I

THE OUTLOOK FOR CAPITAL

_September_, 1917

The Creation of Capital--The Inducement--War and Capital


One of the questions that are now most keenly agitating the minds of
the investing public and of financiers who cater for its wants, and
also of employers and organisers of industry who are trying to see
their way into after-the-war conditions, is that of the supply of
capital. On this subject there are two contradictory theories: one
considers that owing to the destruction of capital during the war,
capital will be for many years at a famine price; the other, that
owing to the exhaustion of all the warring powers, that is, of the
greater part of the civilised world, the spirit of enterprise will be
almost dead, the demand for capital will be extremely limited, and
consequently the supply of it on offer will go begging to find a user.
It seems likely that, as usual, the truth lies somewhere between these
two extreme views; but we shall best answer the question if we first
get a clear idea of what we mean by capital.

On the subject of the definition of capital, economists differ with
all the consistency that they only show in differing. One of the
earliest descriptions of capital was given by Turgot, who thought that
capital meant "valeurs accumulees." In this wide sense the word covers
all goods which have value, that is, can be exchanged into other
goods. From this point of view, the schoolboy who invests sixpence in
marbles is a capitalist, because he has bought an asset which is not
immediately consumed, but can, later on, if his fancy urges him, be
exchanged into white mice or any other object of his desire. On the
other hand, the schoolfellow who at the same time spends sixpence on
cherries and eats them has put his money into immediate consumption,
his asset is digested, and he has no capital in any sense of the word.

Later, the definition was narrowed by John Stuart Mill, for instance,
into the sense of wealth set aside to increase production. From this
point of view capital practically means the equipment and tools of
industry in the widest sense of the word, including agriculture and
transport. Lately economists have shown a tendency to go back to the
wider application of the word, and an American economist, Dr Anderson,
who has just published a book on the Value of Money, goes so far
therein as to state that a "dollar is capital." The language of the
City generally uses the word in the narrow sense adopted by Mill, and
there is very much to be said for this view of the real meaning of
capital. Marbles to play with, houses to live in, motor-cars to go
joy-riding in--all these are assets which can be disposed of, and so,
in a sense, may be called capital. But the businesslike meaning of the
word is the tools and equipment of industry, because it is only by
their possession that the wealth of mankind not only increases man's
present enjoyment, but enhances his future output of the goods
necessary for his existence.

If we take the word in this sense it becomes at once apparent that the
theory is exaggerated which maintains that war is destroying capital,
so that capital will long be at a famine price. The extent to which
war is actually destroying the tools and equipment of industry is
quite limited. On the actual battlefield that sort of destruction
proceeds apace when factories are shelled into shapeless lumps of
bricks, and when the surface of the earth, that man's skill had
developed into great productive fertility, is torn into craters and
covered with rubbish. There is also rapid destruction of a very
important part of the equipment of industry owing to the submarine
campaign, which is sinking so many fine ships that were meant to
carry goods from one country to another. But, apart from this actual
destruction on the battlefield and on the sea, the tools and equipment
of industry over the greater part of the earth remain untouched. It is
true that, owing to the preoccupations of the war, not so much work
as usual is being put into the upkeep and repair of our railways,
factories and other industrial tools. But at the same time an enormous
amount of new machinery is being created for the manufacture of
munitions and other stuff needed for the war, and a large part of this
new machinery ought to be available as industrial capital when the war
is over. Those people who talk so glibly of the enormous destruction
of capital by the war are surely making a mistake common to minds
which look at economic questions through a financial telescope,
mistaking money for capital. They see that an enormous amount of money
is being spent on the war, and they jump to the conclusion that this
money, if not spent upon the war, would have been put into capital
investments and so have increased the tools and equipment of industry.
In fact, a great deal of the money now spent upon the war would
have been spent, if there had been no war, not upon increasing the
equipment of production, but upon purely frivolous and extravagant
consumption. There is no need to dwell on the effect of war in
reducing many kinds of expenditure on which hundreds of millions
must have gone in peace time, and this restriction of extravagant
consumption has to be deducted before we even admit, not that all
money spent upon the war is destroyed capital, but even that all the
money spent upon the war is destroying what might otherwise have
become capital.

If, then, it is true that the war is not making a very terribly
substantial inroad upon the mass of existing capital, how is it going
to affect the supply of capital in the future? To answer this question
we have to see how capital is created. The answer to this question is
very simple, very obvious, and very dull. Capital can only be created
by saving.

Saving is such an entirely unpopular virtue that it seems at first
sight a disastrous conclusion to arrive at, that if we want to
increase the supply of capital it can only be done by stimulating
this unattractive habit; and there is a further question to be
asked--whether it will be necessary or desirable to have a great
increase in the supply of capital. As was pointed out above, one
theory of after-war needs maintains that the world will be so
exhausted by this great struggle that it will have no enterprise and
no energy left, and that capital will go begging. If this be so, we
need not trouble to inquire as to whether the supply of capital can be
made plentiful. But I venture to think that this view is very probably
wrong, though it is very dangerous to prophesy concerning the purely
psychological question of the state of mind in which the citizens of
the warring Powers will end the war. It is, however, at least
probable that the prices which are then likely to rule will stimulate
enterprise all over the world; that every one will see that there is
a great work to be done in getting industry back on to a peace
basis, and a great profit to be made by those who do this work most
successfully, and that the demand for capital is likely, for some
years at least, to clamour for all that can be produced.

To go back, then, to the statement that only by saving can capital
be created. The man who saves, instead of spending money on his own
enjoyment, hands it over to some company or Government to be spent on
some industrial or national purpose. When it is put into industry
it builds a factory or a ship or a railway or a canal, or clears a
wilderness for cultivation, or does one of the innumerable other
things which are necessary for the production and transport of the
goods which mankind enjoys. And it is only by this process of handing
over buying power, instead of using it for our own amusement and
enjoyment, to others who will use it for furthering production that
the tools and equipment of industry can be multiplied.

Something can be done by banks and financiers in supplying credit in
the form of advances and acceptances; but this method is only like
oiling the wheel of industry, the real driving power of which has to
be saved capital. Creating credits simply means that a certain amount
of buying power is manufactured and handed over to those to whom the
credit is given. It does not set free any labour or goods to be
put into industry. That is only done by the man who abstains from
consumption and saves money by restraining his desire to spend it on
himself, and puts it at the disposal of industry. The man who saves
money, who has always hitherto been rather despised by his companions
and resented by a certain class of social reformer and many other
uneducated people as a capitalist bloodsucker, is thus, in fact, the
person who leaves the world richer than he found it, having put his
money, the product of his own work, into increasing the world's
output, instead of spending it on such forms of enjoyment as heavy
lunches and cinema shows.

The man who does this beneficent work, increasing mankind's output of
goods, and providing employment as long as the factory or railway that
he helps to build is running, is induced to do so, as a rule, by the
purely selfish motive of providing for his old age or for those who
come after him by earning the rate of interest that is paid to him for
his capital. What is this rate of interest going to be, and how much
effect does it have upon the creation of capital?

Some people argue that a low rate of interest makes people save more
because it is necessary for them to save more in order to acquire
independence. Others maintain that a high rate of interest induces
people to save because they can see the direct advantage of doing so.
Both these arguments are probably true in some cases. But, as a rule,
people who have the instinct of saving will save, within certain
limits, whatever the rate of interest may be. When the rate of
interest is low they will certainly not reduce their saving because
each hundred pounds that they put away brings them in comparatively
little, and when the rate of interest is high the attraction of the
high rate will also deter them from diminishing the amount that they
put aside. Moreover, we have to consider, not only the money payment
involved by the rate of interest, but its buying power in goods. In
1896 trustee securities could only be bought to return a yield of
2-1/2 per cent. for the buyer; now the investor can get 5-1/4 per
cent. and more from the British Government. And yet the power that
this 5-1/4 gives him over the goods and services that he wants for his
comfort Is probably not greater, and very likely rather less, than the
power which he got in 1896 from his 2-1/2 per cent. One of the few
facts which seem to stand out clearly from a study of the movement of
the prices of securities, and consequently of the rate of interest to
be derived from them, is that the rate of interest is high when the
price of commodities is high, and vice versa. So that the answer to
the question: What is the rate of interest likely to be after the war?
may be given, in Quaker fashion, by another question: What will happen
to the index number of the prices of commodities? It seems fairly
probable that both these questions may be answered, very tentatively
and diffidently, by the expression of a hope that after a time, when
peace conditions have settled down and all the merchant ships of the
world have been restored to their peaceful occupations, the general
level of the price of commodities will be materially lower than it is
now, though probably considerably higher than it was before the war.
If this be so, then it is fairly safe to expect that the rate of
interest, as expressed in money, will follow the movement of prices of
goods. But it must be remembered that by rate of interest I mean the
pure rate of interest, that is to say, the rate earned on perpetual
fixed-charge securities of the highest class. It may be that, owing to
the very large amount of gilt-edged securities created in the course
of the war by the various warring Governments, the rate of profit to
be earned by the man who takes the risks of industry from dividends
on ordinary shares and stocks will have to be made relatively more
attractive than it was before the war.

If, then, capital can only be created by saving, how far will the war
have helped towards its more plentiful production?

Here, again, we are faced with a psychological question which can only
be answered by those who are bold enough to forecast the state of mind
in which the majority of people will find themselves when the war is
over. If there is a great reaction, and everybody's one desire is to
throw this nightmare of war off their chests and go back to the times
as they were before it happened, then all that the war has taught us
about the production of capital will have been wasted. But I rather
doubt whether this will be so. Saving merely means the diversion of
a certain proportion of the output of industry into the further
equipment of industry. The war has taught us lessons which, if we
use them aright, will help us to increase enormously the output of
industry. So that if these lessons are used aright, and industry does
not waste its time in squabbles over the sharing of its product, its
output may be so great that a comparatively smaller amount of saving
in relation to the total output may produce a larger amount of capital
than was made available in days before the war. There is a further
point, that the war has taught a great many people who never saved at
all to save a good deal. It was estimated before the war that we in
this country were saving about four hundred millions a year. This
figure was necessarily a guess, and must be taken for what it is
worth. There can be no doubt that the amount of real saving now in
progress, voluntary, owing to the patriotic effort of people who think
they ought to restrict their own consumption so that the needs of
our fighters may be provided, and enforced through the action of the
Government in taking taxes and inflating the currency, is very much
greater than it was before the war; probably at least twice as much
when all allowance has been made for depreciation of the currency.
Some people think that this saving lesson will have been learned, will
have become a habit, will continue and will grow. If so, if people
save a larger proportion of their income than they did before, and
if the total output of goods is increased, as it easily may be, it
becomes at once evident that there is a possibility of a freer supply
of capital for industry than has ever been seen. But in looking at
this hopeful and optimistic picture, we must never forget that it can
only be painted by those who are prepared to leave out of the canvas
all the danger of industrial strife and dislocation, and all the
danger of reaction to the old habits of luxurious spending which are
so strong a possibility in the other direction. The war has shown us
how we can, if we like, increase production, reduce consumption, and
so have a larger margin than ever before to be put into providing
capital for industry. Whether we really have learned these lessons and
will apply them remains to be seen.

There is also a possibility that some people may recognise that saving
money and applying it to the re-equipment of the world for peace
industry is a patriotically praiseworthy object not less than saving
in time of war for the equipment of the Army. It may be that the
benefit conferred by those who save, in increasing the output of
mankind, will be more generally recognised, and that the supply of
capital may, when the war is over, be increased on patriotic grounds,
or on grounds even wider than mere patriotism--a desire to help a
great stride forward in the material welfare of mankind.

Capital is a very tender plant, and it will be very easy, if mistakes
are made, to frighten those who see the benefits of accumulation for
themselves and others. Labour troubles and industrial unrest are
extremely likely to have the effect of destroying capital by
preventing it coming into existence. If we remember that capital can
only be created by being saved, it becomes evident that if those who
save are threatened with too deep an inroad into their reward for so
doing, on the part of labour, they will hesitate to save; and if the
action of labour has this effect, labour will be sawing off the bough
on which it sits. For it is new capital that sets new industry going,
and it is only by a continual supply of new industry that a continual
demand for fresh labour can be maintained.

There is also at present much mischievous talk about a great tax on
capital for the purpose of redeeming, or hastening the redemption of,
war debt. It is clear at once that it is not possible to tax capital
if we remember that capital consists of the tools and equipment of
industry, or even, in the wider sense of the word, of accumulated
assets which have not been consumed. Unless the Government is prepared
to take payment in factory chimneys, railway sleepers, houses and
fields, or the securities and mortgages that are claims on their
product, it is not possible to tax capital. The only thing that the
Government can tax is the output, that is to say, the annual income
of the people. In other words, a tax on capital is simply a form of
income tax assessed, not according to a man's income, but according to
the assets of which he is possessed. The effect of such a tax would
be that he who has spent everything that he has earned on his own
enjoyment would go scot free in the matter of the capital tax, and
would be rewarded for his improvidence by being asked to make no
sacrifice; while his thrifty brother who, out of a smaller income, has
set aside a certain proportion during the last twenty or thirty years,
would have to hand over a portion of his current income assessed
upon the value of the assets into which he has put his savings.
Incidentally, it may be remarked that it would take years to make this
necessary valuation, and that it would probably be done in a very
inequitable manner by untrained and incompetent officials. But the
important point is this, that if the Government shows a tendency to
take the possession of assets as a basis for taxation it will be
directly encouraging those who spend their whole income in riotous
living and frivolous amusement, and discouraging those who help to
increase mankind's output by adding to the capital available.

Finally, it may be added that the shyness of the saver will be greatly
diminished if he can feel that there is a trustworthy machinery of
company promotion, so that he can rely on any savings that he puts
into industry having at least a fair chance of yielding him a fair
reward. This subject is too vast to enter into at present, but it
is one to which those who are responsible for the management of our
financial affairs cannot give too much attention. Every time the real
investor is swindled out of his money there is more than a chance that
he will look upon all forms of saving as a folly to be left to the
credulous. It is easy to say that it was his own fault, that he ought
to have been more careful, or consulted a better broker; but he will,
with equal ease, retort that If honest financiers knew their business
better, they would have long ago made things easier for the ignorant
investor to know whether he was putting his money into genuine
enterprise or throwing it down a sink.

Like all other divagations on the subject of what may happen in the
future, this attempt to forecast has necessarily consisted of "dim
glimpses into the obvious," as the undergraduate said of Jowett's
sermon. All that we can be sure of is this: that if the great
opportunities that will lie open to mankind at the end of the war
are rightly used, if we use its lessons to increase our production,
restrict our frivolous consumption, and put a larger proportion of our
larger production into stimulating production still further, there
ought to be a great increase in the amount of capital available to
supply the great increase which may be expected in the amount of
capital demanded. The fact that the chief nations of the world will
have enormous debts on which to pay interest is not one that need
necessarily terrify us from this point of view. The arranging and
imposition of the taxation necessary for meeting the interest on these
debts will involve very serious political and social questions; but
the payment of this interest need not necessarily diminish production,
and it may probably help in checking consumption. It will not impair
the total wealth of the world as a whole; it will merely affect its
distribution. And since it will mean that a considerable part of the
world's output will, for this reason, be handed over to the holders of
the various Government debts, who, _ex hypothesi_, will be people who
have saved money in the past, it is at least possible that they may
devote a considerable amount of the spin so received to further saving
or increasing the supply of capital available.