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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

IX. Currency Reform Proposals

All that the currency school aimed at, as we have seen, was that the existing “mixed currency” should be made to operate precisely as they supposed a “purely metallic currency” would operate. By a “purely metallic currency,” it should be remembered, they meant one which would not include either government paper money or bank notes, but under which bank deposits transferable by check or bill of exchange would still exist. The chief characteristic of such a currency, they thought, was that every influx of gold from abroad or efflux of gold to foreign countries would immediately and automatically result in a corresponding increase or decrease, respectively, in the amount of money in circulation. The banking school pointed out that even under a “purely metallic currency” of this kind there would be “hoards” of gold of variable amounts, mainly in the form of bank reserves; that an influx of gold might go to augment the hoards instead of the specie and note circulation, while an efflux of gold might similarly come out of hoards instead of out of circulation; and that the influence of a variation in the metallic circulation on the level of prices might be offset or more than offset by an opposite variation in the amount of bank deposits. Many critics of the currency school, moreover, held that it was not desirable that a mixed currency should act precisely as would a purely metallic currency if that meant that it should undergo all the fluctuations in quantity and in value which would be experienced by a purely metallic currency. As one writer put it: “a mixed currency should not fluctuate as a metallic currency does. A metallic currency is undoubtedly the safest, possessing intrinsic value; but its liability to fluctuation in quantity arising from the state of the exchanges, and consequent drains, diminishes its claim to be considered the best type of a currency. Its liability to fluctuation is an evil to be counteracted and not adopted.” 1 The banking school, however, had no legislative solution to offer. Imperfectly as the currency operated, legislative interference would only make things worse. Reliance must be had on the good sense and the competence of those who had charge of the credit operations of the banking system.

There were numerous writers, however, who shared the dissatisfaction of the banking school with the existing currency system even if made to operate in accordance with the specifications of the currency school, but who rejected the banking school doctrine that nothing could be done by regulation to make the currency more stable in its value. The Attwoods had acquired a considerable following, who became known as the “Birmingham school,” at one time had an organization called the “National Anti-Gold Law League,” modelled after the Anti-Corn Law League, and engaged in vigorous and sustained propaganda for the total abandonment of a metallic basis for the currency. But the Attwood doctrines deteriorated in the hands of their disciples, who in the main were crude inflationists and advocates of a national inconvertible paper money, free not only from what they regarded as an arbitrary and dangerous bond with gold,2 but also from any other legislative restriction on its quantity. They had a naive reliance on the sufficiency of competition to keep prices from rising excessively, irrespective of the quantity of the currency in circulation.3 This group, and the many other crude inflationists who issued tracts during this period, we can reasonably ignore. A number of writers during this period, however, presented proposals providing either for the regulation of the quantity of the currency with a view to stabilization of its value, or for the adoption of practices which would lessen the evil consequences arising from fluctuating, and especially falling, price levels. There follows a brief account, with no pretensions to completeness, of the proposals for reforms of these types which were made during this period. It should be noted, however, that the government, and the more prominent economists of the time, such as J. S. Mill, McCulloch, Senior, Cairnes, and Torrens, either wholly ignored these writers or treated their proposals with derision or contempt.

Wheatley, in 1807, had made the following proposal for the voluntary use in long-term contracts of a tabular standard based on an index number of prices, as a protection against changes in the purchasing power of the monetary unit:

... in compositions of a permanent nature, some criterion should be assumed for the purpose of providing a graduated scale of the value of money, and ... an increase or diminution of income should be allowed in conformity to the result. The present impoverishment of the crown is a sufficient warning against permanent compacts for a definite sum; and no public composition will, I trust, be hereafter concluded, that does not contain within itself the power of revision as to the pecuniary compensation. In a late projected composition government very properly departed from the principle of a fixed income, and as a commutation for tithes, it was proposed to grant a stipendiary salary, according to the price of corn. The basis upon which the compensation was to be negotiated was perfectly just; but I have already shown the inefficiency of corn as an exclusive standard; and whenever it may be necessary for any object of extended policy to ascertain the relative value of money for a period of long duration, the principles, upon which Sir George Shuckburgh constructed his table of proportions, will be found the least objectionable.4

Joseph Lowe5 in 1822, and Scrope6 in 1833, made similar recommendations for the voluntary use of a tabular standard,7 although without reference to Wheatley. Some years later an anonymous writer recommended what was in effect a compulsory tabular standard of payments. According to his scheme, the currency would consist of £100 exchequer notes, made legal tender, and issued by the government in return for the obligation to pay to the government annually the value in pounds of a quarter of wheat at the average of the preceding ten years' prices. If wheat should be judged not to be a sufficient base, then the average prices of 50 or 100 commodities could be used instead. If prices rose because of overissue of this currency, it would be in the interest of holders of these notes to turn them in.8 The essence of the plan was the issue of inconvertible notes on loan at rates of interest varying in the same direction as the variations in commodity prices.9

John Gray, in 1842, advocated a currency system which would stabilize wages, and which would enable creditors to obtain at the maturity of their claims at least the same amount of command over goods as the amount of money which they had lent had had at the time the loan was contracted.10 To accomplish the latter purpose he would have a currency consisting of: bank notes freely issued by private banks but convertible upon demand into standard money; and of standard coins made to vary in weight inversely with variations in the market value of the metal of which they were composed. His proposal is a variant of the “compensated dollar” idea; the denominations of the coins are to be maintained unaltered, but their size is to be varied in such a manner as to keep their purchasing power over commodities constant.11 He apparently did not see that this might conflict with his other objective of keeping wages constant.

William Cross, in 1856, advocated a paper currency convertible into gold, but into amounts of gold varied periodically in conformity with a weighted “index list” or index number of commodities, so as to maintain constant purchasing power for the paper currency. He would retain the sovereign as a gold coin of fixed size but of variable value in paper currency.12 He believed that knowledge of liability to adjustment of the paper value of the gold coins (or of the gold value of the paper currency) would, through anticipations of businessmen, operate to reduce the need for such adjustments and to render potential changes “a preventative influence rather than a rectifying interference”:

On the other hand, during a general decline of prices, the observation of this circumstance would lead to anticipation of a reaction favorable to sellers at the next ensuing time for the adjustment of the standard, and thus tend to check the fall of prices and render any rectification unnecessary. For producers and holders of goods would refrain from pressing sales when they knew or believed that the value of their stocks would be increased ... as soon as the over-enhancement of money should be reduced ... by the legal rectification. In the same circumstances, capitalists would become more free in their accommodations, and merchants more liberal in their purchases, knowing money to be verging on the maximum, and commodities on the minimum value possible under the system of periodical adjustment.13

One writer advocated a paper currency convertible into gold at the variable market price of gold instead of at a fixed price. In order to stabilize the value of the paper currency in terms of commodities, he proposed that its issue should be controlled by an official body, with authority to increase it when the rate of interest rose above 5 per cent and to contract it when the rate of interest fell below 3½ per cent, but failed to reveal why he believed this would suffice to stabilize prices.14

Richard Page advocated a fixed issue of inconvertible paper money, with the limit fixed by Parliament and periodically adjusted to changes in the population and trade of the country.15 George Pell proposed a government legal tender paper currency, issued for a minimum period of one year on collateral securities, and with interest charged at the rate yielded by these securities at their fair appraised value at the time of issue of the currency. What the plan aimed at was “the prevention of fluctuations in the value, that is, in the purchasing power, of money at home,” and the author believed that the deviations between the rate of interest paid for the money and the rate of interest which could be earned by its investment would automatically so regulate the quantity of currency issued as to attain this objective. He assumed that the currency would maintain constant purchasing power if the rate charged for its issue were always kept equal with the average yield of capital. As the current rate of yield of capital rose it would be to the advantage of bankers to obtain larger quantities of currency from the government; as the current rate of yield of capital fell, it would be to their advantage to lessen the quantity already obtained by repayments to the government.16 He does not explain how these deviations between the yield of capital in the market and the rate charged by the government could occur if the government based its rate on the former, nor why stabilization of the purchasing power of the currency would be assured if the rate of interest at which currency was issued was always made equal to the current yield of capital.

Several writers proposed schemes designed to render the purchasing power of the currency stable in the short run, but not necessarily in the long run. Poulett Scrope insisted that there were important possibilities of short-run stabilization of the price level even under a fixed metallic standard through appropriate regulation of its note issues by the Bank of England. He anticipated so strikingly later views on this question that his exposition deserves quotation at some length:

When gold is, for commercial, financial, or political purposes, drawn away from this country in any quantity, it is chiefly from the treasure of the Bank that it is taken, and it is for the Bank exclusively to determine, whether the drain shall or shall not have any influence on our home prices. If the Bank choose to keep up its circulation of paper to the same point as before, no effect is felt in our markets. It may even reverse the natural effect of the drain, which is to lower prices, by increasing its issues as the gold flows out, and thereby raising our prices to an unnatural height. When the gold returns on this country by the spontaneous reaction of the exchanges, it is for the Bank to determine whether it shall have any effect upon our circulation or not. If they buy the gold as it comes in, and yet make no corresponding increase of their paper, the money of this country is in no degree enlarged; and should the Bank contract its issues while purchasing gold, our prices are actually depressed at a time when the influx would naturally have raised them....It is only when the Bank contracts its paper exactly as it parts with gold for a foreign drain, and expands it as the gold flows back again, that the effect of these local variations in the demand and supply of bullion are [sic] reduced to that which our metallic standard necessarily occasions, and which would happen all the same even though our circulation were purely metallic.

It is evident, then, that the power of the Bank over prices in the British markets is confined within no narrow limits through the obligation of paying its notes in gold; that by its conduct in extending and contracting its paper, and purchasing or selling bullion, the value of gold itself, first in this country and ultimately in others, is arbitrarily influenced to a very great extent; that the Bank has the power of determining the exchanges, and, consequently, whether gold shall flow into or out of this country; that, by accumulating gold at one time in its vaults, to the extent of fifteen or more millions, at another allowing them to be nearly emptied, before any attempt is made to restore the equilibrium, the Bank can influence the market for gold as well as that of every other commodity.17

Scrope no doubt saw that as long as convertibility was required the Bank could at best be able to prevent the price level from fluctuating in response to even short-term fluctuations in the balance of payments only within the limits of its available reserves of bullion or, when prevention of a rise in prices was its objective, within the limits of its financial ability to accumulate non-income-earning stocks of bullion, and that the Bank could not prevent the English price level from responding to a sustained trend in the world value of gold if convertibility of its paper into bullion at fixed rates were insisted upon. In any case, Scrope proposed as an ideal currency—“as perfect a system of currency as can be devised” —an inconvertible paper money to be preserved at par with bullion ordinarily, but to be left free to deviate from par for short periods during which temporary fluctuations of the price level would otherwise occur.18

William Blacker advocated an inconvertible paper money to be issued by a government commission in discount of commercial bills at such a rate of discount as would be found by experience to keep the exchange at par under ordinary circumstances, but to be left free to vary from par at times of temporary disturbances in the balance of payments. He argued that by varying the rate of discount the currency commissioners could make the currency operate as they pleased, but thought it was a debatable question whether or not the currency should be made to follow long-run changes in the value of gold and silver.19 J. W. Bosanquet similarly advocated a paper currency which would follow the long-run trends in the value of gold, but not its short-run fluctuations. To realize this objective, he would meet temporary external drains out of the reserves or by temporary issues of notes under £5 in exchange for specie in the hands of the public. If this did not suffice, he would have the managers of the currency temporarily suspend convertibility. If the exchange then continued unfavorable by as much as ½ of 1 per cent for two uninterrupted years with both Paris and Hamburg, he would have the rate of discount on advances raised, but not to more than 6 per cent. In case the exchanges remained favorable for a substantial period of time, he would have the rate of discount reduced. He believed that under such a system the English price level could be kept from responding to temporary fluctuations in the world value of gold and in the balance of payments without involving ordinarily an appreciable departure of the paper currency from parity with gold. He did not himself attach importance to the maintenance of convertibility of the paper currency, but he thought that public opinion was not prepared to consider a complete departure from the gold standard.20

Supporters of an orthodox metallic standard frequently level against advocates of inconvertible paper currencies the criticism that their zeal for “management” or “stabilization” of currencies tends to be confined to periods when prices are falling, and that in general they show more concern lest prices fall than lest they rise. This criticism appears to have substantial justification for the period here studied.21 But when the gold discoveries of the middle of the century resulted in rising prices and augmented gold reserves, some at least of the disciples of the Attwoods taunted the advocates of the currency principle with the charge that their policy was fostering an inflation which only a regulated inconvertible paper currency could prevent.22

Chapter VI

THE INTERNATIONAL MECHANISM UNDER A SIMPLE SPECIE CURRENCY

Besides that the speculation is curious, it may frequently be of use in the conduct of public affairs. At least, it must be owned that nothing can be of more use than to improve by practice the method of reasoning on these subjects, which of all others are the most important, though they are commonly treated in the loosest and most careless manner.—David Hume, “Of interest,” Political discourses, 1752.

[1]Letter of Hamer Stansfeld, in Money market review, Dec. 21, 1861, cited by Brookes in Correspondence between ... Lord Overstone, and Henry Brookes, Esq., 1862, p. 65. Cf. also the similar views in: J. W. Gilbart, “The currency: banking,” Westminster review, XXXV (1841), 98; “The Bank charter act Currency principles,” ibid., XLVII (1847), 432; J. S. Mill, Principles of political economy, Ashley ed., p. 670; ibid.,Report from the Select Committee on the bank acts, part I, 1857, p. 204; John Haslam, The paper currency of England, 1856, p. 34.

[2]Cf. Jonathan Duncan, The national anti-gold law league. The principles of the league explained, 1847, p. 9: “We have in circulation about 220 millions of provisionary notes and bills of exchange; these repose on the narrow basis of an inverted pyramid of gold; shake the basis, the whole superstructure tumbles to the ground.”

[3]Cf. ibid., p. 11: “In this national money wages and prices would rise to their taxation level, and competition would prevent them exceeding that level.”

[4]Essay on the theory of money, I (1807), 328–29.

[5]The present state of England, 2d ed., 1823, pp. 331–46, appendix, pp. 85–101. On Lowe's proposals, see Correa M. Walsh, The fundamental problem in monetary science, 1903, p. 171.

[6]Principles of political economy, 1833, pp. 406–07; An examination of the Bank charter question, 1833, pp. 25 ff. Scrope acknowledged Lowe's priority. (An examination, p. 29, note.) Cf. also the reference to a similar proposal made by Charles Jones in 1840 in R. K. Douglas, Brief considerations on the income tax and tariff reform, 1842, pp. 22–23.

[7]Samuel Bailey expressed doubt as to the practicability of the proposals made by Lowe and Scrope. As was still common at the time, he was skeptical of the possibility of measuring changes in the purchasing power of the monetary unit by means of index numbers, and he pointed out other more genuine obstacles to a widespread adoption of the tabular standard even on a voluntary basis. (Money and its vicissitudes in value, 1837, pp. 165 ff.)

[8]“History and exposition of the currency question,” Westminster review, XLVIII (1848), 480–81.

[9]For other proposals for regulation of the quantity of an inconvertible currency by variations in the interest rate, cf. the 1797 pamphlet referred to, supra, p. 211, and the proposals of Thomas Attwood, supra, p. 213, and Norton, Pell, Bosanquet, and Blacker, infra, pp. 285 ff. John Taylor, in 1833, had proposed an inconvertible paper currency so regulated in its quantity as to maintain constant value in terms of coin, but did not specify the mode of regulation. (Currency fallacies refuted, 1833, p. 29) One writer proposed a paper currency so regulated in its quantity as to stabilize the interest rate, thus putting the cart before the horse: “when a rising rate of interest proves that money is becoming dear, and that the legitimate profits of producers are sacrificed to the gains of the monied classes, paper substitutes for metallic money should be issued in sufficient abundance to bring down the value of money to its former standard” i.e., in terms of the interest rate. “The Bank charter act—currency principles,” Westminster review, XLVII (1847), 452.

[10]An efficient remedy for the distress of nations, 1842, p. 18: “A debt, then, is justly paid, and only justly paid, when it is compensated in money, of whatever kind, which gives back to the creditor as great a command over the necessaries, comforts, and luxuries of life, as the money, or other value, which created the obligation, gave to the borrower; provided always that the creditor get the benefit of all the public improvements and useful inventions that may have come into existence during the interval subsisting between the period of contracting the debt and that of extinguishing it.”

[11]Ibid., pp. 33-35, 84.

[12]A standard pound versus the pound sterling, 1856, pp. 13 ff.

[13]Ibid., p. 30.

[14]Edward Norton, The Bank charter act of 1844, 3d ed., 1857, especially p. 52. Norton repeats these proposals in his National finance & currency, 3d ed., 1873, pp. 91–92. W. T. Thomson, in 1866, advocated a paper currency convertible into gold at the market price of gold, and issued only by the government, with a fixed maximum amount of issue. (The Bank of England, the Bank acts & the currency, by Cosmopolite, 1866.) Proposals for the convertibility of paper money into gold at the market price of gold instead of at a fixed rate, but without concrete suggestions as to the manner of regulation of the quantity of such currency or express recognition of the need for such regulation, had been common since the bullion controversy.

[15]Report from Select Committee on banks of issue, 1840, p. 90. This proposal is supported by I. C. Wright, Thoughts on the currency, 1841, pp. 35 ff. Wright suggests a supplementary currency for foreign trade, consisting of “bullion notes” issued in exchange for gold, and reconvertible into gold at the market price of bullion.

[16]George H. Pell, Outline of a plan of a national currency, not liable to fluctuations in value, 1840, pp. 5 ff.

[17]An examination of the Bank charter question, 1833, pp. 41-42.

[18]Ibid., p. 63. For a more detailed account of Scrope's monetary doctrines, see Redvers Opie, “A neglected English economist, George Poulett Scrope,” Quarterly journal of economics, XLIV (1929), 101-37.

[19]The evils inseparable from a mixed currency [Ist ed., 1839], 3d ed., 1847, pp. 51, 65, 93-94.

[20]Metallic, paper, and credit currency, 1842, pp. 14 ff., 144 ff.

[21]Cf. Thomas Attwood, testifying before the Committee on the Bank of England charter, 1832: “Do you think the amount of circulation in the country ought to be always exactly the same?—No, I think it ought to possess an expansive character, but rarely a contractive one.” (Report, p. 468.) Attwood, however, may have had in mind the secular trend upward of the physical volume of trade.

[22]Cf. The money bag, 1858, pp. 113–14. (The money bag was an ephemeral magazine, established to promote the cause of an inconvertible paper currency. It printed some interesting cartoons relating to the currency question.)