America's Great Depression (44 page)

billion in 1930 (or $3.3 billion excluding government enterprises).

Federal expenditures, in the meanwhile, rose to $4.2 billion ($3.1

billion excluding government enterprises), still leaving a considerable surplus. The Federal fiscal burden on the private product remained approximately the same, falling from 5.2 percent to 5.1

percent of gross private product, and from 5.8 to 5.7 percent of net private product. The main onus for increasing the fiscal burden of government during 1930 falls upon state and local governments, which increased their rate of depredation from 9.1 percent to 11.3

percent of the gross private product, from 9.9 percent to 12.5 percent of the net product.

23See Sidney Ratner,
American Taxation
(New York: W.W. Norton, 1942), p. 443.

10

1931—“The Tragic Year”

The year 1931, which politicians and economists were sure would bring recovery, brought instead a far deeper crisis and depression. Hence Dr. Benjamin Anderson’s apt term

“the tragic year.” Particularly dramatic was the financial and economic crisis in Europe which struck in that year. Europe was hit hard partly in reaction to its own previous inflation, partly from inflation induced by our foreign loans and Federal Reserve encouragement and aid, and partly from the high American tariffs which prevented them from selling us goods to pay their debts.

The foreign crisis began in the Boden–Kredit Anstalt, the most important bank in Austria and indeed in Eastern Europe, which, like its fellows, had overexpanded.1 It had suffered serious financial trouble in 1929, but various governmental and other sources had leaped to its aid, driven by the blind expediency of the moment telling them that such a large bank must not be permitted to fail.

In October, 1929, therefore, the crumbling Boden–Kredit–Anstalt merged with the older and stronger Oesterreichische–Kredit–

Anstalt, with new capital provided by an international banking syndicate including J.P. Morgan and Company, and Schroeder of England, and headed by Rothschild of Vienna. The Austrian Government also guaranteed some of the Boden bank’s investment.

This shored up the shaky bank temporarily. The crisis came when 1Benjamin M. Anderson,
Economics and the Public Welfare
(New York: D. Van Nostrand, 1949), pp. 232ff.

257

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Austria turned to its natural ally, Germany, and, in a world of growing trade barriers and restrictions, declared a customs union with Germany on March 21, 1931. The French Government feared and hated this development, and hence the Bank of France and lesser French banks suddenly insisted on redemption of their short-term debts from Germany and Austria.

The destructive political motive of the French government cannot be condoned, but the act itself was fully justified. If Austria was in debt to France, it was the Austrian debtors’ responsibility to have enough funds available to meet any liabilities that might be claimed. The guilt for the collapse must therefore rest on the bank itself and on the various governments and financiers who had tried to shore it up, and had thus aggravated its unsound position. The Kredit–Anstalt suffered a run in mid-May; and the Bank of England, the Austrian Government, Rothschild, and the Bank of International Settlements—aided by the Federal Reserve Bank of New York—again granted it many millions of dollars. None of this was sufficient. Finally, the Austrian Government, at the end of May, voted a $150 million guarantee to the bank, but the Austrian Government’s credit was now worthless, and Austria soon declared national bankruptcy by going off the gold standard.

There is no need to dwell on the international difficulties that piled up in Europe in latter 1931, finally leading Germany, England, and most other European countries to renounce their obligations and go off the gold standard. The European collapse affected the United States monetarily and financially (1) by causing people to doubt the firmness of American adherence to the gold standard, and (2) through tie-ins of American banks with their collapsing European colleagues. Thus, American banks held almost $2 billion worth of German bank acceptances, and the Federal Reserve Bank of New York had participated in the unsuccessful shoring operations. The fall in European imports from the United States as a result of the depression was not the major cause of the deeper depression here. American exports in 1929 constituted less than 6 percent of American business, so that while American agriculture was further depressed by international developments, the great bulk of the American depression was caused by
1931—“The Tragic Year”

259

strictly American problems and policies. Foreign governments contributed a small share to the American crisis, but the bulk of responsibility must be placed upon the American government itself.

Although we must confine our interest in this work to the United States, we may pause a moment, in view of its international importance, and consider the shabby actions of Great Britain in this crisis. Great Britain—the government that induced Europe to go onto the treacherous shoals of the gold bullion and gold-exchange standard during the 1920s, that induced the United States government to inflate with disastrous consequences, that induced Germany to inflate through foreign investment, that tried to establish sterling as the world’s premier currency—surrendered and went off the gold standard without a fight. Aided by France instead of the reverse, much stronger financially than Germany or Austria, England cynically repudiated its obligations without a struggle, while Germany and Austria had at least fought frantically to save themselves. England would not consider giving up its inflationary and cheap credit policy, even to stay on sound money.

Throughout the crisis of 1931, the Bank of England kept its discount rate very low, never going above 42 percent, and in fact, inflated its deposits in order to offset gold losses abroad. In former financial crises, the bank rate would have gone to 10 percent much earlier in the proceedings, and the money supply would have been contracted, not expanded. The bank accepted loans of $650 million from the Federal Reserve Banks and the Bank of France; and the Bank of France, forced against its better judgment by the French Government, kept its accounts in sterling and did not ask for redemption in gold. And then, on September 20, Britain went coolly off the gold standard, inflicting great losses on France, throwing the world into monetary chaos, and disrupting world markets. It is a final measure of the character of Governor Montagu Norman that only two days before the repudiation, he gave Doctor Vissering, head of the Netherlands Bank, unqualified assurance that Britain would remain on the gold standard and that therefore it was safe for the Netherlands to keep its accounts in sterling. If the Netherlands was tricked, it is possible that Montagu Norman’s fast friends in the United States were informed in
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America’s Great Depression

advance. For in the summer of 1931, Governor Norman visited Quebec, for “health” reasons, and saw Governor Harrison of the New York Federal Reserve Bank. It was shortly after Norman’s return to England that Great Britain went off the gold standard.2

Throughout the European crisis, the Federal Reserve, particularly the New York Bank, tried its best to aid the European governments and to prop up unsound credit positions. In mid-July, the executive committee of the New York Bank had an all-day conference with the leaders of J.P. Morgan and Company, and there decided to follow the “lead” of the Bank of International Settlements, the “club” of European central banks. It therefore loaned money to the Reichsbank to purchase German acceptances, and made special loans to other Central Banks to relieve frozen assets there. The New York Federal Reserve loaned, in 1931, $125 million to the Bank of England, $25 million to the German Reichsbank, and smaller amounts to Hungary and Austria. As a result, much frozen assets were shifted, to become burdens to the United States. The Federal Reserve also renewed foreign loans when borrowers failed to pay at maturity.3

THE AMERICAN MONETARY PICTURE

In the meanwhile, the depression grew ever worse in the United States, and not because of the European situation. Production continued to plummet drastically, as did prices and foreign trade, and unemployment skyrocketed to almost 16 percent of the labor force. The Federal Reserve Board (FRB) index of manufacturing 2The secret relations between Governor Norman and the head of the Federal Reserve Bank of New York continued during the depression. In August, 1932, Norman landed at Boston, and traveled to New York under the alias of “Professor Clarence Skinner.” We do not know what transpired at this conference with Reserve Bank leaders, but the Bank of England congratulated Norman upon his return for having “sowed a seed.” See Lawrence E. Clark,
Central Banking Under
the Federal Reserve System
(New York: Macmillan, 1935), p. 312.

3Clark plausibly maintains that the true motive of the New York Federal Reserve for these salvage operations was to bail out favored New York banks holding large quantities of frozen foreign assets, e.g., German acceptances. Ibid., pp. 343f.

1931—“The Tragic Year”

261

production, which had been 110 in 1929 and 90 in 1930, fell to 75

in 1931. Hardest hit, in accordance with Austrian cycle theory, were producers’ goods and higher order capital goods industries, rather than the consumer goods’ industries. Thus, from the end of 1929 to the end of 1931, the FRB index of production of durable manufactures fell by over 50 percent, while the index of non-durable production fell by less than 20 percent. Pig iron production fell from 131 thousand tons per day (seasonally adjusted) in June, 1929, to 56 thousand tons daily in December, 1930, to 33

thousand tons in December, 1931, a drop of nearly 80 percent. On the other hand, retail department store sales only fell from an index of 118 in 1929 to 88 at the end of 1931, a drop of about 25

percent.

The American monetary picture remained about the same until the latter half of 1931. At the end of 1930, currency and bank deposits had been $53.6 billion; on June 30, 1931, they were slightly lower, at $52.9 billion. By the end of the year, they had fallen sharply to $48.3 billion. Over the entire year, the aggregate money supply fell from $73.2 billion to $68.2 billion. The sharp deflation occurred in the final quarter, as a result of the general blow to confidence caused by Britain going off gold. From the beginning of the year until the end of September, total member bank reserves fell by $107 million. The Federal Government had tried hard to inflate, raising
controlled
reserves by $195 million—

largely in bills bought and bills discounted, but
uncontrolled
reserves declined by $302 million, largely due to a huge $356 million increase of money in circulation. Normally, money in circulation declines in the first part of the year, and then increases around Christmas time. The increase in the first part of this year reflected a growing loss of confidence by Americans in their banking system—caused by the bank failures abroad and the growing number of failures at home. Americans should have lost confidence ages before, for the banking institutions were hardly worthy of their trust. The inflationary attempts of the government from January to October were thus offset by the people’s attempts to convert their bank deposits into legal tender. From the end of September to the end of the year, bank reserves fell at an unprecedented rate,
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from $2.36 billion to $1.96 billion, a drop of $400 million in three months. The Federal Reserve tried its best to continue its favorite nostrum of inflation—pumping $268 million of new controlled reserves into the banking system (the main item: an increase of $305 million in bills discounted). But the public, at home and abroad, was now calling the turn at last. From the beginning of the depression until September, 1931, the monetary gold stock of the country had increased from $4 billion to $4.7 billion, as European monetary troubles induced people to send their gold to the United States. But the British crisis made men doubt the credit of the dollar for the first time, and hence by the end of December, America’s monetary gold stock had fallen to $4.2 billion. The gold drain that began in September, 1931, and was to continue until July, 1932, reduced U.S. monetary gold stock from $4.7 billion to $3.6 billion.

This was a testament to the gold-exchange standard that Great Britain had induced Europe to adopt in the 1920s.4 Money in circulation also continued to increase sharply, in response to public fears about the banking structure as well as to regular seasonal demands. Money in circulation therefore rose by $400 million in these three months. Hence, the will of the public caused bank reserves to decline by $400 million in the latter half of 1931, and the money supply, as a consequence, fell by over four billion dollars in the same period.

During 1930, the Federal Reserve had steadily lowered its rediscount rates: from 42 percent at the beginning of the year, to 2 percent at the end, and finally down to 12 percent in mid-1931.

When the monetary crisis came at the end of the year, the Federal Reserve raised the rediscount rate to 32 percent. Acceptance buying rates were similarly raised after a steady decline. The Federal Reserve System (FRS) has been sharply criticized by economists for its “tight money” policy in the last quarter of 1931. Actually, its policy was still inflationary on balance, since it still increased controlled reserves. And any greater degree of inflation would have endangered the gold standard itself. Actually, the Federal Reserve 4See Winthrop W. Aldrich,
The Causes of the Present Depression and Possible
Remedies
(New York, 1933), p. 12.

1931—“The Tragic Year”

263

should have
deflated
instead of inflated, to bolster confidence in gold, and also to speed up the adjustments needed to end the depression.

The inflationary policies of the Federal Reserve were not enough for some economists, however, including the price stabilizationist and staunch ally of the late Governor Strong, Carl Snyder, statistician at the New York Federal Reserve. As early as April, 1931, Snyder organized a petition of economists to the Federal Reserve Board urging immediate cheap money, as well as long-range credit expansion. Among the signers were: John R. Commons, Lionel D. Edic, Virgil Jordan, Harold L. Reed, James Harvey Rogers, Walter E. Spahr, and George F. Warren.5