By Professor Richard Roberts, Kings College London
Currency warfare was invented in the 1930s. Under the classic gold standard up to 1914, and then a restored gold standard after the First World War in the 1920s, the international economy had operated with fixed exchange rates and free currency movements.
But the gold standard began to break up in summer 1931, ushering in currency warfare. In June of that year, Germany experienced a large banking crisis and froze international payments as an emergency containment measure. Contagion took the crisis to London, and in September, sterling, the world’s foremost reserve currency, was forced off the gold standard by speculative pressure. Nineteen countries from the British Empire, as well as Scandinavia, Latin America and Japan followed Britain’s lead.
Now a floating currency, sterling devalued in the market by 40%.
Taking advantage of this unsought development, Britain created the first “exchange equalisation fund” in 1932 to manage and maintain the pound at its devalued parity (effectively a pegged rate) and adopted a new set of economic policies. Meanwhile, Continental European countries greatly resented what they perceived as British currency warfare.
The US had vast gold reserves and the dollar was not under speculative pressure like the pound. But the new Roosevelt administration of 1933 adopted competitive currency devaluation as a policy measure to combat the Great Depression. It banned the private holding of gold to boost the official reserves; then it hiked the official price from $20 to $35 an ounce, devaluing the dollar by 60%.
It also followed Britain’s lead in creating an exchange equalisation fund to manage the depreciated floating dollar. Japan, too, adopted aggressive devaluation as a competitive strategy, devaluing the yen 63% from 1931, which fostered export growth.
An alternative currency strategy of the era was to adhere to the gold standard and seek the restoration of an international fixed exchange rate system. To this end, a world economic conference met in London in summer 1933, but its agenda was torpedoed by the Roosevelt administration’s actions.
The “gold bloc” comprised Belgium, France, Holland, Italy, Luxembourg, Poland and Switzerland. With strong gold reserves, they stuck with the gold standard to maintain currency stability and promote trade, for fear of inflation and as a bulwark for fiscal discipline.
As it turned out, the gold bloc’s prudence meant that they suffered more acutely from the depression than the devaluers. The gold bloc disintegrated in 1936 and participants floated their currencies; between 1929-1936, 59 countries left the gold standard.
Meanwhile, Germany developed an “exchange control bloc”.
Germany did not devalue, but maintained the pre-crisis exchange rate of the reichsmark for a variety of reasons: as a buffer against inflation; because it feared foreign retaliation; because of its foreign debts; and for national prestige. Instead, Hjalmar Schacht, Reichsbank president 1933-1939, developed a labyrinthine set of arrangements that achieved specific covert devaluations to help exporters, including multiple exchange rates, export bonuses and currency premiums, and there were tariffs and quantitative controls on imports.
Germany established bilateral clearings with 25 countries in central and eastern Europe and South America, in which bilateral trade was balanced at negotiated rates without foreign exchange — in effect, barter. By 1938, now under the Nazis, 50% of German trade was conducted by barter and 12% of world trade. Such arrangements hindered the recovery of the international economy from the slump, but enhanced German political influence over its eastern neighbours and elsewhere.
Today’s practices and prospects of currency warfare have more in common with the 1930s sterling and dollar devaluations than the reichsmark’s bilateral clearings. Let’s hope it stays that way, and interest in the Schachtian system is off the table.
