War and Peace Flashcards

1
Q

Why did the US economy experience deflation from 1929-33

A

Europe’s return to the gold standard, which bid up the price of gold, and therefore caused prices in the US to drop sharply (since the US was on the gold standard at that time)

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2
Q

Period of wartime inflationary finance?

A

After the Civil War, WW1, WW2, Vietnam, Korean war

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3
Q

State the three postwar inflation options

A
  1. Deflate to pre-war price level

Outcomes: postwar depression, negative seniorage

Examples: Civil War (Greenback standard), WWI (through gold standard)

  1. Stabilize inflation via a sudden halt in the expansion of M

Outcomes: Devaluation, recession, seniorage terminates

Examples: WW2

  1. Continue inflating, thereby delaying the onset of a recession

Outcomes: permanent inflation, fiat money, continuation of seniorage

Examples: Vietnam era until Credit Crunch of 79’

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4
Q

Describe the 1860s pre Civil War banking system

A

US on de facto gold standard, convertibility at 20.67

Much of currency in the form of private bank notes

Demand obligations payable in either gold or silver

All banks state chartered

State bank notes used, out of state bank notes also circulated in-state but at a discount

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5
Q

Outline the development of the greenback standard during the Civil War period

A

1861: When greenbacks were first introduced, they were redeemable for gold at private state chartered banks
1862: Redemption suspended, debts payable now in greenbacks
Price level increased in 1861-65 by 14.2%!!!!!!
Gold now exchangeable for 2.5 paper by 1865
Total issue: 400M

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6
Q

Outline the features of the National Banking Act of 1863

A

Initially, much of C was in the form of State Bank Notes.
Federal govt wanted private bank notes that were backed by US bonds instead.
NBA of 1863 created NBs
- Federal Charters
- Free Banking
- Unit Banking, no branching intra, inter-state
Could issue NBs

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7
Q

Outline the features of National Bank Notes

A

Liability of individual bank

Uniform design

No discount like State Bank Notes, so par value circul

Regulated by Comptroller of Currency in treasury department

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8
Q

Continuation of previous card

A

Comp. of currency delivered notes to banks, retained T bonds until notes redeemed. Forced banks, therefore, to issue the NBNs.

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9
Q

How did NBNs act as supplemental seniorage for the Treasury (and NBs)?

A

NBs benefited from the interest on T bonds
Treasury benefited from profits made by NBs, 0.5% tax levied, however, given to tax payers.
NBNs, therefore, were less efficient than Greenbacks or FR notes, which did not carry an interest cost.

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10
Q

What happened to the already existent State Bank Notes in circulation?

A

Taxed at 10% to deter usage, passed 1865, ratified 1866, Not repealed until 1976.

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11
Q

Outline the implementation of Post War deflation to restore prewar standard

A

Contraction Act of 1866:
Retired Greenbacks at a rate of up to 4M.month.

Outcome: Negative Seniorage, rapid deflation.

Act was repealed, however, in 1868. Greenbacks frozen at 347M, circulated into 1950s. Slow deflation as economy grows, M remains the same.

Gold Redemption finally resumed at the pre-war rate of 20.67, 1879. Pre war standard strengthened due to the elimination of silver.

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12
Q

Was deflation a good policy?

A

Difficult, but not disastrous.

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13
Q

What caused the US price level to increase going into the 20th century?

A

Gold Inflation:
New gold discoveries in Africa and Alaska etc. + New cyanide process for extracting gold from low grade ores.

Price, therefore, increased as a result by 2.6%

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14
Q

What caused the WW1 Price Level in the US to increase?

A

European gold inflows as a result of purchases of war materials increased gold stock in the US. Money supply increased as a result.

Further increases provoked by a favourable discount rate, which increased loans and thus expanded the M supply.

Inflation at 13.5%/yr from 1915-1920

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15
Q

What caused the post WW1 Price Level in the US to decrease?

A

Staying on gold @ 20.67 required deflating to the prewar level

Hence, two post war inflations ensued.

1920-22 Postwar Deflation:
INFLATION AT -9%/yr FOR 2 YEARS (from 1920-22)!

1919: Discount rate on War Bonds increased, causing L to decrease and thus a contraction in the money supply.
Short but brief recession from 1920-22.
Nominal wages readjusted quickly.

Price Plateau: 1922-29
Europe still off gold, yet Pus» P1914.

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16
Q

Advantages of National Bank Notes?

A

Par redemption at any NB
Notes very safe from default
Uniform National Currency

17
Q

Disadvantages (cont)

A

Tied to declining National Debt
Can’t grow with economy, or fluctuate with seasonal demand as a result
Therefore inelastic.
Lower reserve requirements for country banks than city banks.

18
Q

Why was the Fed system created?

A

Provide elastic currency (FR notes really fiat currency, since could be issued without bond backing)
Act as a lender of last resort through discount window.
NB notes replaced by FR notes in 1935

19
Q

Why was there a price level plateau from 1922-29?

A

Feasible only because global demand for gold was still low. German hyperinflation changed that, Europe collectively returned to GOLD.

20
Q

Describe how European countries eventually returned to gold in the 1920s

A

1925: UK returns to gold at prewar parity, but pound overvalued, causing BOP problems
1928: France back on gold after massive devaluation of the franc. Gold supply covered nearly 80% of the currency.
1929: most of Europe back on gold, buildup of gold reserves.

21
Q

Describe the Second Postwar Deflation, and its causes

A

P declined substantially, INFLATION AT -8.5%/yr for 4 YEARS, from 1929-33. U up to 22.5% in 1932. SRPC effect.

1933: Pus>P1914, but P finally on pre-war trend. Further devaluation unnecessary.

22
Q

Describe the Hoover New Deal (1929-33) deflation era

A

Hoover desperately tried to combat deflation by urging major employers to keep nom. wages up in exchange for curbing unionization. Real wages, therefore, increased even more as P level declined, causing persistent and higher U.

Also encouraged Trade Associations to cut production, keep prices up, and band together to form CARTELS. Only exacerbated unemployment.
S goods > D goods
Suppressed deflation. Deflation had to occur eventually.

1930 Smoot Hawley Tariff raised tariffs, cut imports, indirectly cut exports paid for by imports, caused retaliatory protectionism.

23
Q

Describe the FDR New Deal (1933-WW2)

A

Mandatory price floors, national industrial recovery act mandated industrial cartels, same as Hoover.

Agricultural Adjustment Act (1933, 1938), held farm output down. Continuation of Hoover.

Interstate Commerce Committee, Fed Aviation Admin 1935
Set min. rates on transportation, not deregulated until Carter.

Wagner Act 1935:
Mandated unionization, held wages up, reversal of Hoover, but same effect of propping up wages.

Min. wage 1938:
Suppressed deflation through 1930s, persistent unemployment until WW2, draft removed much of the unemployed (12M from LF) to war.

24
Q

How did US Gold policy change in the 1930s

A

1933 gold standard abolished.
1935, gold devalued to 35 for international transactions. Pointless though. Private gold ownerships illegal until 1974.

Gold flowed into the US from Europe, but was bought up with tax proceeds by the treasury. Sterilized. So US base did not increase, no reflation.

FR notes replace gold coin, certs in 1933.
National Bank Notes in 1935.

25
Q

Why was the Great Depression so Great??

A

1929-33: Europe’s return to the gold standard caused deflation in the US. Real debt value increased due to deflation. (BERNANKE VIEW)

US on gold@ 20.67. Meant that the currency kept appreciating.

Europe, in retrospect, could have gradually returned to gold like US after Civil War.

Cover ratios too high - Doug Irwin. Gold sterilization in France prevented other countries from expanding their gold stock to ease deflation.

Multiplier also fell (FRIEDMAN), possibly due to WSC.

Hoover, FDR new deals suppressed deflation, prolonged depression instead of reflating.

Devluation to 35/oz, suspension of gold standard unnecessary by 1933, created uncertainty over the price level. Treasury gold purchases also added to tax burden.

26
Q

How did the US Price Level change during WW2?

A

International reserves increased, which increased the price level.

Fed also got OMO powers in 1932, started discouraging loans.

More efficient than WW1 loan policy, interest free loan (since the Fed did not have to induce banks to borrow at a lowered, subsidized discount rate)
No seigniorage deferred to banks.

Inflation suppressed with price controls, Office of Price administration set maximum prices.
Shortages, rationing, black market throughout the war. Controls removed eventually.

1940-48: inflation averages 6.7% for 8 years.

27
Q

Describe the post ww2 period with respect to deflation

A

No deflation like civil war, ww1. No devaluation too, since the US had already devalued unnecessarily in 1933-35.
World off gld.

Korean War:
No inflationary finance, only small P surge
1952-65: inflation averages only 1.3%/yr.

28
Q

Vietnam era?

A

1965-82.
US at war in 1965-73.

Fed accommodates Treasury borrowing, but reacts weakly to increases in inflation.

Gold sales restricted in 1968, ended in 1971.
Devaluation from 38 to 42.22.

Permanent fiat money permits inflation to contine.

Inflation averages 7.1%/yr from 1967-82.

More cumulative inflation than WW2, real interest rates turn negative in the late 1970s.

1979 - Volcker restricts M growth, lets i rise substantially. Credit crunch of 1979-82, r over 6%, U over 10%
Belated post-Vietnam recession.