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• Preface
• Studies In the Theory of International Trade
• Chapter I: English Theories of Foreign Trade, Before Adam Smith: I
• I. Introduction
• II. “ Mercantilism” and “bullionism”
• III. the Balance-of-trade Doctrine
• IV. Reasons For Wanting More Bullion
• V. Employment and the Balance of Trade
• Chapter II: English Theories of Foreign Trade, Before Adam Smith: Ii
• I. Legislative Proposals of Mercantilists
• II. the Collapse of Mercantilist Doctrine
• III. Some Modern Interpretations of English Mercantilism
• Chapter III: The Bullionist Controversies: I. The Inflation Phase
• I. the Participants In the Controversy
• II. the Factual Background
• III. Premium On Bullion As Evidence of Excess Issue: the Bullionist Position
• IV. Qualifications Conceded By the Bullionists
• V. Possible Objections to the Bullionist Position
• VI. the Anti-bullionist Position
• VII. the Balance of Payments Argument
• VIII. the Possibility of Excess Issue By Banks
• IX. Responsibility For the Excess Issue: Bank of England Vs. Country Banks
• X. Responsibility For Excess Issue: the Credit Policy of the Bank of England
• Chapter IV: The Bullionist Controversies: II. The Deflation Phase
• I. the Resumption of Cash Payments
• II. Responsibility of Resumption For the Fall In Prices
• III. the Economic Effect of Changing Price Levels
• IV. Ricardo's Position On the Gold Standard
• V. Reform Without Departure From the Metallic Standard
• VI. Paper Standard Currencies
• Chapter V: English Currency Controversies, 1825–1865
• I. Introduction
• II. the “currency School” -“banking School” Controversy
• III. the “palmer Rule ”
• IV. the Bank Act of 1844
• V. the Possibility of Overissue of Convertible Bank Notes
• VI. the Role of Deposits, Bills of Exchange, and “credit” In the Currency System
• VII. the Technique of Credit Control
• VIII. the Relation Between Bank of England Operations and Specie Movements
• IX. Currency Reform Proposals
• Chapter VI: The International Mechanism Under a Simple Specie Currency
• I. Introductory
• II. the Mechanism According to Hume
• III. an Omitted Factor? Relative Changes In Demand As an Equilibrating Force
• IV. Prices In the Mechanism: the Concept of “price Levels ”
• V. the “terms-of-trade” Concept
• VI. the Prices of “domestic” Commodities
• VII. the Mechanism of Transfer of Unilateral Payments In Some Recent Literature
• VIII. a Graphical Examination of Pigou's Analysis 1
• IX. Some Elaborations On the Basis of Pigou's Analysis
• X. an Alternative Solution
• XI. Types of Disturbance In International Equilibrium
• XII. Specie Movements and Velocity of Money
• XIII. Commodity Flows and Relative Price Levels
• XIV. Exchange Rates
• XV. A Criticism of the Purchasing-power Parity Theory 1
• Chapter VII: The International Mechanism In Relation to Modern Banking Processes
• I. Automatic Vs. Managed Currencies
• II. Primary and Secondary Expansion of Means of Payments
• III. Short-term Loans In the International Mechanism
• IV. Primary and Secondary Expansion In Canada , 1900–13
• V. the International Mechanism and Business Cycles
• Chapter VIII: Gains From Trade: the Doctrine of Comparative Costs
• I. the Nature and Origin of the Doctrine
• II. the Division of the Gain From Trade
• III. Trade In More Than Two Commodities
• IV. Trade Between More Than Two Countries
• V. Transportation Costs
• VI. Increasing and Decreasing Costs
• VII. Prices, Money Costs, and Real Costs
• VIII. Dependence of Comparative Cost Doctrine On a Real-cost Theory of Value
• IX. Differences In Wage Rates In Different Occupations
• X. Variable Proportions of the Factors and International Specialization
• XI. Variable Proportions of the Factor and Comparative Real Costs
• XII. “ Opportunity Cost” Analysis As a Substitute For Real Cost Analysis
• Chapter IX: Gains From Trade: the Maximization of Real Income
• I. “ Mass of Commodities” and “sum of Enjoyments”: Ricardo and Malthus
• II. Reciprocal Demand and the Terms of Trade
• III. Terms of Trade and the Amount of Gain From Trade
• IV. “ Net Benefit” In International Trade: Marshall
• V. Total Net Utility Derived From International Trade: Edgeworth
• VI. the Gain From Trade Measured In Money
• Appendix: a Note On the Scope and Method of the Theory of International Trade

VI. Paper Standard Currencies

All of the proposals described above provided for the continuance in some degree of a metallic basis for the currency. But advocates were not lacking of a complete break with the metallic standard and the adoption of an inconvertible paper currency. All of the defenders of the suspension of cash payments had thereby demonstrated their preference for an inconvertible paper over a metallic standard at least during the continuance of a great war involving heavy foreign remittances. One anti-bullionist even appeared to find the superiority of the inconvertible paper currency over the metallic standard under wartime conditions to lie in the fact that the former was not set up or regulated in accordance with any deliberate plan.1 Many of the anti-bullionists claimed that England profited during the war from having a currency independent of international entanglements, and therefore free from the necessity of adjusting itself to all the wartime fluctuations in England's balance of payments.2 The suspension of cash payments, as one writer put it, gave England “the advantages of an insulated currency, under the circumstances of an expensive war.” 3 But while the war continued, most of the supporters of the Restriction defended inconvertibility only as an emergency measure, and looked forward to an eventual return to a metallic standard. The writers who then ventured to declare for an inconvertible paper currency as a permanent institution were few in number and do not appear to have attracted any following. Among them were: advocates of an “abstract currency” divorced from the precious metals, which in some unexplained way would always maintain a proper value and be issued in the correct volume;4 crude inflationists, for whom no amount of money could be excessive;5 and others who laid chief stress on the importance of having a currency which was not liable to flow abroad irrespective of internal needs.6 But when the war had ended, and especially when resumption of cash payments was accompanied by sharply falling prices, the advocates of an inconvertible paper currency became fairly numerous, although apparently never influential with the government. Of greater interest were the writers who, prior to 1830, advocated some form of stabilized paper standard.

An anonymous writer as early as 1797 had proposed a system of control of the inconvertible paper currency through the use of the interest rate, although he failed to make clear whether or not his proposal contemplated a variable interest rate as the regulator of the quantity of the currency, and he failed to formulate an intelligible criterion of the proper quantity of currency. He proposed that all bank notes should be suppressed and that national paper money, issued in exchange for government securities, should be substituted for bank notes. The Bank of England should be obliged to accept for deposit at interest whatever quantity of national paper money individuals should offer it, and the government should be obliged to accept from the Bank all the paper money above what the Bank found necessary for carrying on its business. The government should pay interest to or receive interest from the Bank according as to whether the government was indebted to the Bank or the Bank to the government.7

Although John Wheatley had been one of the most outspoken critics of the suspension of cash payments, his belief in the metallic standard diminished under the impact of the fall in prices accompanying the approach and the realization of resumption of cash payments.8 In his writings from 1816 on, he expressed preference at times for a currency so regulated as to maintain constancy in the price level, at other times for a currency constant in quantity. But stability of prices was apparently his ultimate objective, for he indicated that, where population was increasing and there was a corresponding growth of production, the quantity of money should be increased in the same proportion, so as to prevent prices from falling. This would seem to lead to a regulated paper currency, but in 1816 he still advocated a return to the gold standard, on such a basis as to restore the 1813 level of prices: “a currency of coin is neither liable to sudden excess, to defraud the creditor, nor sudden contraction, to defraud the debtor.... With a circulation of paper it is impossible to prevent a constant variation in the amount of our currency. In times of confidence the banks issue too much, in times of distrust they issue too little.” 9 In 1819 he still advocated resumption. The evil of deficiency of currency, which produces low prices, was greater than the evil of excess, which produces high prices, but under inconvertibility the currency system was liable to both deficiency and excess. All that was necessary to get a proper currency system was to abolish small notes, which were most liable to variation in their quantity, and to build up the stock of gold very gradually so as not to cause a sharp contraction of prices and so as not to involve other countries in difficulties.10 But in 1822 he argued that sterling should have been allowed to remain depreciated until the world price level had risen to equilibrium with the English price level. If under inconvertibility the amount of the paper currency had been kept constant, it would have been better that resumption of cash payments should never take place. He now advocated that there be increased issue of paper until the 1812–13 level of the price of corn had been restored, and that thereafter there should be only such changes in the quantity of currency as would be necessary to maintain prices and incomes at this level, with the metallic standard, presumably, definitely abandoned.11

Thomas Attwood may not have had any great zeal for a stabilized paper currency, and his real objective seemed to be whatever increase in currency and prices should prove necessary to bring about full employment, without limitations prescribed in advance.12 But he was deeply convinced that falling prices were a serious evil which could not be avoided except through an inconvertible paper currency, and his stabilization suggestions seem to have been made in the hope that they would make his plea for an inconvertible paper currency more palatable to public opinion. They are nevertheless of considerable interest. Attwood recommended an inconvertible paper currency issued by the government and its quantity regulated through open-market purchases and sales of its own securities by the government.13 As the criterion for the stabilization of the currency he wavered between the price of wheat,14 the general rise or fall in the prices of commodities,15 the rate of interest,16 and the wages of agricultural labor.17 He clearly was not prepared to commit himself definitely to any one criterion. Regulation of the amount of the currency should be entrusted to a legislative commission, and should be carried out not by “laws of maximum and minimum but by judicious legislative operations upon the issue of bank notes, or other national paper.” 18 He recognized that if wages of labor were used as the standard for stabilization, there would be timelags between changes in the quantity of currency and resultant changes in wages. He suggested, therefore, that, to supplement wages, the market rate of interest should be used as a more sensitive index of the effects of changes in the quantity of currency, the rate of interest to be used as a “temporary” and the wages of labor as a “permanent” guide in the regulation of issues.19

Attwood realized that it might not prove easy to reverse the trend of prices, and that more would be necessary than simple authorization to the banks to issue more paper:

It would be of no use to act upon the “rag makers,” without at the same time acting also upon the public mind; for unless the public are willing to borrow the “rags,” the “rag maker” cannot issue them. It is therefore necessary to act upon both parties; the one must be stimulated to borrow, and the other to lend. Both these dispositions are rather stagnant at present, and are becoming daily more so. Prudent and safe men are afraid to borrow money, because they cannot safely and beneficially employ it. Bankers are afraid to lend it, because they know that it cannot be safely employed, and because they remember the late panic, when they were compelled to pay everybody, whilst nobody could pay them.20

Although all of the prominent members of the classical school were adherents of a fixed metallic standard, I have not been able to find any serious attempt during this period to meet these claims that a better currency standard was available. There was then, as there has continued to be since, a marked tendency on the part of the exponents of the fixed gold standard to rely on dogmatic assertions of the injustice of any other system and of the impossibility of devising any system of currency which would have more stability of value than the precious metals.21 Attempts to stabilize the value of money beyond what metallic money would do of itself, they asserted, were impracticable, and were straining after unattainable perfection: “It does not seem the design or intention of the Author of the world, that ... stability [of the currency] should be perfect and invariable”;22 “to demand a standard abstractedly free from variation, is like seeking for better bread than is made of wheat.” 23 As has already been pointed out, James Mill, Ricardo, and their disciples, also tended to minimize both the extent and the evil consequences of changing price levels, and thus to foster the attitude that the metallic standard, variable though it was, met adequately the requirements of a good currency standard.

During this period the adherents of a fixed metallic standard did not expressly claim as an advantage of such a standard that it was an international rather than a purely national standard.24 The bullionists had laid great emphasis on the fall in the exchanges as evidence of the undesirable mode of operation of the inconvertible paper currency, but primarily or solely because exchange depreciation indicated internal depreciation in terms of bullion. I have found only one instance of even bare mention by a bullionist of instability of the exchanges as an evil in itself,25 and I have failed to discover what specific disadvantages, if any, the bullionists believed would result from a fluctuating exchange other than the fluctuations in the bullion value of the currency and in relative price levels as a whole at home and abroad which would be associated with it.

Few of the anti-bullionists conceded that fluctuating exchanges were an evil, and when they did they insisted that the advantages of a stable exchange could be acquired or retained only at an excessive cost, without as a rule indicating what they regarded as the disadvantages of a fluctuating exchange. As one paper-money advocate exclaimed, under a metallic standard: “The natural order of things will be reversed. Instead of a steady currency and fluctuating currency!!” 26 One anti-bullionist, Walter Hall, did, however, carry the discussion a little further. He was not prepared to concede that the disadvantages of a fluctuating exchange were very serious: “What may be the value of a steady exchange, I shall consider hereafter; but it seems to me it will cost too dear, if the price to be paid for it is a fluctuating currency.” 27 “After all, what is this mighty evil of an unfavorable exchange, that so much should be lost and hazarded for it.” 28 Clearly identifying a fluctuating with a falling exchange, he conceded that it results in a disadvantage to the consumer of imported goods in the form of higher prices, but he argued that this burden would be diffused equally over the whole community, and would be counterbalanced to the country as a whole by the advantage which resulted to the manufacturer and exporter, whereas the forced sales and the decline in prices which would result from the contraction of the currency for which falling exchanges were a substitute would fall heavily on the merchant and the manufacturer, and would cripple for a time the productive activities of the country.29 He had earlier argued that changes in taxes result in serious changes in the relations between particular prices and thus change “the relations of society,” 30 and had thus shown that he recognized that changes in relative prices as well as changes in price levels as a whole could have serious consequences, but his attempt to show that this did not apply to the changes in relative prices which would result from a depreciating exchange cannot be regarded as satisfactory. But superficial and inadequate as was his analysis of this vital phase of the problem, it was the only explicit recognition of it which I have found, not only in the literature of the bullionist controversy, but in such of the English nineteenth-century literature on the currency problem as I have examined.

It cannot be claimed for the literature of the bullionist controversy that it afforded a satisfactory answer to the issue, prominent now as then, as to the comparative merits of a metallic (and international) monetary standard, on the one hand, and a non-metallic (and national or “insulated”) standard, on the other. The defenders of the metallic standard contented themselves with an appeal to arbitrary dogmas and to moral issues, and with the claim that the limitations imposed by a metallic standard were a safeguard against the inflationary possibilities of an irresponsibly or incompetently managed paper standard currency. The exponents of a national paper standard made out a better case for what I am inclined to regard as theoretically a moderately inferior and under ordinary practical conditions a seriously inferior cause. They presented valid and novel arguments for the economic advantages of the freedom afforded by an independent monetary standard to escape a deflation (or inflation!) induced by external factors, to cope with a deflation resulting from internal factors and intensified by the prevalence of rigidity downwards in the prices of the factors of production, and, in general, to provide a country with the quantity of means of payment deemed best for it as against having that quantity dictated to it by external factors beyond its control. If the exponents of the paper standard, however, had intellectually somewhat the best of the argument, it was largely because of the failure of their opponents to set forth what seem to me to be the most important arguments for stability of the exchanges. The important issue lies between stable and unstable exchanges, and between a metallic standard and a paper standard only as and if the former in operation provides stable exchanges and the latter in operation fails to do so. First, fluctuating exchanges result in risks and uncertainties for foreign trade and foreign investment which are economically costly and for which the development of forward exchange markets and other facilities for hedging against exchange fluctuations provide only a strictly limited palliative. Second, although a paper standard currency managed without reference to the foreign exchanges could reduce the amplitude of short-term fluctuations in the general price level as compared to what they would ordinarily be under an international monetary standard, it would thereby tend to increase greatly the amplitude of short-term fluctuations relative to each other of sectional price levels—export commodities, import commodities, domestic commodities—as compared to what is conceivable under an international monetary standard. It was only under the stimulus of the recent great depression, however, that the analysis of these problems was carried much beyond the point at which it was left by the bullionists and their critics, and the present-day discussion seems to be tending to shift the issue from stable versus unstable exchanges to permanently stable versus shiftable exchanges. This is a much more significant issue, since almost no country for which foreign trade was of great importance has ever been willing for long to tolerate freely fluctuating exchanges, and stronger grounds can be presented for substituting a shiftable anchor for a permanently fixed one than for doing without an anchor at all.

Chapter V

ENGLISH CURRENCY CONTROVERSIES, 1825–1865

The student who turns from the literature of the Heroic Age of British monetary controversy in order to attempt a study of the original sources relating to the antecedents of our modern banking situation will find himself confronted with a jungle of blue books and Parliamentary discussions, pamphlets and tracts and leading articles: a jungle at first sight so impenetrable that he may well despair. For it is characteristic of the period of middle-class ascendancy after 1832 that it produced much heat and little light; many massive volumes of evidence and statistics, but no classic reports; much legislation but, for a long time at least, no final solution of the various problems to be faced.—T. E. Gregory, Select statutes, I, ix.

[1]“For these reasons, I am inclined to think, that the wants of men, and the ingenuity exercised in remedying them as they occur, have in this, as in most other instances, formed, upon the whole, a better system of currency for this country at present, and better adapted to the circumstances of the time, than any statesman, or political economist, however able and well informed, could have devised in his closet.... The thing is done first; the reason why it should be so done, is found out afterwards.... Where currencies of paper have failed in other countries, it is generally where speculative men have formed the plans for establishing them.” (The Earl of Rosse, Observations on the present state of the currency of England, 1811, pp. 87–88.)

[2]Cf. the similar arguments of seventeenth-century writers, supra, p. 39.

[3]J. C. Herries, A review of the controversy respecting the high price of bullion, 1811, p. 96.

[4]E.g., Thomas Smith, An essay on the theory of money and exchange [1807], 2d ed., 1811; Glocester Wilson, A defence of abstract currencies, 1811; ibid.,A further defence of abstract currencies, 1812.

[5]E.g., Sir John Sinclair, Observations on the Report of the Bullion Committee, 3d ed., 1810; ibid.,Remarks on a pamphlet by William Huskisson, 2d ed., 1810.

[6]E.g., John Raithby, The law and principle of money considered, 1811, p.111: “The currency of a country ought to be of a nature, the perpetual and necessary tendency of which is to rest at home”; Lord Stanhope, in a Resolution presented to the House of Lords: Not only gold and silver, “but likewise every one of the other articles of merchandise by means of which British debts to foreign nations can be discharged, is ... an improper and an unfit legal standard to serve as a fixed, invariable, and permanent measure of the relative value of different commodities and things within the country itself, which is the grand and essential end and object of an internal circulating medium....” Hansard, Parliamentary debates, 1st series, XX (July 12, 1811), 911.

[7]The iniquity of banking, part II, 1797, pp. 42 ff., 59 ff., 62.

[8]For his advocacy, in 1807, of the voluntary use of a tabular standard for long-term contracts, see infra, pp. 282–83.

[9]John Wheatley, A letter ... on the distress of the country, 1816, pp. 14–25, 43–44.

[10]Ibid., Report on the reports of the Bank committees, 1819, pp. 4, 45, 50–51.

[11]An essay on the theory of money and principles of commerce, vol. II, 1822, pp. 121 ff., 131 ff.

[12]He asks the question: why not issue money ad infinitum? and replies: “Whenever ... the money of a country is sufficient to call every laborer into action, upon the system and trade best suited to his habits and his powers, the benefits of an increased circulation can go no farther....” Beyond that point, further stimulus is “nugatory or injurious.” (A letter ... on the creation of money, 1817, p. 68.)

[13]Prosperity restored, 1817, pp. 129–130; Observations on currency, population, and pauperism, 1818, pp. 164–67; The late prosperity, and the present adversity of the country, explained, 1826, pp. 34–35.

[14]Prosperity restored, pp. 129–30, 135.

[15]Ibid., p. 136.

[16]Ibid., p. 183.

[17]Ibid., pp. 184, 193–94; Observations on currency, pp. 166–67.

[18]Prosperity restored, pp. 163 ff.

[19]Observations on currency, pp. 204–05.

[20]The Scotch banker, 2d ed., 1832, p. 101.

[21]Ricardo, in 1819, asserted that a currency less variable than a metallic standard one could not be attained by any system “that I have ever even imagined.” (Commons Committee, Report, 1819, p. 138.)

[22]Samuel Read, An inquiry concerning the nature and use of money, 1816, p. 83.

[23]T. P. Thompson, “On the instrument of exchange,” Westminster review, I (1824), 197.

[24]Malthus is the only exception I have found. He stated that it was desirable to have an internationally common standard, even if it meant falling prices, but did not give any reasons. “Review of the controversy respecting the high price of bullion,” Edinburgh review, XVIII (1811), 450–51.

[25]George Woods, Observations on the present price of bullion, 1811, p. 53: “The only other disadvantageous consequence of the present system appears to be the unsteady par of exchange, and the unsettled relative value of currency, constantly at the mercy of a small body of men.” (Italics not in original.)

[26]Erick Bollmann, A second letter ... on the practicability of the new system of bullion-payments, 1819, p. 25, note.

[27]Walter Hall, A view of our late and of our future currency, 1819, p. 56.

[28]Ibid., p. 59. For claims by other anti-bullionists that an “unfavorable” exchange was desirable as a bounty to exports and a check on imports, see Daniel Wakefield, An investigation of Mr. Morgan's comparative view of the public finances, 1801, pp. 51–52; anon., Reply to the author of a letter ... on the pernicious effects of a variable standard of value, 1819, pp. 34–35: “While the exchange is adverse it operates as a bounty on the export of all our manufactures; and stimulates, by additional profits, the industry and skill of the nation; and though this adverse exchange has its disadvantages, yet, as it has its benefits also, let us not throw the latter away....”

[29]Walter Hall, op. cit., pp. 53, 60.

[30]Ibid., p. 16.