THE MONETARY SYSTEM

Otago Daily Times, Issue 22368, 15 September 1934, Page 7

THE MONETARY SYSTEM

REPORT OF SPECIAL COMMITTEE

STABLE RATE OF EXCHANGE DEVALUATION AT PRESENT LEVEL MORTGAGE BOARD AND BOARD OF WORKS The report of the special parliamentary committee which was appointed to examine : the financial and monetary structure of the Dominion was presented in the House of Representatives yesterday. The members of the committee were as follows Messrs J. A. Nash, A. J, Murdoch, J. N. . Massey, F. Lye, C. H. Clinkard; H. Holland, H. M. Rushworth, F.W. Schramm, J. %. Munro, F. Langstone, and W. Downie Stewart. The report is a comprehensive document, so exhaustive, in fact, that the committee has deemed it desirable to have a summary drawn up of the principal conclusions reached. The official summary is given below,, together with the main features of an explanatory statement by Mr Downie Stewart and a resume of a memorandum of dissent signed by the three Labour members and Mr Rushworth. The report reviews the main aspects of the monetary and banking situation of the Dominion, including the institution of the Reserve Bank; it traces the effects of the many , schemes 'put forward,; and in particular deals with the proposals' advanced by Major Douglas and his adherents; . in a special section it discusses the exchange rate adjustment and its future.

CONCLUSIONS OF COMMITTEE

been increasing absolutely and relatively, >and thus less money has been used by the business world. There is plenty of credit available; the difficulty is that there is little expectation of profits while farm returns remain low. -i

BANKING SYSTEM EXAMINED ADJUSTMENT OF EXCHANGE RATE DOUGLAS CREDIT PLAN REJECTED The report affirms the * paramount authority of the State in monetary matters and emphasises that the serving of the,national interests, rather than the quest for profit's, should be the motive of the banking system. It condemns the exorbitant rates of 1 interest charged by the banks on treasury bills. These rates were £o 8s 9d per cent, andhnore recently y per cent when other, Dpniinipn Governments weye paying far less, e.g., India 1; per cent., South Africa 1§ to 2i per cent., and Australia 2J per ccntvi The establishment of. the Reserve Bank of New, Zealand iis' therefore welcomed. As the State appoints two-third# of , the directorate of the Bank, of New Zealand, the State should use its power of appointment to see'that profit-making is subordinated to the end of public welfare. It is recommended that stock and station agents engaged in deposit and exchange banking, should be controlled by the Reserve Bank; the . position, of other institutions taking deposits should also be considered. Stock.' and station agents are banking institutions and have in the past, materially affected land booms by their competitive activities. 1 The ; overdraft rate for first class accounts should be reduced to 3i per cent., with a maximum of 5 per cent, for other accounts. . This is necessary in present circumstances to assist in the revival-of industry and further to reduce overhead charges. The bank charge for keeping accounts should be reduced from £1 to 10s, and the internal exchange on cheques should /be reduced, the total reduction being equal to the relief of note ■ tax and incoine tax owing, to the setting up of the Reserve Bank. It may be noted that consequent on the last in note tax, the banks doubled their bank charge. • The report recommends that the system of bank taxation remain unchanged. The gold standard is rejected as. a basis for the monetary system, especially as New Zealand has evolved away from it. Hence gold reserves -should be exported and converted into interestearning assets. To ensure a unified and consistent lending policy and to bring the monetary system further under centralised control and to eliminate over-lapping, Government lending departments should be amalgamated., A Government Mortgage Board should be constituted to take over the long and short term loans which are at present administered by the Lands Department, the State Advances Office and the Rural Intermediate Credit Board. This Mortgage Board should also investigate the possibility of adjusting mortgage charges to farm returns and also ensure an even flow of income to the mortgagee. Mortgage bonds of the long-term amortised type are recommended, with interest adjusted to current rates at five-yearly intervals. A development commission or board of works should be set up to dovetail public works and co-operate with the Government, local authorities, and the banking system .to mitigate some of the effects of booms and slumps. The New Zealand pound should be devalued at the 125 rate in the interests of certainty and economic recovery, but a swing of five points on either side should be permitted in order to control the internal price structure, the exchange rate being the most potent instrument of monetary control. The Reserve Bank should quote a forward exchange rate to safeguard importers. For the purpose of open market operations, a short term money market should be built up, the Reserve Bank Act to be amended to make this more easy to attain. . „ For cheaper and more efficient financing of production, trade and agricultural bills should be encouraged in place of overdrafts. BANKING AND CREDIT DEFENCE OF HIGH EXCHANGE The reports give a detailed analysis Of all /the topics reviewed.. .The present monetary system ,is explained. it is shown that New Zealand. even-before the war was not on the gold stand ard, but on the sterling exchange standard, gold being unnecessary. Credit in the mam has been based on production. ‘ Free deposits and their rate of turnover are shown to be the indicator ot business' conditions. Fixed deposits have

Hitherto the trading banks, the majority being controlled by outside interests, have had no conscious monetary policy, but these defects in the banking structure should be remedied by the operation of'the Reserve Bank, which, with the acquisition of sterling funds, will be in a strong position. In a discussion of the relation of the State to the banking system, the committee asserts that the State appointees on the directorate of the Bank of New Zealand have not acted for the Government, but for , the shareholders. -The report states that the original internal debt conversion scheme was a voluntary one, but was rejected by the banks. The committee considers that the banks could have co-operated more and that for the future the Bank of New Zealand, while subordinating- the profit motive, should be used to give a lead to . the commercial banks.

The non-monetary factors in the depression are used to show the main underlying causes of maladjustment as far as Jjew Zealand is concerned, ; the conclusion being that a monetary solution is not sufficient.. j Banking and credit are discussed, and it is stated that . the volume of credit depends on the value of production, the real fault of the price and production system being that it is out -of balance.

The concept of a stable internal price level, the difficulties of index numbers, arc also examined/ It- is represented that if the internal price, policies, advocated in many ’schemes are pursued; a rigidly controlled economy would be necessary to avoid inflation.

/The quantity theory of money is examined in relation to the difficulty of controlling inflation;, currency inflation as a. method of taxation and its effects on various economic • classes - are also discussed. The extreme difficulties of controlling’ the . monetary situation are pointed out, and the committee concludes that inflation can exist evgn with a stable price level. In a . discussion as to why the exchange rate has been comparatively stable, the gold standard explanation being rejected, the purchasing power parity" theory and the “ demand and supply of sterling funds” theory are examined. The conclusion is that the banks' have always pegged the exchange rate,-and that the term “ natural ” is inapplicable. The banks have always kept “an exchange insurance fund ” in London. Demand and supply of London funds have not determined the rate of exchange "in the sliort run.

The high exchange rate is fully discussed, the conclusion being that, compared with other countries, New Zealand has been extremely conservative as far as depreciated currencies are concerned. The Danish situation is- examined with a view to show that Denmark did > not depreciate her exchange as a competitive move against New Zealand. Evidence is cited to show that the high exchange rate has had no material adverse effect on the prices of our primary products—-that is, it has been a net gain and incidentally has saved the fruit industry from bankruptcy and benefited- the manufacturers. The London funds are discussed and it is disclosed that previously there have been large accumulations. A case is presented for devaluing the currency at 125 and using the exchange rate as an instrument of control. MAJOR DOUGLAS'S PLAN AN UNQUALIFIED REJECTION

The committee in its discussion lias avoided mentioning names of most, of those who put forward schemes, but has placed them in general groups, but in regard to the two different schemes put forward by Major Douglas and by the Douglas Credit Movement respectively, the plans receive rigorous and extended analysis. “ The committee feels that for its intrinsic value the scheme put forward by Major Douglas need not have been specifically mentioned; although it is somewhat involved in its presentation—in fact, unnecessarily so —it is not constructive, nor are its general defects so elusive as to warrant any detailed analysis. However, in consideration of those in the Douglas Social Credit Movement who attach importance to the schemes of Major Douglas, the committee consider that it should be made known exactly what the scheme for New Zealand involves.” Although the committee specifically stated that it would not exclude criticism of the present monetary system, Major Douglas preferred not to put forward the Douglas analysis, but sent in a scheme which he said could be applied to the present system. Hidden bank reserves were to be taken to pay off overdrafts, and dividends over 6 per cent, thaken in reduction of interest on overdrafts. Similarly, insurance company earnings over 6 per cent, were to be given to all adult New Zealanders who possessed “ debenture stock ” based on the hidden reserves of insurance companies. . Extracts from the committees conclusions are as follows: — “ The dissipation of reserves by way of gift to borrowers is merely a sliort and sharp method of wrecking the banking system. This financial sabotage would operate by rendering the banks insolvent when the value of their assets was impaired by the slightest fall in prices.” “ While it is mere fantasy to regard the scheme as a suggestion of a per-

manent nature, we are also of the opinion that it is hopeless even as a stop-gap. It would not affect prices in the primary producing industries and would not add to anyone's spending power.” "The proposal to distribute preference shares broadcast to all New Zealanders of voting age would be fantastically ineffective as a method of distributing the country’s wealth.” , “ Whether one believes in private property rights or not, the taking of the property of insurance policy holders is mere caprice. The insurance proposal has absolutely no correlation with social justice.” , . , .. "The only logical conclusion from the/ proposals and evidence of Major Douglas is- that —quite apart from their arbitrariness, their injustice and irrationality—they would bring a net decrease of purchasing power, t and would add to the burden of unemployment and reduced incomes,” The committee states in various places that the scheme and evidence of Major Douglas were capricious, indefinite, circumlocutory, and even self-contradictory, bis replies ■to questions being often evasive and irrelevant. SOCIAL CREDIT PROPOSALS IMPOSSIBLE OF ACHIEVEMENT The proposals of the Douglas Social Credit Movement also come in for discussion. “ Although the social credit | plan put forward belongs to the group of schemes which the committee considers to be inherently unworkable, we have treated it separately, both because it is part of the widely advertised genus of ‘social credit’ proposals and also because the Douglas Social Credit Movement was given a special invitation to an alternative monetary scheme for New Zealand.” . .

The scheme included, on the assumption of a chronic deficiency of money in circulation, the application of a price regulating factor to reduce prices one-third. Farmers and the unemployed were to be guaranteed standard payments. The committee states that the “ assumptions put forward are all of dubious validity.” The Douglas Credit representative stated that “ deficiency of purchasing power will be the determining factor in calculating what are A and B payments. ’ The report says, "A reference to the minutes of evidence will show that the Douglas Credit representative made yet another interpretation of the A plus B theorem and brought it still nearer to tli'osc propositions which must be accepted on faith and not by scientific demonstration.”

vise the Government, and this they have always done. But Ido not know why the right of free speech should be denied them, or why the public .should be deprived of their views on financial matters, even if they differ at times from the Government. If the public once got the impression that the Minister of Finance was dictating the operations of the bank it would be a natural and_ easy step to suspect that he was dictating its policy in the interests of his friends or of powerful vested interests.” After criticising those sections of the report which deal with the control of the price-level and other cognate subjects, Mr Stewart proceeds: — “In the course of a long argument, we are told that exchange was never fixed by demand and supply on the London funds; but I do not know any banker who ever tried to act on any other principle. It is true they kept reserves to enable them to keep the rate steady, but, as the report itself admits, this control was ‘customary and necessary, and would require to be maintained under any system of exchange operations.’ I can only assume that the whole argument is directed towards trying to show that the banks did no consider the economic welfare of New Zealand, or were even actuated by some sinister motive, which seems to be absurd. The report itself shows that the traditional policy of New Zealand was for many years to keep- our money at an approximate fixed par of exchange between the British and iSew Zealand pound, and this policy was strongly supported bv New Zealand economists. The fact that this policy has been altered recently is no reflection on the banks; it is an outcome of the depression. CONCLUSIONS Finally, Mr Stewart states that his broad conclusions on - the whole matter are:—

The Douglas representative, produced a new theory of value, saying that the valuation of a ton of butter would. be determined by “ the amount of physical support it will give a man with a family.” The committee states that it is impossible to equate money and goods, for there is no common scale on which to equate them.” The Douglas representative stated that a statistical estimate could be obtained to disclose the alleged deficiency of purchasing power. The report shows that when, by the committee asked for the factors which would have to be measured to calculate the just price factor, no reply was received from the Douglas Credit Movement. The Douglas Credit proposals are “ technically' and administratively impossible to achieve with the present economic system. The application of the price factor is also so extremely cumbersome ’to be almost impossible, quite apart from the financial chaos which would ensue. It is a purely arbitrary procedure, savouring of wish fulfilment rather than clear thinking. It would entail rigid control of economic life comparable with that of Soviet Russia.” ■ ./, , The whole scheme is described merely as “economics through the wishing-glass.” The. application of the price factor would bring progressive inflation because of uncancelled credits; “the expressed intentions, of the propounders of the plan as to avoiding inflation would be merely idle words.” “ The proposals,” says the report, are retrograde in every way. They put forward an incorrect diagnosis of the economic and financial situation, envisage a purely monetary solution of our economic problems, do not offer proof of any chronic tendency to deficiency, of purchasing power, have no logical connection with any of the known versions of the A plus B theorem, omit important problems of valuation, give impractical definitions of the factors to be calculated, would give additional stimulus to a boom, and, in general, would be highly inflationaiiy because of the cumulative effects of the issue of non-repay able “free credits ” as subsidies to retailers and as payments to exporters and unemployed workers; the results, if the proposals were applied for any length of time, would thus be to depress, living standards and ruin the saving class. To prevent inflation they could be administered, if at all, only with rigorous control of our economic life- —an undefined type of control both in its method and in its purpose. “The analysis of banking and credit and of price levels and the influence affecting them is to be found in other sections of this report. It should, therefore, be sufficiently clear that the Douglas Social Credit proposals for_ the reform in our monetary system are ill-conceived; they are perhaps idealistic in intention, but certainly detrimental and retrogressive if ever the application of them were attempted. The expressed and implied assumptions cannot bear logical analysis, nor, even allowing for the falsity of the assumption, is there any attempt made to derive logical conclusions. This is perhaps to be expected where the action of mass psychology is used as an instrument instead of a less picturesque but more exciting mental discipline. There are many intelligent and well-intentioned people who, instead of seeking for a solution of the problem presented by haphazard production, have been misled by the superficial attractiveness of schemes for quickly curing the world's ills.

“ When one of the leading advocates (Major C. H. Douglas) of a purely monetary remedy states that’‘almost the o. ly thing which is not open to destructive criticism about- the banks is their dividends ’ lie illustrates how the minds of a considerable section of the public are being diverted from the more basic problems of the day by placing all the emphasis on monetary reform; they are focussing attention on symptoms rather than on monetary causes.”

MR DOWNIE STEWART'S VIEW NEW EXPERIMENTS DEPRECATED EXTENSION OF MARKETS NEEDED Mr Downic Stewart abstains from signing the report for several reasons, which he sets out in an explanatory statement. “ The report is not merely voluminous,” he states, “and in my opinion irrelevant; it is in many points mischievous and selfcontradictory. As to its mischievous tenor. I point first to the hostile criticism of the trading banks, which, in my opinion, is incorrect in its facts. Moreover, it lays down novel and unsound lines as to the principles -which should govern the relations of the State to the trading banks. ... In my view, the report fails to distinguish between the functions of a central bank (which must admittedly work in harmony with_ the Government on great questions of national monetary policy) and the functions of trading banks, whose primary duty is to their depositors. ... It is a new doctrine to me that a bank should not pay regard to the credit-worthiness of its borrowers or their chances of making a profit. But this new doctrine is reiterated later on in the report. There are, in fact, many indications in the report that the committee is in doubt whether it believes in our present system, which is still mainly one of private enterprise, or whether it is toying with the idea of a socialised State. % Again, the logical inference in the absence of anything to the contrary is that we need a rigidly controlled economy, and I. do not concur in this view. “ The complaint that the Government directors on the Bank of New Zealand have not acted for the Government, but only for the shareholders, is entirely unfounded.” Mr Stewart proceeds. “In any case, as the State holds onc-third of the shares and draws a rich revenue therefrom in relief of taxation, our directors are right to pay some regard to that phase. But the report seems to imply that our directors should be merely marionettes for the Minister of Finance. In ray view, they arc appointed as men of independent judgment and experience, whose duty it is to consult with and ad-

(a) That it would be unwise to experiment with any new monetary ‘schemes at this juncture, in view of the fact that we are engaged in making fundamental changes in our whole banking and currency system through the establishment of the Reserve Bank. That bank was created to supply the defects of our existing system; and until enough time has elapsed to gauge the results of this-.far-reaching-change it would only create confusion to consider the adoption of other schemes; (b) In my opinion it is not credit that is lacking in New Zealand to-day, but adequate markets overseas. 1 agree with Lord Snowden’s statement “ that in the period of trade depression credit expansion serves no. useful purpose: and that when the _ markets are opened credits will be forthcoming.” Whatever monetary factors in other countries may be at fault, New Zealand’s crisis at present does not appear to me to be a money crisis, but a market crisis, more grave ana more difficult than any we have ever faced, and if that problem is solved the apparent money problem will solve itself. but not otherwise. MINORITY REPORT LABOUR MEMBERS AND .MR RUSHWORTH CONTROL OF CURRENCY AND CREDIT A Memorandum of Dissent was signed by the Labour members of the committee and by Mr Rushworth, who state that they are unable to subscribe to the view that is generally expressed by the report that there is no substantial defect in the Dominion’s monetary system, and that the originating cause or causes of the depression are non-monetary in character.

“We agree,” say the dissenting niejnbers, “that non-monetary factors are operating in this and other countries in' direct association with the depression, but in our opinion practically all these non-monetary factors are comparable with symptoms such as high temperature, racing pulse, severe headache, etc., which indicate the existence of a body ailment, and they themselves appear to be the effects of a monetary system which has no relationship tothe real wealth of this and other countries. The recent rapid development of destitution; and poverty in this and other countries has been and is accompanied by a tremendous increase in the production of wealth in all countries. There appears to be no shortage of anything that the mind of man can imagine, and connected with this we find the producers generally are finding it more and more difficult to recover their costs of production. We are impressed with the fact that many leading world authorities and such bodies as the London Chamber of Commerce and the Southampton Chamber of Commerce have stated definitely that the originating cause of the depression is to be found in the monetary systems of the world. The World Economic Conference also came to that conclusion, but found it impossible to deal with the matter on international lines. “We are not satisfied that the banks gave the committee either a comprehensive or a correct, description of the monetary system, with the operation of which they have been entrusted, and in onr opinion the committee was handicapped in that'it had no power to call for persons or papers or to compel witnesses to answer certain questions. ... If the proposal that was made at the World Economic Conference is carried into effect and the Reserve Banks of all countries are brought into a universal monetary area under the control of the Bank of International Settlements, the effect would be to place .the control of all nations’ money beyond the power of their respective Governments and peoples. ... It appears clear that the NeW Zealand' monetary system has been, and still is. subject to the policy of the Bank of England, with the associated trading banks in this country acting ah the instruments for that policy. This has been so whether Great Britain was on a gold standard, a gold exchange standard, or operating on purely a paper currency, and our financial position in New Zealand the value of all our assets and securities, was. and is, determined through London finance. Financially New Zealand is a vassal State. . . . To continue to allow sterling exchange price-levels to determine New Zealand’s monetary policy would still make us entirely subject to all the vagaries of price fluctuation overseas. To be effective, a monetary policy for the Dominion should bo free and unfettered from overseas domination.”

EVIDENCE OF MAJOR DOUGLAS Proceeding, the minority report states: “ The most notable witness that appeared before the committee was Major C. H. Douglas. Because of the limited time at his disposal and for the reasons appearing in the correspondence that passed between Major Douglas and the committee this witness did not give evidence concerning the theories associated with his name and developed in his text-books and other publications, but confined himself to such suggestions as he thought might be usefully made on the committee’s assumption (which he did not accept) that the present financial and monetary system was essentially sound and not in need of fundamental change. “ This witness pointed out that the banking and insurance organisations are closely interlocked in their control of the financial system, and that the creation of reserves, and especially of the sort called * secret , reserves, on the part of banks and insurance companies was a process in which wealth was demonetised and the money iu circulation reduced in short, a deflationary process. He proposed that these reserves should be again monetised and that they should be distributed in a manner which he set forth, thereby dealing with the financial institutions as they now deal with the public. “As the proposals made by Major Douglas before the committee were made upon an assumption which he did not himself accept, and which we do not accept—viz., the soundness of the present system —-their main interest lies in the light they throw on the effect of the present routine of banking and insurance companies upon the public welfare and'the necessity for putting money into circulation otherwise than as an increase in debt. ’ Tn stating that banks create money and also vast debts, the minority members contend that when advances bring money into circulation it should not create a debt; the amount of money should represent the amount of real wealth. “ the important point to be ascertained,* they state, “ is whether our present monetary system fits our economic system, or whether our economic system has to fit our monetary system. From our examination of the position, it seems that through the operations of our present monetary system our economic system is secondary to, and limited by, our monetary system.

RECOMMENDATIONS “We are of the opinion that a complete reconstruction of the monetary system of the Dominion is essential, and we make the following recommendations: — (i). That there should be unification of the control of the volume of currency and financial credit. Without unity of control there can be neither responsibility nor effective 1 useful policy. This control is too important an element of the sovereignty of the State to farm out to private enterprise. The State must become the sole creator of currency and 'financial' credit. All elements of private interest and all statutory provisions subjecting it to the London sterling policy should be eliminated from the statute relative to the Reserve Bank. We recommend no interference with savings banks or similar institutions not empowered to manufacture credit. . (ii). In so far as the physical re-

sources of the Dominion will provide, we recommend that through the foregoing mechanism money and financial credit should be created by the State for the purpose of closing the existing gap between production and consumption which arises through the insufficiency of purchasing power in the hands of consumers under the present system. The classes of consumers for whom money might be conveniently created would be a matter of social as much as monetary policy, so we do not enlarge upon this beyond mentioning pensioners of every description, the unemployed and incapacitated citizens, and producers in so far as their prices do- not realise pre-depression values- as types of consumers whose claims might be considered under this head.

(iii) Financial policy secured by the foregoing unified control should aim at the general whoesale price level of New Zealand-produced commodities. Justice between debtor and creditor calls for this as much as does justice between producer and consumer. Credit expansion need then lie limited only by the volume of consumable goods produced and desired by the people of the country. (iv) . The amount of credit created for capital works, the amount created for trading purposes, the amount created fpr consumers, the total amount of debits weekly placed to customers’ accounts in the trading banks, the total amount of taxation levied are all elements determining the volume of financial credit in effective use. With unity of control vested in the State all these can be so observed and governed as to secure such circulation of money as will avoid deflation and inflation, abolish alternating boom and slump, and secure steady business activity.

(v). We recognise that it is possible but not easy to maintain a stable internal price level and at the same time maintain parity of exchange with a country which has a fluctuating price level. We definitely prefer stability of internal price level; and, so far as exchange variation may become a problem beyond the dimensions of a reasonable stabilisation fund, we would -recommend that it be dealt with by rationing the exchange. In such rationing preference should be given to essential commodities not available from qur own resources.