Lords of Finance

by Liaquat Ahamed

  On the very day that Hoover was proposing a moratorium to his cabinet colleagues, Chancellor Brüning had launched his own initiative. On June 5, he unveiled a new package of austerity moves that included a further lowering of civil servants’ salaries, a cut in unemployment assistance, and new taxes. In order to sweeten the pill, Brüning accompanied the measures with a manifesto. Sensational and provocative in tone, the German proclamation announced that “the limit of privations that we can impose on the nation have been reached.” The economic assumptions on which the Young Plan had been based had proved to be wrong, and thus “Germany had to be relieved of “the intolerable reparation obligations” and “tributary payments” to which it was subject.

  That very weekend, Brüning was in London on a long-planned visit to the British prime minister, Ramsay MacDonald. The German delegation was spending the weekend at the prime minister’s official country house, Chequers, in the Kent countryside, where Norman joined the party on Sunday, June 7. After a leisurely lunch for nineteen, which included such guests as John Galsworthy and George Bernard Shaw, both authors very popular in Germany, the officials withdrew to discuss financial issues. Brüning described the terrible situation in Germany. That year, when the Reichswehr needed six thousand new recruits, eighty thousand men applied, half of them undernourished. People were in despair. The social fabric was unraveling. The menace of Nazi and Communist agitation was growing by the day.

  While Brüning was holding forth, several frantic telegrams arrived from the British ambassador in Washington, who had just heard from Stimson, who was infuriated by the manifesto’s confrontational tone. On no account, warned the secretary of state, should the Germans take any unilateral action, which could only trigger a massive flight of short-term funds out of Germany that would rob Hoover’s planned moratorium, which was still a secret, of much of its benefit. The telegrams threw the British into shock. It was the first they had even heard of the manifesto, which had not even been published in the British newspapers. Their guests had omitted mentioning it, for it was a document designed for internal consumption and Brüning had no real plans to renegotiate reparations at least until the fall.

  Any German move to suspend reparations now would be disastrous, Norman told the shaken table. Any more surprises like this to European confidence and we will soon be “conducting a post-mortem” on the corpse of Europe, he declared.

  It was now a race. Could Hoover gather enough support for his initiative before Germany ran out of gold? In Washington, the temperature reached 102 as the teams at Treasury and State toiled eighteen-hour days to work out the details in offices that had no air-conditioning. They were besieged by New York bankers who “came crying down . . . and said they were busted,” according to Stimson’s economic adviser. Ogden Mills, acting as head of the Treasury in Mellon’s absence, shuttled back and forth through the underground passage that linked the Treasury Building to the White House to brief the president. Hoover himself was racked by doubts. The constant press criticism and the cynical jokes about his unpopularity had taken their toll. When H. G. Wells visited the White House later that fall, he found “a sickly, overworked and overwhelmed man.” A siege mentality had taken over at the Executive Mansion. The president’s gloom was so oppressive that Stimson complained that meeting with him in his room was “like sitting in a bath of ink.”

  Meanwhile during the first three weeks of June, Germany lost some $350 million, over half its gold reserves. In London, Norman spent the time cajoling British bankers not to pull their money out of Germany as currency and banking crises spilled across Europe into Hungary, Romania, Poland, and Spain.

  On Saturday, June 20, Hoover’s plan was publicly announced. The United States would forgo one year’s principal and interest of $245 million on the war debts due from Britain, France, Italy, and some of the smaller European powers, provided, and only provided, that the Allies themselves suspend $385 million in reparations due from Germany. The effect was electric. The following Monday, the German stock market jumped 25 percent in a single day.

  Hoover had tried to consult everyone possible in the lead-up to his announcement—he was said to have already enlisted the support of twenty-one senators before publicly revealing the plan. Senator Arthur Vandenberg of Michigan, off junketing in Canada, was connected by phone to the president from a Toronto drugstore. Several senators and representatives had even been invited to spend the night at the White House. The secretary of state got up one morning at 5:30 a.m. to put a call through to Prime Minister MacDonald.

  The administration had consulted everyone—everyone, that is, except the French. In the most astoundingly inept piece of diplomacy of his whole presidency, the one party Hoover neglected to prepare not only happened to be Germany’s largest creditor but was at the moment the dominant financial power in Europe. The French government reacted with astonishment and then fury.

  The U.S. ambassador, Walter Edge, was due to spend the afternoon with the rest of the diplomatic corps at the Longchamps races as a guest of the president of the republic. He had spent his two years trying to dispel the suspicion within French government circles that “we [the Americans] and the British had been plotting against France.” France had the world’s largest standing army; with the second highest gold reserves in the world after the United States, it was financially the strongest country in Europe; its economy had weathered the global Depression better than almost any other. And yet, complained the men who ran France, the Anglo-Saxons still treated it as a mere second-rate power.

  In the president’s box at the races, Edge was peppered with questions by a phalanx of steaming French politicians. It was fine for the United States to forgive its debtors; but how could the United States unilaterally suspend Germany’s debts to France without even bothering to consult France herself? She was being treated as a “stepchild.” Pierre Laval, the prime minister, former Socialist now turned nationalist, demanded to know what guarantee the United States could provide that payments would resume after a year. Another minister launched into a highly colorful and sarcastic diatribe—France was being asked to pay the bill for the “reconciliation feast” in honor of the “prodigal Reich,” while Wall Street and the City of London rejoiced over “the killing of the fatted calf.” The foreign minister, Aristide Briand, called in Edge the next day to subject him to a tirade, singling out the Bank of England as the mainspring of the whole plot—he cited Norman’s visit to the United States a few weeks earlier as inescapable confirmation of an Anglo-Saxon bankers’ conspiracy.

  The following Monday, the French press universally condemned any notion of a moratorium. The Journal des Débats, the organ of French industry, said in a fume that “the more one reflects, the more one is stupefied by the initiative of Mr. Hoover.”

  In Washington, the president decided that Mellon, then in Britain to attend his son Paul’s graduation ceremony from King’s College, Cambridge, and to receive an honorary degree himself, his fifteenth, should be dispatched to Paris to bring the French around. For all that a world financial crisis was raging, Mellon had arrived in London and very deliberately avoided contacting any UK Treasury or Bank of England officials, believing that his vacation time was sacrosanct. When Norman tried to get in touch with him through his secretary in Washington, he was fobbed off with the excuse that Mellon was on a private visit and incommunicado. Finally, Norman got hold of young Mellon at Cambridge and tracked his father down at Claridges. After some persuading, Mellon reluctantly agreed to suspend his impending holiday at Cap Ferrat and go to Paris.

  He arrived on June 25, to be greeted at the Gare du Nord by Robert Lacour-Gayet of the Banque de France. When asked, “Are you glad to be in Paris, Mr. Mellon?” the secretary of the treasury replied noncommittally with a barely perceptible smile, “M. Lacour-Gayet, we are here.” Obviously unhappy, he kept reminding reporters that he had come to Europe planning on a pleasure trip in the Riviera with his daughter, Ailsa, and her husband, the young diplomat David Bruce.


  For the next couple of weeks, Mellon engaged in a protracted bout of negotiation. Every day he would dutifully troop off with Ambassador Edge to the ancient and musty building that housed the Ministry of the Interior and was also home to the French secret police. Mellon, who generally preferred a club sandwich at his desk, had to sit through the eight-course meals, each with its own wine, that were a customary part of French diplomacy.

  The French team, who negotiated by day and had to sit though all-night sessions in the National Assembly, was led by Prime Minister Laval. He was a protégé of Tardieu, who had been compelled to resign in December, after becoming caught up in yet another banking scandal. At forty-six, Laval was the youngest premier in the history of the Third Republic. Born of peasant stock in the south of France, with his dark skin, straight black hair, and scraggly mustache, he looked “dopey in appearance, like an overworked headwaiter on his day off.” He liked to wear dingy white bow ties and a straw boater.

  Mellon tried to convince the French that in return for giving up about $200 million dollars a year in reparations, they would avoid having to pay $115 million in war debts—at a net cost to them of “only” $85 million a year. The Americans, on the other hand, would be conceding a total of $260 million a year. Laval was implacable. For two weeks the negotiations dragged on.

  The seventy-six-year-old Mellon had to work both Washington and Paris hours. Statesmen had just discovered the advantages of the telephone. Every evening and sometimes two or three times a day Mellon would place a call to the White House from the U.S. ambassador’s residence. The French phone system was being revamped and there were only two phones working: one in the concierge’s room in the basement and the other in the bedroom of the ambassador’s wife. The soft-spoken Mellon could often barely be heard.

  Tempers began to fray. Growing more irritated by the day, Hoover vented against the French and accused Mellon of being soft on France. Meanwhile, Germany’s gold reserves continued to hemorrhage. Central bankers provided a loan of $100 million on June 24. Within ten days, it was gone. Berlin was being “bled to death” while the French and the Americans were busy arguing, complained Norman on what had become one of his regular calls to Harrison in New York. The British prime minister put it more pungently in his diary: “France has been playing its usual small minded and selfish game over the Hoover proposal. . . . To do a good thing for its own sake is not in line with France’s official nature. So Germany cracks while France bargains.”

  The negotiations were finally concluded on July 7, the Americans conceding that Germany would only suspend payments on a portion of its reparations, the French, however, agreeing to lend the remaining reparations they did receive straight back to Germany. Both sides could claim victory. “Now, Monsieur Mellon, you can take up your interrupted vacation,” said the French prime minister sarcastically. The secretary of the treasury promptly set off for the Riviera.

  It was too late. On June 17, the Norddeutsche Wolkkammerei—“Der Nordwolle,” a large German wool combine—declared bankruptcy, revealing losses amounting to $50 million, which it had managed to conceal by transferring its inventory at bloated prices to its Dutch subsidiary. The Nordwolle had not lost all this money in the production of blankets and comforters—it seems that its management had speculated on a rise in wool prices by building up its inventories and buying in the forward market, a bet that had gone badly wrong.

  On July 5, a Basel newspaper stated that an unnamed German bank was in trouble. As Berlin swirled with rumors, on July 6, the day before the negotiations on the moratorium were concluded, the Danatbank, Schacht’s old employer, the third largest in Germany, issued a denial that it was having difficulties. A bank cannot survive without confidence; when it is forced to deny rumors that it is in trouble, it is by definition in serious trouble. Two days later, the head of the Danatbank, Jacob Goldschmidt, Schacht’s old colleague and nemesis, informed the Reichsbank that his bank could not meet its liabilities.

  Schacht’s successor at the Reichsbank was Hans Luther, who as minister of finance in 1923 at the height of the hyperinflation had originally and reluctantly appointed Schacht currency commissioner. Luther, though not a member of the Reichstag and “a politician without party,” had been chancellor for eighteen months in 1925 but had been humiliatingly forced out when his government had instructed German consulates and diplomatic offices to fly, in addition to the republican flag (black, red, and gold), the flag of the merchant marine, which looked suspiciously like the banned imperial flag (black, white, and red). He was not a good choice for the Reichsbank. Though a competent administrator, he had made his reputation as a stolid municipal official and simply lacked what it took to run a central bank, especially the understanding of the psychological dimension to the crisis and the importance of restoring confidence.

  On July 8, Luther called Norman. The Reichsbank was in a desperate situation. It had lost a huge slice of its gold reserves. If it tried to bail out the Danatbank, it would fall below the minimum reserve threshold it was required to maintain by law which, in the current environment, was bound to provoke a run on its currency. It therefore faced a terrible dilemma: support its currency and let the Danatbank fail or try to support its domestic banking system and watch what reserves it had left fly out of the country. It was one of those situations in which there are no good options—only the choice between a bad outcome and a disastrous one.

  Luther’s only solution was to borrow abroad. He needed $1 billion, he told Norman. On July 9, Luther, his “round face deep lined with anxiety,” boarded a private plane in Berlin—the first such resort by a desperate central banker. In Amsterdam he met with the governor of the Dutch central bank for two hours, then took off for Britain. He was received at Croydon Aerodrome by Norman and the British foreign secretary, Arthur Henderson. The party drove up to London, where Luther briefly met with the chancellor of the exchequer Philip Snowden. Norman was due in Basel for the monthly board meeting of the BIS and Luther decided to accompany him on the boat train as far as Calais.

  It was on that journey, as Luther described the deteriorating situation in Germany, that it finally dawned on Norman that the game was up. The German economic position was now irretrievable. As a central banker, all he could do was provide a temporary loan to buy a little more time. Germany was now in deep water and sinking. The numbers would not add up. It had a GDP now of $13 billion that was shrinking by the month, reparation debts of $9 billion, and foreign private obligations of $6 billion, $3.5 billion of it short-term that could be pulled at any moment. Over the last year, $500 million in capital had fled the country. Barely $250 million in gold reserves remained. Harrison and Norman had been pushing Luther to restrict credit yet more rigorously in order to curb the outflow of capital. But with the banking system on the verge of collapse, he had run out of room. His only hope, Norman told him, lay in a long-term loan from France, the one European nation with sufficient gold reserves to bail out Germany. But he warned that French money would only come with draconian political conditions. Luther and Norman separated at Calais, Norman to go on to Basel, Luther to Paris.

  Luther was received at the Gare du Nord by Governor Moret of the Banque de France. On Friday, July 10, he lunched at the Banque with the regents, the two most powerful of whom, François de Wendel and Baron Edmond de Rothschild, both resolutely anti-German, turned down the idea of a credit from the Banque and told Luther that his only hope was a loan from the government. That afternoon and into the evening, the Reichsbank president shuttled back and forth from ministry to ministry, missing one train after another for Berlin. The French government informed him that it might be prepared to lend as much as $300 million, provided that Germany abandon the customs union with Austria, suspend the construction of two new pocket battleships, raise interest rates sharply to halt the flight of capital abroad, and “orient itself definitely towards a policy of democracy and pacifism” by banning public demonstrations by Nationalist organizations.

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nbsp; Merely president of the Reichsbank, Luther did not have the authority to agree to these terms. On Saturday, July 11, he boarded an airplane at Le Bourget for Berlin. “Not since those days of July 1914 when the World War was brewing have potent rumors been so thick,” wrote Time magazine of that weekend. The German cabinet convened at 8:00 p.m. and debated into the early hours of the morning. Every major German newspaper fulminated against French “political blackmail” and warned that this would only increase the “bitterness of the German people” toward France. Rumors circulated that President Hindenburg would resign if the government knuckled under. An even more startling rumor came over the wires. The cabinet was considering nationalizing all private industry, banks, shipping, and trade.

  That Sunday, the German cabinet announced that it was rejecting the French offer. The French cabinet, which had dispersed for the long Bastille Day weekend—Laval to his country cottage, Foreign Minister Briand fishing on his farm at Cocherel, Finance Minister Flandin at the beach in Brittany—was summoned back to Paris. They heard an impassioned plea for reconsideration from the German ambassador, Dr. Leopold von Hoesch. Did they really want to provoke a revolution in Germany? Though Laval agreed that “they had come to a decisive point in world history,” he was unwilling to offer anything new.49 Paul Einzig captured the view of many in Europe at that point when he later wrote, “On the ruins of the wealth, prosperity, and stability of other nations, France has succeeded in establishing her much desired politico-financial hegemony over Europe.”

  The American ambassador in Berlin, Frederick Sackett, cabled to Washington that unless Germany received $300 million immediately, it would declare national bankruptcy and default on the $3 billion it owed American banks and investors. George Harrison convened an emergency meeting at the New York Fed with Under Secretary Mills and the two most knowledgeable men on Germany, Owen Young and Parker Gilbert. They concluded it would be throwing good money after bad, when the United States had already contributed $300 million by its moratorium on war debts.