	(1926)	(1925)	(1926)
January	408	480
February	410	495
March	415	497	386	451
April	409	503
May	418	522
June	422	544	390	485
July	421	574
August	423	587
September	431	590	401	539
October	433	624
November	444	628
December	463	599	421	545

* Chase Economic Bulletin, Feb. 18, 1927, p. 27.

† Countries included: United States, Sweden, Germany, Netherlands, and Switzerland for entire period; Great Britain added May, 1925; Denmark added October, 1926; Belgium added November, 1926.

It is convenient to interrupt the story of the French franc in the late autumn of 1926, because an understanding of the British position is necessary before we can take up the next startling phase in the story of French finance. London and Paris are to become dangerously entangled with one another.

Money Rates in Paris—1926
	Bank of France discount rate	Market rate commercial bills	Fortnightly loans at the official stock exchange	Fortnightly loans on curb securities	Bank advances to customers
Jan. High	6	5	4	11	8
Low		4 1/8	3 1/2	11	from Jan. 1
Feb. High		5	5 1/4	11
Low		4	7	11
Mar. High		5 1/8	4 7/8	10 1/2
Low		4 1/4	3 3/8	10 1/2
Apr. High		5	4 1/4	10 1/4
Low		4 1/4	3 1/4	10 1/4
May High		5 3/8	5 1/4	10 1/2
Low		4 1/4	5	10 1/2
June High		5 3/4	7 7/8	12
Low		4 3/4	7 1/2	12
July High	7 1/2	5 7/8	7	14	9 1/2
Low	on July 31	4 5/8	5 7/8	14	from July 31
Aug. High		7 1/8	5	13
Low		6 3/4	4	13
Sept. High		6 5/8 to 7 1/8	11	14
Low		6 y to 7	7	14
Oct. High		6 3/4 to 7 3/8	7 1/2	10 1/2
Low		6 1/4 to 6 1/2	3 3/4	10 1/2
Nov. High		6 1/4 to 6 1/2	5 1/4	9
Low		5 3/4 to 6	2 1/4	9
Dec. High	6 1/2	5 3/4 to 6	4		8 1/2
Low	on Dec. 16	5 1/2 to 5 3/4	4		from Dec. 16

* Chase Economic Bulletin, Feb. 18, 1927, p. 22.

The official of the Bank of France in substance said: “The Bank hates and fears the Government. The Government lies to the Bank. Last week my balance sheet looked terrible. The Government had promised me revenues from the provinces and had not brought them to me. The Government had continued to draw upon the Bank. My notes were over the legal limit. I went to the other banks of Paris and persuaded them to take Government securities from my portfolio and to give me back bank notes for one day. I was thus able to publish a correct balance sheet showing the notes under the legal limit. The next day I turned back the banknotes and took back the Government securities. This week the revenues did come in and my balance sheet will be all right.

“But what can I do? If my father has stolen money, must I not make it good?” I said, “If the agent of my father has stolen money, do I have to make it good?” He said, “We cannot make that distinction in France. Le Gouvernement—c’est la France.” I said, “Does that mean that you would falsify the balance sheet again?” He said, “What can I do? The Bank of France is paymaster for the Government all over France. If I refuse to pay, a great crisis comes. Business stops. Merchants and laborers and everybody turn and rend the Bank of France. If I pay and publish, again a great crisis comes. What I shall do will be to pay and not publish and write a letter to the Minister every day demanding that he regularize the position by legislation.” I said, “A British or American banker might feel that he had to yield to the government with respect to making payments, but still would not feel that he had the duty to sign a false balance sheet.” He said, “It is so easy for a man standing on the bank of the river to give good advice to a man who is drowning in the middle of a stream.” I then apologized and did not further press the point. But the best opinion I could get in Paris at that time was firm in the conviction that if the officials in the Bank of France had offered their resignations rather than falsify the balance sheet, the public would have sustained them, and the Ministry, not the Bank, would have fallen.

• 1This point will be discussed at length in Chap. 34.
• 2I have not been able to find that this article was ever published. However, the reader will find much of it in two books by Veblen: Imperial Germany and the Industrial Revolution, New York, 1915; and The Nature of Peace and the Terms of Its Perpetuation, New York, 1917.
• 3See my book The Effects of the War on Money, Credit and Banking in France and the United States, published by the Carnegie Endowment for International Peace, Oxford University Press, New York, 1919. For London, see the interesting articles by Mr. J. M. Keynes in the British Economic Journal in late 1914.
• 4O. M. W. Sprague: “Crisis of 1914 in the United States,” American Economic Review, September, 1915; H. G. S. Noble: “The New York Stock Exchange in the Crisis of 1914,” Garden City, N. Y., Country Life Press, 1915. These two papers are classics of permanent value.
• 5The figures of all the State and National banks and trust companies appear only once a year in the Comptroller’s report as of approximately June 30. For dates other than June 30, it is necessary to make estimates. During the war period these estimates are made on the basis of variation in the National Bank figures.