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Home » Opinion » Book review
The Great Depression and today's woes
By Jeanne Wu |
May 9, 2009, Saturday
|
Print Edition
Print Edition
OPINION is divided in the global financial crisis on whether partial restoration of the gold standard is needed to strengthen the world financial system.
Opponents cite the fact that it was only after abandoning the gold standard that the Western powers managed to emerge from the Great Depression in the 1930s.
This does not necessarily mean, however, that the gold standard was the cause of the Great Depression.
In his book "Lords of Finance," author Liaquat Ahamed is right in saying that many foolish wartime monetary policies during the World War I was to blame for the Great Depression.
But he should not blame Western bankers' adherence to the gold standard as a cause of the Great Depression.
All the facts Ahamed collects in his book strongly prove his observation that "the Great Depression was not some act of God or the result of some deep-rooted contradictions of capitalism, but the direct result of a series of misjudgments by economic policy makers ... by any measure the most dramatic sequence of collective blunders ever made by financial officials."
But none of these facts supports his assertion that the Western countries' clinging to the gold standard in the 1920s was a crucial mistake.
He says: "Breaking with the dead hand of the gold standard was the key to economic revival."
By 1914, says Ahamed, the gold standard was a long-established economic tradition. At that time, 59 nations used the gold standard, or backed their currency with gold. However, as World War I (1914 to 1918) dragged on, central bankers abandoned their peacetime rule of issuing only currency backed by gold. As a result, during the war, currency in circulation doubled in Britain, tripled in France and quadrupled in Germany.
As Ahamed notes, "Among the first casualties of war is not only truth but also sound finance." That was not all. The war had cost Europe some US$200 billion, which left the continent with towering debt and devalued currency.
On top of that, the victors were determined to impose a huge financial punishment on Germany. Meanwhile, both Britain and France owed large war debts to the US, which insisted the full payment.
As a result, inflation in Germany skyrocketed. In 1914, a dollar was worth 4.2 marks; by late 1923, the dollar equaled 630 billion marks. The same problem troubled Britain and France, though it was not as severe.
And the US' rate cut in August 1927 proved to be the catalyst of the crisis. The US stock market soared 20 percent in two months, setting the stage for a bubble and crash in 1929.
Given such a high war cost, it would have been hard to avert the Great Depression even if major countries had abandoned the gold standard.
In fact, if they had stuck to the gold standard all along, they might not even have caused the depression.
Moreover, if it were the Western powers' foolish belief in the gold standard that triggered the Great Depression in 1930s, then why without the gold standard, has an even worse global economic crisis arisen?
The world is now experiencing a global economic downturn, which resulted from the US subprime mortgage crisis. And the root of the problem, as Chinese economist Fan Gang once told Shanghai Daily, lies in the de facto dollar standard currency system.
Fan is member of Monetary Policy Committee of the central bank and director of National Economic Research Institute, China Reform Foundation.
In particular, as all countries hold and calculate their foreign exchange reserves in dollars, the US could continue issuing money without worrying about possible deflation of its currency or the risk of high inflation in its country. This practice of issuing money is unsustainable, or at least less unlikely, under the gold standard.
However, now that the gold standard is a past practice, it's better to take its limitations - its scarcity and unbalanced distribution - into consideration before restoring it.
An alternative could be to replace the dollar with a super-sovereign currency as the world's reserve currency.
Opponents cite the fact that it was only after abandoning the gold standard that the Western powers managed to emerge from the Great Depression in the 1930s.
This does not necessarily mean, however, that the gold standard was the cause of the Great Depression.
In his book "Lords of Finance," author Liaquat Ahamed is right in saying that many foolish wartime monetary policies during the World War I was to blame for the Great Depression.
But he should not blame Western bankers' adherence to the gold standard as a cause of the Great Depression.
All the facts Ahamed collects in his book strongly prove his observation that "the Great Depression was not some act of God or the result of some deep-rooted contradictions of capitalism, but the direct result of a series of misjudgments by economic policy makers ... by any measure the most dramatic sequence of collective blunders ever made by financial officials."
But none of these facts supports his assertion that the Western countries' clinging to the gold standard in the 1920s was a crucial mistake.
He says: "Breaking with the dead hand of the gold standard was the key to economic revival."
By 1914, says Ahamed, the gold standard was a long-established economic tradition. At that time, 59 nations used the gold standard, or backed their currency with gold. However, as World War I (1914 to 1918) dragged on, central bankers abandoned their peacetime rule of issuing only currency backed by gold. As a result, during the war, currency in circulation doubled in Britain, tripled in France and quadrupled in Germany.
As Ahamed notes, "Among the first casualties of war is not only truth but also sound finance." That was not all. The war had cost Europe some US$200 billion, which left the continent with towering debt and devalued currency.
On top of that, the victors were determined to impose a huge financial punishment on Germany. Meanwhile, both Britain and France owed large war debts to the US, which insisted the full payment.
As a result, inflation in Germany skyrocketed. In 1914, a dollar was worth 4.2 marks; by late 1923, the dollar equaled 630 billion marks. The same problem troubled Britain and France, though it was not as severe.
And the US' rate cut in August 1927 proved to be the catalyst of the crisis. The US stock market soared 20 percent in two months, setting the stage for a bubble and crash in 1929.
Given such a high war cost, it would have been hard to avert the Great Depression even if major countries had abandoned the gold standard.
In fact, if they had stuck to the gold standard all along, they might not even have caused the depression.
Moreover, if it were the Western powers' foolish belief in the gold standard that triggered the Great Depression in 1930s, then why without the gold standard, has an even worse global economic crisis arisen?
The world is now experiencing a global economic downturn, which resulted from the US subprime mortgage crisis. And the root of the problem, as Chinese economist Fan Gang once told Shanghai Daily, lies in the de facto dollar standard currency system.
Fan is member of Monetary Policy Committee of the central bank and director of National Economic Research Institute, China Reform Foundation.
In particular, as all countries hold and calculate their foreign exchange reserves in dollars, the US could continue issuing money without worrying about possible deflation of its currency or the risk of high inflation in its country. This practice of issuing money is unsustainable, or at least less unlikely, under the gold standard.
However, now that the gold standard is a past practice, it's better to take its limitations - its scarcity and unbalanced distribution - into consideration before restoring it.
An alternative could be to replace the dollar with a super-sovereign currency as the world's reserve currency.
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