Monetary and Economic Policy Problems Before, During, and After the Great War. Людвиг фон Мизес

until the fourth privilege of the Austro-Hungarian Bank went into effect the quantity of notes in circulation not backed by precious metals was strictly limited to 200 million, the number of bank-notes in circulation increased from 247 million florins at the end of 1867 to 391 million florins at the end of 1887. The system adopted in the Austro-Hungarian Bank’s fourth privilege of an indirect limitation offered a freer scope to the expansion of notes in circulation. It amounted to:¹⁰

	Tax-free note limitation	Notes in circulation	Tax-free bank-note reserves
Average for the year	Millions of Austrian florins
1888	433	385	49
1889	443	399	43
1890	449	416	33
1891	453	421	32

      The entire paper money in circulation (state- and banknotes) amounted to:

Millions of Austrian florins	At the end of the year
762.5	1888
834.0	1889

      This corresponded to a total increase of 71.5 million and an average annual increase of 23.8 million florins. That this increase in the quantity of paper money in circulation did not lag behind the increasing demand for it, or at least not far behind, is shown by a comparison of the numbers from the period after the inauguration of the currency reform. Since then, it is generally accepted that the increase in currency in circulation completely satisfied the needs of business. The monarchy’s money in circulation amounted to:

Million crowns	At the end of the year
1728.0	1892
2279.1	1904

      This represents a total increase of 551 million and an average annual increase of 45.9 million crowns. The average annual increase of money in circulation was thus not larger in the period after 1892 than it was in the years immediately preceding that year.

      In light of these facts, the claim that Austrian currency in circulation lacked the possibility for expansion cannot be maintained. However, to conclude that the increase in the currency in circulation satisfied the developing and increasing demand for it would be equally invalid. Such a conclusion would be prohibited because the statistical evidence is completely lacking for determining what were the required amounts of currency in circulation. Irrespective of this, however, even with the presumption of a domestic contraction, a direct causal relationship between such a contraction and an increase in the international value of the currency could not be determined.

      It must be acknowledged that as the domestic currency in circulation becomes scarcer, this initially leads to a contraction of credit and an increase in the cost of borrowing, and has the further result of bringing about a fall in the prices of goods. It is obvious, however, that such a drop in prices can be only for those goods that cannot be exported. A decline in the prices of these goods in terms of the domestic currency will not result in foreigners offering higher prices for bonds on the Viennese market. This could be brought about only by a reduction in the prices of exported goods. This could occur only if as a result of the fall in other domestic prices the production of exported goods increased to such an extent that their prices fell due to their increase in supply. The increase in the rate of exchange that would result, however, as a consequence of this increased supply of exportable goods could be neither considerable nor of significant duration, because the decline in their prices would be transferred to the global market within a short period of time. Then any motive that foreigners would have to offer higher prices for Austrian bonds would slip away.¹¹

      It is not possible, given the current underdeveloped state of monetary theory and the lack of statistical data, to arrive at any certain conclusions about what influence the limit on increases in currency in circulation may have had on the value of money through its impact on the prices of goods. In other respects, the impact on the foreign exchange rate due to the limit on the maximum quantity of state notes in circulation and the administrative suspension of silver coinage can be determined with certainty: in fact, it was a means of securing the credit of the monarchy. The strictness with which the two governments of Austria-Hungary followed the conservative rules of its currency policy reestablished trust in the two financial administrations’ fulfillment of its monetary obligations, especially after this had been severely shaken both domestically and abroad by the events of 1797-1866. The danger of an inflationary increase in the supply of paper money, much like the danger of a return to a silver-backed currency, retreated into the distance.

      The improvement in the creditworthiness of the currency went hand in hand with the strengthened creditworthiness of the government bonds. This was considerably influenced by the gradual disappearance of the threat of war, which had risked the peaceful development of our fatherland since the Congress of Berlin.¹²

      Without a doubt, a war with one of the Great Powers would have forced Austria to resort to a new issue of paper money emissions, to renewed borrowing through the issuing of premium bonds, and perhaps also to a reduction in bond coupon payments, which would have destroyed the national credit for a long time.

      The average annual rate of Austrian 4 percent gold bonds on the Berlin exchange rose from 61.05 percent in 1877 to 93.50 percent in 1886. Following a downturn in 1877 to 89.67 percent (during the Bulgarian Question),¹³ the upward movement continued. The annual average amounted to:

90.46%	in 1888
94.09%	in 1889
95.12%	in 1890
95.69%	in 1891
104.55%	in 1897

      The rate for Hungarian gold bonds was increasing as well. The rate of return on the 6 percent gold bond amounted to (calculated according to the average annual rate) 7.9 percent in 1877, and that of the 4 percent gold bond amounted to 4.4 percent in 1891.¹⁴

      As long as the concern continued regarding peace in Europe, speculation countered an increase in the note value. Out of fear of a decline in the Austrian currency, investors avoided accumulating large amounts in Austrian cash assets and preferred to deposit their liquid assets in gold bills of exchange. The disappearance of the risk of war allowed such a speculative collecting of gold exchanges to appear superfluous, and the pressure that the domestic speculative demand for gold had exerted on the currency market dropped off.¹⁵

      If one item in the monarchy’s balance of payments improved in this way, other entries show a favorable pattern as well.

      The Austro-Hungarian trade balance for imports and exports amounted to:

	Excess imports	Excess exports
In the years	Millions of Austrian florins
1869-1873	475.7	—
1874-1878	—	151.7
1879-1883	—	532.3
1884-1888	—	652.5

      The excess exports in the import-export trade amounted to:

Millions of Austrian florins	In the year
114.2	1885
159.4	1886
104.3	1887
195.7	1888
177.0	1889
160.7	1890
173.8	1891

      Starting in 1889, Austro-Hungarian investments began to immigrate back from abroad. The unfavorable effect that a capital migration of this type is able to exert on the balance of payments, and through this on the bond rate, was alleviated by the fact that new government borrowing by both governments had practically come to a halt in 1889. The domestic demands for investment were extensive enough to take up the funds flowing back into the country without disturbing the currency or bond markets.¹⁶

      According to Sax,¹⁷ the positive balance in the balance of payments amounted to:

57 million Austrian florins	in 1889
40 million Austrian florins	in 1890
54 million Austrian florins	in 1891

      The favorable pattern of the balance of payments explains the general improvement in the Austrian currency in the four-year period that began in the summer of 1888. The exceptionally low rate for foreign bonds in the third quarter of 1890 can be traced back to a particular cause: the Sherman Act of July 14, 1890.¹⁸