THE GOLD STANDARD.

Hauraki Plains Gazette, Volume XXXVI, Issue 4827, 30 March 1925, Page 3

THE GOLD STANDARD.

MODERN MEANING OF MONEY.

BANKING AND CREDIT EXPLAINED NO. 1.

O'ie of the clearest and most popular expositions—“popular” in the sense that in its phasing and presentation it may be understood by people of average intelligence unversed in the lax ff economics and financial operations—of currency, credit, banking, and the principles which form the basis of the “gold standard” that, hau yet been delivered was the speech delivered by the Rt. Hon, R. McKenna, Chairman of the Midland Bank, Ltd., at the annual meeting of shareholders in London recently. The question of currency- values opens a wide field of discussion (said Mi McKenna). It covers all such topics as the relation between currency and credit, price level, trade, and employment. It touches economic problems which have attained a new significance through the growth of joint stock banking and the, wide extension of the use of credit in trade. Although the older economists throw but little light on the subject in its recent developments, some of the, foremost of our modern teachers, both here a'nd in America, are giving considerable attention to it. They point out that a close connection exists between currency value and the volume of credit, and they discuss the possibility of a more effective use of credit control as a means of modifying fluctuations in the price level, preventing trade crises, and mitigating the extremes of unemployment. But we are still i.n the kitage of inquiry rather than of positive opinion, and there is no formulated body of doctrine generally regarded as orthodox, . The problems of credit are in a sense inherent in the banking system, but their full gravity has only become apparent since the war. Before 1914 there! existed a condition which concealed the underlying importance of credit control The growth of joint stock banking occurred when gold was the basis of all the principal currencies, and the movement of gold regulated almost automatically the issue of currency and the supply of credit. A< long as the world’s output of gold was not too much above or below current requirements the central banking institutions in the, different countries had normally little difficulty in adjusting their policy to meet the needs of trade.- We had, it is true, from time to time financial crises when the automatic machinery broke down, but in our own country at any rate immediate relief was always obtainable. The gold control was suspended by a letter from the Chancellor of the Exchequer authorising the Bank of Englo issue notes against securities in < ess of the limit imposed by the Bank Charter Act, and confidence was invariably restored. Tc-day we live under a new dispensation. In countries that have been forced off the gold standard we have seen the latest possibilities of credit inflation and : currency depreciation, which had never in modern experience appeared in their extreme manifestations. Here we are nominally, though not actually, still on the gold standard, and, as is so often the case with us, we retain the laws and forme appropriate to conditions which no longer in fact exist. By st.atute the currency note is convertible into, gold < n demand, but we all know that we respect the law best when we do not avail ourselves of its provisions. The free issue of paper money was only permitted in times of crisis before the War as an urgent and temporary measure of relief, but to-day current notes may be put into circulation to an indefinite amount with no other legal., backing than a Government debt. I •say legal backing because there exists a Treasury minute which places some restriction upon the issue of notes, but even , this minute would have to be modified or withdrawn in certain readily conceivable conditions. CHANGES IN PURCHASING POWER. During the ten years that the currency note has been in existence our currency has varied widely in value in relation to its nominal gold equivalent, or in other words in relation to the dollar. The sterling exchange l:;>s ranged from 3.19 to a .point within 2 per cent, of parity. In February, 1923, it reached 4.72, and in .January, 1924,, it fell again to 4.21. The pound sterling is now finding its v ay back to parity, and will probably soon istand at its full gold value, not because it will have climbed uphill to meet the dollar, but because the dollar under the pressure of the surplus supply of gold will have come down to the level of the pound. In forecasting the immediate future ieI id ion of the two currencies many factors have to be taken into account, but ultimately the dominant consid oration is the relative movement of prices in the two countries. The index figure of wholesale prices marks changes in the purchasing power .of a currency, and the fluctuations of the index figure measure the degree of a currency’s (stability. ■ While, as we have just seen, the pound has varied considerably in relation to the dollar, sometimes rising, sometimes falling, the mean deviation from the yearly average price level in each of the years 1922, 1923, and 1924 has been less in England than in the United ■States. In. 1922 the mdan deviation from the British average was 2.87, and from the American 6.34 ; in 1923 the figures were 2.37 and 2.99, respectively: and in 1924 they were 2.58 and 2.91. If we take the whole period 1922't0 1924 the respective mean deviations were 4.30 and 4.90. Thus, on the basis of the official index numbers, the price level in England has been more stable during the last three years than in the United States. Measuied by the standard of purchasing power the pound, which is not on the gold standard and has no regular restriction on its issue, has maintained stability better than the dollar, which is based on gold. How can this hap-

pen? To answer this question we must turn our attention to a larger subject than currency- We have to consider

money, of which currency forms only a part, and we must begin with a definition of the term.

MEANING OF MONEY

The word money is currently used in many different senses and is associated with a great diversity of ideas. One or two well-known books bearing the title “Money” deals with problems to which not even a reference is made in the other. We lead daily that mane' is cheap or dear, easy or tight. We «ay of one man that he is worth so much money and of another that lie has so much in his business. We think of money as wealth, and we habitually speak of it as capital. Wnen we see any marked expenditure by the public we express our wonder where all the money comes from. But if we examine these phrases, so familiar to us all, we shall find that the word money is used with several different meanings. In order to make myself clqar I shall define money in relation to my argument, as currency in circulation and bank deposits drawable by cheque, but. it would be pedantry to allege that other uses of the word are not equally warranted. The money we speak of as cheap or dear, easy or tight, is that part of the whole volume of money which is ordinarily lent by the banks from day co day in the discount market. The term money is used as a measure of value, and not as the thing itself, when we tsay a man is worth so much or has so much in his business. Money may properly be used in - the sense of wealth in the hands of an individual owner, but with the exception of the comparatively small part consisting of gold, silver, or copper, which has a commodity value, it is not national wealth. >Vith this reservation money is ndver capital in itself. According to the way in which it is spent -t may be an agent for the creation or destruction of capital. When it is spent on production, capital is brought into being ; when it is spent on consumption, capital is consumed. It is only when we get to the often repeated question, where does all the money come from, that we find the word used, in the more restricted meaning ol purchasing power, .which is the meaning I am attributing to it to-day. CREATION AND CANCELLATION OF CREDIT. I understand by it all currency is circulation together with bank deposits drawable by .cheque, which in the aggregate represent the. purchasing power of the public. By far the larger pa it of our total money consists of bank deposits. The quantity of money is constantly varying, increasing or diminishing, from time to time in consequence of the action of the banks, to which 1 shall refer later. I would at all hazards avoid entering the region of old economic controversy, but I do not think I am stating anything more than will be accepted to-day as a truism when I say that price level is dependent upon the quantity of money, the rate at which it is expended, and the amount of goods and services available for purchnso. The quantity of money is thus one of the three prime factors determining the price level, and it follows that whatever controls the quantity of money is to that extent determining its value. I am afraid the ordinary citizen will not. like to be told that the banks or. the Bank of England can create or destroy money. We are in the habit of thinking of money as wealth, as indeed it is in the hands of .the individual who owns it, wealth in the most liquid form, and we do not like to hear that some private institution can create it at pleasure, ft conjures up a picturd of an autocratic and irresponsible body which by some black, art of its own contriving can increase or diminish wealth, and presumably make a great deal of profit in the-process. But I need hardly say ' nothing of the sort happens. A bank loan creates a deposit, and therefore it creates money. But the deposit is a liability of the bank against which a debt is due to it, and the bank merely .stands as intermediary, between the depositor and the borrower.- Even the currency itself, except in so far as it is in specie with a commercial value as metal, represents nothing more than a debt due from the Government or from the Bank of England. AH that is done by the banks when they create money is to increase the amount of debts due to and from themselves. The power of the banks io increase or diminish the total volume of money arises from the fact that when a bank makes a loan or discounts a bill or buys a security, a deposit is created, and when the! loan is paid off or the bill met or the security sold, the deposit. is cancelled. It will be found, however, on examination, that the exercise of this power is In practice strictly limited. In the regular conduct of business banks maintain a definite proportion between their holding of cash and the amount of their deposits. Anyone who cares to study the monthly statements of accounts published by the London Clearing Banks will see that, though there mav be temporary variations in the proportion of cash to deposits,..there is in each case close conformity to an accepted ratio. Now, although a bank loan increases the aggregate of bank deposits, it does not increase the aggregate of bank cash, and it follows that, so long as each bank adheres to its conventional cash ratio, the power of the banks to create money is limited by their power to obtain additional cash.

(To be concluded 'in our next issue.)