The clash between speculators wanting to make a killing and Morgenthau wanting to satisfy Congress exploded in the last week of April. Traders pushed up the free market price to over 71¢ on Wednesday, April 24, and the government responded the following day with a new proclamation making the subsidized price 77¢, which encouraged another round of speculation and a jump in the free market price to 81¢ an ounce on Friday, April 26.35 The New York Times headlined: “Speculators Rule in Silver Market,” confirming what most traders already knew and forcing Morgenthau and FDR into emergency consultations.36
Henry had told FDR the week before that he wanted to “spank some of the speculators” and began the process by refusing to announce a new subsidized price following the free market price increase of April 26.37 Morgenthau and Roosevelt met that Friday morning and agreed to wait until Saturday afternoon before taking any action. The president suggested making the following statement to explain the pause: “We do not like the speculative interests in silver, that the American mining interests are not speculating and that we realize that the Silver Purchase Program of the United States Government had lent itself to the support of speculation.”38 FDR then told Morgenthau, “Personally, I would be glad to see the price of silver stay around 75 cents for a few months as I think the advance has been entirely too rapid. … I think it would stay there the balance of this year and in to 1936.” The president grinned and fluttered his eyebrows like Groucho Marx when mentioning 1936, and Morgenthau understood “that he had the election in mind.”
Silver and politics nurtured each other in America since the Crime of 1873 fed William Jennings Bryan’s 1896 presidential campaign, so Morgenthau followed up FDR’s signal with a courtesy meeting at the Treasury that very same day with Key Pittman and other silver senators. Morgenthau summarized the problem: “The speculators have taken this thing away from us and the market is going up too fast. There will be a sudden drop and this will hurt the whole recovery program.”39 He then added a new twist, “We [also] have the Mexican situation on our hands. Their problem is that silver in pesos is worth 72 cents.” Mexico was not on a silver standard but its citizens had been hoarding coins and melting them for sale as bullion at higher prices, so the country now had a shortage of currency that was hurting business. Pittman pursued the Mexico problem.
PITTMAN: Has Mexico got silver bullion?
MORGENTHAU: Yes, about 25 million ounces of newly mined silver.
PITTMAN: Why doesn’t she sell some silver?
MORGENTHAU: I suggested that to them but they are withholding it. … They have been speculating themselves.
PITTMAN: The only thing that will stop speculation is to give the speculators a loss. … I think you ought to sit tight and do nothing and wait four or five days.
Both Morgenthau and Pittman wanted to spank the speculators, and Mexico obliged by changing sides and abandoning her speculative ways. President Lazaro Cardenas declared a bank holiday for Saturday, April 27, just as Roosevelt had done upon taking office, ordered all silver pesos surrendered to the Treasury in exchange for paper currency, and banned exports of the white metal.40 Mexico, the largest producer and exporter of silver in the world, had suddenly become a potential seller of even more silver.41 In a very private meeting arranged at Henry Morgenthau’s Washington home with Roberto Lopez of the Mexican Finance Ministry, Lopez told Morgenthau, “We wish to assure you that we will positively not speculate any more in silver in New York or London and that we would like to sell you our silver in London.”42 The promise pleased Morgenthau, especially since he had asked Mrs. Morgenthau to witness the discussion that had taken place in their living room.
The price of silver reacted immediately to the events of April 27, which included an announcement by Morgenthau of no change in the government’s subsidized price.43 The white metal declined from 81¢ an ounce on Friday, April 26, to 77¢ on Saturday, a significant drop even by the more recent volatile standard.44 Mexican banks reopened the following Monday with little disruption from the bank holiday, and the country benefited as the free market price of silver stabilized between 71¢ and 77¢ an ounce over the next month.45 Unlike most silver-producing countries, where the white metal is a byproduct of other mining operations, such as lead, copper, and zinc, most Mexican mines specialized in silver, so that production responded to higher prices and employment in the industry soared.
A stable and high price for silver was very good news for Mexico but was very bad news for China, which continued to suffer from a drain of the white metal. The Boston Globe noted that the world market is “rigged by the buying operations of the Treasury … but Mexico—as compared with China—has very little to complain about in the outworking of our enigmatic policy.”46 The high price of silver bullion accelerated smuggling out of China during 1935, siphoning about 140 million ounces from the country, worsening the financial crisis, and encouraging further Japanese aggression.47
Japanese troops advanced about ten miles beyond the Great Wall into the demilitarized zone of Northern China on May 22, 1935, as though summoned by a beacon of shining silver, and killed more than three hundred Chinese soldiers.48 The Japanese force greatly outnumbered the Chinese and sent the surviving defenders fleeing into the surrounding hillside. Japanese losses were six killed and three wounded. A War Office spokesman in Tokyo said after the incursion, “The sole object of the present drive is to clear away the bandits … Japanese troops will be recalled within the Great Wall once the bandits are defeated. The Japanese army has not the slightest intention of starting another military operation.”49 Observers were not so sure, and according to the Washington Post, “watched developments closely through the bars of censorship.”
The Japanese War Office’s denial of further military action masked threatening messages to China and to diplomats in Japan’s Foreign Office. The army insisted that China remove the anti-Japanese governor of Hopei province and put an end to anti-Japanese propaganda, longstanding demands that were quickly granted by the Chinese authorities.50 The generals also launched an internecine battle to show diplomats in their Foreign Office “that peaceful persuasion alone will never induce China to give Japan the opportunities she desires.”51 A telegram to Secretary of State Cordell Hull from U.S. Ambassador to China Nelson Johnson confirmed that the Japanese military “have been skeptical of the efficiency of the Japanese Foreign Office policy … [and] that the military would be content to watch only for a limited time the direction of Japanese policy in China by Japanese civilians.”52 Local Japanese commanders dispatched troops to Peiping (Beijing) to emphasize the point.53
A fragile tension rose in Northern China like a gathering storm cloud until it burst on Sunday, November 3, 1935, making front page headlines throughout the world. China surrendered to the silver smugglers and severed the connection between its currency and the white metal. Finance Minister H.H. Kung announced that all silver yuan must be delivered to the central bank in exchange for new banknotes, an edict that mimicked FDR’s order in April 1933, forcing Americans to turn in their gold coins for Federal Reserve notes. Kung justified the surprising turnaround because “the rapid rise in the price of world silver” caused China’s currency to become seriously overvalued, leading to “severe internal deflation, growing unemployment, [and] widespread bankruptcies.”54
China’s move to fiat currency required the skills of a gymnast. The government could now expand money and credit to jump-start the economy, but it had to avoid overexpansion to assure citizens that the new banknotes would remain valuable even without silver backing. Kung’s currency reform took a double-barreled approach to promote compliance with the decree. It warned that illegal possession of silver “shall be punishable in accordance with the law governing acts of treason,” but it also promised to keep “the exchange value of the Chinese dollar stable” at present levels against the major currencies of the world.55 Shanghai businessmen and peasants alike would willingly hold the new legal tender if they knew it could be reliably exchanged
for American dollars at a bank or currency kiosk. But that was easy to say and hard to do, like diet and exercise, because China’s central bank needed American dollars to offer for yuan or the new banknotes would decline in value on the foreign exchange market. And the need for American dollars had brought the Chinese ambassador to Morgenthau’s doorstep a week before the November 3 announcement.
At ten o’clock Monday evening, October 28, 1935, Alfred Sze arrived at Morgenthau’s home to outline the new currency program. He asked on behalf of Finance Minister Kung that America purchase 100 to 200 million ounces of silver, which China would no longer need, so the central bank would have dollar reserves to support the value of their new currency. Morgenthau viewed this as an opportunity to link the yuan to the U.S. dollar and made that a key condition for the silver transaction. He told the president afterwards, “This is our chance … to hook them up to the dollar instead of the pound sterling,” which would enhance U.S. export business to China. Britain also valued China trade, preferred a link between the yuan and the pound, and had the advantage that Sir Frederick Leith-Ross, an economic adviser to the British government, was already in China for consultations.56
Long distance negotiations between Morgenthau and Finance Minister Kung during the following week failed to produce an agreement, and Morgenthau began to worry about his silver program. He told Herman Oliphant, his chief legal counsel, and other advisers at Treasury, “We do not want to find ourselves with several billion ounces of silver and no one interested in buying silver except ourselves. … Inasmuch as Sze has informed me … that at this time they considered it impolitic to tie the yuan to the dollar … there is no real pressure on us to do anything.”57 Henry then added an eye opener: “If we can get away with it politically … I think the nicest ‘out’ would be to drop the [free market] price to around 40 cents, [at] which I understand … there would be no profit to export silver from China.” The U.S. Treasury would still pay the subsidized price for domestically mined silver but this radical departure from current policy required approval from FDR.
Henry arrived at the White House the next day and found the president in a jovial mood, which quickly turned in a direction Henry had not anticipated.58
FDR: Well, what have you brought me today?
MORGENTHAU: Since I talked to you yesterday morning I have altered my ideas somewhat regarding the plans for the purchase of silver. … China has asked us to purchase 100 or 200 million ounces of silver. … This means that they are willing to give up silver as a monetary base and that is not in accordance with [our] idea of a wider use of silver.
FDR: Have you heard anything further from Dr. Sze?
M: Yes. He called yesterday afternoon and said that Dr. Kung could not give any promises as to linking the Chinese yuan to the United States dollar.
FDR: Did he give any reasons?
M: Yes. He said that owing to political pressure they could not announce the linking of the yuan to any other currency and simply repeated that they were stabilizing it at the present level.
FDR: Internal or external pressure?
M: External pressure. The Japanese.
The president knew that Japan had objected to China’s failure to consult on the silver decree, but neither he nor Morgenthau anticipated the extent of Japanese fury. A front page news story on November 5, 1935, led with “China’s Money Plan Angers Japanese,” and explained that according to Japanese bankers, who were taken completely by surprise, it “reveals a British intention to seize control of Chinese trade” because of the alleged role played by U.K. adviser Sir Frederick Leith-Ross in the decision.59 An editorial in Tokyo’s Nichi Nichi Shimbun claims it shows China’s “complete insincerity.”60
The rhetoric escalated the next day in a New York Times headline, “China Threatened by Japanese Anew: Wrathful Over Nanking’s New Monetary Plan, War Minister Says Army Is Ready to Act.”61 The news article reported that Japan’s War Minister Yoshiyuki Kawashima turned high finance into politics by saying that China’s monetary reform has proved her “insincerity,” and the Japanese army may act alone in China to protect Manchuria from “the Communist menace,” a reference to neighboring Russia and to China’s internal communists led by Mao Tse-tung. The paper suggested that “Japan may be ready to replace Foreign Minister Koki Hirota’s ‘negative’ policy of a conciliatory attitude toward Nanking by the army’s positive policy of forming a North China bloc to allow Tokyo to achieve its aims.”
Joseph Grew, America’s ambassador to Japan, had anticipated an emerging conflict between civilian and military authorities in Japan that could threaten regional peace. He wrote in his diary a year earlier, “The pendulum of chauvinism throughout Japanese history has swung to and fro in periodic cycles of intensity and temporary relaxation, [and] the armed forces of the country are perfectly capable of overriding the restraining control of the Government and of committing what might well amount to national hari kiri in a mistaken conception of patriotism. … There is a swashbuckling temper in the country, largely developed by military propaganda, which can lead Japan during the next few years … to any extremes unless saner minds in the Government [prevail].”62 Events would soon confirm Grew’s prediction.
China’s monetary decree of November 3, 1935, robbed Japanese politicians of their sugarcoated strategy for dominating China. The Japanese government had promised a “large loan” to aid China’s finances and promised to help make “joint representations against American silver policies,” according to the telegram leaked by William Bullitt to FDR. But now that China was free of its silver obligations, Japanese politicians needed to find a new candied carrot, and during their search the army could march ahead unchallenged. The Japanese military should have been shopping for a Christmas gift to send to FDR, but they were too busy preparing to advance into Chinese territory.
On Friday, November 22, 1935, War Minister Kawashima debated Foreign Minister Hirota before the Tokyo cabinet over the proper way to subjugate the five northern provinces of China, including the key cities of Tientsin and Peiping.63 Five days later everyone knew who had prevailed. A front page story headlined: “Japanese March Into North China; Seize Rail Centre,” adding that “3,000 move southward,” and “after taking the railway station … took over the Chinese military telephone lines.”64 On Thursday, December 5, Secretary of State Cordell Hull issued a formal statement objecting to the effort being made “to bring about a substantial change in the political status and condition of several of China’s northern provinces.”65 Hull’s lukewarm rebuke never mentioned Japan, but the British Foreign Office requested a “frank statement” from Japan on its intentions in Northern China.66 The Manchester Guardian reported Japanese government officials saying “the ‘autonomy’ movement is a purely Chinese movement and that any idea that Japan is planning a military intervention is entirely unfounded.” No one told the Japanese Air Force to stand down, so they sent planes over Peiping to drop leaflets, “calling upon the people of North China to rise and establish an autonomous Government.” Major General Kenji Doihara of the Japanese Army, known as “Lawrence of Manchukuo,” supported the autonomy movement with troops stationed at the Japanese garrison at Tientsin.67
Two days after Hull’s warning, described by historians as having “tiptoed around the issues … almost to assure Japan of noninterference,” a new autonomous state was born in Northern China that marched in step with Tokyo rather than Nanking.68 The new entity planned to have its own currency, would reestablish passenger and mail airplane links with the Japanese puppet state of Manchukuo, and would conclude an agreement for cooperation with Japan against communist military action.69 The Washington Post reported that Major General Kenji Doihara, who would be executed in 1948 for crimes committed in World War II, was expected to become a principal adviser to the new regime.70
Japanese aggression began before the Silver Purchase Act, but the American program helped shift the balance of power in Japan towards the military by driving China off the silver
standard. U.S. Ambassador to China Nelson Johnson wrote, “My opinion [is] that the Japanese military faction is forcing Japan along a road of compulsory piecemeal domination of China.”71 Japan would invade China proper in mid-1937 and the long Sino-Japanese conflict escalated globally during World War II, but a robust China with its ancient silver heritage intact would have been less vulnerable at the outset.
Many countries survive a currency crisis. Britain recovered after cutting ties with the gold standard in 1931, but a country like China, divided internally by Mao Tse-tung’s communist insurgency and threatened externally by militarist Japanese expansionism, needed currency stability. George Roberts, a contemporary economist at National City Bank of New York (now called Citibank), anticipated the problem in early 1936: “China in her present state of economic development, with a large part of the population accustomed to the use of hard money, is poorly adapted to a managed currency.”72 The transition to fiat currency boosted the Chinese economy for a while but the fragile foundation succumbed to skyrocketing inflation under wartime pressure, leading ultimately to the communist takeover with Mao’s victory over Chiang Kai-shek in 1949.73
The irony is that a month after the silver smugglers defeated China, the United States abandoned the strategy that had drained the white metal from that country’s coffers. At five o’clock, Saturday afternoon, December 7, 1935, Henry Morgenthau called the president to discuss his recurring silver program nightmare.74 America resembled a rogue elephant trampling the countryside, bulldozing China off silver and feeding a scavenging Japanese lion by paying them a 50% profit on smuggled silver.75 Henry worried that unless America lowered the price it was willing to pay, he would “buy up all the floating silver in the world [and] drive all the silver-using countries off silver.”76 He said to himself, “The best joke is that today … with one possible exception, Ethiopia is the only country on the silver standard. It is a joke that we should continue our silver purchasing program to maintain the silver standard of Ethiopia.” On a more serious note he worried that “we are giving Japan the necessary money with which to stabilize her currency and build up her fleet.”
The Story of Silver Page 10
