The First Great Depression: Blow By Blow, From The BIS, And How It Mirrors Our Ongoing Second Great Depression
After surviving the start of the Second Great Depression, and living in its first great bear market bounce/short squeeze, where now all the attention is focused on a collapsing Europe, many could be wondering how, if at all, it would have been different to have lived through the first Great Depression. Luckily, courtesy of the recent release of the BIS's full annual reports, history buffs can now replay, year by year, the events in world capital markets from 1931 onward. We have put particular emphasis on the dark days of the 1930s. Below we present the first several such years as seen from the perspective of the BIS. Note the endless similarities - in fact one could say the only difference between then and now is the lack of "liquidity providing" algos (soon, there will be an iPad app for that) to front run slow and stupid retail/pension/mutual fund money. Pay particular attention to the role of gold in the crisis period, the amusing reference to FDR's confiscation of gold in 1933, and how the mood of insecured optimism shifts to one of endless gloom, and ends, as everyone knows, with World War 2.
The year under review has been one of dramatic occurrences in the whole field of international finance, credit, monetary stability and capital movements, both public and private. The record of this year of unparalleled world-wide disturbance reflects itself in the progress, resources and activities of the Bank, which have been intimately affected by each succeeding episode, in all of which the Bank was promptly called upon to play a rôle, as was but natural for an international institution the statutory object of which is "to promote the cooperation of central banks and to provide additional facilities for international financial operations, and to act as trustee or agent in regard to international financial settlements", whose "operations for its own account shall only be carried out in currencies which satisfy the practical requirements of the gold or gold exchange standard".
In the second month of the fiscal year, the collapse of the Oesterreichische Credit-Anstalt, with its ramifications throughout Central Europe, called for immediate aid to the National Bank of Austria. In the third month of the fiscal year, there was announced the so-called "Hoover moratorium", which materially changed the scope of the operationsof the Bank and the magnitude of the funds at its disposal in its capacity as Trustee for international financial settlements between Governments. In the same month the banking difficulties in Germany, precipitated by wholesale withdrawals of short-term credit, and the pressure upon the Hungarian exchange, necessitated the organization of central bank aid to the Reichsbank and to the National Bank of Hungary.
In the fourth month of the fiscal year, the London International Conference declared that "excessive withdrawals of capital from Germany" had "created an acute financial crisis", and invited the Bank for International Settlements to set up a Committee to inquire into the credit needs of Germany. In the fifth month, this Committee urged "most earnestly upon all Governments concerned that they lose no time in taking the necessary measures for bringing about such conditions as will allow financial operations to bring to Germany — and thereby to the world — sorely-needed assistance".
In the sixth month of the fiscal year, the world was shocked by the sudden fall of sterling, which was almost immediately followed by the suspension of the gold or gold exchange standard by six other nations. These occurrences still further shattered what was left of confidence and forthwith caused a strain on the reserves of nearly all central banks of the world, including the Federal Reserve System. The necessity for the employment by central banks of their reserves in turn placed a strain upon the Bank for International Settlements, in its capacity as the depositary for a substantial portion of the reserves of many European banks of issue, but the large withdrawals in September were met without decreasing its high degree of liquidity.
In the ninth month of the fiscal year, there gathered at Basle the Special Advisory Committee, convoked by the Bank because of the declaration of the German Government that it had "come to the conclusion in good faith that Germany's exchange and economic life may be seriously endangered by the transfer in part or in full of the postponable part of the annuities". In the succeeding months of the fiscal year the world financial system continued to undergo heavier and heavier pressure and the condition of Central and Eastern Europe and of its central banks, members of the Bank for International Settlements, failed to ameliorate despite a series of "standstill" agreements, currency restrictions, rationing of imports and foreign devisen, and other artificial expedients.
On the whole, 1932 may be styled a year of adaptation to changed conditions prevailing in the economic and monetary situation and one of some definite constructive effort. The most important constructive measures were taken or initiated at two periods — the first in February and the second in the last half of June and beginning of July. It was in February that the Bank of England, after the repayment of more than half of the large currency credits taken up in the previous summer, lowered its discount rate from 6 to 5 per cent, and thereby gave the signal to the downward movement of interest rates which was continued all through the year in most parts of the world. In the same month the German Government put into effect a plan for the thorough reorganisation of the large German banks, which involved a considerable writing off of assets and the supply of new capital with the aid of the Treasury and, indirectly, of the Reichsbank. This reorganisation permitted the re-opening of the German Stock Exchange, which had been closed for seven months. In the United States the Glass-Steagall Bill was adopted on February 27, giving greater freedom to the Federal Reserve Banks and enabling them to alleviate the pressure exerted by internal currency hoarding and withdrawals of gold.
On the basis of the provisions of this new act, the Reserve Banks purchased Government securities in the open market to an amount which in June reached $ 1,100 million, a sum then sufficient not only to counterbalance withdrawals and hoarding, but also to provide member banks with substantial excess reserves. At about the same time two further events of outstanding importance took place. The first was the conversion of more than & 2,000 million of the public debt of Great Britain from a 5 per cent on to a 3% per cent basis, which was announced in the second half of June and met with immediate response; such a measure was welcomed not only because it helped to alleviate the British budget, but also for the downward influence which it exercised on long-term interest rates. Further, the successful outcome of the Lausanne Conference in July, the value of which it is hard to overestimate, revealed willingness by the Reparation creditors — in the first place France — to make very large concessions and it meant the elimination of one of the most serious political hindrances to economic recovery.
These are outstanding measures. But attention must not be concentrated on them alone. A close examination of developments would show that the large volume of international credits was further reduced, that strenuous efforts were made in many branches of public and private economy to balance revenue and expenditure, to establish equilibrium between costs and prices, to render assets more liquid, to reach agreed arrangements for postponing or scaling down debt payments, to overcome the difficulties resulting from the liquidity crisis and to maintain control of the currency position, even when foreign exchange restrictions were, in the interests of trade, gradually relaxed. One marked feature of the period was the unparalleled volume of gold movements.
While the international movement of goods registered an unprecedented decline in 1932, gold movements reached proportions never before experienced.
During the year the total gold production of the world attained the high figure of $ 495 million, or 2,559 million Swiss francs, thereby establishing a new record by surpassing the production of the previous peak year, 1915, by 139 million Swiss francs, and that of 1931 by 184 million. While it is to be expected that gold production should rise in a period of sharply falling prices and plentiful labour supply, the increase has exceeded even the most optimistic forecasts. It has been most marked in the Union of South Africa and Canada, by far the largest percentage increase occurring in the latter country. Production in the United States, after having declined fairly steadily from 1915 to 1929, has risen again and at a progressively greater rate during each of the past three years.
Among the gold producing countries the influence of the new gold was particularly helpful in Canada. Since the departure of sterling from the gold standard, and the simultaneous depreciation of the Canadian dollar, the gold production of the Dominion has been bought by the Government at the prevailing market rate. The large production of 1932, $ 63 million at par, gave to the producing companies approximately $ 70 million in Canadian currency, and greatly aided the Government in meeting its maturing obligations punctually and in supporting the exchange. In the Union of South Africa the production of gold made possible the maintenance of the gold standard until the last weekof 1932 when, however, the large outflow of funds caused by speculation depleted the reserves and forced the country to suspend the gold standard. Under an agreement with the mines the South African Reserve Bank had up to that time purchased the newly produced gold at par, which enabled the Bank within a short space of time to recover the losses it incurred through the depreciation of sterling and to reconstitute its capital and reserves.
Whereas production has increased, the demand for gold by the arts has fallen to a very low level and, even more important, India and China, instead of absorbing a substantial part of the newly-mined gold, have continued to export gold previously hoarded. In the three months of October, November and December 1931, gold to the value of nearly 500 million Swiss francs was exported from India; during 1932, Indian gold exports amounted to a little more than 1,000 million Swiss francs, a sum not greatly inferior to the value of South African production, which was 1,238 million Swiss francs. The great volume of "new" gold which became available during 1932 from the mines and from India had its effect not only upon those countries in which it originated but also upon those to which it passed. The entire Canadian production was exported directly to the United States, but that of South Africa was, as usual, sold in London. In addition, almost 78 per cent of the gold exported from India was sold in London (approximately 19 per cent being shipped directly to the United Statesand about 3 per cent disposed of in the Netherlands and France). The bulk of the South African and Indian gold offered in London was sold against gold currencies, usually dollars or francs, depending on whichever was the stronger. In the case of the South African sales a large part, and in the case of the Indian sales practically all, of the proceeds received in these gold currencies was thereafter sold for sterling.
In the following table an attempt has been made to indicate for each quarter of 1932 the amount of gold derived from production and from India and China, the amount of gold used by the arts, as well as the increase or decrease of gold in the reserves of Central Banks and Governments, in order to obtain a rough estimate of the amounts hoarded and de-hoarded in the different periods:
The total increase in the monetary gold reserves of Central Banks and Governments for 1932 was 3,125 million Swiss francs. This means that, in spite of the hoarding which took place, monetary reserves received new gold during the year in an amount 22 per cent greater than the total gold production of the record year in the history of the world. And although European Central Banks during the first half of 1932 converted more than $ 700 million of their dollar holdings into gold, the gold reserves of the United States were only $ 6 million smaller at the end of the year than they had been at the beginning. But in the first quarter of 1933 the anxiety caused by the banking crisis led to a reduction in American gold reserves, later, however, to be replenished as a result of a series of anti-hoarding measures.
These twelve months have been striking ones in the financial history of the modern world. They have witnessed the dramatic episodes in the United States of America, culminating first in the abandonment of the gold standard, with its worldwide economic and monetary repercussions, and then, after a series of novel currency experiments, and a profound change in the banking and central banking structure, in the devaluation of the dollar and a qualified return to the standard abandoned. They have witnessed the high hopes aroused on every continent by the convocation of the London Monetary and Economic Conference, which was to find joint solutions for financial ills and economic
difficulties and to prepare the way for a reconstituted international monetary system — hopes which were dashed to the ground when this vast assembly met and promptly discovered that it was either in disaccord on fundamentals (especially as regards early currency stabilisation) or, if in agreement on some fundamentals (for example on the economic side), in disharmony as to the ways and means of reaching the agreed objectives. They have witnessed, as a consequence, the formation, in the monetary field, of the "gold bloc", determined to preserve the status quo in their monetary system based on the classic gold standard, and in the financial and economic field, a retreat from the direction of internationalism toward a self-reliant, self-contained but ominous nationalism. In international financial and monetary relations the twelve months have seen a series of retrograde developments — more moratoria, more transfer impediments, more artificial clearings, more gold hoarding than during any year on record, more conversion of foreign balances and their repatriation into the home currency, or in gold, by private and central banks, an almost complete cessation of new long-term lending abroad and a further limitation or reduction of the volume of short-term credits.
Soon, four years will have passed since the financial crisis broke out, and still the world suffers without relief from the unrest and the uncertainties caused by moving currencies. The consequent difficulty encountered by the world's trade is reflected everywhere in the large percentage of unemployment in those branches of national industry which are largely producing for foreign demand. In many countries, national endeavor has given an impetus to domestic affairs, with visible results, but this whole stimulated development threatens to become top-heavy as long as an expansionist policy at home is limited by restrictive policies, internationally. The daily conduct of every business and of every financial transaction which touches more than one currency area is rendered difficult or impossible by the varying exchange values of so many of the world's currencies, particularly of some of the leading ones. An indication of the surprising extent of these inhibiting variations is contained in Chapter II. Tariff changes, quotas, clearings, exchange restrictions, compensation agreements and the like, all of which tend to throttle the international exchange of goods, of services and of capital, are the inevitable concomitants of the chaotic monetary conditions which prevail. During the past twelve months, the disorder has become intensified through, among other factors, the further fall, measured in gold, of sterling and the currencies responsive thereto, the devaluation of the belga, the silver policy of the United States, and the continuous abnormal attraction of gold to the American market.
Seven years have passed since in the course of 1929 the great depression began which still holds large parts of the world in its grip. It might have been expected that in the period which has elapsed the depressive forces would have spent themselves and general prosperity would have returned. But the depression of these seven lean years has not been merely a slump of the pre-war order. Its background was different — it supervened upon an economic and financial situation still suffering from the dislocation caused by a world war; and, with the volume of world unemployment above 30 millions, it has grown into something vaster than any pre-war depression. In the succession of events it is possible to recognize four major disturbances:
Firstly, there was the ordinary downward trend of business. Conforming to type, this was characterized by reduced sales, accumulation of stocks and decline in output, particularly in branches such as the iron and steel industries which produce capital goods or, in general, provide industrial, agricultural, trade and transport equipment.
Secondly, there was a widespread fall in prices of primary products —both foodstuffs and industrial raw materials. This put a particularly heavy strain on the balances of payments of a number of overseas countries and, within a short time, effectively arrested the flow of capital in their direction, whether in the form of loans or of new investments.
Thirdly, in the late spring and summer of 1931 there came the banking crisis in Austria and Germany. Massive withdrawals of funds were followed by a series of organized attempts to stem the tide through the granting of emergency credits and, when these attempts proved unsuccessful, by the introduction of moratoria, transfer provisions and exchange restrictions, with the result that, not only did foreign credits remaining in the countries affected become frozen but ordinary trade was hampered by new and formidable fetters.
Fourthly, in the autumn of the same year there followed the depreciation of sterling and of a number of other currencies. New elements of uncertainty were thus added to the economic and financial situation and strong downward pressure was exerted on prices quoted on a gold basis in the world markets. A period of monetary changes had begun which within two years was also to involve the United States dollar.
In the year which has passed since the last General Meeting great monetary changes have occurred. In France, a new economic and financial policy was adopted in the spring of 1936, and in the early autumn a decision was taken to readjust the value of the French currency. Ori 25th September 1936 simultaneous declarations were issued by the French, British and United States Governments in which the three governments declared their intention to continue to use appropriate available resources so as to avoid as far as possible any disturbance of the basis of international exchange resulting from the proposed readjustment. During the same week-end a decision was taken in Berne to change the value of the Swiss franc and at The Hague an embargo was placed on the export of gold ; shortly afterwards the Italian authorities readjusted the lira to a new gold basis, while the Chechoslovakian crown was further devalued in relation to gold and the Latvian currency was devalued and attached to sterling.
The technical measures taken in the various countries and the arrangements agreed upon by the different monetary authorities will be referred to later in this report. Here it may be noted that the changes in the values of thé currencies concerned were carried out with a minimum of disturbance to the foreign commodity and capital markets and that no setback was caused to the upward trend of world affairs.
The heavy burden of debts both domestic and foreign was also in other ways an obstacle to economic recovery, especially as the debt structure inherited from the war was augmented by extensive international borrowing in the 'twenties both on long and short-term account. In some countries the main difficulties were caused by an excessive volume of private indebtedness, e. g. mortgage debts of farming communities, in other countries by internal government- indebtedness weighing heavily on the budgets, and again in others mainly by foreign liabilities which were a charge on balances of payments and "on monetary reserves.
Some progress has been made during the depression in scaling down the debt structure. In addition to the effects of currency depreciations, the burden of domestic debts has been alleviated by conversions, and foreign indebtedness by repayments, repatriations and arrangements of different kinds. The volume of international short-term indebtedness has thus been brought down by about one-third in terms of sterling (a currency in itself depreciated by almost 40 per cent.) and by still more in terms of gold. Long-term indebtedness has not been reduced to the same extent, but there has been a very important movement in the repatriation and redemption of foreign securities, especially from the United States and Great Britain.
It is not difficult to indicate the reasons why business last year passed through periods of great anxiety. In the opening months of 1938 repercussions of the abrupt decline in American industrial activity that had begun in the previousautumn were felt all over the world, particularly in the export trade. This decline proved the more depressing as it came at a time when there were high hopes of more sustained prosperity in the United States. The general weakness in prices of primary products, a consequence of reduced American demand, and the downward tendency of many other prices called for reductions in costs and other adjustments, which generally met with resistance from interested parties. In countries of the sterling area, which had experienced almost uninterrupted expansion since the autumn of 1932, conditions were ripe for a slackening of internal activity.
To this situation were added exceptional events of a political character, which dealt rude shocks to business and left in their wake a level of armaments and military preparation never before witnessed in times of peace. Among the most striking signs of the political uncertainty was the pressure on sterling caused by mass movements of funds which, with other factors, added $1,500 million to the American gold stocks in the five months from August to December 1938. More harmful effects were found in the restraints suffered by ordinary business, as initiative was cramped and the will to make new investment weakened. Filling the gap by government orders for armaments and other purposes for the time being helped to sustain employment but necessarily diverted productive power from the pursuit of normal trade and especially tended to impair the export capacity of the countries most deeply involved.
Under the strain of almost uninterrupted political tension, bringing with it general uncertainty as to the business outlook, continuous capital flight from Europe and growing armament expenditure in all countries, the economic development of the world does not, however, show the picture of colourless gloom that one would expect. It lacks, of course, stability and nowhere inspires confidence in the strength of the more favourable tendencies that are at work. The state of the world is feverish rather than healthy; and whatever recovery may be seen is anything but steadfast, since it is dependent on the use of stimulants on the one hand and interrupted by grave disturbances on the other.
...And we all know what happens next.
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