Knowledge that Transforms

S HORT term interest rates usually depend upon the ability of commercial banks to lend money; the position of banks, in turn, depends largely upon the gold stock of the country. Therefore, in the last analysis, the supply of gold in relation tocredit liabilities governs interest rates. It is illuminating to analyze the changes which have taken place from time to time in the gold stock, and in the credit structure erected upon the gold stock, in an effort to relate these two important forces to each other. This -relationship is ascertained through the gold percentage, arrived at by dividing the total stock of gold in the country by the sum of bank deposits plus money in circulation. Fluctuations in the gold percentage may-be caused by changes in either or both of these factors, depending upon the degree to which central bank credit policies or other artificial influences are operative at the moment. In the absence of such outside influences the volume of both credit liabilities and gold tends to move in the same direction. Sometimes there may be some delay before movements in one respond to movements in the other; and sometimes one may fluctuate less than the other. These irregularities produce the fluctuations which occur from time to time in the gold percentage. It is such changes in the gold percentage which, in the last analysis and after allowing for other lesser influences, ultimately control interest rates. Of course, there frequently is an interval of time between a reversal in the direction of movement in the gold percentage and its resulting reaction on interest rates. This is because interest rates follow more closely the position of the banks. Banks can readjust their position to changes in the stock of gold only slowly. It is one of the functions of central banks to smooth out such readjustments in the commercial banks by temporarily counterbalancing gold movements. In this manner seasonal or emergency fluctuations in the volume and cost of credit are reduced to a minimum, while cyclical and major changes are accomplished gradually and in an orderly manner. It is doubtful if any credit structure cou'ld have survived a' 20 per cent reduction in gold stock within a sDan of nine months, such as occurred in the United States between September I931 and June I932, without the assistance of a central banking system. The gold percentage is a tool with which to measure the strength or weakness of the credit structure at any given time. It also affords a check on the validity of interest rates, indicating whether or not, and to what extent, the money market is being influenced for the moment by outside forces. The gold percentage is the fundamental factor which must sooner or later be reflected in credit conditions and interest rates. These can only temporarily disregard the gold percentage, and changes in it should always be considered of the utmost significance. Gold percentages are more useful for visualizing the changes which occur in the credit structure of a given country over a period of time than they are for comparing credit conditions in one country with those in other countries at any given time. The customary or average level around which the gold percentage of any given country tends to fluctuate depends to a large extent upon banking practices and national characteristics. For example, countries like the United States and Canada, where deposit banking has been developed to a high degree, can apparently operate safely on a lower percentage of gold than can countries like France and Argentina where bank notes represent relatively a much larger proportion of total credit liabilities (Charts i and 3). Gold functions much more efficiently in the former type of credit structure than in the latter; it does more work, supports a greater volume of transactions, and is more sensitive to control. In this country there are ordinarily about eleven dollars of deposits to each dollar of nioney in circulation, and in Canada, ten to one; in France, at the other extreme, the ratio is less than two to one. In order to maintain confidence in the credit structure of a country, it appears to be necessary to keep much larger gold reserves against currency than against deposits. If the customs and habits of a country are such that the people prefer and demand bank notes, in preference to deposits, as the medium of exchange in transacting

THE downward course of general business in the United States continued, with two moderate interruptions, during I932. Although the total decline for the year was large, it was somewhat smaller than that of I93I; and the average rate of decline was much slackened after the first quarter. Of the two interruptions to the decline, that of April was cut short by the second gold panic, and that of December occurred under conditions more generally favorable to sustained recovery (Chart i, p. 9). Whereas in I93I the dominant factor in renewing and prolonging the decline of business had been the world financial crisis, the critical influences during I932 were mainly domestic and centered about the second-quarter crisis in the federal budget. This crisis was accompanied by a second drive upon our gold standard, an episode following so closely upon the gold panic of September-October I93I that certain effects of the two episodes upon our credit and financial situations were all but continuous. The year was marked by steady and rapid decline in short term money rates; and the aggregate reduction for the year was greater than in the calendar year I930, though not as great as for the I2-months period ending in September I930. Even during the gold panic of the second quarter money rates fell, in response to the energetic easy money policy of the federal reserve system. With the passing of the second gold crisis, credit conditions improved; and the third and fourth quarters witnessed a vigorous upturn of member bank deposits, while loans were still declining. Many credit difficulties remain unsolved, but readjustment in bank credit has gone far and provides a basis for revival of business borrowing. Average wholesale commodity prices declined further during the year, but the total drop was only about half that suffered in I93I. Although the course of prices was downward as the year closed, there had been an important gain after the end of the gold panic. Hence the December figure was only moderately below that for June, and the last half of the year as a whole gave emphatic evidence of a slackening in the long slump of prices. In security prices the final half year was even more favorable: after the May-June panic had forced both bonds and stocks to extremely low levels, brisk recoveries occurred in the third quarter, and only moderate changes took place thereafter. Average prices of both bonds and stocks closed the year not greatly changed from the levels of January. In security markets, I932 brought striking evidence of a turn for the better.

T HIS is not an appropriate time for entering into refinements in describing the agricultural situation. The essential facts in it are of such striking character that the details can largely be ignored. What is needed instead is a reasonable interpretation of the outstanding facts. That such an interpretation is not easy to make is emphasized by two divergent interpretations. A Special Committee of the Association of Land-Grant Colleges and Universities, composed of three Deans or Directors and three farm economists, after reviewing the facts in the case concluded as follows: In I927, the agricultural situation was characterized by moderate improvement in prices and income from the postwar collapse of I920-2I, but an unfavorable position in comparison with other groups still persisted.... Evidencing the incomplete recovery, land values were still moving downward, and the net shifts in population were toward the cities, where better opportunities seemed to prevail.... Even though all other groups have experienced reduced income (since then), the farmers' share of the national income in 1930 and I93I has been lower than in any preceding year, and the farmers' rewards for labor, management, and capital, have been placed on a still lower plane in relation to the returns of other groups. The report then affirms that restoration of agricultural prosperity is vital to the welfare of the nation and urges that a comprehensive program of relief be undertaken, even including improving prices of farm products through special price raising measures.' On the other hand, Dr. Joseph S. Davis of the Food Research Institute, who has given much attention to agriculture in the past ten years, in a paper before the American Farm Economic Association in Cincinnati in December, questions whether general disparity between prices of farm products and other prices has been proved, or that special price raising measures to correct such alleged disparities are needed or desirable.2 Surely it will not be easy to evaluate a situation lending itself to such divergent interpretations; and I shall not expect to accomplish this to the satisfaction of the parties named. The elements in the situation to be considered are production, prices, income, population, land values, and mortgage debt.

THE drastic decline in industrial output that has taken place during the three years since I929 iS clearly revealed by annual indexes of manufacturing and mining output. Production of manufactures in I932 was the smallest in about twenty years, while the volume of mineral output fell back to the low level of I92I-22. The record of physical output is summarized, in fairly comparable form for the past thirty-four years, by the unadjusted indexes presented in Table I below.' The Federal Reserve Board index of manufactures dropped from II9 (I923-25 average = ioo) in I929 to 63 (preliminary) last year, and the minerals index fell from II5 in I929 to 73 (preliminary). While declines have been sharp in the two branches of industrial activity, it is obvious that the contraction of manufactures has been more severe than that of mineral output. Monthly indexes for manufactures and minerals, shown on Chart i, reveal certain movements that are not disclosed by annual indexes. In the early months of I930, and again early in I93I, the manufactures index showed some recovery from the low level reached at the close of the preceding year; but in each instance the improvement was short-lived. Decline was renewed in the second quarter of each year, and as the year ended, the index was far below the level of the opening months. In I932, on the other hand, no recovery occurred in the first half of the year, but the index continued to decline until 1 In order to make comparisons possible over a considerable number of years, this table presents the Federal Reserve Board indexes of production of manufactures and minerals with the average for the years I1923-25 taken as a base for the post-war years, together with the manufacture and mining indexes formerly published in this REviEw (ix: I49) for I899-I926, converted to the I923-25 base.

trade around the rising line of trend determined from the annual indexes. Crop production, Curve II, likewise advanced during the interval, but at a slower pace than industrial production and trade. Industrial and agricultural production combined, Curve III, follows the year-toyear fluctuations as well as the trend of industrial production and trade more closely than those of agricultural production. This is a result of the greater weight given to industry and trade than to agriculture because of the relatively greater importance of the former in our economic life. The percentage increases of the ordinates of the trend lines for I932, as compared with I899, for each of the three groups shown in Chart i are: (I) industrial production and trade, I 76 per cent; (II) crop production, 48 per cent; and (III) these combined, I32 per cent. The three years, I930-32, record a decline in physical production far exceeding that of any other period in the interval covered. Using the annual figures, the decline from I929 to I932 in the combined index is fully 4o per cent, as compared with a drop of less than I7 per cent from I920 to I92I, and ii per cent from I906 to I908. In other words, the most recent depression may be described as a major economic decline followed directly by another equally severe collapse. The, index of industrial production and trade, here presented, is constructed from series representing six major industrial groups: manufacture, wholesale and retail trade, railroad freight traffic, building construction, mining, and electric power production. Each of these series is presented in Chart 2 (next page), on a ratio scale in order to bring out rates of growth. Among the major groups, electric power production expanded most rapidly, while the volume of manufacture, wholesale and retail trade, railroad freight traffic, and mining grew more gradually. Building construction, on the other hand, exhibits no clearly defined trend, either upward or d wnward. We may rema k, however, that the index of building construction is based on estimates of the value of construction deflated by an index of building costs and the figures are less dependable, previous to I919, than those for any other series included in the present study. In fact, it is impossible to say, on the basis of available data for building construction, what the long time trend of construction actually was. The series is included, nevertheless, because reliable figures are available for I919 and after. Just as the industrial groups represented by the six constituents display divergent rates of growth of physical output, so their relative economic importance, measured in dollars, varies widely during the period covered by the index. 1 The index for total crops (agriculture) is that of Warren and Pearson, Prices, pp. 44-45. Although live stock is not included, feed crops as well as food and other crops are included, and the index measures agricultural production relative to the base period.

IT is an accepted fact that business cycles exercise a profound influence upon the finances of American cities. The purpose of this study is to compare the cyclical fluctuations of business and of municipal expenditures and thus to throw some additional light on the cycles in American business during the last century. Expenditure data extending over a long period, roughly one hundred years, exist for three cities. These cities are Boston, Massachusetts; Providence, Rhode Island; and Rochester, New York. For other cities, expenditure figures are fragmentary or in a form not suitable for analysis. The data for the three cities mentioned were carefully collected by writers of their financial histories, were supplemented for this century from the Census Bureau's Financial Statistics of Cities,and are probably as accurate as such figures can be made.' They include all items which go to make up the category government cost payments; namely, maintenance, interest, and outlays. It was impossible to eliminate capital outlays, and their presence doubtless clouds the picture somewhat. All expenditures were placed upon a per capita basis to take account of the influences of changes in population either through natural growth or the annexation of new territory. In the absence of complete knowledge as to the dates of fiscal years, it has been assumed that all figures are for calendar years. The faultiness of municipal accounting must also be recognized as rendering the data inherently inaccurate. Such errors are probably small compared to the size and changes in the annual items dealt with, and are not serious for the purposes of this discussion.