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By Lionel D. Edie, Indiana University Studies No. 78, pp. 126 to 136, March, 1928


The many separate factors in demand and supply of gold, which have been discussed, bear directly upon one central problem. This problem was stated at the outset in the following words: What changes in supply and demand of gold have taken place since 1913 and how may such changes be expected to affect the secular trend of the price level during the next few decades? The details of the foregoing analysis are closely related to this basic problem.

But, as details, their bearing upon the primary issue may be lost sight of unless the lines of connection are summarized in brief form.


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The above alternatives exhaust the possibilities of increasing the world production of gold. Since none of these alternatives contains a serious hope of enlarged production, the conclusion is reached that production can not be expected to expand materially beyond the present rate of about $400,000,000 annually. In the course of the next 10 years, it is probable that production will have so seriously exhausted high-grade ores that a falling off from the 400,mark will be in evidence.

The factors of demand for gold money have been examined in order to discover whether there are any new economies in the use of gold which might reduce the world requirement for an annual increase in stock of gold money.

The following summary of demand factors indicates the extent to which the

secular trend of demand has been modified by new habits in the use of gold:

1. World demand for gold in the industrial arts will tend to equal or exceed the pre-war consumption, and should be expected by about 1930 to equal at least $120,000,000 annually.

2. Demand for gold by the Orient for hoarding purposes will tend to be fully as great as before the war, and should be expected to exceed $100,000,000 annually.

3. Demand for gold has been economized greatly by centralization of the metal in reserves. This economy warrants the assumption that the price level of 1913 would normally have been about 35 per cent higher1 than it actually was, if all gold had been centralized in reserves at that time. In other words, the normal pre-war price level was 135, on a base of the actual 1913 level as 10O.

Furthermore, the economy of centralized reserves warrants the assumption that the future normal annual increase in world stock of gold money will be about

2.7 per cent, but that rate will be applied to a principal sum one-third less than that which would be required if gold were to be returned to circulation in the pre-war proportions.

4. Demand for gold has been economized slightly by establishment of lower reserve ratios back of notes and deposits; but in the aggregate this does not account for more than about 10 points in the price index, or the difference between the hypothetical normal index of 135 and the actual index in gold standard countries of about 145. The year 1913 is taken as a base of 100 in calculation of these indexes.

5. Demand for gold has been economized by modification of the gold standard and introduction of the gold exchange standard. Such economy is chiefly due to the withdrawal of gold from circulation. This factor has been fully allowed for in point No. 3 above. Such economy is further due to the pooling of reserves, but this arrangement is limited. Nationalism! makes quite unlikely a permanent willingness on the part of any first-rate power to keep its gold reserves in the vaults of a foreign country.,

6. Demand for gold is not likely to be seriously altered by adoption of the gold standard by new countries. It will not be abruptly increased from this cause, because China and a few other countries are the only ones which have not already been on come form of gold standard. On the other hand, demand will not be abruptly decreased from this cause for the reason that a great many countries now on the gold exchange standard are trying to grow up to the full gold standard. The world saturation point in gold demand is far from reached;

and if all countries eventually require as much gold per capita as England, the United States, and other advanced industrial countries, the potential demand for more gold per capita will vitalize demand for many decades to come.

7. Demand for gold due to secular trend of trade and population promises to follow during the next two or three decades substantially the same curve as before the war. The setback to production caused by the World War was confined chiefly to Europe; and Europe shows every evidence, after a decade of hesitation, of going forward again at the old pace of growth.

The above alternatives exhaust the possibilities of fundamental changes in the demand for gold. As a result of allowing for rather definite probabilities on each point, we have a sound basis for concluding that in 1913 the price index under conditions of centralized gold reserves would have been 35 per cent above the index which actually prevailed under conditions where large amounts of gold were in circulation. likewise, we have a sound basis for concluding that the normal postwar requirement for the world stock of gold money is an annual increase of 2.7 per cent. We may now proceed to apply these conclusions to the gold situation of the postwar period. Actual gold stock and production may be compared with the estimated normal requirement. In this way, it will be possible to ascertain whether a shortage of gold is in sight, and whether the value of gold is likely to appreciate or depreciate.

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The following table compares the estimated normal stock of gold money with the actual. The estimated normal is computed by carrying forward to 1925 the actual stock of 1913 at the rate of an annual increment of 2 per cent and thereafter projecting it at the rate of an annual increment of 2.7 per cent. The estimates of actual stock are derived from three separate sources, and are believed to afford a reasonably accurate measurement of supply.

In the accompanying table tliree separate estimates are presented of the actual world stock of gold money. A word of explanation is necessary in order to appraise the relative accuracy of these estimates. The first column contains an estimate by the Director of the United States Mint. It is based upon reports obtained from all improtant gold-using countries. Although the reports are carefully compiled, nevertheless a study of the records of past years leads one to infer that the reporting countries do not always observe uniform methods of filling out reports. In addition to nonuniformity, there is a degree of incompleteness in the records; some countries are not represented at all. Consequently it is probable that the estimate for 1925 is slightly below the true figure.

The second column contains estimates published by the Federal Reserve Board based upon reports of the central banks of leading countries. These estimates are incomplete. The countries which are omitted are small, but in the aggregate they would add perceptibly to the total. Moreover, the figures purport to cover only gold in reserves. Of course, very little gold is now in circulation anywhere in the world in the form of coin, but the amount would make a slight addition to the estimates offered by the Federal Reserve Board.

Consequently we may safely assume that the 1925 estimate is somewhat below the actual figure.

The estimate by Joseph Kitchin contained in column III is arrived at by carrying forward the actual figures of earlier years by adding thereto the current world output of gold for succeeding years less the gold consumed in the industrial arts and absorbed by the Orient. These estimates involve certain arbitrary assumptions and probably result in a slight overestimate of the actual stock for the year 1925. It is the belief of the present writer that an estimate of about $9,800,000,000 would approximate the true figure. This amount is almost identical with the estimated normal stock required by the 2 per cent rate of interest, namely, $9,801,000,000.

World's stock of monetary gold [000,000 o m i t t e d ]

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1913. 7,728 7,728 5,421 7,728 158 1914 8,059 7,111 5,921 7,882.5 154.5 6,862 8,448 1915-_... 8,258 8,040 157.5 (2) 7,191 8,779 8,201 161 1916-_ (2) 7,642 9,013 8,365 164 1917 7,225 9,329 8,339 8,532 167 1918-...

6,978 9,392 7,873 8,703 171 1919 9,621 8,246 7,671 8,877 174 1920 8,425 9,884 8,680 9,055 178 1921 9,986 8,925 8,771 9,236 181 1922i See Report of Royal Commission on Indian Currency and Finance, 1926, Volume III, p. 534.

* Data not available.

* Preliminary estimates by the writer. These are believed to be maximum figures rathir than minimum.

« Preliminary estimates by Kitchin.

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As indicated by the accompanying table and by chart No. 14, the estimates have been projected at 5-year intervals to 1935. Some time between 1930 and 1935 a deficiency of actual stock below normal would be expected to exert an influence upon the value of gold. This deficiency would each year become progressively greater. The reason for a growing discrepancy would be that the 2.7 per cent rate is each year being applied to a larger base number. For instance, 2.7 per cent of $12,000,000,000 is considerably more than 2.7 per cent of $10,000,000,000. The amount of production can scarcely be expected to increase at such a progressive rate. Owing to exhaustion of deposits and the application of the law of diminishing returns future production is more likely to decline than to increase. Chart No. 15 shows the trend of actual production since 1900 and illustrates the data upon when present conclusions are based.

As this discrepancy becomes of material proportions, it will tend to cause a secular decline of the price level in all gold-standard countries. We may with good reason assume that no serious long-time deflation of the price level in gold-standard countries is likely to take place until about 1935. But after that time it is likely that there will set in a gradual lowering of the price level over a long period of years.


Probably the most widely accepted assumptions relative to the value of gold are as follows: (1) That a gradual return to the pre-war price level of 100 is in prospect, (2) that the annual requirement of new gold money is about

2.7 per cent, (3) that a shortage of gold below normal requirements set in about 1920, (4) that postwar changes in the gold standard may have taken place, such as to cause some extraordinary economies in gold usage and so to upset all existing calculations.

The present analysis warrants important corrections in all of these assumptions. The common expectation of return to a pre-war level does not take into account the fact that, had the 1913 stock of gold money been in reserves, the price level of that year would normally have been 35 per cent higher than it actually was under then existing conditions. The same total gold supply now as in 1913 would normally support a price index of 135, because of the withdrawal of gold from circulation. Hence, so far as gold supply is concerned, a post-war index of 135 is equivalent to a pre-war index of 100.

The second assumption—namely, that the annual requirement of new gold money is about 2.7 per cent annually—seriously overrates the true requirement under war and postwar conditions. Largely because of the new practice of impounding new gold in reserves, the normal annual increase of gold money is applied to a base only two-thirds as great as that which would have been required under pre-war habits of circulation. This lowered rate means that the future price level can be sustained by a much smaller annual output of new gold than has hitherto been assumed necessary. Moreover, during the period 1913 to 1925 the normal annual requirement should be set at 2 instead of 2.7.

The third assumption—namely, that a shortage of gold below normal requirements set in about 1920—is fallacious. The notion originated with investigators who carried forward the estimates of normal requirements by applying a 2.7 or 3 per cent annual rate of increase during a period which was quite abnormal.

The rate which should be used during the war era is 2 per cent. When the correct per cent is applied the estimated gold shortage is postponed about 15 years, and when it does take place will be much less acute than has commonly been supposed.

The fourth assumption relative to changes in the gold standard has beep practically a confession of failure to analyze the changes in question. An air of mystery has surrounded the matter. A notion that financial practices have been violently upset and that they have not yet settled down in permanent or normal form has prevailed. A feeling that any attempt to analyze the situation must inevitably be futile has been allowed to paralyze research. In the absence of knowledge, most authorities have assumed that gold usage will return to the pre-war form, but have warned that such an assumption is dangerous.

The present inquiry has been aimed at the unknown factors in this situation. The changes in the gold standard which might bring about an economy of gold prove, upon analysis, to be twofold: The withdrawal of gold from circulation, and the pooling of reserves. The former is fully taken into account by our revision of the conceptions of the normal pre-war price level and of

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merce " and to aim " to promote stability in the price level," but the House struck out the clause for stabilization, and the Senate did not restore it.

But little information has ever been given as to why this was done, but it was evidently the work of those who did not wish the Federal reserve system used for the stabilization of the purchasing power of money. But to those who have read and followed these hearings it must be evident that the direction to " accommodate business and commerce " is practically no direction whatever and may be interpreted to mean almost anything or nothing. Certainly it was not the intention of Congress that the powers given the Federal reserve system shoujd only be used for the accommodation of those who are engaged in business and commerce.

Kealizing this, those who are recognized as the most able of the officers of the Federal reserve system have used their influence to have the powers of the Federal reserve system used for the purpose of stabilization of the purchasing power of our money. This was admitted during the hearings on H. R. 7895, but has sought to be obscured and even denied by some of the members of the Federal Reserve Board that have appeared before this committee at this session; yet the introduction 01 various charts in these hearings showing the " General price level," " Demand deposits," " Federal reserve credit," "Stock of gold in the United States," "Money in circulation," "Loans and investments," "Price level of various commodities," " Exports and imports," " Foreign exchange rates," " Price movements during a term of years," " Wages," " Cost of living," and "Wholesale prices," etc., which were prepared by economists and statisticians employed by the Federal Reserve Board and Federal reserve banks furnish the best evidence that they were seeking in* formation of price levels and conditions as a basis for determining any change in the policy of the use of the powers of the Federal reserve system th^t they believed necessary to maintain stable conditions, which, of course, can be secured in no other way than in the stabilization of the purchasing power of money.

Some of the witnesses have used much language in an effort to present reasons to this committee why it should not make a favorable report to the House upon this bill, but such arguments as they did not themselves contradict have been fully controverted and explained by the splendid statement of Dr. J. R. Commons, whose years of study of the subject of stabilization and his knowledge of the Federal reserve system qualify him as one of the best-informed economists on these subjects, ana I wish to express my sincere appreciation of the splendid assistance he has rendered during these hearings.

My purpose in presenting various drafts of H. R. 11806 before its introduction at this session of Congress to various officers of the Federal reserve system waa because of my earnest desire to have their cooperation in its preparation. My nine years' experience upon this committee has caused me to realize that the Federajl reserve system has given us the best financial system of any of the nations of the earth, and I have come to hold in high regard the ability of many of the officers of the Federal reserve system and I had hoped to have their assistance inforiniiig the phraseology to be used in the bill, to 1502&—28 29

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If through the system of brokers' loans so great an amount of the Nation's savings has been drawn into the stock market as to be a menace to the public welfare, the Federal Reserve Board might properly use their power of " advice and publicity," and if necessary recommend to Congress legislation to correct sucn evil, but certainly gambling in stocks and bonds ought not to divert the Federal reserve systeip from its responsibility to the Nation at large.

I sincerely regret that these hearings are not to be completed at this session of Congress, but members of the committee have requested the appearance of persons who will not be available before Congress adjourns, and before the consideration of the bill in executive session I want to have all possible information pertaining to the proposed legislation presented. However, at the beginning of the next session I will ask that these hearings be continued to completion when the bill will be taken up for study and amendment by the committee, after which I will move that it be reported favorably to the House.

(Thereupon, at 12.45 o'clock p. m., the committee adjourned.)

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Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis INDEX

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Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

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