7 MARCH 1931, Page 35

Monetary Science

Ma. KEYNES'S new TrEdfise on Money appears at a most opportune moment. It: comes just as the whole world is bewildered by a rapid and disastrous fall in prices, which is affecting the fortune not only of the great primary producing and debtor countries, but is also reacting upon the trade and industry of the industrial and creditor nations. Foremost among the causes to which the great depression is being attributed are the existing supplies of gold, its distribution or mal-distribution among the nations, the volume of credit, the long term and short term rates of interest, the respon- sibility of the Central Banks for monetary control and the problem of their co-operation. Mr. Keynes's book brings a series of brilliant analyses of the complex and conflicting factors which lie at the root of our monetary system. He divides, classifies, sub-classifies and analyses with keen, incisive, probing thought until he lays bare for consideration the basic relations which determine the movement of the price level. After showing that current money is predominantly bank money, which really consists of bank acknowledgments of debts to the depogitors of the bank, Mr. Keynes analyses bank deposits, distinguishing between time deposits (or fixed deposits or savings deposits) and cash deposits (or demand deposits). Cash deposits are maintained either for private purposes or for business purposes. Business deposits are again divided into deposits • used for normal productive business purposes (the industrial circulation), and those used in financial transactions (the financial circulation). The volume of these respective classes of deposits is determined by different considerations. Private deposits are determined by the nature and interval of requirements for cash to settle personal debts. The industrial part of business deposits will depend for its volume upon the money value of current output, the growth or diminution of stock in trade and the relative demand for consumption goods and investment goods. The financial circulation will have no definite relation to the rate of current production. These distinctions are important because the different deposits have different velocities of circulation, so that transfers between them vary the volume of effective purchasing power, with a consequential reaction upon the price level, despite the possibility of constancy in the aggregate amount of deposits.

Subject to the assumption that the purchasing power of money may be best examined for non-complex cases where it has changed equally for all relevant levels of real income, Mr. Keynes laments the serious lack of any satisfactory measure in- the form of index numbers. The wholesale price index roughly corresponds with the price level of unfinished goods, the majority of which enter into international trade. Clearly this is of no use for measuring purchasing power as a whole. The best available index is the index number of the cost of living of the working classes, but it underweights expenditure on personal services in comparison with expenditure on commodities. During the present crisis of disequilibrium between the prices of manufactured goods and the prices of primary agricultural commodities the need for an accurate index is more acute than usual.. We may echo Mr. Keynes's hope that with the growth of statistical material the- resources of an energetic Government will be equal to its compilation in the early future.

The key point of Mr: Keynes's argunient is derived from his two fundamental- equations, which, while somewhat 'difficult to understand in the light-of the new definitions which he introduces into economic literature, represent no more, as he says, than simple identities worked out through the mechanism of algebraic formultiet • • His line of approach may be simplified in two accolinti-. - In the -first; the: Production Account, the total receipts* of the producer are balanced against his total expenditure or costs. . The two sides are equated by including in the cost- Of production not only costs as ordinarily under- stood, but also the normal remuneration of capital in-the form of interest, and remuneration for risk and management. Any residual receipts by the producer are defined as profits, so that profit-means some exceptional gain (or loss)`as an addition to (or deduction from) the -normal remuneration: - The second-

account is a Consumption Account. All the moneys paid out in the cost of production, including the normal remuneration of the producer, plus any profits, constitute its receipts ; here the outgoings represent expenditure on consumption goods ; thri balance is saved. The receipts in the Production Account come from two soorces—the first from consumption goods and the second from investment goods. The receipts, therefore, in the Production Account and the disposal of moneys entering the Consumption Account are alike in that they fall into two cate- gories. The decision in the Production Account lies with producers as a whole, whereas the decision in the Consumption Account lies with the community as a whole. There is no guarantee or even likelihood that the proportion in which the division is made in the Consumption Account, that is, between expendi- ture on consumption goods and savings, will tally with the like division of receipts in the Production Account, that is, between receipts from consumption goods and receipts from investment goods. It may, therefore, well happen that the amount of money saved may not be equal to the amount of money expended upon investment goods. To this disequilibrium Mr. Keynes attributes much of the movement of the price level.

The banking system should so regulate its rate of lending that the volume of new investment is equal to the volume of new savings. Producers may make either positive or negative profits. Under their influence they will increase or diminish, as the case may be, the average rate of remuneration to the factors of production, that is, mainly to the workers. An ex- pansion of credit clearly gives to the borrower an increased purchasing power. This increase is balanced by a diminution in the command of purchasing power of bank depositors, because prices will rise following the use of the increased credit. Moreover, the rise in prices will diminish the value of all current income receivable in cash. There will be forced saving. The benefit equal to this loss in the value of current income will accrue in the shape of profits to producers who are able to sell their output at the higher price level. The loss in real purchasing power suffered by existing bank depositors will, on the other hand, be balanced by the gain to people who have borrowed at the previous lower price level, but who will now be able to repay at -the new- and higher price level, and so hand back to the original lender less real wealth than that which he originally lent.

The condition to be aimed at, therefore, is that there shall be no profit or loss in the sense in which Mr. Keynes uses these terms. The condition is that the aggregate profit should be zero, although this may be compatible with particular pro- ducers making profits and other particular producers making losses. The position, in Mr. Keynes's view, is unstable when- ever producers are making profits or losses. In the case of profits they bid against one another for the services of the factors of production_ until the price of these .factors rises. In the case of losses, they tend to throw the factors of produc- tion out of employment until these factors .will accept a rate of remuneration at which the cost of production no longer exceeds the sale proceeds. Unfortunately, the effect of this latter effort is normally not to secure an equal reduction all round, but to concentrate the reduction on the weakest bargaining factdrs. The friction of making these adjustments may be so acute that they occupy a long period of tune. Accordingly prices arc often easily depressed by an increase in the cost of money, exemplified through a rise in the Bank Rate, but everyone recognizes that it is much more difficult to secure any movement in the level of wages. The Central Banking authority has thus little, if any, means of acting directly on the level of. efficiency earnings. It can do so-only by involving producers in losses through the fall in the general price level which leads, sooner or later, to unemployment. - Only through that painful process of unemployment can pressure ultimately be exerted upon the wage level. Whatever intervenes to maintain efficiency earnings, notwithstanding unemployment4 imposes a further obstacle upon the efficiency of the banking nnechanisnv as- a factor-in. the 'control of the price level.

The statement that the equilibrium of the currency system depends upon the equality of the volume of savings and iieN4' investment, applies also to an international system. International equilibrium requires that in each- country the rate of foreign lending should be equal to its foreign balance on trade account. But the rate of foreign lending depends upon relative interest rates at home and abroad, as modified by the investors' attitude, while the foreign trading balance depends on relative price levels at home and abroad. The Gold Standard operates, in effect, as an international currency. It keepS all the Central Banks of the Gold Standard countries in line or, if they tend to get out of step; sets up forces which will operate to bring them back again into a like condition. No one Central Bank can, therefore; be indifferent to disturbances occurring in the outside world, especially when they affect its gold reserves: It is, therefore, often necessary deliberately to provoke national currency movements in order that the domestic system may not become out of relation with the international position. It is this necessity which underlies the need for far more co-operation between Central Banks.

Mr. Keynes, in dealing with the alleged shortage of gold, shows the part played in this shortage by the statutory reserves which various Central Banks have to keep, whether determined on the principle of a fiduciary circulation, as in Great Britain, or upon a proportionate basis, as in the United States and many Continental countries. He argues coW vincingly for freeing the Central Banks from any statutory restrictions whatsoever. He would leave them free to determine the reserves they need for themselves, so long as there is general agreement as to the undesirability of introducing gold into the coinage. With that safeguard, gold would be used only to settle international balances. Reserves could be restricted accordingly and the existing volume of gold would be able to support a larger volume of trade than it can do at present.

Mr. Keynes is thus no enemy of the Gold Standard, although he recognizes that its maintenance under perfect conditions of control is somewhat in the nature of the worship of the golden calf. So strong, however, is its hold upon the imagina- tion and so small is the cost of its maintenance that he would not interfere with its rule. He would, however, manage it

severely. Mr. Keynes shows that those who claim that monetary resources should be created pari passu with the

growth of production and that if this were done all would be well, overlook the necessity for keeping in balance the volume of savings and the volume of investments.

It may be questioned, however, whether Mr. Keynes has gone deeply enough into the causes which tend to disequilibrium between savings and investments. In this matter, psychology will always play an important part. The banker may lead the horse—his customer—to the water of a cheap supply of credit but that is no guarantee that he will be able to persuade him to drink. In the same way, so long as the Central Banking system is unable directly to affect the rate of efficiency earnings, it will be unable, however cheap credit may be, to persuade the producer to embark upon further investment ventures. That, indeed, appears to be the condition in which the world

is at present. In Great Britain the forces which tend to

immobility in the rate of efficiency earnings may be so strong as to defy any force exerted by the banking system. It still remains to be proved how long unemployment must continue and how severe and costly it must be, before the public at large and the workers in particular recognize that the evil of unemployment will grow progressively worse until the rate of efficiency earnings is adjusted. Again, shocks to public confidence may lead the investor to ignore the attractions put before him by the producer in the shape of remunerative capital issues until time and example tempt him back into the field of speculation, or investment. This appears to be the present attitude of the French and American investor. When, therefore, we are at present exhorted to save, Mr. Keynes leads us to believe that this alone will not solve our problem and equally when, on the wireless, he invites us to spend, we feel that his own treatise proves that this can only be a partial and a temporary palliative of our troubles. No one, however, can read this book without realizing what a flood, of light it throws upon the influence which monetary science plays in our economic wellbeing, nor without feeling that Mr. Keynes in his researches, and particularly his handling of the scanty statistics available, has done much to blaze a trail along which the banker and the industrialist, if only they will persist with these volumes, may walk with much greater