Memorandum NANKING, 2 July 1946
THE INTERNATIONAL MONETARY FUND
1. I have had the opportunity of reading Mr. Melville’s last report on the inaugural meeting of the governors of the International Bank at Savannah in March [2], and also a report by Mr. Brigden on the issues raised for Australia in considering whether she should join the International Monetary Fund. [3] I have not had the opportunity of reading Mr. Melville’s earlier review of the Articles of Agreement, to which he refers in his report. It is the purpose of this note to deal with the broad general considerations that face Australia in deciding her course of action. She cannot at present alter the terms on which the new monetary system is to be established, though, as a member, she could affect the way in which it will be managed. The system is now well on its way and has to be accepted or rejected. The immediate issue is therefore not one of arguing the intrinsic merits or defects of the new system, but of assessing the broad consequences of joining or not.
The Case Against Joining:
2. The case against joining may be summed up as follows. Adherence to the Fund would interfere with Australia’s freedom of action, particularly with respect to depreciating her currency and imposing quantitative restrictions on imports, if the circumstances involved a choice between depreciation and restriction on the one hand and the abandonment of a pre- determined domestic policy on the other. There are many other related problems, but it is not exaggerating the importance of the issue, as it has been stated above, to say that this is the overwhelming consideration. This matter is of the first importance because Australia is likely to be well in the vanguard of employment and investment policies that could be hampered in certain circumstances by a rigid exchange policy, and she is also the first country to feel the impact of a general recession of business on her exchange stability.
The Experience of 1930:
3. The experience of 1930 was the classic case of this, and it is ever-present in the minds of all of us who have to consider the course Australia should pursue in the future. On both economic and political grounds, the experience of 1930 is apt to overcloud our minds. There was a combination of three factors in 1930 that is unlikely to occur again. First, Australia was a heavy borrower and was deriving both overseas funds and national income directly from loans to the value of 30m. per annum. This was suddenly stopped, but that situation is unlikely to arise again. Australia has been paying off overseas debt over the past 12 years, and, though private capital will come in during the years of expansion after the war, it will not be a determining influence on the prosperity of the country to the extent to which the public borrowing in the twenties was. Moreover, if Australia can continue to pay off overseas debt through the sinking fund provisions, there is an offset here to be used if and when a situation suddenly arises in which the inflow of private capital ceases. Secondly, the international investment picture in the twenties cannot be accepted as the pattern for the future. The United States was politically out of the world by her decision on the Treaty of Versailles and other international actions, though in the world uneasily for a few years as an investor. In these circumstances, it was inevitable that she should withdraw sooner or later, taking no consequences for her action which she would not regard as a defection. This is not likely to be the position in the future, however desperate a view we take of American policy. This must always remain a matter of judgment until recorded events tell their own story, but I can only state my opinion that the United States has become the dominant world power for good or for ill and that she will not again abandon her responsibilities as an international investor as she did in 1930. Thirdly, and related to the second point just made, the fall in world prices in 1930 was on a grand scale because the world had lost its mainspring to action through international investment, and the United Kingdom was in no position to discharge either its economic or political responsibilities in the absence of a lead from the United States.
These three forces acted savagely in 1930, and all in unison. It would be a mistake to build a policy on any assumption that they could ever combine to cause such wreckage again.
The Spread of Expansionism:
4. This is the negative approach to the problem. On the positive side, there are the following major matters to note. First, Australia will not be alone in placing emphasis on domestic employment and investment policies. The United Kingdom is heavily committed in this direction, both in ideas and in contemplated practice. This is one of the major changes that have come over the economic scene since the bad days of the depression and the inter- war period. The new position of the Treasury, the nationalisation of the Bank of England, the economic policies being worked out by the economic experts that now have an accepted position at Whitehall, and the political temperament of the people all lead in one direction.
For her own good, the United Kingdom must become, and is now in fact, the leading exponent of an expansionist economic policy. She will not be without allies because all the democratic countries must pursue the same policy if they are to survive with their present political structures, and there will be many prepared to follow the leader of the opposition if they feel the hand of the dominant economic power falling too heavily upon them. It is a mistake to assume that any country, least of all Australia, will approach the monetary fund without allies, if her case rests upon an enlightened interpretation of the doctrine of expansion in a world that is threatened with deflation. To resist deflation is no longer to act in defiance of the accepted financial faith. In a growing number of countries it will be regarded as a virtue.
Better Prospects for Stability in Primary Products:
5. Secondly, the demand for the basic raw material and foodstuffs will, in all probability, be inherently stronger than before the war, and there will be better techniques available for dealing with surpluses that may affect the markets adversely. If the claims for international cooperation to raise standards of living mean anything at all, they mean that the products which Australia has to sell will be among those that will benefit most; and this will be true of all primary producing countries. An expansionist world economy, which, in part, it is true turns on what the United States does, will alter the price structure for the main basic commodities that enter into world commerce. Moreover, the general price management of this war has not left Australia in so vulnerable a position as she was in the inter-war period. Her export prices have not risen so much as they did in World War I, and her internal debt structure is also much more capable of absorbing a shock. Moreover, the proposals for international agreements on commodities, new in operation in the classical case of wool, will give greater stability to the world prices for basic commodities. They will be helped by the plans of the Food and Agricultural Organisation.
The United States as Lender:
6. Thirdly, it is by no means certain that dollars will be scarce.
It is quite certain that they will not be as scarce as they were in the thirties. This will depend upon the extent to which the United States maintains its position as a lender on international account, on the competitive power of her exports in the world markets, and on the level of her imports. in all these ingredients of the problem, the position is now much better than it was in the thirties, and, in some respects, it can be argued that the outlook is positively good. First, on lending, the United States has certainly made a good start. That might have been said of the country after the last war, but, on this occasion, the commitments on political as well as economic policy are far greater. In fact, there is no comparison between the position taken up by USA now and in 1920. It is not necessary to make a catalogue of the Congressional Acts that have linked the fate of the United States with the outside world. They are well known, though not always assessed at their true significance. But what seems to be overlooked is the machinery that is being worked out for administrative purposes in carrying out the new economic policy that these Acts involve. In this connection, the new’ National Advisory Council’ should be mentioned. This Council advises the President on international monetary and financial problems, and consists of the Secretary of the Treasury, the Under-Secretary of State for Economic Affairs, the Secretary of Commerce, the Chairman of the Federal Reserve Board and the Chairman of the Export-Import Bank. As ‘The Economist’ stated on May 25th, the National Advisory Council is ‘a committee created by Congress at Cabinet level, equipped with staff committees as needed, its task is to co-ordinate the country’s financial and monetary policy and operations in foreign affairs, and to gear the whole into the new world organisations, the International Fund and the Bank’. Its lucid report on the Foreign Loan Policy of the United States, published in the Federal Reserve Bulletin for March, 1946, is an impressive document, and indicates that the authorities guiding these financial transactions have a sense of responsibility far greater than their predecessors of 1919. It may well be that they, in common with many others, will live to be rebuked by Congress, which never allows any of its own creations to gain too much authority. But it would be a mistake to assume that, on that occasion, the rebuke would involve so desperate a change in policy as overtook the country when it withdrew completely from external investment in 1930. That act was merely an adjustment of the economic policy to a political course already set ten years before. On this occasion, the anxiety of the National Advisory Council, as advisor to the President, is to see that economic policy keeps up with the new political commitments of the country.
On this count, therefore, we must expect dollars to be less scarce than before the war.
The Balance of Exports and imports:
7. What of the other two elements of the dollar supply problem, the level of exports and imports? There is a fear that, in the world situation, American exports will flood the world markets.
This may be a legacy from the days of lend-lease when, in fact, the United States did flood the world markets on the grand scale, but at what level of prices? Costs in the United States are far higher than before the war, and, on the whole, relatively higher than costs in the United Kingdom or the other possible competitors of the United States such as Canada, the Northern European countries and Australia. Most of these countries are a lap behind in getting their internal demands satisfied because the war effort was a greater burden on their resources, and they have a greater lee-way to make up. But we shall shortly witness the classical theory of international trade working out in the most interesting way, when the United States finds that, in the world of competition, economic power is not enough; cost, quality and efficiency come into the picture. The inflationary tendencies in the United States are all to the good, because they offer an additional guarantee that the demand for dollars may not after all exceed supply. On the import side, the tendency will be for higher spending power to increase the volume of imports, and any movement for lower tariffs and reduced restrictions on world trade will work in the same direction. It is true that recession in business will interrupt these movements, but, here again, it would be erroneous to imagine that, on the first reverse, the deep-seated tendencies which are outlined here would be thrown into reverse gear. All the efforts of the New Deal before the war could not upset the operation of the forces that were building up in the twenties to create the biggest scarcity of the leading international currency in modern times. I see no reason why a slump in the United States should upset the fundamental tendency at present in operation to create a surplus of dollars. Safeguards in the Monetary Fund:
8. This is the general background in which the problem has to be resolved. It may be argued that the thesis presented here is too favourable, bearing in mind the uncertainty of political and economic policy in the United States. There is substance in this objection, and it must always be a matter of judgment as to whether the Americans will pursue a sufficiently expansionist policy to enable the world to avoid the economic disasters of the inter-war period. On a conservative view of the position, the outlook is much better than it was before the war, and, if the United States succumbs to a depression, which it is powerless to circumvent as it was in the thirties, there will be many countries anxious to press upon it a liberal interpretation of the machinery of the Monetary Fund. Pressure will come from within as well as from without the United States. There are certain automatic safeguards in this machinery. Two of these are important, namely the right of any country to depreciate its currency by 10%, and the right to discriminate against scarce currencies. No international monetary system has hitherto conceded these rights to dependent countries against the dominant partners in the system. Those who speak as though the Monetary Fund was a return to the gold standard, naked and unashamed, overlook these provisions.
Safeguarding Domestic Policy:
9. There is a third, which is not automatic, namely the right of a country to present a case for depreciation of its currency, if that course is felt to be necessary to safeguard its domestic policy. The Fund must then give adequate consideration to the case. There is the risk that rigid opposition to currency depreciation may make this provision a dead letter, and that, in any case, the decision may be delayed, and the relief come too late.
A general condition of this sort in any agreement necessitates the development of working machinery, which would be put into operation in circumstances in which a country would be embarrassed if it had to maintain exchange stability, apart from its automatic rights to a 10% depreciation, and the use of restrictive measures against scarce currencies. There is no reason why those countries that feel the need for protection against delays and inflexible attitudes on the part of the dominant powers should not insist on such machinery being developed in good time for any adverse situation that may arise. There is little likelihood that it will arise in the immediate future, and it may well be argued that Australia would be in a stronger position to protect herself by joining the Fund now and obtaining a seat on the governing body, where she could press her point of view, rather than take the risk of being the only important country outside Russia that remains outside the Fund.
False Analogies:
10. Mr. Melville refers to the steam-roller tactics of the United States in insisting on Washington being the headquarters of the Fund, and the high salaries fixed by the Savannah Conference for the Directors as possible examples of the disregard by the United States of the rights of others. But is the analogy correct? The minor countries will not get excited over the choice between Washington and New York as headquarters, and they are less likely to be opposed to high salaries. The late Lord Keynes [4] is reported to have referred to the ‘pathetic procession of stooges’, including China, from where this memorandum is being written, who were prepared to do the bidding of the United States on these matters. It will be a different case when countries are confronted with steam-roller tactics that affect their rights to manage their own affairs, and, in a world that has learnt so much unorthodoxy in finance in the last fifteen years, the task of marshalling the forces of reaction won’t be so easy. Mr. Melville also refers to the condition in the United States - United Kingdom Loan Agreement under which the United Kingdom is required to abandon exchange restrictions in one year instead of the five years originally stipulated for the members of the International Monetary Fund. But surely this is irrelevant to the issue. The one year period was part of an overall plan for adjusting the external position of the United Kingdom based upon a substantial loan from the United States. No such considerations can be applied to ordinary members of the Fund.
Conditional Adherence Favoured:
11. Admittedly, adherence to the Fund will limit the freedom of action of the individual members, but that is true of all international agreements. Australia has taken a leading part in the discussions that have led up to the establishment of the several institutions under which it is hoped to regulate the relations among the nations in the future. It would be anomalous for her to abstain from entering into the most important economic instrument of international control at a time when she is playing so important a part in the international political arena. The risks she takes are far less than those which the United Kingdom has taken under the American Loan Agreement, which, in many respects, is the corner stone of the new international economic structure. if, as Mr. Melville suggests in the concluding paragraph of his main report (43), adherence were accompanied by the reservation that it was tentative, and conditional upon the provisions of the proposed International Trade Organisation, there would appear to be little risk at all. In this event, Australia would be in the Fund on an experimental basis, and would avoid the misunderstandings that are bound to arise through her conspicuous absence at present.
D. B. COPLAND
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1 In a letter to Dunk (dated 5 July) Copland asked that the memorandum be passed on to Evatt. He added that he had sent a copy direct to Chifley. A note from Evatt’s office (dated 8 August) indicates that Evatt saw the document.
2 Volume IX, Document 212.
3 ibid., Document 176.
4 Keynes died on 21 April 1946.
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[AA:A1067, ER46/12/2, ii]