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War-Time Financial Problems - III


2. I

3. II

4. III

5. IV

6. V

7. VI

8. VII


10. IX

11. X

12. XI

13. XII

14. XIII

15. XIV

16. XV

17. XVI

18. XVII


20. XIX

21. XX



_November_, 1917

Financial Conditions in August, 1914--No Scheme prepared to meet the
Possibility of War--A Short Struggle expected--The Importance of
Finance as a Weapon--Labour's Example--The Economic Problem of
War--The Advantages of Direct Taxation--The Government follows the
Path of Least Resistance--The Effect of Currency Inflation.

A legend current in the City says that the Imperial War Committee, or
whatever was the august body entrusted with the task of thinking out
war problems beforehand, had done its work with regard to the Army and
Navy, transport and provision, and everything else that we should want
for the war, and were going on to the question of finance next week,
when the war intervened. Whatever may be the truth of this story, the
events of the war confirm the opinion that if it was not true it ought
to have been. We are continually accused of not having been ready for
the war; but, in fact, we were quite ready to do everything that we
had promised to do with regard to military and naval operations. Our
Navy was ready in its place in the fighting line, and the dispatch
with which our Expeditionary Force was collected from all parts of the
kingdom, and shipped across to France, was a miracle of efficiency and
practical organisation. It is true that we had not got an Army on a
Continental scale, but it was no part of our contract that we should
have one. The fighting on land was in those days expected to be done
by our Allies, assisted by a small British force on the left flank of
the French Army. That British force was duly there, and circumstances
which were quite unforeseen made it necessary for us to undertake a
task which was no part of our original programme and create an Army
on a Continental scale, in addition to doing everything that we had
promised beforehand to a much greater extent than was in the bargain.

But in finance there was no evidence that any thought-out policy had
been arrived at in order to make the best possible use of the nation's
economic resources for the war when it came. The acute crisis in the
City which occurred in August, 1914, was a minor matter which hardly
affected the subsequent history of our war finance except by giving
dangerous evidence of the ease by which financial problems can be
apparently surmounted by the simple method of creating banking
credits. That crisis merely arose from the fact that we were so
strong financially, and had so great a hold upon the finance of other
countries in the world, that when we decided, owing to stress of war,
to leave off lending to foreigners and to call in loans that we had
made by way of accepting and bill-discounting arrangements, the whole
machinery of exchange broke down because from all over the world the
market in exchange went one way. Everybody wanted to buy bills on
London, and there were no bills to be had.

There was also the internal problem which arose because some of the
public and some of the banks took to the evil practice of hoarding
gold just at the wrong moment, and consequently there was no available
supply of legal tender currency except in the shape of Bank of England
notes, the smallest denomination of which is L5. It is known that our
bankers had long before pointed out to the Treasury that if ever a
banking crisis arose there would, or might be, this demand for a paper
currency of smaller denominations than L5; this suggestion got into a
pigeon-hole at the Treasury and was deep under the dust of Whitehall
by the time experience proved how big a gap in our financial armour
had been made by its neglect. If the L1 notes, with which we are now
so familiar, had been ready when the war broke out, or, still better,
if the Bank of England had been empowered and instructed to have an
issue of its own L1 notes ready, it may at least be contended that the
moratorium, which was so bad a financial beginning of the war, might
have been avoided.

But this opening crisis was a short-lived matter, and was promptly
dealt with, thanks to the energy and courage of Mr Lloyd George, who
was then Chancellor of the Exchequer, and saw that things had to be
done quickly, and took the advice of the City as to what had to be
done. The measures then employed erred, if at all, on the side of
doing too much, which was certainly a mistake in the right direction
if in any. What is much more evident is the fact that not only had
there been no attempt to provide against just such a jolt to our
financial machine as took place when the war began, but that, quite
apart from the financial machinery of the City, no reasoned and
thought-out attention had been given to the great problems of
governmental finance which war on such a scale brought with it. There
is, of course, the excuse that nobody expected the war to be on this
scale, or to last so long. The general view was that the struggle
would be over in a few months, and must certainly be so if for no
other reason because the economic strain would be so great that the
nations of Europe could not stand it for a long time. On the other
hand, we must remember that Lord Kitchener, whom most men then
regarded as representing all that was most trustworthy in military
opinion, made arrangements from the beginning on the assumption that
the war might last for three years. So, while some excuse may be made
for our lack of financial foresight, it does seem to have been the
duty of those whose business it is to manage our finances to have
thought out a complete scheme to be adopted in case of war if at any
time we should be involved in one on a European scale. Instead of
which, not only would it appear that no such endeavour had been made
by our Treasury experts before the war, but that no such endeavour
has ever been made by them since the war began. All through the
war's history many of the country's mistakes have been based on the
encouraging conviction that the war would be over in the next six
months. This conviction is still cherished to this day, and there can
be no doubt that if those who cherish it hold on to it long enough
they will come right some day.

But if delusions of this kind may be fairly excused in the man in
the street, they do not seem to be any excuse for those who are
responsible for our finance for their total lack of a thought-out
scheme at the beginning of the war, and their total failure to produce
one as the war went on. We have financed the war by haphazard methods,
limping along the line of least resistance. We are continuing to do
so, and we may do so to the end, though there are now growing signs of
an impatience both among the property-owning classes and others of
the system by which we are financing the war by piling up debt and
manufacturing banking credits.

The objections to the policy on the part of the "haves" and the "have
nots" are, of course, different, but as they both converge to the
same point, namely, to the reform of our system of war finance, it is
possible that they may in time have the effect of shaking even the
confidence of our politicians and officials in the haphazard and
slipshod methods which would long ago have produced financial disaster
if it had not been for the great financial strength of the country.

Finance is an enormously important weapon in the hands of our rulers
for gliding the economic activities of the people. This is so even in
peace time to a certain extent, though the revenue then collected is
so small an item in the total national income that it counts for much
less than in war, when the power that the Government can wield by
its policy in taxation and borrowing might have been all-powerful in
keeping the nation on the right lines in the matter of spending and
keeping down the cost of the war, and in maintaining our financial
staying power to a far greater extent than has actually been done.

It is easy, as they say on the Stock Exchange, to job backwards, and
it is also easy, and perhaps rather unprofitable, to hazard opinions
about what would have happened if things had been otherwise.
Nevertheless, when we look back on the spirit of the country as it was
in those early days of the war, when the violation of Belgium had sent
a chivalrous thrill through the hearts of all classes in the country,
when we all recognised that we were faced with the greatest crisis
in our history, that our country and the future of civilisation were
about to be tested by the severest strain ever applied to them, that
the life and fortune of the individual did not count, but that the
war and victory were the only interests that any one had a right to
consider--when one remembers all these things, and the use that a wise
financial policy might have made of them, it is impossible to avoid
the conclusion that the history of the war in this country and its
social and political effects might have been something much finer,
much cleaner and more noble if only the weapons of finance had been
more boldly and wisely used. It is not a good thing to indulge in
high-falutin' on this subject. It is absurd to suppose that the war
suddenly turned us all into plaster saints at the beginning, and that
we might have continued so to the end if the State had dealt with our
money in a proper way. But without setting up any such idealistic
arguments as these, looking back on those early days of the war, one
can still remember the thrill of earnestness and of eagerness for
self-sacrifice which has since then given way lamentably to war
profiteering, war strikes, and a general struggle among many classes
of the community to make as much as possible out of the war, merely
because our financial leaders have never really put the country's
financial problem properly before the country.

We were not plaster saints, but we were either Idealistic and perhaps
foolish people who attached great importance to the freedom and
security of small nations and all those items in the programme of
idealistic Radicalism, or else we were good, red-hot, true-blue
Jingoes with a hearty hatred for Germany, and enjoyed the thought that
the big fight which we had long foreseen between the two countries was
at last going to be fought out. Or, again, we were just commonplace
people who did not much believe in idealistic Radicalism or
anti-German bitterness, but saw that the whole future of our country
was at stake, and were prepared to do anything for it. A fine example
was set us in those days by the Trade Union leaders. The industrial
world was seething with discontent. The Suffragettes in London and the
Carsonites in Ireland had shown us how much could be done by appeals
to physical force in a lazy-minded community; and hints of industrial
revolution, with great organised strikes, which were going to tie up
the transport industry of the country were in the air. And then, when
the war came, the Labour leaders said, "No strikes until the war is
over. Our country comes first."

This was the lead given to the country by those down at the bottom,
who had the least to lose, and whose patriotism during the course of
the war has frequently been questioned. At the top the financial and
property-owning classes, having been saved by Mr Lloyd George's able
adroitness from a bad crisis in the City, were entirely tame, and
would have suffered anything in the way of taxation or financial
conscription if the need for it had been properly put before them.

It is almost amusing to remember now that in those early days of the
war the shareholders in Home Railway companies were thought lucky. The
Government were taking the railways over, and were guaranteeing that
their proprietors should receive the same dividends as they had had
before the war. Such was the view in financial and property-owning
circles of results of war that, so far from any expectation of the
huge profits which war has put into the pockets of certain classes,
they were only too thankful if they could be assured that their gross
incomes were not going to be reduced.

Such was the spirit with which the Government of that day had to
deal. A spirit in all classes earnestly patriotic, and so thoroughly
frightened of the economic consequences of the war that it would have
been ready to face any sacrifices that the Government had asked of it.
How, then, would the Government have dealt with this spirit if it had
taken the trouble really to think out the problem of war finance on
a long view instead of proceeding along a haphazard line, adjusting
peace methods to war without any consideration as to their adequacy?
If the problem had been really thought out beforehand the Government
must have seen clearly that the real economic problem in war-time is
not merely a question of raising money, since that can at any time
be done easily by means of a printing-press, but of diverting the
industrial energy of the nation from peace to war purposes, that is
to say, transferring from the enjoyment of the individual citizen
the goods and services that used to contribute to his comfort and
amusement, and turning them over to the provision of the things needed
for the war. War's needs can only be met out of the current production
of the world as it is at present. All the warring powers begin a
war with certain accumulated war stores consisting of battleships,
ammunition, guns and all other forms of war material. Apart from these
stores with which they begin, the whole work of providing the armies
with the fighting materials that they require, and the food and
clothes that they consume, has to be done during the course of the
war, that is to say, out of the current production of the moment.

Therefore the real economic problem that any Government has to face in
war-time is that of inducing its citizens to reduce their purchase of
goods and services, that is to say, to spend less, so that all
the things required for the Army and Navy may be obtained by the
Government. It is true that some of the goods and services required
for carrying on war can be obtained from foreign countries by any
belligerent which is able to communicate with them freely. In that
case the current production of the foreigner can be called in to help.
But this can only be done if the warring country is able to ship goods
to the foreigner in payment for what it buys, or if it is able to
obtain a loan from the foreigner, or some other foreign country, in
order to pay for its purchases abroad, or again, if, as in our case,
it holds a large accumulation of securities which foreign countries
are prepared to take in exchange for goods that they send for the
purposes of the war. By these two last-named processes, raising money
abroad, and selling securities to foreign nations, the warring country
impoverishes itself for the future. When it borrows abroad it pledges
itself to export goods and services in future to meet interest and
sinking fund on the money so raised, so getting no goods and services
in return. When it ships its accumulated wealth in the form of
securities it gives up for the future any claim to goods and services
from the debtor country which used to come to it to meet interest and
redemption. It is only by shipping goods in return for goods imported
for the war that a country can keep its financial staying-power on an
even keel.

Thus the problem which a statesman who had thought out the economics
of war beforehand would have recognised as the keystone of his policy,
would have been that of diverting the activities of the country from
providing itself with comforts and amusements to turning out goods
required for war, and of doing so with the least possible friction,
the least possible alteration in the economic equilibrium of the
country, and, above all, with the least possible cost to the national
finances. We arrive at the true aspect of this problem more easily if
we leave out the question of money altogether and think of it in units
of energy. When a nation goes to war it means to say that it has to
apply so many units of energy to the business of fighting, and to
provide the fighters with all that they need. If at the beginning
of the war its utmost capacity of output was, to mention merely a
fanciful figure, a thousand million units of energy, and if it was
clear that the fighting forces of the country would need for their
proper maintenance five hundred million units of energy, then it is
clear that the nation's ordinary consumption of goods and services
would have to be reduced to the extent of five hundred millions of
units of energy, which would have to be applied to the war, that is,
assuming that its possible output remained the same.

In other words, the spending power of the citizens of the country
had to be reduced so that the industrial energy that used to go into
meeting their wants might be made available for the purposes of
fighting forces. Now what was the straightest, simplest and cleanest
way of bringing about this reduction in buying power on the part of
the ordinary citizen which has been shown to be necessary for the
purposes of war finance? Clearly the best way of doing it is by
taxation equitably imposed. When the State taxes, it says in effect
to the citizens, "Your country needs certain goods and services, you
therefore will have to go without those goods and services, and the
simplest way to make you do this is to take away your money and so
ration your buying power. Whatever is needed for the Army and Navy
will be taken away from you by taxation, and the result of this will
be that, instead of your indulging in comforts and luxuries, to the
extent of the war's needs the Government will use your money for
paying for what is needed for the Army and Navy."

If such a policy had been carried out the cost of the war to the
community would have been enormously cheapened. There need have been
no general rise in prices because there would have been no increase
in demand for goods and services. Anything that the Government
spent would have been counter-balanced by decreased spending by the
individual; any work that the Government needed for the war would have
been counter-balanced by a reduction in demand for work on the part
of individual citizens. There would have been no multiplication of
currency owing to enormous credits raised by the Government; there
would have been merely a transfer of buying power from individuals to
the State. The process would have been gradual, there need have been
no acute dislocation, but as the cost of the war increased, that is to
say, as the Government needed more and more goods and services for its
prosecution, the community would gradually have shed one after another
the extravagances on which it spent so many hundreds of millions in
days before the war. As it shed these extravagances the labour
and energy needed to produce them would have been automatically
transferred to the service of the war, or to the production of
necessaries of life. By this simple process of monetary rationing all
the frantic appeals for economy, and most of the complicated, tangled
problems raised by such matters as Food Control or National Service
would have been avoided.

But, it may be contended, this is setting up an ideal so absurdly
too high that you cannot expect any modern nation to rise up to it.
Perhaps this is true, though I am not at all sure that if we had had a
really bold and far-sighted Finance Minister at the beginning of the
war he might not have persuaded the nation to tackle its war problem
on this exalted line. At least it can be claimed that our financial
rulers might have looked into the history of the matter and seen what
our ancestors had done in big wars in this matter of paying for war
costs out of taxation, with the determination to do at least as well
as they did, and perhaps rather better, owing to the overwhelming
scale of modern financial problems. If they had done so they would
have found that both in the Napoleonic and the Crimean wars we paid
for nearly half the cost of the war out of revenue as they went on,
whereas in the present war the proportion that we are paying by
taxation, instead of being 47 per cent., as it was when our sturdy
ancestors fought against Napoleon, is less than 20 per cent.[1]
Why has this been so? Partly, no doubt, owing to the slackness and
cowardice of our politicians, and the apathy of the overworked
officials, who have been too busy with the details of finance to think
the problem out on a large scale. But it is chiefly, I think, because
our system of taxation, though probably the best in the world,
involves so many inequities that it cannot be applied on a really
large scale without producing a discontent which might have had
serious consequences on our conduct of the war.

[Footnote 1: See _Economist_, August 4, 1917, p. 151.]

It is not possible nowadays, now that the working classes are
conscious of their strength, to apply taxation to ordinary articles
of general consumption with anything like the ruthlessness which in
former days produced such widespread misery. Indirect taxation of this
kind carries with it this inherent weakness that its burden falls most
heavily on those who are least able to bear it, consequently it is
bound to break in the hand of those who attempt to apply it with
anything like vigour to a community which is prepared to stand up for
fair treatment. A tax on bread or salt obviously hits the wage-earner
at 30s. a week infinitely harder than it hits the millionaire, and so
the country would not tolerate taxes on bread or salt. Direct taxes,
such as Income Tax and Death Duties, have this enormous advantage,
that they can really be regulated so as to press with continually
increasing severity upon those who are best able to bear them.
Unfortunately our Income Tax is still so unjustly imposed that it was
clearly impossible to make full use of it without its being first
reformed. That two men, each earning L1000 a year, should pay the same
Income Tax, in spite of one having a wife and five children, while
the other is a careless bachelor, is such a blot upon this otherwise
excellent tax that it is generally agreed that the present rate of 5s.
is as high as it can be made to go unless some reform is introduced
into its incidence. The need for its reform is made the excuse for a
sparing use of the tax, and we have been on several occasions assured
that, as soon as the war is over, this reform will be set about.

In the meantime the Government falls back on funding about 80 per
cent. of its requirements of the war on a system of borrowing. In
so far as the money subscribed to its loans is money that is being
genuinely saved by investors this process has exactly the same effect
as taxation, that is to say, somebody goes without goods and services
and hands over his power to buy them to the State to be used for the
war. Borrowing of this kind consequently does everything that is
needed for the solution of the immediate war problem, and the only
objection to it is that it leaves later on the difficulties involved
by raising taxes when the war is over, and economic problems are
much more complicated in times of peace than in war, for meeting the
interest and redemption of debt. But, in fact, it is well known that
by no means all that the Government has borrowed for war purposes has
been provided in this way. Much of the money that the Government has
obtained for war purposes has been got not out of genuine savings
of investors, but by arrangements of various kinds with the banking
machinery of the country, or by the simple use of the printing-press,
with the result that the Government has provided itself with an
enormous mass of new currency which has not been taken out of anybody
else's pocket, but has been manufactured by or for the Government.

The consequence of the profligate use of this dishonest process is
that general rise in prices, which is in effect an indirect tax on the
necessaries of life, involving all the injustice and ill-feeling which
arises from such a measure. It is inevitable that the working classes,
finding themselves subjected to a rise in prices, the cause of which
they do not understand, but the result of which they see to be a great
decrease in the buying power of their wages, should believe that they
are being exploited by profiteers, that the rich classes are growing
richer at their expense out of the war, and that they and the country
are being bled by a set of unpatriotic capitalist blood-suckers. It
is also natural that the property-owning classes, who find themselves
paying an Income Tax which they regard as extortionate, should
consider that the working classes by their continuous demands for
higher wages to meet higher cost of living, are trying to exploit
the country in their own interests in a time of national crisis, and
displaying a most unedifying spirit. The social result of this evil
policy of inflation, in embittering class against class, is a matter
which it is difficult to exaggerate. Some people think that it was
inevitable. This is too wide a question to be entered into now, but
at least it must be contended that if it is inevitable the extent to
which it is being practised might have been very greatly diminished.

Do we mean to go on to the end of the war with this muddling policy of
bad finance? If we still insist on believing that the war cannot last
another six months, and there is therefore no need to pull ourselves
up short financially and put things in order, then we certainly shall
do so. But we should surely recognise that there is at least a chance
that the war may go on for years, that if so our present financial
methods will leave us with a burden of debt which is appalling to
consider, and that in any case, whether the war lasts another six
months or another six years, a reform of our financial methods is long
overdue, is inevitable some time, and will pay us better the sooner it
is set about.

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