GIFT OF GIFT SFP 20 191* SOME PHASES OF FINANCE DURING THE GREAT WAR GAEL C. PLEHN [Reprint from the UNIVERSITY OF CALIFORNIA CHRONICLE, Vol. XVIII, No. 3] 6USIX ff SOME PHASES OF FINANCE DURING THE GREAT WAR.* GAEL C. PLEHN. In this paper the finances of the great war will be approached from two different sides or points of view. From one point of view we shall seek to see a few of the effects on the money market, on foreign exchange, on bank- ing, private investment and commercial credit; from the other we shall view the work of the finance minister in raising the vast sums which are needed to pay for muni- tions, for men and for the hire of "allies." War finance, however, is not a flat shield with two sides only, one of gold and silver and the other of blood and iron. There are other sides and many angles. But the two mentioned are the only ones we shall have space for, and only small parts of these can be viewed. All through a long, dreary afternoon on the last Friday in July, 1914, a long string of "straw 'atted 'Arries," mostly in holiday attire, filed slowly into and out of the Bank of England, covertly resenting, but trying to appear unconscious of the jibes and jeers of a crowd of the curious, mostly likewise dressed for the holidays, who had been attracted by the novel sight and who had gathered on the steps of the Royal Exchange across the way. This was the opening scene of the great drama of a world-wide financial panic. What brought this strange mob to the temple? The answer is simple: all they wanted was a little cash to *A paper read at the Berkeley Club, April 27, 1916. ,-. M n r> enable them to go away over the Bank Holiday, that cus- tomary Fall outing of all Londoners. Yet like Samson, though they came to make sport, they blindly got "hold on the two middle pillars on which the house (of finance) rested and pulled the house down upon the lords and all the people that were therein." The stage setting even was appropriate, for the bank was torn up for structural alterations. A few thousand pounds of holiday money from the strongest bank in the world did ever a lighter straw break the camel's back? What a load there must have been otherwise if this featherweight was the overweight. All in one week the load accumulated. On Friday, July 24, Austria sent her ultimatum to Servia. Saturday, July 25, there was a near-panic on the London Stock Exchange and other bourses. All the next week the foreign exchanges were very queer. But the old lady in Threadneedle Street is slow and dignified, until she gets really flustered, and she waited the appointed time for the regular day, Thurs- day, before raising the bank rate of discount to steady the market. On Thursday the rate was raised from three to four per cent. According to precedent this rate should have stood until the following Thursday. For Thursday is selected so that the effect of the change in the bank rate may be seen on the remoter exchanges during the follow- ing week. Furthermore the coming Monday was to be the Bank Holiday. But contrary to all precedents the rate went up on Friday from four to eight per cent and the next day to ten per cent, after the visit of the mob of holiday makers. Ten per cent is the rate which, accord- ing to precedent, authorizes the Bank to apply for the suspension of the Bank Act. "Then," says Hartley Withers, "came Sunday, then the Bank Holiday, and war, and then three more bank holidays, and then the general moratorium. ' ' 1 i Hartley Withers, War and Lombard Street. London, 1915. The events in chronological sequence tell the tale. On Sunday, August 2, came the Royal proclamation "for post- poning the payment of certain bills of exchange, ' ' to which was appended the usual benediction, ; ' God save the King. ' ' On Monday, August 3, it was enacted "by the King's most Excellent Majesty, by and with the advice and consent of the Lords Spiritual and Temporal, and Commons, in this Parliament assembled, and by the authority of the same," that, "His Majesty may by Proclamation authorize the postponement of the payment of any bill of exchange, or of any negotiable instrument, or any payment in pursuance of any contract, to such an extent, for such time, and subject to such conditions or other provisions as may be specified in the Proclamation." The same act ratified the Sunday proclamation. But three special bank holidays intervened, so that the authorized proclamation calling on God to save the King through a general moratorium did not appear until August 6. Thus a temporary anesthesia fell on all debts, except wages, debts for trivial sums, taxes, maritime freight, debts due Englishmen by foreigners, dividends and interest, bank notes, old-age pensions, insurance, workmen's com- pensation, and savings deposits. Cheques and demand bills had been excepted from the moratorium of Sunday, and continued exempt until August 12, when there came another proclamation covering cheques and still further extending the moratorium. On September 3 the duration of the moratorium was extended another month, making two months in all. By very different routes and legal devices a similar moratorium was created in France, and, as to debts owed by men called to arms, in Germany. But these we must omit. Despite these drastic measures, the suspension of the Bank Act, customary in all times of trouble, was authorized by Parliament on August 6 in the usual terms : ' ' The Gov- ernor and company of the Bank of England . . . may so far as temporarily authorized by the Treasury, and subject to any condition attached to that authority, issue notes in excess of any limit fixed by law." The Bank Act, as is probably known, permits the Bank of England to issue 18,450,000 in notes against what the government permanently owes it, and beyond that to issue notes pro- vided it holds five pounds in gold against every five-pound note it issues. Suspension takes away the necessity for holding gold. Notes may be issued without limit. But on account of the moratorium and of another measure, to be noted later, the suspension of the Bank Act was unnecessary, or at least was not used in the tra- ditional way. The suspension was in law only, not in fact. The other measure was the resort by the government to the issue of paper money. This was a new currency, consisting of one-pound notes (called "Bradbury's," from the name of the officer signing them) and of ten-shilling notes in scarlet and known as the "pink 'uns." These notes the act of August 6 declared "shall be current in the United Kingdom in the same manner and to the same extent and as fully as sovereigns and half-sovereigns are current, and shall be legal tender in the United Kingdom for the payment of any amount. ' ' Thus legally these notes are purely fiat money, although there is a provision for their redemption in gold at the Bank of England and there is an appearance of a reserve against them. This re- serve, however, seems to be a sham, as it came out of the Bank 's own reserves. These notes might be issued to banks up to twenty per cent of their current liabilities, which placed a limit of about 225 millions of pounds on the issue. Facts at hand as yet as to these notes, the extent of their actual use and the like, are too scanty to furnish a means of judging of their effect. As postal money orders were made legal tender at the same time, there will always be difficulty in ascertaining the increase in the circulation that resulted. But the very power to issue these notes must, as Lloyd-George claimed, have given confidence. When we slip around to the other side of the shield we shall see that every country has to provide in some way at the outbreak of a great war for some such power to expand the circulation, and thus to levy a forced loan. It was, however, a new departure for England to frankly issue fiat money, although the suspension of the Bank Act has at times had much the same effect. Every nation entering on war must provide some means of counteract- ing the stringency in the circulation created by the panic tendency to hoard money. The events just chronicled constituted "an unpleas- ant string of surprises," and were a severe blow to the pride of the English bankers. To understand whence the blow came we may go back to our straw-hatted mob on which the curtain rose, and try to find out who sent them on their errand of trouble-making. These people had cash claims against the ordinary joint-stock banks. There were, however, besides those who simply wanted money to pay their month-end household accounts and to go away for the holidays, some other de- positors of the joint-stock banks who had become panic- stricken by the prospect of war, and wanted money to hoard. This is a stupid thing to do, but selfish people in a panic always do it. Some people in England, in the same sort of panic, rushed to the provision dealers and bought great stores of food to put away in their houses, lest famine should immediately stalk abroad in the land. That such action raised the price of food and promptly brought out new supplies was a very opportune result. But this sort of a demand for money cannot of itself call out new supplies of money. The banks were thus confronted with possible runs. How many of their customers clamoring for cash wanted it for legitimate and holiday purposes they could not tell. So some of the banks paid out only Bank of England notes and told their customers to take these notes to the Bank of England to get the gold. This was bad policy. But a banker is naturally timid and few living English bankers had had any experience with runs. Moreover, things finan- cial were at the moment all very queer. The Bank of England cheerfully shovelled out sovereigns as fast as it could. But still the whole procedure was so weird and uncanny as to intensify unrest. A run on the Bank of England of all things ! There are two sources to which the English bankers can turn to draw funds for such dire needs as these. One is the great stream of money always restlessly flowing hither and yon in the channels of trade, but which, wher- ever it goes, is always pumped through London. The other is the great reservoir of money investments. During the week from the 24th to the 31st of July the banks drew madly on both these sources. But after our holiday-makers appeared at the Bank the flow from both of them dried up. All the world owes England in times of peace. Why couldn't she then call in her money? One reason, of course, was that the rest of the world was to a large extent in a panic too. But there was the further reason that by her own acts she had cut off the means of remittance, save and except the slow, uncertain and unusual one of the physical shipment of gold, and gold was not every- where to be had, nor ships to carry it. Foreign exchange is a chain of payments. Break a link anywhere and it will not hold. To pay money to someone in England I must ordinarily find someone here, or in New York, or in Hongkong, or elsewhere, who has money due him from someone in England, or to whom someone in England will lend money. But if every debtor in England is privileged not to pay, and nobody in Eng- land will or can lend, there is nobody in my part of the world, or in any part, that I can reach, who can draw a bill on England that I can buy, and under those circum- stances, with the best of intentions in the world and of ability otherwise, I cannot pay. With the prospect then that they could not collect what was due them, the bankers of England feared that they could not pay what they owed, and in refusing to pay they again destroyed what little chance they had to collect. Had there been outside of the belligerent nations another money- pumping plant large enough to stand the strain, the re- sult would have been different. What has gone before applies to current funds, the great circulation of money which is pumped constantly by the heart, London, through the arteries of trade. But why, you will ask, could not England realize on her investments, her long-time loans which cover the earth why could she not sell to somebody, at some price or other, the foreign securities she owned? During that momentous week she did so desperately and drew in large sums. That was what caused the near-panic on the ex- changes on July 25, or at least it was what contributed largely to it. It was fortunate, in a way, that July 25 was a Saturday and that the exchanges had a chance to catch their breath over Sunday. It gave them nearly a week of respite. It was this selling that kept the exchanges jump- ing so strangely all that week. That selling dropped con- sols, usually as good as gold and fluctuating only with the rate of interest, in one week from 75% 6 to 69%, the new French 3%'s, not yet all issued (and artificially four times over-subscribed) down to 85, the Canadian Pacific from 1883/4 to 1571/2, Union Pacific from 160% to 145%, and so on. But the stock exchanges, fearing sacrifices of securi- ties on a scale that would spread ruin and cause a general liquidation, closed their doors, one after another all over the world. This is remarkable evidence of the interdependence of the different parts of the financial world. It is no light matter to close the stock exchanges. Doing so puts the banks especially in a hole. The New York Stock Exchange, that flood-gate which controls the big reservoirs of invest- ment capital through which normally one can turn an assured income into capital or capital into income on any 10 day except Sunday or a holiday, has closed its doors but twice in the century or more of its existence. The first time was in 1870, for ten days, and the second time in 1914, for nearly six months. Mr. Noble, the president of the exchange, says of this occasion : On that eventful date (July 25) a financial earthquake of a violence absolutely without precedent shook every great center of the civilized world, closing their markets one by one until New York, the last of all, finally suspended in order to forestall what would have surely been a ruinous collapse. . . . Up to the final movement of the launching of ultimata between the European governments no one thought it possible that all our boasted bonds of civilization were to burst over night and plunge us back into medieval barbarism. Wall Street was therefore taken unawares, and so terrific was the rapidity with which the world passed, in the period of about a week, from the confidence of long-enduring peace to the frightful realization of strife, that no time was given for men to collect their thoughts and decide how to meet the on- rushing disaster. Added to the paralyzing effect of this unheard-of speed of action, there came the disconcerting thought that the conditions produced were absolutely without precedent. Experience, the chart on which we rely to guide ourselves through troubled waters, did not exist. No world-war had ever been fought under the complex conditions of modern industry and finance, and no one could, for the moment, form any reliable idea of what would happen or of what immediate action should be taken. . . . The conditions on the stock exchange, when the storm burst, were in some respects very helpful. Speculation for several years had been at a low ebb, so that values were not inflated nor com- mitments extended. . . . Furthermore, the unsettled business outlook due to new and untried legislation had fostered a heavy short interest in the market, thereby furnishing the best safe- guard against a sudden and disastrous drop. . . . To close the recognized public market for securities, the mar- ket which is organized and safeguarded and depended upon as a standard of values, is an undertaking of great responsibility in any community. To take this step in New York, which is one of the four pre-eminent financial centers of the world, in- volved a responsibility of a magnitude difficult adequately to estimate. Upon the continuity of this market rest the vast money loans secured by the pledge of listed securities; number- less individuals depend upon it in times of crisis to enable them 11 to raise money rapidly by realizing on security investments and thus safeguarding other property that may be unsalable; the pos- sessor of ready money looks to it as the quickest and safest field in which to obtain an interest on his funds; and the business world as a whole depends upon it as a barometer of general con- ditions. 2 No wonder the New York Stock Exchange hestitated. Could it stand alone and carry the world's credit? Bankers naturally insisted that it should try. Here again the vacation times of the Summer days played a part. Many of the brokers and even of the governors were away. It was not until four minutes of ten o'clock on the fatal day that the final decision not to open at ten was reached. Even then the decision was not unanimous. The exchange did not reopen until December 15 for all lines of business. The bourses of Vienna and Budapest were the first to close, and that was on July 27. Brussels followed suit the same day. Paris also virtually ceased trading that day by a sort of unanimous consent. On July 30 the members of the ' ' Coulisse, ' ' the less official part of the Bourse, formally decided to quote no prices for forward business, which with them means delivery in more than forty-eight hours. The agents de change continued to meet in the " parquet." Formal complete closing came July 31. On Tuesday the Montreal and Toronto stock exchanges closed their doors. On Wednesday all account business on the Bourse in Berlin and all settlements on the bourses of Hamburg and Frank- fort were suspended. The same day the exchanges at St. Petersburg, Antwerp, Amsterdam, Liverpool and all South American cities closed. Eome and Milan suspended all dealings in forward business the next day. Friday, July 31, London, Berlin, Paris, and at the last minute New York, closed their stock exchanges and all dealings in securities, which except in New York had been nominal for several days, were formally at an end. 2 H. G. S. Noble, The New York Stock Exchange in the Crisis of 1914. Garden City, New York, 1915. 12 The closing of the stock exchanges hit the banks in England in two ways. They could not exchange their own securities for cash, nor could they collect from their cus- tomers, stock-brokers and others by the sale of collateral. Their liquid assets became frozen. These grim facts are enough to explain why the holiday-makers were driven to Threadneedle Street. For the further effects we may follow for a moment the fortunes of another set of actors. These are the bill- brokers. They were the one set of persons whom the banks had fully in their power. These gentlemen buy bills of exchange as they come in from all parts of the world and pay for them with money that they borrow from the banks. They make their living from the difference between what they pay the banks and the rate of discount at which they buy the bills, and they usually borrow on call or for very short terms. In normal times it is a very safe busi- ness. They can pay on call, because their assets are always salable. The payment, when due, of a bill of exchange rests, in the last analysis, on the fact that men eat, drink, wear clothes, sit in chairs and so on, with commendable regularity. Hence, when a shipment of flour goes to Eng- land, it is a certainty that it will eventually become bread and be paid for and eaten. The means of payment, the bills of exchange, rest on the regular continuance of such shipments. That is, each shipment of flour must be fol- lowed by another, each shipment of cotton by another. Moreover, cargoes going in one direction must be passed by cargoes going in the other direction. Cloth, knives and what-not pay for the flour. There are, however, always temporary inequalities in the shipments going in the different directions. Cargoes go west at one time of the year and east at another. The inequalities are evened by the bill-brokers, who, through their correspondents, comb the marts of the world for bills to buy and sell, and thus offset a deficit in one place by a surplus in another. But there are times and places where the inequalities are per- 13 sistent and these are evened by the use of finance bills, which are artificial bills of exchange drawn, not against goods sold, but against money lent. At the bottom a finance bill represents money advanced by centers rich to centers poor in capital to trade with. But while resting on the flow of trade in their outer form, they really mean, looked at in the long run, since they are regularly renewed, an advance or loan of money for a rather long period in effect, an investment loan, but callable. Thus, Sweden and Norway, for example, usually have a good deal of money advanced in this way by the London bankers. The reason for that is that in those countries capital can find better use in development of natural resources than in trade, while the London capitalist is content with the smaller return of capital in trade. Now the moratorium suspended all outgoing bills, com- modity bills as well as finance bills. No one in England was obliged to pay, and hence no one would lend. The poor bill-broker had in his hands paper that he could not collect on or sell. Neither the firms nor the acceptors were obliged to pay. But the banks said to the bill-broker, "pay up." He offered them his bills, which everybody knew would be good and be paid eventually, but they were not payable then, and then was the crucial time. So the poor bill-broker was in a bad way. Another link in the chain was broken. To be sure, it was only a mechanism, but it was an important piece of mechanism. Under these circumstances the whole movement of foreign trade the world over was menaced. What use was there for a San Francisco house to ship prunes to London, or for that matter to Amsterdam or Java, if they couldn't sell the bill they drew on their customer to get their money? The menace of the sea-raiders to trade was no greater than the menace of "no pay if you do ship." Bills that would certainly be paid in London despite the moratorium (mostly freight bills) were so scarce that their price rose in New York, for example, from a par of $4.866 to $7.00. 14 Here again a novel remedy was eventually applied. Hartley Withers tells about it in this vivid passage : Something had to be done. The Government was not greatly exercised about the bill-brokers, though failures in the city would have been an unpleasant accompaniment for the first round of the big fight; nor perhaps about the accepting houses for their own sake, since any disaster that befell them, though it might have frightened the general public, would not have had any direct or overt effect on the general public's pocket. But the stability of the accepting houses was of very great importance with regard to foreign trade, for they supply much of the credit with which it is carried on; and it was clearly most important that nothing should be allowed to check foreign trade, which was already ham- pered by high freights, war-risk insurance premiums and all the dislocation that is inevitably involved by a sudden plunge into war on the part of five great European powers, followed by sev- eral other peoples. Further, since it was above all things neces- sary that the joint-stock banks should be supported and en- couraged, and since the joint-stock banks had already seen all their stock exchange investments and loans against stock ex- change securities frozen into immobility when the stock exchange closed its doors, an effort clearly had to be made to make the banks feel happier about their bills of exchange. And this was what was finally done. The accepting houses were not relieved of any liability on their bills. Ultimately they will have to meet them, out of their own pockets if their clients are still unable to remit, but in the meantime it was arranged that the Bank of England will lend them the money wherewith to pay them as they fall due, and the Government guaranteed the Bank of England against loss on this tremendous operation. This arrange- ment made all the bills held by the joint-stock banks a good asset, and incidentally helped the bill-brokers. To bring this about it was first arranged by procla- mation that bills accepted 3 before August 4 should be re- accepted for one month after their due date and on August 13 the Bank of England, insured against loss by the Gov- ernment, began to discount approved bills, waiving recourse against the selling holder. The bank rate was then five per cent and two per cent more was charged. Out of the 3 To ' ' accept ' ' a bill means to guarantee its payment. 15 seven per cent the Government took two and one-half per cent for the insurance, which left the bank only four and one-half. This insurance was no mere matter of form, as on August 18, 1915, the Government assumed 27.600,- 000 worth of pre-moratorium bills. Some of this money will be recovered. The first six months of the war thus saw England, ''John Bull Cohn," as her enraged Australian debtors called her, demanding that the rest of the world "pay, pay, pay what you owe me," and the rest of the world paralyzed to comply, because she had cut off the means of payment. But a new phase was rapidly approaching. From the biggest creditor England rapidly became a very heavy debtor. She steadily collected all money that was ripe for payment, gathered up hoards of gold in London, South Africa and Montreal, but as steadily contracted debts for munitions, for grants to the allies and for the goods she had ceased to manufacture at home. The tide turned strong. By July, 1915, it was no longer a question of how the outside world was going to pay England, but how England was going to pay the outside world. Everybody knows about the envoys who came to New York seeking help. The story has a strange likeness to that of Joseph's ten brothers who "went down to buy corn in Egypt," ex- cept that the returning envoys did not find the purchase money in the sacks. The resulting drop in exchange was as marked as its former rise. Was the moratorium necessary? We shall know more about that later. At present it is hard to tell whether the moratorium was more a political, war measure, or more an economic necessity. How much did it do in the way of cutting off Germany's supply of gold? Could the strain have been met alone by the suspension of the Bank Act, the issue of government paper and the insurance of ac- cepted bills f Would not the subsequent blow to England 's credit and the difficulties of making payment abroad for 16 munitions and the like have been mitigated if England had let her outland credits stand for later use? On all these interesting questions we have too little light as yet and are too near the scene to decide correctly. But it does seem that England was too strong financially to have been so terribly flustered. Now, if you please, let us go round to the other side of the shield. A Roman was asked which he would prefer, a lump of iron or a lump of gold. He said : "I will take the iron, as I can then get the gold also." The iron of war is men and munitions, money is but the medium through which for convenience we get them. Given men and muni- tions, money can be had for the asking. This is the whole philosophy of war finance. As things are done today, soldiers' services, their food and clothing, the shot and shell they need, are paid for in money. It was not always thus. There have been eras when money was little used even in time of peace, and wars in which it played a small and almost ornamental part. It helps to clearness of thought if we remember that money is only the medium, if we fix our minds on the things done and used, not on the money by which those are measured and recorded. It is not inconceivable that a nation might by systematic co-operation of all classes do all the things that are necessary for the conduct of war without the use of money and without borrowing. Before the constitutional era borrowing on a large scale on the basis of national credit was impossible. Princes pledged their personal word and lands for means to go to the Cru- sades. But a nation's honor could not be pledged until there was a representative parliament which held the national honor in its custody. The money from taxes and loans which is poured out for war in modern times is the exact equivalent, at war prices, of the services, so far as paid for, and of the food, clothing: and munitions bought. As to war prices, the wages of the soldiers are low and the prices of other things high as compared with times of peace. But barring these differences the same amount of human energy which equals $25,000,000 a day spent in war will in times of peace equal $25,000,000 worth of other goods and services. The use of money and of credit facilitates bringing the productive power and capital of every class to bear on the task of subduing the enemy. In time of war we work primarily for the common ends, while in time of peace we are allowed to work primarily for ourselves. A state of war is a state of socialism, almost of communism. England had before the war 12,000,000 men working for themselves; today she has 6,000,000 of them working for the state. Your true Socialist, not the mere trouble-maker who calls himself such, is silenced in time of war, because he sees the prin- ciples for which he stands in full operation. Moreover in time of war all class distinctions, the Socialists' bete noire, fall into abeyance. There are then only two classes the patriot and the coward. The taxes which are paid for part of the war expenses are the means of making those able in a financial way contribute their help to those in the trenches. The bonds are the means of making future tax-payers help. War borrowing will approach the limit of borrowing only in the rarest of cases. The limit of borrowing is reached when it becomes apparent that the revenues of the country will not be sufficient to maintain the interest and other debt charges. As a country's tax-revenues are necessarily a part of the income produced by the people and that income in turn is in proportion to the nation's capital resources plus its labor power, the ultimate limit is the same whether the borrowing be done at home or abroad, or (what is the same thing) whether the munitions be made at home or abroad with this difference, that the margin required by a foreign creditor may be larger than that re- quired by the home lender. Informally expressed : Brother Will may lend to Brother Tom up to eighty per cent of 18 the value of Tom's property, but a banker will not lend beyond sixty per cent. There is, of course, the further difference, that if "Will forecloses the property remains in the family. The effective limit to war borrowing is the power of the government, the parties in power, to compel obedience and enforce the collection of taxes. Since the services rendered and the goods used are ren-' dered and made in a comparatively short space of time, and since they can be duplicated in value in the same space of time, and since the debt can never exceed capital resources, there can be no such thing as an economic neces- sity for repudiation of war debts, unless a devastating war destroys a very large part of the people of that nation. From five to six times the annual savings of the people during the pre-war period would pay the total costs of this great war for two years, and the total exceeds the debt. National debts have been repudiated, but for political reasons, never for any economic reasons. A war debt, like any other debt or credit, is a means of exchanging present goods against future goods. The use of credit in a large and populous country in time of war has not only the effect of distributing the burden among all classes, but it also has the effect of letting a large part of the regular industry and production go on and of facilitating the return to old conditions when peace comes. No great war has ever ceased for lack of money or credit and many wars have gone on when money was very scarce. Our own Revolutionary War is an excellent example. The absence of money or credit changes the form of doing things, but fighting goes on. When the terrific sacrifices so gladly made in time of war are over, the nation returns to its old individualistic life and pays off the accumulated war charges gradually by the taxation of private earnings. If the people were willing to continue the same sacrifices for a period of time equal to the duration of the war they could pay the debts in that time. But, as our subject is finance, we must turn from the substance to the shadow. 19 All possible sources of money for war must fall into one or another of the following nine classes: (1) A war chest accumulated in advance, (2) taxes as the war goes on, (3) borrowed money, (4) debasing the coinage, (5) issuing paper money, (6) other forced loans, (7) tribute or indemnities, (8) subsidies, (9) government business industries. A very few historical illustrations must suffice. Fred- erick the Great was well within the period when wars were conducted by means of money. He began in 1740 with an inherited war chest of 7,500,000 thalers in treasure and a well-organized army. His money, of course, had some five times the purchasing power of money today. To this sum he added revenues from heavy taxes. But by 1745 his funds were exhausted. He tried loans abroad, but in vain. He then resorted to debasing the coinage, to paper money, to compulsory loans and ever more and more taxes, and finally in 1758 received a subsidy of some 670,000 annu- ally from England. By the time of his death he had again accumulated a war chest of 70,000,000 thalers. His career affords an example of the use of all nine sources. France, it will be remembered, wiped out her ancient debt when she wiped out the ancient monarchy which created it and began after the revolution with a clean slate. Napoleon discovered that he could take the conscript sol- diers of a penniless, bankrupt nation into a hostile country and make war support war. He never forgot the lesson and, although he frequently had resort to heavy taxes at home, he seldom borrowed. Often he made a large profit from war. At his abdication he left a debt not much over $100,000,000. His career shows how unessential debt is to war. England has, however, always used her credit heavily for war purposes. She could do this as she so early devel- oped parliamentary government. From 1688 to 1785 Eng- land financed wars which cost 312,000,000 of treasury funds by loans and taxes in about the ratio of two to one. 20 This is supposed to be the established English method. But she has not always been able to maintain so high a ratio of taxes. Between 1792 and 1815 she increased her debt by the sum of 601,500,343. In the same period she collected revenues which at the end of the period were five-fold those at the beginning, that is, they rose from 20,000,000 to 100,000,000. Again, during this period she paid large subsidies to her allies. Reference is frequently made to the fact that England 's debt at the close of the Napoleonic wars was relatively heavier than that which the present war has incurred or may entail. That debt was $4,502,180,000, or $224 per capita. The national wealth at that time was $12,500,- 000,000, or $625 per capita. In 1914 the national wealth was $88,000,000,000, or $1825 per capita. Hence it would take a debt of $30,476,000,000 to equal that of the year 1816, without allowing for the lower marginal utility of each dollar in a fortune of $1800 as compared with each dollar in a fortune of only $600. But this comparison is a tricky one. After 1816 there came into use a long string of great inventions, including the steam engine, in all its applications, wonderful new methods of spinning and weaving, new methods of mining, etc., etc., which in various industries multiplied man's pro- ductive power not one or twofold, but by the hundredfold. It was this unparalleled advance in wealth-producing power which made it possible for England to carry so easily the burden of debt with which she started the century. Yet, with all this tremendously rapid growth in wealth and after a century of almost continuous peace, Great Britain, as Rossiter points out, "wealthiest of all nations of Europe," still owes half of the cost of attempting to conquer her rebellious colonies and all of the debt incurred during the long Napoleonic wars. 4 Thus little do people care for the burdens of war, when war is over. ^American Economic Review, March, 1916, Supplement, p. 113. 21 Speculation as to the great inventions which this war may bring forth or force into use are fascinating. But one thing is clear, and that is that to be a means of real salvation they must multiply our power to command food products not by accretions of a few per cent, but by the hundredfold. Improvements in manufactures and in trans- portation alone will not suffice. The economic structure is already topheavy like an inverted pyramid, with a vast weight of cheap manufactures resting on a slender point of dear foods. The war does not promise a sufficient re- duction in the world's population to do much good. Forced loans and debasing the coinage are now out of fashion. Of course there is always a small resource in the disappearance of small subsidiary coins, which commonly occurs in war time, the replacement of which gives a little profit. Paper money is a seductive but often a dangerous resort. It can be used, within limits in the first few days of a war, as it then has the merit of replacing the money that has been hoarded. It is a rather desperate resort of bad management in the middle of a war, but, of course, with failing credit it may become the last resort toward the close of a prolonged war. National credit is now so good that a war chest is not considered necessary. But the Julius Tower at Spandau is said to have held $50,- 000.000 in treasure for mobilization. Tribute and indem- nities are incidental results and cannot always be counted on in advance. Subsidies are now very much the fashion, but depend altogether on the line-up of the foes and friends. Government enterprises are more often a means of saving expense than of a money revenue, unless they happen to be like Villa's gambling resorts. The elimination of these items leaves the war minister but one general programme. First, to borrow; second, to raise new taxes, as much to support more borrowing as for ready money; third, to use paper money as sparingly as possible, and fourth, to resort to more paper money. The main thing is to conserve the nation's credit, as that is the main source of money. Hence the first loans should display its full strength. This is a hard thing to do, as the money market is disturbed and panic reigns. That condition has to be remedied first. Fortunately the indicated remedy, some form of added circulating medium, can also be used to raise funds. As soon as the banks are at all restored to a normal condition they can be drawn on. Still it remains important that the first loans should strengthen, not weaken, the nation's credit. Usually, how- ever, the first loan is made in a hurry and under circum- stances that are not of the best. Moreover, most nations are very prone to assume that the war will be of short duration. The very best way of all to display the full strength of a nation's credit is that of a popular loan. That is a loan that is not placed through the banks, but offered broadcast for subscriptions. This opens up a great under- lying layer of lending power that the banks do not so readily reach. As an aside I should like to suggest that it would be a proper feature of preparedness to have the plans all ready for the immediate floating of a popular loan. The statute providing for the loan should be on the books ready and finished, and nothing left to do but to indicate the amount that should be raised. All the advertising agencies should be selected, the places for receiving subscriptions desig- nated, subscription blanks ready printed and bonds en- graved ready to sign. In a month or six weeks the returns from a popular loan could be expected to be coming in. The enthusiasm with which every war is greeted would help the placing of the loan. The results would tend to steady the money market. The next step usually considered necessary is the placing of new taxes. At four per cent every dollar added to the revenues means $25 added to the permanent borrowing power. One of the greatest handicaps with which a finance minister usually has to deal is the slowness with which 23 new taxes are voted. In our Civil War it was months be- fore new taxes were levied. There is usually a long debate as to the form of the new taxes. Again as an aside I would suggest that this debate could take place years in advance of the declaration of war and that as a feature of pre- paredness there could be on the statute books an entire war tax system waiting the firing of the first shot to take effect. All that Congress would have to do on that date would be to declare the amount to be raised. The tax administrative machinery should also be ready to start on the first day. New taxes are a part of the programme that is generally thought to be necessary. It is a part of the English theory, as we have seen, and as new taxes are hard to get after the effects of the war are beginning to be felt it would seem to be a part of the programme that every nation should adopt. But it must be noted that the Germans have a different theory. They do not turn to new taxation, in the belief that the war creates disturbance enough without the dis- turbance to industry that the new taxation brings, and that as the credit of the government is so good it is just as well to wait until after the war to provide for the expenses of debt redemption and interest charges. Now let us see what has been done by the leading coun- tries in this great war and judge them in the light of the principles just set forth. First, England. On August 4, 1914, Parliament granted a war credit of 105,000,000, and on August 6 authorized treasury notes to be sold up to 100,000,000. These were issued as needed in treasury bills, which were sold through the banking agencies. The terms were such as to make the interest cost average about three and three-quarters per cent. At the same time the Government received the power to issue the currency notes, which, as we have seen, placed in their hands the power to raise 225,000,000. The only report that I have as yet happened to see on these notes said that up to August 26, 1914, there had been issued 21,535,000 ; of this, 10,000,000 24 were advances to the banks, subsequently to be redeemed. How the other 11,400,000 went out I have not learned. Some statements have been made concerning these notes which are very hard to understand and there seems to be an effort to maintain the semblance of a reserve against them. From that time on to November, 1914, England is said to have been spending at the rate of 1,000,000 a day, and to have ' ' lent ' ' to her allies, to the colonies, and others, 43,000,000, of which Belgium received 10,000,000 and Servia 800,000. By that date 90,000,000 of the treasury notes had been sold. Now ninety days at a million a day and forty-three million make in all 133,000,000, which more than used up the war credit of one hundred million, and left practically all the money loaned unaccounted for by receipts. Where the rest came from we shall not know until the full reports are published. By November, 1914, it was estimated that the war might run on for two full years, and if so that it would cost the treasury 450,000,000. This was a sanguine estimate, as will be seen. So new loans were authorized to the amount of 350,000,000, to bear interest at three and one-half per cent nominal, and to be issued at 95, redeemable after March, 1928. This was practically a four per cent cost loan. It may be added that by April, 1916, by virtue of various conversions of the old consols and various refund- ings, the interest rate on the entire debt is for the future on a cost basis of not far from five per cent. The Economist makes the cost to date actual at 4.36 per cent, as the earlier loans did not cost so much. In November, 1914, the first new taxes were imposed, and new ones have come in each new budget. The income tax, which had been running at rates ranging, on its two- fold graduated scales, namely by the size and by the kind of income, from three and three-quarters per cent to eight and one-third per cent of the taxable portion of the in- come, was doubled, and a supertax was placed on all in- comes over 2,500 for all persons whose income was above 25 3,000. The result was a rate for large unearned incomes of about thirty-five per cent. Just recently there has been a further increase in the rates on all incomes between 500 and 2,500. At the same time the exemptions have been lowered, the 160 exemption being reduced to 130. The tax on beer was raised to one half-penny a glass, tea to threepence a pound. Rapidly other new taxes have come in. The sugar tax has gone from Is Wd a cental to 9s 4d Tobacco taxes and those on cocoa, coffee, chicory, were first raised fifty per cent, and more since then. Motor spirits pay threepence per gallon, the tax on patent medi- cines is doubled, all imports pay thirty-three and one-third per cent ad valorem. War profits pay fifty per cent. A multitude of new taxes have been invented and an attempt was made to raise the rates of postage and of the telegraph and telephone service. Still ever new taxes are being pro- posed, including a tax on goods exported. A penny a shilling tax on railway tickets is among the latest. Mr. McKenna 's speech of September 21, 1915, present- ing the third budget of the war, was commented on by the staid old sober Economist in the following striking lan- guage. "It was a plain unvarnished statement of un- paralleled revenues, an inconceivable expenditure, and an unimaginable deficit, followed by a list of fresh taxation which, as he said, imposed an unprecedented burden on the country." It was not long ago estimated by Mr. McKenna that by March 31, 1916, the dead weight of debt, old and new, would be 2,200,000,000, including 423,000,000 lent to the allies and colonies. But the latest report I have makes the total $17,500,000,000. The revenues as estimated at various times went from 198 million pounds before the war to 227, then to 305 and 506. But these estimates were not realized. In fact, the results have not yet reached us. In April, 1916, Mr. McKenna claimed 300,000,000 a year in new taxes. The spending is now $25,000,000 per day, and interest alone calls for two-thirds of the new revenues. Criticism. There seems to have been a great deal of disorder and confusion until the third budget, which did something to set matters in order. The results of Eng- land's borrowings have not been bad in themselves, as the cost shows. But she has done little to reach the lower layers of lending power and has therefore not loosened up as much as she might have the foreign investments held in England, which would have helped the restoration of the exchanges, as well as facilitating war loans. "While she has done much in the direction of increased taxes, the rate of spending has been such that the ratio of taxes to bor- rowing is nearer one in ten than the traditional one in three. Her gravest blunder was to seek money abroad be- fore she had demonstrated on the same issue that it could be raised at home, and at what rates. Her venture into the New York market was disastrous. Her credit has been hurt by each successive loan. The London Economist says that Germany has followed a well thought out plan. It has been exactly what has been set forth in the books as her plan for years past, in- deed since 1870. For the first three months war was con- ducted on money raised through the Reichsbank. The pro- cedure was to increase the gold reserves and issue notes at practically three for every one of gold, redeemable at the bank in regular banking fashion. These were advanced to the government and were funded in September, 1914, in four and five-year treasury notes, and at the same time an eight-year popular loan was offered. This loan was at five per cent nominal and was offered at 97%, or on a five and five-eighths per cent basis. The interest rate is purposely high on the theory that it is better to make sure of calling out the funds needed and that refunding after the war can be made effective to reduce the costs. The first one was a popular loan of $1,115,000,000 and reached 1,177,235 subscribers, thus averaging less than $1,000 apiece. Of these, 926,059 were people of such modest means that they took sums under $500 each. The second 27 loan, of $2,265,000,000, in March, 1915, was also at five per cent nominal and was placed at 981/2, or on a five and three-eighths per cent basis. This reached 2,691,060 sub- scribers, and of these 2,113,220 took less than $500 each. The third loan, September, 1915, was for $3,025,250,000, and reached 3,551,746 subscribers, 2,883,799 of whom took less than $500 each. Of the nearly 10,000,000 certificates required for these popular loans, 2,000,000 are for less than $25 each. It is interesting to note that the numbers of those who could never be reached by bankers or syndi- cates has grown with every loan and that the amounts required from the large moneyed institutions to fill out has not been one-sixth of the whole. The fourth loan is offered at 98 1 /, with valuable conversion features, and figures about five and one-quarter per cent cost. Measured by costs and by the number of participants, the credit has improved by use. The empire has levied no new taxes of any consequence. What the several states of the empire may have done is not reported. A war-profits tax after the war is promised. But as prices are regulated there may not be any to tax. The absence of taxes, it is claimed, has facilitated placing the popular loans. Criticism. The no-tax policy, which is in part a re- sult of the limited powers of the empire as against those of the constituent states, is certainly debatable. To pay interest out of borrowed money requires grit. As against fiat money, new circulation regulated by banking principles has much to commend it. How heavy the cost of maintain- ing the gold reserve for this purpose has been remains to be learned. Germany's banking facilities seem to offer large powers of liquidating the people's assets and there seems to be no limit to their lending power short of their entire capital and capitalized earning powers. So much for the work of the finance departments. There remains to consider the costs of war in the broader aspects ; in interruption of production, destruction of property, 28 human life, and of ships and their cargoes, decrease in the stock of foods, metals and other raw materials, the stoppage of investments and betterments, the diminution of future trade and all the other dire results. These are variously estimated, but there are so many uncertainties in the estimates that the personal bias of the statistician who makes them often vitiates the com- parisons. The Crammond-Eossiter estimates are those most frequently relied upon. 5 Corrected to date, these seem to point to a total loss for two years of war and for demobilization of not less than $100,000,000,000, excluding any money estimates of the loss of life. Measuring human life in money is poor business at best, and is statistically full of assumptions and hypotheses. The usual basis is to take the average earnings of a man in the years of his productive life and arrive at their pres- ent cash value on an assumed expectation of life for the average man. It will be readily seen that this is full of uncertainty. Among the various estimates that of the London Economist 6 seems the most reasonable. That gives a total loss in killed and permanently incapacitated of 4,000,000 men. The capitalized value of these lives is about $8,000,000,000, or about four per cent of the cap- italized value of all virile producers in the countries con- cerned. If we cut out the money values the result in ratios will be the same. More interesting is the study of the replacement of the life losses. This also involves a number of assump- tions. The males born in the belligerent countries in the ten years before the war exceeded those dying by about 23,000,000, or an average gain in males of about 2,300,000 per annum. At that rate the increased death rate due to war would equal the increase in males in a period of about one and three-fourths years. In other words, in spite of the war losses the male population would, if the old birth- sAmerican Economic Beview, Supplement, March, 1916. p. 94 ff. e War Supplement, December, 1915. 29 rate continued, increase. It is probable, however, that the birth rate will be affected by the war, especially as the losses are among the most virile males. That is all a mat- ter of speculation and the ratios are very different in the different countries. Thus in France there is no such rate of replacement. As an interesting sidelight, there are (if these figures are at all reliable) more men growing up into the fighting age each year than have been killed off. This, however, again does not apply equally in all countries; in France particularly the crop of young males is small. It has been suggested that light may be thrown on the cost of the war by the rise in prices. This is a very un- certain field of investigation at present for the reason that there are two different causes for the increase in prices. One is the actual scarcity of commodities, the other is the inflation of the medium of exchange, money and credits. How much is due to each of these causes is difficult to ascertain until we have more facts than are now available. The famous old Economist index number has now passed the 4,000 mark; its revised 1905 base is 2,200, and hence the level of prices so measured is nearly one hundred per cent higher than it was before the index started in 1905, and is fifty-seven per cent above the level of July, 1914. In conclusion I wish to recapitulate Professor Kem- merer's offsets to the dark side of the picture. 7 He points out that the living costs of the troops are low, compared with those of times of peace. Luxury and extravagance are curtailed, both for those in the field and those at home. Much of the waste that goes on in times of peace is cut out. The productive power of the nations is exerted more efficiently than at other times. There is less leisure, less idleness, less vice, more health and vigor and less sickness and weakness. War is playing havoc with bad things as well as with good things. It is breaking down outworn economic customs, antisocial vested interests, and antiquated methods of production. War ^American Economic Review, Supplement, March, 1916, p. 120. 30 clears the decks, as it were, and in this clearing process there are swept away many things which long since have become ob- stacles to progress. Many an ugly and antiquated building which has been destroyed by war will be replaced by a sightly and modern one, many a narrow street will be replaced by a broad one; in like manner the democracy of the trenches will remove many class prejudices, to be replaced by stronger bonds of social sympathy between industrial classes. These economic gains will not cover the economic costs of war, but they will to a certain extent offset them. ADDENDA I. DIRECT COST OF WAR TO MARCH 31, 1916 United Kingdom 2,025,000,000 $10,000,000,000 France 1,755,000,000 8,700,000,000 Russia 1,200,000,000 6,000,000,000 Italy 225,000,000 1,100,000,000 Belgium and Servia 45,000,000 220,000,000 Entente total 5,250,000,000 $26,020,000,000 Germany 2,270,000,000 $11,300,000,000 Austria-Hungary 1,100,000,000 5,400,000,000 Turkey and Bulgaria 30,000,000 150,000,000 Alliance total 3,400,000,000 $16,850,000,000 All belligerents 8,650,000,000 $42,870,000,000 From the London Economist War Supplement, December 18, 1915. II. DIRECT AND INDIRECT COST OF WAR TO JULY 31, 1915 Belgium $2,364,390,000 France 6,504,624,000 Russia 8,346,000,000 Great Britain 4,475,880,000 Austria-Hungary 6,133,320,000 Germany 9,214,560,000 Italy 1,158,000,000 Turkey, Servia, Bulgaria and neutrals.... 1,500,000,000 Total $39,696,774,000 31 Crammond-Kossiter estimates. Notes: The above contains no figures for loss of lives or dis- ability. The Economist estimates the same items at $42,000,000,000, but has a very different distribution. The total direct and indirect costs to all belligerents to Au- gust, 1916, will reach $100,000,000,000. III. Loss OF HUMAN CAPITAL FIRST Two YEARS Dead and Incapacitated United Kingdom 235,000 France 515,000 Eussia 980,000 Italy 140,000 Belgium and Servia 130,000 Entente total 2,000,000 Germany 990,000 Austria-Hungary 840,000 Turkey and Bulgaria 150,000 Value per Head Loss $3000 $ 705,000,000 2500 1,287,000,000 1375 1,347,000,000 1750 245,000,000 1750 227,000,000 $1910 $3,811,000,000 $2250 $2,227,000,000 2000 1,680,000,000 1375 206,000,000 $2070 $4,113,000,000 $1990 $7,924,000,000 Alliance total 1,980,000 All belligerents 3,980,000 Economist estimates. Bossiter estimates capital value of all virile aged males before war at $235,000,000,000. Hence loss equals 3.4 per cent. IV. NATIONAL WEALTH IN 1914 OF THE POWERS NOW AT WAR Great Britain $ 88,060,000,000 Germany 83,250,000,000 Eussia 60,160,000,000 France 59,000,000,000 Austria 55,580,000,000 Italy 20,000,000,000 Belgium 12,000,000,000 Total $378,050,000,000 Notes: These are the Crammond-Eossiter estimates. The Economist total for the countries in Table IV is $397,000,000,000. 32 V. WAR LOANS OF PRESENT WAR TO DECEMBER, 1915, AND AGGREGATE *, DEBT TO SAME DATE Great Brita Germany .. New in $8,077,320,000 All, Old and New Per Capita $11,269,768,463* $242 13,135,000,000 177 ; 87L13,792,000 159 8,776,815,000 220 8,16^00,000 57 ^ 3,115,920,000 87 7,140,000,000 Austria ..... France f. 4,308,992,000 '3,871,940,000 [Russia 3,570 000 000 Italy 620,755,550 Total $27,589,007,550 $51,573,995,463 * England's total to May, 1916, is $17,500,000,000. $134 Crammond-Kossiter estimate. Note exchange has been com- puted at the U. S. Mint ratio. VI. DEBTS OF THE GREAT NATIONS BEFORE THE WAR Reported Debt, Nations Millions Austria $3,752 France 6,284 Germany 4,913* Italy 2,706 Japan 1,242 Eussia 4,554 England 3,486 U. S 1,000 * Mainly railroad From Plehn, Government Finance. Debt Annual Annual Debt Pop. per Revenues, Debt times Millions Capita Millions Charges Revenues 49.4 $75.95 $1,142.5 $156 3.3 fold 39.3 159.87 914.6 186 6.9 " 64.9 75.70 2,368.1 219 2.1 " 33.9 79.84 512.0 104 4.1 " 52.2 23.79 292.2 71 4.3 " 160.1 28.45 1,674.0 207 2.7 " 45.0 77.46 918.8 119 3.8 " 94.8 10.55 1,000.0 23 1.0 " debts of the kingdoms. THIS BOOK IS DUE ON THE LAST DATE STAMPED BELOW AN INITIAL FINE OF 25 CENTS WILL BE ASSESSED FOR FAILURE TO RETURN THIS BOOK ON THE DATE DUE. THE PENALTY WILL INCREASE TO SO CENTS ON THE FOURTH 10 1935 1 1935