War and Gold

Title: War and Gold – A Five-Hundred Year History of Empires, Adventures and Debt
Author: Kwasi Kwarteng
Publisher: Bloomsbury, 2014 (First)
ISBN: 9781408848166
Pages: 424

The trade and commerce of ancient and medieval societies were based on exchange of precious material such as cowrie shells, beads of rarely occurring minerals, shaped stones, silver and gold. Taken alone, gold is just another metal but with lesser practical use than iron. Its value was assigned by a consensus of the society which handled it that it was precious. So were cowrie shells a few centuries before. If that is the case, why not use paper with special markings and engravings as a store of value that is impossible to replicate without costly equipment? The idea is surprisingly new, probably developed only when the state’s law-enforcing arms became longer that effectively put a stop to counterfeiting on a large scale. Trade expanded enormously with the growth of credit and global economy thrived. This book is an excellent attempt to tell a narrative story about the history of money from the time of the Spanish conquistadors and their discovery of the New World – in short, the origin of the Western world as we know it today. It summarizes some of the monetary developments which have shaped government in the last 500 years. Kwasi Kwarteng is a British politician of Ghanaian parentage and holds a PhD in history. He served as the Chancellor of the Exchequer for a month when Liz Truss was the prime minister.

The discovery of vast stores of gold in the New World during the sixteenth century invigorated European economy and polity. Spain was the only kingdom ordained by the Pope to conquer the New World. It is ironic that such immense wealth did not make Spain a great nation even though gold and silver flowed like water into its coffers. Spain used it to fund their military conquests. They heavily borrowed from private bankers and were in great debt. Increase in the availability of bullion led to general price rise and merchant classes flourished by the end of that century. The constant need to pay for wars was the principal engine of modern finance. This in turn indirectly controlled the destinies of nations. The Seven Years’ War (1756-63) greatly indebted Britain. To raise money they resorted to taxation of the American colonies which was resented, fiercely resisted and finally led to the birth of the United States after a war of independence. Paper money came into general use after the two revolutions in US and France. Administrations printed money for their use at will that caused its loss of value. This was later linked to gold. The institution which issued the paper currency kept a portion of its value in the form of gold and released the bullion in exchange of paper currency at a constant pre-specified rate. This mechanism was known as the gold standard and remained in vogue till 1971 when the US opted out of the gold standard.

The period between Napoleon’s defeat at Waterloo in 1815 and the First World War in 1914 may rightly be called an era of financial prudence and discipline in which governments tried very hard to keep balanced budgets with deficit in a year counterbalanced by surplus in the following years. A currency fully convertible into gold, a central bank which controlled the note issue based on that gold and an extensive and highly developed market for credit were features of the Late Victorian Age. Towards the end of the nineteenth century, the complacency of the ruling group towards the ambitions of the ruled saw some real downward pressure. As democratic elements further strengthened, greater public spending was demanded from government. This pushed them to deficit to cover which they started borrowing money on a larger scale. World War I upset all political calculations and national budgets in Europe. The war was fought on borrowed money. More cash were printed and the currency was briefly unpegged from the gold standard. As the currency was delinked from gold, inflation soared again. The thinking changed and the practice of having balanced budgets gave way to deficit financing. The wartime restrictions undermined Britain’s position as the financial and industrial capital of the world. The USA stepped into British shoes. Britain’s national debt multiplied 12.5 times from 1914 to 1921. War thus inevitably put an end to the balanced rectitude of Victorian public finance.

 The five decades between the end of World War I in 1918 and the fall of Bretton Woods Agreement in 1971 saw the climax of the gold standard and its inevitable demise. The Great Depression broke out in 1929 when the US Dollar was still linked to gold. Rapidly expanding export to post-War Europe accumulated a large quantity of gold in the US. Interest rates plummeted. When interest rate goes low, investors search for innovative schemes to derive more yield on their invested money. The low interests generated a credit boom coupled with visual prosperity of the American people through instalment purchases. When the credit bubble burst, the economy went into depression in 1929. After four years of low activity, the US devalued its currency by 59 per cent resetting the gold value to $35 an ounce from $20.67 set in 1792. The irony is that the 1929 depression occurred when the US was still enjoying a surplus in foreign trade while the 2008 recession happened under a trade deficit. The two world wars and the Depression transformed the ideas of a sound currency and balanced budgets into a consensus of debt and unprecedented levels of government spending often named as the Keynesian system after the writings of John Maynard Keynes. The Bretton Woods Agreement did not straightaway go back to the gold standard. Other currencies were pegged to the dollar under a somewhat static exchange rate. The dollar itself was then linked to gold. The US then bankrolled Europe and Japan for post-War reconstruction.

The book neatly summarizes the post-World War II commerce and the compulsions which made the US abandon the gold standard in 1971, perhaps for ever. The enviable position of Britain was irredeemably lost at the end of the War in 1945. Britain lay devastated and prostrate. A third of its overseas investments were liquidated and export trade ceased to function. Dollar gained ascendancy over the pound sterling and Britain became the leading debtor country in the world. Instead of then adopting pragmatic free-trade policies, Britain democratically brought in socialism that undermined the growth of the economy. At the same time, Americans imposed a well-managed form of capitalism on Germany which had surrendered. The same system with some minor modifications was also implemented in Japan. Under the canopy of American military support, Japan did not have to incur the ruinous defence expenditure of the pre-War years. Its US-made economic framework kept the Japanese Yen at an artificially low exchange rate against the dollar which boosted exports to the US and brought prosperity to the economy. When Europe and Japan recovered, American balance of trade shifted in their favour and the US became a net importer. Trade deficit made American gold to flow out of the country into the hands of foreign exporters – Germany and Japan. The US was incurring huge expenditure in the Vietnam War too. The pressure on gold mounted to such a high extreme that the US exited from the gold standard in 1971 and the Bretton Woods system collapsed.

Kwarteng makes a lucid analysis and unprejudiced commentary on the world economy that entered ‘the modern period’ with the demise of Bretton Woods, in which currencies unpegged to any gold value freely floated in exchange rates to other currencies, like any other commodity. The tight control of money supply by central banks known as monetarism came into being as the prominent philosophy by the end-1970s. It sought to control inflation and regulate government spending to the lower scales. Paper currencies not backed by any commodity standard facilitated unprecedented credit expansion. The soaring gold price from $40 an ounce in 1971 to $2700 today shows the extent to which investors were losing faith in the American currency. Paper money allowed governments to print ever greater quantities of cash and still shielded the most developed countries from the consequences of their excessive spending. Poorer countries would not be that lucky in this situation. Almost the entire book is dedicated to America and Europe and the small amount of space given over to Asian powers like China and Japan makes for interesting reading. The rise of China followed the path of mercantilism. This is a system which sought to boost exports in order to gain gold. A large population and low wages helped them achieve their objectives. The Chinese yuan was kept low in value which was stable during the Southeast Asian crisis in late-1990s even though the pressure on yuan was considerable as the other currencies were falling. The Chinese leaders, who are unaccountable to anything like a democratic electorate, planned for the long term and refused to be swayed by short-term considerations (p.292). The book was written in 2014 and contains no mention of India at all or its potential as a rising major economy at a level matching a part of China’s growth numbers.

Books on macro finance and economy has a nasty habit of being very lucid at first, dry after a point and would make the reader gasping for breath in the end. This book is delightfully different from this generic dictum. All parts of the book maintain clarity of thought and fruitfully engage the attention of the readers. It is amazing that Kwarteng packs five centuries of financial history into a solid tome that reviews each crisis faced by nations and the lessons learned from that episode are used to rewrite the future story. Even though a politician himself, Kwarteng has been very diligent in avoiding contentious postulates. The intricate ways in which the global political landscape emerged from a series of episodes such as the Vietnam War, oil embargo of 1973, the Reagan-Thatcher years, rise of China, the Southeast Asian crisis of the end-1990s and the 2008 recession are all catalogued in this book in an effective manner.

The book is highly recommended.

Rating: 4 Star