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Origins of the Federal Reserve Banking System-Part 2

Interest-Rates / Central Banks Nov 14, 2009 - 03:06 AM GMT

By: Murray_N_Rothbard


Continued From Part 1

Charles A. Conant: Surplus Capital and Economic Imperialism

The years shortly before and after 1900 proved to be the beginnings of the drive toward the establishment of a Federal Reserve System. It was also the origin of the gold-exchange standard, the fateful system imposed upon the world by the British in the 1920s and by the United States after World War II at Bretton Woods. Even more than the case of a gold standard with a central bank, the gold-exchange standard establishes a system, in the name of gold, which in reality manages to install coordinated, international, inflationary, paper money.

"The gold-exchange standard establishes a system, in the name of gold, which in reality manages to install coordinated, international, inflationary, paper money."

The idea was to replace a genuine gold standard, in which each country (or, domestically, each bank) maintains its reserves in gold, by a pseudo–gold standard in which the central bank of the client country maintains its reserves in some key or base currency, say pounds, or dollars. Thus, during the 1920s, most countries maintained their reserves in pounds, and only Britain purported to redeem pounds in gold.

This meant that these other countries were really on a pound rather than a gold standard, although they were able, at least temporarily, to acquire the prestige of gold. It also meant that when Britain inflated pounds, there was no danger of losing gold to these other countries, who, quite the contrary, happily inflated their own currencies on top of their expanding balances in pounds sterling.

Thus, there was generated an unstable, inflationary system — all in the name of gold — in which client states pyramided their own inflation on top of Great Britain's. The system was eventually bound to collapse, as did the gold-exchange standard in the Great Depression, and Bretton Woods by the late 1960s. In addition, the close ties based on pounds and then dollars meant that the key or base country was able to exert a form of economic imperialism, joined by their common paper and pseudogold inflation, upon the client states using the key money.

By the late 1890s, groups of theoreticians in the United States were working on what would later be called the "Leninist" theory of capitalist imperialism. The theory was originated, not by Lenin but by advocates of imperialism, centering around such Morgan-oriented friends and brain trusters of Theodore Roosevelt as Henry Adams, Brooks Adams, Admiral Alfred T. Mahan, and Massachusetts Senator Henry Cabot Lodge.

The idea was that capitalism in the developed countries was "overproducing," not simply in the sense that more purchasing power was needed in recessions, but more deeply in that the rate of profit was therefore inevitably falling. The ever-lower rate of profit from the "surplus capital" was in danger of crippling capitalism, except that salvation loomed in the form of foreign markets and especially foreign investments.

New and expanded foreign markets would increase profits, at least temporarily, while investments in undeveloped countries would be bound to bring a high rate of profit. Hence, to save advanced capitalism, it was necessary for Western governments to engage in outright imperialist or neoimperialist ventures, which would force other countries to open their markets for American products and would force open investment opportunities abroad.

Given this doctrine — based on the fallacious Ricardian view that the rate of profit is determined by the stock of capital investment, instead of by the time preferences of everyone in society — there was little for Lenin to change except to give an implicit moral condemnation instead of approval and to emphasize the necessarily temporary nature of the respite imperialism could furnish for capitalists.[11]

"To save advanced capitalism, it was necessary for Western governments to engage in outright imperialist or neoimperialist ventures, which would force other countries to open their markets for American products and would force open investment opportunities abroad."

Charles Conant set forth the theory of surplus capital in his A History of Modern Banks of Issue (1896) and developed it in subsequent essays. The existence of fixed capital and modern technology, Conant claimed, invalidated Say's Law and the concept of equilibrium, and led to chronic "oversavings," which he defined as savings in excess of profitable investment outlets, in the developed Western capitalist world.

Business cycles, claimed Conant, were inherent in the unregulated activity of modern industrial capitalism. Hence the importance of government-encouraged monopolies and cartels to stabilize markets and the business cycle, and in particular the necessity of economic imperialism to force open profitable outlets abroad for American and other Western surplus capital.

The United States' bold venture into an imperialist war against Spain in 1898 galvanized the energies of Conant and other theoreticians of imperialism. Conant responded with his call for imperialism in "The Economic Basis of Imperialism" in the September 1898 North American Review, and in other essays collected in The United States in the Orient: The Nature of the Economic Problem and published in 1900.

S. J. Chapman (1901, p. 78), a distinguished British economist, accurately summarized Conant's argument as follows: (1) "In all advanced countries there has been such excessive saving that no profitable investment for capital remains." (2) Since all countries do not practice a policy of commercial freedom, "America must be prepared to use force if necessary" to open up profitable investment outlets abroad, and (3) the United States possesses an advantage in the coming struggle, since the organization of many of its industries "in the form of trusts will assist it greatly in the fight for commercial supremacy."[12]

The war successfully won, Conant was particularly enthusiastic about the United States keeping the Philippines, the gateway to the great potential Asian market. The United States, he opined, should not be held back by "an abstract theory" to adopt "extreme conclusions" on applying the doctrines of the Founding Fathers on the importance of the consent of the governed.

The Founding Fathers, he declared, surely meant that self-government could only apply to those competent to exercise it, a requirement that clearly did not apply to the backward people of the Philippines. After all, Conant wrote, "Only by the firm hand of the responsible governing races … can the assurance of uninterrupted progress be conveyed to the tropical and undeveloped countries" (Healy 1970, pp. 200–01).

Conant also was bold enough to derive important domestic conclusions from his enthusiasm for imperialism. Domestic society, he claimed, would have to be transformed to make the nation as "efficient" as possible. Efficiency, in particular, meant centralized concentration of power. "Concentration of power, in order to permit prompt and efficient action, will be an almost essential factor in the struggle for world empire."

In particular, it was important for the United States to learn from the magnificent centralization of power and purpose in Czarist Russia. The government of the United States would require "a degree of harmony and symmetry which will permit the direction of the whole power of the state toward definite and intelligent policies." The US Constitution would have to be amended to permit a form of Czarist absolutism, or at the very least an enormously expanded executive power in foreign affairs (Healy, pp. 202–03).

An interesting case study of business opinion energized and converted by the lure of imperialism was the Boston weekly, The US Investor. Before the outbreak of war with Spain in 1898, the US Investor denounced the idea of war as a disaster to business. But after the United States launched its war, and Commodore Dewey seized Manila Bay, the Investor totally changed its tune. Now it hailed the war as excellent for business, and as bringing about recovery from the previous recession.

Soon the Investor was happily advocating a policy of "imperialism" to make US prosperity permanent. Imperialism conveyed marvelous benefits to the country. At home, a big army and navy would be valuable in curbing the tendency of democracy to enjoy "a too great freedom from restraint, both of action and of thought." The Investor added that "European experience demonstrates that the army and navy are admirably adopted to inculcate orderly habits of thought and action."

But an even more important benefit from a policy of permanent imperialism would be economic. To keep "capital … at work," stern necessity requires that "an enlarged field for its product must be discovered." Specifically, "a new field" had to be found for selling the growing flood of goods produced by the advanced nations, and for investment of their savings at profitable rates. The Investor exulted in the fact that this new "field lies ready for occupancy. It is to be found among the semicivilized and barbarian races," in particular the beckoning country of China.

"The US Constitution would have to be amended to permit a form of Czarist absolutism, or at the very least an enormously expanded executive power in foreign affairs."

Particularly interesting is the colloquy that ensued between the Investor, and the Springfield (Mass.) Republican, which still propounded the older theory of free trade and laissez-faire. The Republican asked why trade with undeveloped countries is not sufficient without burdening US taxpayers with administrative and military overhead. The Republican also attacked the new theory of surplus capital, pointing out that only two or three years earlier, businessmen had been loudly calling for more European capital to be invested in American ventures.

To the first charge, the Investor fell back on "the experience of the race for, perhaps ninety centuries, [which] has been in the direction of foreign acquisitions as a means of national prosperity." But, more practically, the Investor delighted over the goodies that imperialism would bring to American business in the way of government contracts and the governmental development of what would now be called the "infrastructure" of the colonies. Furthermore, as in Britain, a greatly expanded diplomatic service would provide "a new calling for our young men of education and ability."

To the Republican's second charge, on surplus capital, the Investor, like Conant, developed the idea of a new age that had just arrived in American affairs: an age of large-scale manufacture and hence overproduction, an age of a low rate of profit, and consequent formation of trusts in a quest for higher profits through suppression of competition.

As the Investor put it, "The excess of capital has resulted in an unprofitable competition. To employ Franklin's witticism, the owners of capital are of the opinion they must hang together or else they will all hang separately." But while trusts may solve the problem of specific industries, they do not solve the great problem of a general "congestion of capital." Indeed, wrote the Investor, "finding employment for capital … is now the greatest of all economic problems that confront us."

To the Investor, the way out was clear:

The logical path to be pursued is that of the development of the natural riches of the tropical countries. These countries are now peopled by races incapable on their own initiative of extracting its full riches from their own soil.… This will be attained in some cases by the mere stimulus of government and direction by men of the temperate zones; but it will be attained also by the application of modern machinery and methods of culture to the agricultural and mineral resources of the undeveloped countries. (Quoted in Etherington 1984, p. 17)

By the spring of 1901, even the eminent economic theorist John Bates Clark, of Columbia University, was able to embrace the new creed. Reviewing proimperialist works by Conant, Brooks Adams, and the Reverend Josiah Strong in a single celebratory review in March 1901 in the Political Science Quarterly, Clark emphasized the importance of opening foreign markets and particularly of investing American capital "with an even larger and more permanent profit" (Parrini and Sklar 1983, p. 565, n. 16).

J. B. Clark was not the only economist ready to join in apologia for the strong state. Throughout the land by the turn of the 20th century, a legion of economists and other social scientists had arisen, many of them trained in graduate schools in Germany to learn of the virtues of the inductive method, the German Historical School, and a collectivist, organicist state. Eager for positions and power commensurate with their graduate training, these new social scientists, in the name of professionalism and technical expertise, prepared to abandon the old laissez-faire creed and take their places as apologists and planners in a new, centrally-planned state.

Professor Edwin R. A. Seligman of Columbia University, of the prominent Wall Street investment banking family of J. and W. Seligman and Company, spoke for many of these social scientists when, in a presidential address before the American Economic Association in 1903, he hailed the "new industrial order."[13] Seligman prophesied that in the new, 20th century, the possession of economic knowledge would grant economists the power "to control … and mold" the material forces of progress. As the economist proved able to forecast more accurately, he would be installed as "the real philosopher of social life," and the public would pay "deference to his views."

In his 1899 presidential address, Arthur Twining Hadley of Yale also saw economists developing as society's philosopher kings. The most important application of economic knowledge, declared Hadley, was leadership in public life, becoming advisers and leaders of national policy. "I believe," opined Hadley,

that their [economists'] largest opportunity in the immediate future lies not in theories but in practice, not with students but with statesmen, not in the education of individual citizens, however widespread and salutary, but in the leadership of an organized body politic. (Silva and Slaughter 1984, p. 103)

Hadley perceptively saw the executive branch of the government as particularly amenable to providing access to position and influence for economic advisers and planners. Previously, executives were hampered in seeking such expert counsel by the importance of political parties, their ideological commitments, and their mass base in the voting population.

But now, fortunately, the growing municipal reform (soon to be called the Progressive) movement was taking power away from political parties and putting it into the hands of administrators and experts. The "increased centralization of administrative power [was giving] … the expert a fair chance."

And now, on the national scene, the new American leap into imperialism in the Spanish-American War was providing an opportunity for increased centralization, executive power, and therefore for administrative and expert planning. Even though Hadley declared himself personally opposed to imperialism, he urged economists to leap at this great opportunity for access to power (Silva and Slaughter 1984, pp. 120–21).

"Throughout the land by the turn of the 20th century, a legion of economists and other social scientists had arisen, many of them trained in graduate schools in Germany to learn of the virtues of the inductive method, the German Historical School, and a collectivist, organicist state."

The organized economic profession was not slow to grasp this new opportunity. Quickly, the executive and nominating committees of the American Economic Association (AEA) created a five-man special committee to organize and publish a volume on colonial finance. As Silva and Slaughter put it, this new, rapidly put together volume permitted the AEA to show the power elite how the new social science could serve the interests of those who made imperialism a national policy by offering technical solutions to the immediate fiscal problems of colonies, as well as providing ideological justifications for acquiring them. (Silva and Slaughter, p. 133)

The chairman of the special committee was Professor Jeremiah W. Jenks of Cornell, the major economic adviser to Governor Theodore Roosevelt. Another member was Professor E. R. A. Seligman, another key adviser to Roosevelt. A third colleague was Dr. Albert Shaw, influential editor of the Review of Reviews, progressive reformer and social scientist, and long-time crony of Roosevelt's. All three were long-time leaders of the American Economic Association.

The other two, non-AEA leaders, on the committee were Edward R. Strobel, former assistant secretary of state and adviser to colonial governments, and Charles S. Hamlin, wealthy Boston lawyer and assistant secretary of the treasury, who had long been in the Morgan ambit, and whose wife was a member of the Pruyn family, longtime investors in two Morgan-dominated concerns: the New York Central Railroad and the Mutual Life Insurance Company of New York.

Essays in Colonial Finance (Jenks et al. 1900), the volume quickly put together by these five leaders, tried to advise the United States how best to run its newly-acquired empire.

First, just as the British government insisted when the North American states were its colonies, the colonies should support their imperial government through taxation, whereas control should be tightly exercised by the US imperial center. Second, the imperial center should build and maintain the economic infrastructure of the colony: canals, railroads, and communications. Third, where — as was clearly anticipated — native labor is inefficient or incapable of management, the imperial government should import (white) labor from the imperial center. And, finally, as Silva and Slaughter put it,

the committee's fiscal recommendations strongly intimated that trained economists were necessary for a successful empire. It was they who must make a thorough study of local conditions to determine the correct fiscal system, gather data, create the appropriate administrative design and perhaps even implement it. In this way, the committee seconded Hadley's views in seeing imperialism as an opportunity for economists by identifying a large number of professional positions best filled by themselves. (Silva and Slaughter 1984, p. 135)

With the volume written, the AEA cast about for financial support for its publication and distribution. The point was not simply to obtain the financing, but to do so in such a way as to gain the imprimatur of leading members of the power elite on this bold move to empower economists as technocratic expert advisers and administrators in the imperial nation-state.

The American Economic Association found five wealthy businessmen to put up two-fifths the full cost of publishing Essays in Colonial Finance. By compiling the volume and then accepting corporate sponsors, several of whom had an economic stake in the new American empire, the AEA was signaling that the nation's organized economists were (1) wholeheartedly in favor of the new American empire; and (2) were willing and eager to play a strong role in advising and administering the empire, a role which they promptly and happily filled, as we shall see in the following section.

In view of the symbolic as well as practical role for the sponsors, a list of the five donors for the colonial-finance volume is instructive.

One was Isaac N. Seligman, head of the investment-banking house of J and W Seligman and Company, a company with extensive overseas interests, especially in Latin America. Isaac's brother E. R. A. Seligman was a member of the special committee on Colonial Finance and an author of one of the essays in the volume.

Another was William E. Dodge, a partner of the copper mining firm of Phelps, Dodge, and Company, and member of a powerful mining family allied to the Morgans.

A third donor was Theodore Marburg, an economist who was vice president of the AEA at the time, and also an ardent advocate of imperialism as well as heir to a substantial American Tobacco Company fortune.

Fourth was Thomas Shearman, a single-taxer and an attorney for the powerful railroad magnate Jay Gould.

And last but not least, was Stuart Wood, a manufacturer who had a PhD in economics and had been a vice president of the AEA.

Conant: Monetary Imperialism and the Gold-Exchange Standard

The leap into political imperialism by the United States in the late 1890s was accompanied by economic imperialism, and one key to economic imperialism was monetary imperialism. In brief, the developed Western countries by this time were on the gold standard, while most of the Third World nations were on the silver standard. For the past several decades, the value of silver in relation to gold had been steadily falling, due to

  1. an increasing world supply of silver relative to gold, and
  2. the subsequent shift of many Western nations from silver or bimetallism to gold, thereby lowering the world's demand for silver as a monetary metal.

The fall of silver values meant monetary depreciation and inflation in the Third World, and it would have been a reasonable policy to shift from a silver-coin to a gold-coin standard. But the new imperialists among US bankers, economists, and politicians were far less interested in the welfare of Third World countries than in foisting a monetary imperialism upon them.

"Hadley perceptively saw the executive branch of the government as particularly amenable to providing access to position and influence for economic advisers and planners."

For not only would the economies of the imperial center and the client states then be tied together, but they would be tied in such a way that these economies could pyramid their own monetary and bank credit inflation on top of inflation in the United States. Hence, what the new imperialists set out to do was pressure or coerce Third World countries to adopt, not a genuine gold-coin standard, but a newly conceived "gold-exchange" or dollar standard.

Instead of silver currency fluctuating freely in terms of gold, the silver to gold rate would then be fixed by arbitrary government price-fixing. The silver countries would be silver in name only; the country's monetary reserve would be held, not in silver, but in dollars allegedly redeemable in gold; and these reserves would be held, not in the country itself, but as dollars piled up in New York City.

In that way, if US banks inflated their credit, there would be no danger of losing gold abroad, as would happen under a genuine gold standard. For under a true gold standard, no one and no country would be interested in piling up claims to dollars overseas. Instead, they would demand payment of dollar claims in gold. So that even though these American bankers and economists were all too aware, after many decades of experience, of the fallacies and evils of bimetallism, they were willing to impose a form of bimetallism upon client states in order to tie them into US economic imperialism, and to pressure them into inflating their own money supplies on top of dollar reserves supposedly, but not de facto, redeemable in gold.

The United States first confronted the problem of silver currencies in a Third World country when it seized control of Puerto Rico from Spain in 1898 and occupied it as a permanent colony. Fortunately for the imperialists, Puerto Rico was already ripe for currency manipulation. Only three years earlier, in 1895, Spain had destroyed the full-bodied Mexican silver currency that its colony had previously enjoyed, and replaced it with a heavily debased silver "dollar," worth only 41 cents in US currency. The Spanish government had pocketed the large seigniorage profits from that debasement.

The United States was therefore easily able to substitute its own debased silver dollar, worth only 45.6 cents in gold. Thus, the United States' silver currency replaced an even more debased one, and also the Puerto Ricans had no tradition of loyalty to a currency only recently imposed by the Spaniards. There was therefore little or no opposition in Puerto Rico to the US monetary takeover.[14]

The major controversial question was what exchange rate the American authorities would fix between the two debased coins: the old Puerto Rican silver peso and the US silver dollar. This was the rate at which the US authorities would compel the Puerto Ricans to exchange their existing coinage for the new American coins.

The treasurer in charge of the currency reform for the US government was the prominent Johns Hopkins economist, Jacob H. Hollander, who had been special commissioner to revise Puerto Rican tax laws, and who was one of the new breed of academic economists repudiating laissez-faire for comprehensive statism.

"So that even though these American bankers and economists were all too aware, after many decades of experience, of the fallacies and evils of bimetallism, they were willing to impose a form of bimetallism upon client states in order to tie them into US economic imperialism."

The heavy debtors in Puerto Rico — mainly the large sugar planters — naturally wanted to pay their peso obligations at as cheap a rate as possible; they lobbied for a peso worth 50 cents American. In contrast, the Puerto Rican banker-creditors wanted the rate fixed at 75 cents. Since the exchange rate was arbitrary anyway, Hollander and the other American officials decided in the time-honored way of governments: more or less splitting the difference, and fixing a peso equal to 60 cents.[15]

The Philippines, the other Spanish colony grabbed by the United States, posed a far more difficult problem. As in most of the Far East, the Philippines was happily using a perfectly sound silver currency, the Mexican silver dollar. But the United States was anxious for a rapid reform, because its large armed forces establishment suppressing Filipino nationalism required heavy expenses in US dollars, which it of course declared to be legal tender for payments. Since the Mexican silver coin was also legal tender and was cheaper than the US gold dollar, the US military occupation found its revenues being paid in unwanted and cheaper Mexican coins.

Delicacy was required, and in 1901, for the task of currency takeover the Bureau of Insular Affairs (BIA) of the War Department — the agency running the US occupation of the Philippines — hired Charles A. Conant for the task. Secretary of War Elihu Root was a redoubtable Wall Street lawyer in the Morgan ambit who sometimes served as J. P. Morgan's personal attorney. Root took a personal hand in sending Conant to the Philippines. Conant, fresh from the Indianapolis Monetary Commission and before going to New York as a leading investment banker, was, as might be expected, an ardent gold-exchange-standard imperialist as well as the leading theoretician of economic imperialism.

Realizing that the Filipino people loved their silver coins, Conant devised a way to impose a gold US dollar currency upon the country. Under his cunning plan, the Filipinos would continue to have a silver currency; but replacing the full-bodied Mexican silver coin would be an American silver coin tied to gold at a debased value far less than the market exchange value of silver in terms of gold. In this imposed, debased bimetallism, since the silver coin was deliberately overvalued in relation to gold by the US government, Gresham's law went inexorably into effect. The overvalued silver would keep circulating in the Philippines, and undervalued gold would be kept sharply out of circulation.

The seigniorage profit that the Treasury would reap from the debasement would be happily deposited at a New York bank, which would then function as a "reserve" for the US silver currency in the Philippines. Thus, the New York funds would be used for payment outside the Philippines instead of as coin or specie. Moreover, the US government could issue paper dollars based on its new reserve fund.

It should be noted that Conant originated the gold-exchange scheme as a way of exploiting and controlling Third World economies based on silver. At the same time, Great Britain was introducing similar schemes in its colonial areas in Egypt, the Straits Settlements in Asia, and particularly in India.

"Conant originated the gold-exchange scheme as a way of exploiting and controlling Third World economies based on silver."

Congress, however, pressured by the silver lobby, balked at the BIA's plan. And so the BIA again turned to the seasoned public relations and lobbying skills of Charles A. Conant. Conant swung into action. Meeting with editors of the top financial journals, he secured their promises to write editorials pushing for the Conant plan, many of which he obligingly wrote himself.

He was already backed by the American banks of Manila. Recalcitrant US bankers were warned by Conant that they could no longer expect large government deposits from the War Department if they continued to oppose the plan. Furthermore, Conant won the support of the major enemies of his plan, the American silver companies and prosilver bankers, promising them that if the Philippine currency reform went through, the federal government would buy silver for the new US coinage in the Philippines from these same companies. Finally, the tireless lobbying, and the mixture of bribery and threats by Conant, paid off. Congress passed the Philippine Currency Bill in March 1903.

In the Philippines, however, the United States could not simply duplicate the Puerto Rican example and coerce the conversion of the old for the new silver coinage. For the Mexican silver coin was a dominant coin not only in the Far East but throughout the world, and the coerced conversion would have been endless.

The United States tried; it removed the legal tender privilege from the Mexican coins, and decreed the new US coins to be used for taxes, government salaries, and other government payments. But this time the Filipinos happily used the old Mexican coins as money, while the US silver coins disappeared from circulation into payment of taxes and transactions to the United States.

The War Department was beside itself: how could it drive Mexican silver coinage out of the Philippines? In desperation, it turned to the indefatigable Conant, but Conant couldn't join the colonial government in the Philippines because he had just been appointed to a more far-flung presidential commission on international exchange for pressuring Mexico and China to go on a similar gold-exchange standard.

Hollander, fresh from his Puerto Rican triumph, was ill. Who else? Conant, Hollander, and several leading bankers told the War Department they could recommend no one for the job, so new then was the profession of technical expert in monetary imperialism.

But there was one more hope, the other procartelist and financial imperialist, Cornell's Jeremiah W. Jenks, a fellow member with Conant of President Roosevelt's new Commission on International Exchange (CIE). Jenks had already paved the way for Conant by visiting English and Dutch colonies in the Far East in 1901 to gain information about running the Philippines. Jenks finally came up with a name, his former graduate student at Cornell, Edwin W. Kemmerer.

"There was more of a public-private partnership between the US government and the investment bankers, with the bankers supplying their own funds, and the State Department supplying good will and more concrete resources."

Young Kemmerer went to the Philippines from 1903 to 1906, to implement the Conant plan. Based on the theories of Jenks and Conant, and on his own experience in the Philippines, Kemmerer went on to teach at Cornell and then at Princeton, and gained fame throughout the 1920s as the "money doctor," busily imposing the gold-exchange standard on country after country abroad.

Relying on Conant's behind-the-scenes advice, Kemmerer and his associates finally came out with a successful scheme to drive out the Mexican silver coins. It was a plan that relied heavily on government coercion. The United States imposed a legal prohibition on the importation of the Mexican coins, followed by severe taxes on any private Philippine transactions daring to use the Mexican currency.

Luckily for the planners, their scheme was aided by a large-scale demand at the time for Mexican silver in northern China, which absorbed silver that was in the Philippines or that would have been smuggled into the islands. The US success was aided by the fact that the new US silver coins, perceptively called "conants" by the Filipinos, were made up to look very much like the cherished old Mexican coins. By 1905, force, luck, and trickery had prevailed, and the conants (worth 50 cents in US money) were the dominant currency in the Philippines. Soon the US authorities were confident enough to add token copper coins and paper conants as well.[16]

By 1903, the currency reformers felt emboldened enough to move against the Mexican silver dollar throughout the world. In Mexico itself, US industrialists who wanted to invest there pressured the Mexicans to shift from silver to gold, and they found an ally in powerful finance minister Jose Limantour. But tackling the Mexican silver peso at home would not be an easy task, for the coin was known and used throughout the world, particularly in China, where it formed the bulk of the circulating coinage.

Finally, after three-way talks between US, Mexican, and Chinese officials, the Mexicans and Chinese were induced to send identical notes to the US Secretary of State, urging the United States to appoint financial advisers to bring about a currency reform and stabilized exchange rates with the gold countries (Parrini and Sklar 1983, pp. 573–77; Rosenberg 1985, p. 184).

These requests gave President Roosevelt, upon securing Congressional approval, the excuse to appoint in March 1903 a three-man Commission on International Exchange to bring about currency reform in Mexico, China, and the rest of the silver-using world. The aim was "to bring about a fixed relationship between the moneys of the gold-standard countries and the present silver-using countries," in order to foster "export trade and investment opportunities" in the gold countries and economic development in the silver countries.

The three members of the CIE were old friends and like-minded colleagues. The chairman was Hugh H. Hanna, of the Indianapolis Monetary Commission, the others were his former chief aide at that Commission, Charles A. Conant, and Professor Jeremiah W. Jenks. Conant, as usual, was the major theoretician and finagler. He realized that major opposition to Mexico and China's shift to a gold standard would come from the important Mexican-silver industry, and he devised a scheme to get European countries to purchase large amounts of Mexican silver to ease the pain of the shift.

"It is clear that the devotion to the gold standard of Conant and of his colleagues was only to a debased and inflationary standard controlled and manipulated by the US government, with gold really serving as a facade of allegedly hard money."

In a trip to European nations in the summer of 1903, however, Conant and the CIE found the Europeans less than enthusiastic about making Mexican silver purchases as well as subsidizing US exports and investments in China, a land whose market they too were coveting. In the United States, on the other hand, major newspapers and financial periodicals, prodded by Conant's public relations work, warmly endorsed the new currency scheme.

In the meantime, however, the United States faced similar currency problems in its two new Caribbean protectorates, Cuba and Panama. Panama was easy. The United States occupied the Canal Zone, and would be importing vast amounts of equipment to build the canal, and so it decided to impose the American gold dollar as the currency in the nominally independent Republic of Panama.

While the gold dollar was the official currency of Panama, the United States imposed as the actual medium of exchange a new debased silver peso worth 50 cents. Fortunately, the new peso was almost the same in value as the old Colombian silver coin it forcibly displaced, and so, like Puerto Rico, the takeover could go without a hitch.

Among the US colonies or protectorates, Cuba proved the toughest nut to crack. Despite all of Conant's ministrations, Cuba's currency remained unreformed. Spanish gold and silver coins, French coins, and US currency all circulated side by side, freely fluctuating in response to supply and demand. Furthermore, similar to the prereformed Philippines, a fixed bimetallic exchange rate between the cheaper US, and the more valuable Spanish and French, coins led the Cubans to return cheaper US coins to the US customs authorities in fees and revenues.

Why then did Conant fail in Cuba? In the first place, strong Cuban nationalism resented US plans for seizing control of their currency. Conant's repeated request in 1903 for a Cuban invitation for the CIE to visit the island met stern rejections from the Cuban government. Moreover, the charismatic US military commander in Cuba, Leonard Wood, wanted to avoid giving the Cubans the impression that plans were afoot to reduce Cuba to colonial status.

The second objection was economic. The powerful sugar industry in Cuba depended on exports to the United States, and a shift from depreciated silver to higher-valued gold money would increase the cost of sugar exports, by an amount Leonard Wood estimated to be about 20 percent.

While the same problem had existed for the sugar planters in Puerto Rico, American economic interests, in Puerto Rico and in other countries such as the Philippines favored forcing formerly silver countries onto a gold-based standard so as to stimulate US exports into those countries. In Cuba, on the other hand, there was increasing US investment capital pouring into the Cuban sugar plantations, so that powerful and even dominant US economic interests existed on the other side of the currency reform question. Indeed, by World War I, American investments in Cuban sugar reached the sum of $95 million.

Thus, when Charles Conant resumed his pressure for a Cuban gold-exchange standard in 1907, he was strongly opposed by the US Governor of Cuba, Charles Magoon, who raised the problem of a gold-based standard crippling the sugar planters. The CIE never managed to visit Cuba, and ironically, Charles Conant died in Cuba, in 1915, trying in vain to convince the Cubans of the virtues of the gold-exchange standard (Rosenberg 1985, pp. 186–88).

The Mexican shift from silver to gold was more gratifying to Conant, but here the reform was effected by Foreign Minister Limantour and his indigenous technicians, with the CIE taking a back seat. However, the success of this shift, in the Mexican Currency Reform Act of 1905, was assured by a world rise in the price of silver, starting the following year, which made gold coins cheaper than silver, with Gresham's law bringing about a successful gold coin currency in Mexico.

But the US silver coinage in the Philippines ran into trouble because of the rise in the world silver price. Here, the US silver currency in the Philippines was bailed out by coordinated action by the Mexican government, which sold silver in the Philippines to lower the value of silver sufficiently so that the Conants could be brought back into circulation.[17]

But the big failure of Conant/CIE monetary imperialism was in China. In 1900, Britain, Japan, and the United States intervened in China to put down the Boxer Rebellion. The three countries thereupon forced defeated China to agree to pay them and all major European powers an indemnity of $333 million.

The United States interpreted the treaty as an obligation to pay in gold, but China, on a depreciated silver standard, began to pay in silver in 1903, an action that enraged the three treaty powers. The US minister to China reported that Britain might declare China's payment in silver a violation of the treaty, which would presage military intervention.

Emboldened by the United States' success in the Philippines, Panama, and Mexico, Secretary of War Root sent Jeremiah W. Jenks on a mission to China in early 1904 to try to transform China from a silver- to a gold-exchange standard. Jenks also wrote to President Roosevelt from China urging that the Chinese indemnity to the United States from the Boxer Rebellion be used to fund exchange professorships for 30 years.

Jenks's mission, however, was a total failure. The Chinese understood the CIE currency scheme all too well. They saw and denounced the seigniorage of the gold-exchange standard as an irresponsible and immoral debasement of Chinese currency, an act that would impoverish China while adding to the profits of US banks where seigniorage reserve funds would be deposited.

Moreover, the Chinese officials saw that shifting the indemnity from silver to gold would enrich the European governments at the expense of the Chinese economy. They also noted that the CIE scheme would establish a foreign controller of the Chinese currency to impose banking regulations and economic reforms on the Chinese economy. We need not wonder at the Chinese outrage. China's reaction was its own nationalistic currency reform in 1905 to replace the Mexican silver coin with a new Chinese silver coin, the tael (Rosenberg 1985, pp. 189–92).

Jenks's ignominious failure in China put an end to any formal role for the Commission on International Exchange.[18] An immediately following fiasco blocked the US government's use of economic and financial advisers to spread the gold-exchange standard abroad. In 1905, the State Department hired Jacob Hollander to move another of its Latin American client states, the Dominican Republic, onto the gold-exchange standard.

When Hollander accomplished this task by the end of the year, the State Department asked the Dominican government to hire Hollander to work out a plan for financial reform, including a US loan, and a customs service run by the United States to collect taxes for repayment of the loan. Hollander, son-in-law of prominent Baltimore merchant Abraham Hutzler, used his connection with Kuhn, Loeb and Company to place Dominican bonds with that investment bank.

Hollander also engaged happily in double dipping for the same work, collecting fees for the same job from the State Department and from the Dominican government. When this peccadillo was discovered in 1911, the scandal made it impossible for the US government to use its own employees and its own funds to push for gold-exchange experts abroad. From then on, there was more of a public-private partnership between the US government and the investment bankers, with the bankers supplying their own funds, and the State Department supplying good will and more concrete resources.

Thus, in 1911–1912, the United States, over great opposition, imposed a gold-exchange standard on Nicaragua. The State Department formally stepped aside, but approved Charles Conant's hiring by the powerful investment-banking firm of Brown Brothers to bring about a loan and the currency reform. The State Department lent not only its approval to the project, but also its official wires, for Conant and Brown Brothers to conduct the negotiations with the Nicaraguan government.

By the time he died in Cuba in 1915, Charles Conant had made himself the chief theoretician and practitioner of the gold-exchange and the economic-imperialist movements. Aside from his successes in the Philippines, Panama, and Mexico, and his failures in Cuba and China, Conant led in pushing for gold-exchange reform and gold-dollar imperialism in Liberia, Bolivia, Guatemala, and Honduras. His magnum opus in favor of the gold-exchange standard, the two-volume The Principles of Money and Banking (1905), as well as his pathbreaking success in the Philippines, were followed by a myriad of books, articles, pamphlets, and editorials, always backed up by his personal propaganda efforts.

Particularly interesting were Conant's arguments in favor of a gold-exchange, rather than a genuine gold-coin, standard. A straight gold-coin standard, Conant believed, did not provide a sufficient amount of gold to provide for the world's monetary needs.

Hence, by tying the existing silver standards in the undeveloped countries to gold, the "shortage" of gold could be overcome, and also the economies of the undeveloped countries could be integrated into those of the dominant imperial power. All this could only be done if the gold-exchange standard were "designed and implemented by careful government policy," but of course Conant himself and his friends and disciples always stood ready to advise and provide such implementation (Rosenberg 1985, p. 197).

In addition, adopting a government-managed gold-exchange standard was superior to either genuine gold or bimetallism because it left each state the flexibility of adapting its currency to local needs. As Conant asserted,

It leaves each state free to choose the means of exchange which conform best to its local conditions. Rich nations are free to choose gold, nations less rich silver, and those whose financial methods are most advanced are free to choose paper.

It is interesting that for Conant, paper was the most "advanced" form of money. It is clear that the devotion to the gold standard of Conant and of his colleagues was only to a debased and inflationary standard controlled and manipulated by the US government, with gold really serving as a facade of allegedly hard money.

And one of the critical forms of government manipulation and control in Conant's proposed system was the existence and active functioning of a central bank. As a founder of the "science" of financial advising to governments, Conant, followed by his colleagues and disciples, not only pushed a gold-exchange standard wherever he could do so, but also a central bank to manage and control that standard. As Emily Rosenberg points out,

Conant thus did not neglect … one of the major revolutionary changes implicit in his system: a new, important role for a central bank as a currency stabilizer. Conant strongly supported the American banking reform that culminated in the Federal Reserve System … and American financial advisers who followed Conant would spread central banking systems, along with gold-standard currency reforms, to the countries they advised. (Rosenberg 1985, p. 198)

Along with a managed gold-exchange standard would come, as replacement for the old free-trade, unmanaged, gold-coin standard, a world of imperial currency blocs, which "would necessarily come into being as lesser countries deposited their gold stabilization funds in the banking systems of more advanced countries" (ibid.). New York and London banks, in particular, shaped up as the major reserve fundholders in the developing new world monetary order.

It is no accident that the United States' major financial and imperial rival, Great Britain, which was pioneering in imposing gold-exchange standards in its own colonial area at this time, built upon this experience to impose a gold-exchange standard, marked by all European currencies pyramiding on top of British inflation, during the 1920s. That disastrous inflationary experiment led straight to the worldwide banking crash and the general shift to fiat paper moneys in the early 1930s. After World War II, the United States took up the torch of a world gold-exchange standard at Bretton Woods, with the dollar replacing the pound sterling in a worldwide inflationary system that lasted approximately 25 years.

Nor should it be thought that Charles A. Conant was the purely disinterested scientist he claimed to be. His currency reforms directly benefitted his investment banker employers. Thus, Conant was treasurer, from 1902 to 1906, of the Morgan-run Morton Trust Company of New York, and it was surely no coincidence that Morton Trust was the bank that held the reserve funds for the governments of the Philippines, Panama, and the Dominican Republic, after their respective currency reforms. In the Nicaragua negotiations, Conant was employed by the investment bank of Brown Brothers, and in pressuring other countries he was working for Speyer and Company and other investment bankers.

After Conant died in 1915, there were few to pick up the mantle of foreign financial advising. Hollander was in disgrace after the Dominican debacle. Jenks was aging, and lived in the shadow of his China failure, but the State Department did appoint Jenks to serve as a director of the Nicaraguan National Bank in 1917, and also hired him to study the Nicaraguan financial picture in 1925.

But the true successor of Conant was Edwin W. Kemmerer, the "money doctor." After his Philippine experience, Kemmerer joined his old Professor Jenks at Cornell, and then moved to Princeton in 1912, publishing his book Modern Currency Reforms in 1916. As the leading foreign financial adviser of the 1920s, Kemmerer not only imposed central banks and a gold-exchange standard on Third World countries, but also got them to levy higher taxes.

Kemmerer, too, combined his public employment with service to leading international bankers. During the 1920s, Kemmerer worked as a banking expert for the US government's Dawes Commission, headed special financial advisory missions to over a dozen countries, and was kept on a handsome retainer by the distinguished investment banking firm of Dillon and Read from 1922 to 1929. In that era, Kemmerer and his mentor Jenks were the only foreign-currency-reform experts available for advising. In the late 1920s, Kemmerer helped establish a chair of international economics at Princeton, which he occupied, and from which he could train students like Arthur N. Young and William W. Cumberland. In the mid-1920s, the money doctor served as president of the American Economic Association.[19]

Continued in Part 3

Murray N. Rothbard (1926–1995) was dean of the Austrian School. He was an economist, economic historian, and libertarian political philosopher. See Murray N. Rothbard's article archives. Comment on the blog.

This article originally appeared in Quarterly Journal of Austrian Economics, Vol. 2, No. 3 (Fall 1999), pp. 3–51. It is also reprinted in A History of Money and Banking in the United States and as a monograph.

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