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486 working of the gold standard. An essential part of this process in the United Kingdom must be the actual convertibility of the currency notes. With this object in view Lord Cunliffe's Com- mittee in their Final Report (Dec. 1919) recommended in England that the fiduciary issue of one year should not be ex- ceeded in the next. Under this provision, which was accepted by- the Government, the maximum fiduciary issue (i.e. the amount of Treasury notes in circulation not covered by gold) for 1920 was fixed at 320,600,000, and that for 1921 at 317,- 555,200. In the redemption account of the currency notes the amount of gold held remained at 28,500,000 from Dec. 1915 to 1921, but the gold had been supplemented by the addition of 19,450,000 Bank of England notes (up to Dec. 1920), these notes still being regarded as " as good as gold," owing to their being convertible into gold at the bank. The ratio of the gold holding (plus the Bank of England notes) to the currency notes rose from 8-3% in June 1919 to 14-5% in June 1921. In June

1920 the bank rate was raised to 7%, and this high rate was maintained with the view of limiting the expansion of credit. Consequent on the depression that followed the post-war boom the rate was lowered to 6% in June 1921, and to 5? % in July 1921. The high rate must have had some effect in checking speculation and bringing it to an end sooner than otherwise would have been the case. It had little or no effect, however, on the governmental borrowings, and from June 1920 to June

1921 the floating debt actually increased by some 79,000,000. The root cause of the inflation, as already explained, was the governmental expenditure of borrowed (or artificially created) money. It is plain that a high rate for money is not by itself sufficient to check governmental extravagance. Public resent- ment at the heavy taxation involved by the waste of public money began to be effective at the same time as the resentment against high prices led to a falling-off in demand.

It must be remembered that in case of need and the Gov- ernment of the day is the judge of the need governmental borrowing would be resorted to. In case of need also the amount of currency notes requisite for the smooth working of the credit system must be provided. In case of a financial crisis the banks would always expect the restrictions on the fiduciary issues to be abandoned if necessary. Again, the increase of the reserve against the currency notes cannot of itself insure convertibility. The convertibility could only be effective when the foreign ex- changes, especially with the United States, had been restored to the normal. It is not only the notes but all the other forms of credit which must be convertible into gold in case of need if the gold standard is to be effectively reestablished.

Just as the consequences of inflation (e.g. the rise in prices and in nominal wages) must be distinguished from the inflation itself, so also with deflation. The great fall in the index num- bers of wholesale prices (United Kingdom) after the spring of 1920 cannot be ascribed to deflation, because in fact there was no deflation in the sense of monetary contraction. The Econo- mist index number for March 1920 was 325 (compared with 100 for July 1914), and in Dec. 1920 was 231, whilst from Dec. 1919 to Dec. 1920 the notes in Great Britain had risen from 464,900,000 to 509,859,000. During the same year the bank clearings had risen from 28,000,000,000 to 39,000,000,000. In the same way the bank deposits increased during the year. The banking number of the Economist on May 21 1921 showed that the rate of increase of deposits (other than in the Bank of England) was 5-7% in 1920 as compared with 185% in 1919 and i6j% in 1918. The actual increase in 1920 over 1919 was 136,000,000 in bank deposits (other than those of Bank of England), 12,000,000 in currency notes and 41,000,000 in Bank of England note circulation. In 1921, however, up to end of April currency notes declined 30,000,000 and Bank of Eng- land notes 4,000,000 and the deposits of 9 joint-stock banks declined by about 120,000,000.

The want of correspondence between the index numbers of wholesale prices in the United Kingdom and the amount of money (notes and bankers' money) has been cited by some writers as destructive to the '.' quantity theory " of money.

The quantity theory,. however, in its modern extended form does not imply that immediately on every increase or decrease of money there must be a proportionate fall in prices. In either case there must be some lag. Even with great gold discoveries it takes time before the effect becomes marked, and similarly as regards a fall in the amount. The opponents of the quantity theory, who assert that the money in use (including notes and bankers' credits) must be adjusted or follow on the movements in prices, are in a worse case. How comes it that when prices have fallen so greatly there has not been a corresponding con- traction of " money "? The truth is that the element of time must always be considered. An abnormal increase of money takes time for its full effects to be realized. Similarly any con- traction will take time to operate. After a period of inflation when prices begin to fall there will be for a time an apparent abundance of money. An illustration may be taken from what occurred in the great fall in prices from 1873 to 1896. At the depth of the depression of prices there was apparently a super- abundance of gold at the great banking centres, and the rates of discount were never so low. Yet the general fall in prices was ascribed to the fall in the production of gold and the greater demand for it for monetary uses consequent on the destandardi- zation of silver.

Not only must time be taken account of, but the survey must be extended to world prices, especially with the restoration of international communications. Prices in the United States after the war had a dominating influence on world prices. In the United States convertibility between the various money forms was maintained during and after the war. The Federal Reserve Act, however, made it possible for a certain amount of gold to support a larger superstructure of credit. At the same time, through the influx of gold from Europe, the gold founda- tion was also greatly increased. The consequence was that from 1913 to 1919, whilst the physical volume of business (in the United States) increased approximately 9-6%, the monetary circulation increased 71%, and bank deposits 120%. At the same time the percentage of actual cash reserves held against deposits declined from 11-7 in 1913 to 6-6 in 1919. Through the concentration of gold a greater power of expansion was given to the credit within the country, whilst the complete abandon- ment of the gold standard in Europe took away the restraining effect of a possible foreign drain. In this way, in spite of con- vertibility being maintained in the United States, the gold stand- ard had not the same limiting effect as before the war. This loosening of the restraints of the gold standard is in fact equiva- lent to a form of inflation, and American economists (e.g. Prof. Kemmerer) speak of American inflation during the war.

It follows from these considerations that the process of defla- tion must be slow. It seemed probable in 1921 that for a con- siderable time the fall in prices would continue in the United Kingdom to precede the process of deflation.

Similar reasoning applies to wages and employment. With the great fall in prices money wages must fall, because in the last resort wages are paid out of the price of the product when there is a definite product, whilst wages that are given for serv- ices that perish in the act are proportioned to the corresponding disutilities involved as compared with the work of the product- makers. If the fall in prices in the United Kingdom is not due to deflation in the sense of monetary contraction, the fall in wages cannot be ascribed to that cause. When the fall in wages is not readily adjusted to the fall in prices there must be an increase of unemployment. But this unemployment cannot be ascribed to deflation.

The process of deflation must begin with a stoppage of infla- tion, and the effective prevention of the outbreak of renewed inflation. The essential condition is the stoppage of govern- mental expenditure that depends on borrowed money or the creation of artificial credits. In other words, the gold standard must be effectively restored.

The assumption that a fall in prices must of necessity be accompanied by a fall in real wages and in employment is not confirmed by the experience of the last quarter of the igth cen-