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January 5, 1934.
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Professor.F. Warren Cornell University I thaca, lew Yoxk. này đear in reli
I was delighted to read the resident budget bessage this more ning. It is splendid that, unlike any others in similar circunstances, he has xefused to nibble at the chexzy but has taken a substential bite. There was much cotxoversy in Austalia on the question o* Public worke expenditures, but it was soon realized that a fairls ambitious program WEB neccessary. This helped to maintain an ubalanced budget for the time beeine but it laid the foundations for a balanced budget in the cour Ise of two years. We built up a floating dept c# over four hundzed mix lion dollars for our enexgency expenditures and this wonld be compan: rable to one of eight billion dollag in he Ueld States. When we state the problema li Cuch relative teres se find that the figures for the United States do not appear so astronomical as many finacial exitics suppose.
I have always held the view that cuok cuergency expendittre on a substantiu soale was essential, to recovery. Apart from the direct stimulus to employment, there are other indirect and even more substan= tial benefits: first. To the extent to which the program is financed from the expan= sion ol Central Bank Credit, there will be an increase of funds on the money market and a fell in the rate of inrerest. This is contrary to Recepted economie- doutrine, but t is direct eeping with our over experience 10 Australia and with the experience of Great Britain. Second: The expenditure itsell promotes sweater activity in Industry and an increase in national income. As recovery proceeds in this way, governtent- revande autonatically increases and soon 18 able to support the interest and the Amortization charge or the dept. properly handled, suoh energency expenditure is in fact self- liquidating as the crisis passes.
There is further ease to the banking system on account of the Increased cash resources of the banks and the prospects of more profitable investment of surplus bank funds.
If the bond market weakend through temporary fears of the investors, the situation can easily be handled by the sizplo expedient of selling skoter- seemiliss to the Central Benk, in your case, the Federal keserve Banks. This is correctly called innetionary finance, but it is the very na ture of financial polloy in a crisis to report, if necessary, to soue unorthodox methods. The bond market will Icovex as soon as the benificial eftects of government expenditure are observabı in industry and goverment revenue. in the so circuastances, I soe no reason to take alarm because the bond perket is unfavorable to govem ment borrowing. The governuent cen correot this ky proceedings courage: ously with its policy and increasing contral bank credit through the sale of short term securities to the Central Banking System. The expan=

Professor.8. Warren
January 5, 1934- P. expansion of credit in this circumstance must have beneficial effects in the long run upon the money market, the rate of interest, and the bond market. Here again I think it is fair to draw upon the experience of Australia, where in 1931 we faced an appalling budget situation with a bond market on the verge of collapse. By rigià economy in the ordinary budget and a controlled expension of credit for publie works, we soon overcame our difficulties. The rate of interest fell and the bond market was in fliteen month above pax. the government reverue expanded, and in the budget of October last, we were able to reduce taxation substantially, thus within two years the emergency expenditure became self- 11qpidating.
This success woa due in part to the successful currency policy purated by the Commonwealth Benk, with the approval of the government. Our tee 1 gold raised first by our own actlen in January 1931 and ieter by the notion of Great Britain in suspending gold payments in September 1931. By December 1931 when the Comionnealth Bank assumed control, our price of gold was the equivalent of about 38,00 dollars per ounce. I have always felt that this gave us more relief then any other element of cur economie policy. By holding up prices of primary production, it prevented& disastrous deflation, and ultimately promotd an increase all round in the national incone. Cur natinal income at the worst stages of the crisis had fallen to four hundred million pounds sterling from a level of six hundred fifty millions pounds sterling. But we zeintained our old gold price, the fall would have been very much greater, and we would inevitably have experienced a bunking and a financial crisis similar to yours. A zise of only ten percent in the prize level brough about my currency of gold policy would add forty millions at once to our natinal Income. nia wae half to the total emergency expenditure we indulged in the throuhout the whole crisis. Similarly in your case, a rise of prices of a small percentage adds much more to the national income than àirect government expenditure through pubiie vorke ox other emergency spending. For this reason I think the gold policy you initiated last October to be essential to the repid recovery of your internal economy.
The successful pursuit of this policy, however, depends upon the courage with which the banking or treasury authority controls the price of gold. In Great Britain and Australia, the legal fiction of convertibility of the currency at the old gold par was destroyed. You must, I think, destroy it in the United States. This obligation of the treasury to purchase gola at dollars 20.67 to the ounce is a dead letter, but it is a grave hindrance to complete action by a governmens tal authority to control the price of cold. I suggest, therefore, that you must amend your legislation, at least to the extent of destroying the legal fiction of a gold price of dollars 20,67 to the ounce.
This could be followed, by sathorising the President, through the Reconstruction Finance Corporation, or some other authority, to buy and sell gold at rates to be determined by the President. The maximum price could be fixed in accordinge with president legislation on de valuation at dollars 41,34 to the ounce. In this matter, as in the
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Professor.1. Warren
January 5, 1934-P 3.
the problem of public expendituzes, timidity is a grave ambarraszent. Half measures will be worse them no mecsures. the technical problems involved in controlling the situation have, I think, been gxeetly exag= gerated. The authority designated by Congress has merely to announce thet it will buy and sell all gold at rates to be announced from time to time. For example, it may decide to buy and sell at dollars 36,00 to the ounce. If the London price of sola is then pounda--6, the sterling exchange rate would settle at approximately dollars 5,65 to the pound. This would equalize the internal and external price of gold and make the gold policy effective on internal economie conditions. it would be a mistake to stabilize the rate at present. You cannot have stability of anything in your unetable weria. Stability of exchange rould be purchased at the price of instability in some elemeats of the economie structure. Certainty as to foreign exchange trans= actione could be purchased at the price of uncertainty as to the basis of contract in the internal econony. The latter is nuoh zore important in berns of both economic activity and huran welfare. than the formex. Once the cold standard 1s zuspended, it is possible to experiment with the price of gold until it reaches a point at which the debt burden of te the country becomes tolerable and some thing approaching normal economie activity has been restored. One cannot repeat toooften that succes8a: mul control of the gold price demands strong action on the part of the government to designate some authority charged with the responsibility of establishing a free market for gold at tates whioh are considered to be consistent with the main objective of economic policy.
It is sometimes said that this will involved a cost. this to be a profound error and to axlee from the fears of curreney authorities that you cannot manage a currency. with the price of gold at dollars 36,00, the.8. currenay would be somewhat weakened and the tendency would be for money to blow towards this country. In these circunstances, the controlling authority has merely to issue credet ox carrency Internally against Its purchases of gola sbroad. It does not seek this an unhealthy movement in the gold price induced by the flow of short term funds which have done auch damage to all currencies in this crisis. Every country must take action to prevent the depredations of these funds that seems to run iron one part of the world to another seeking a safe home and leaving considerable wreckage behind thea. No oaxrenez should be the sport of short texn investors.
If on the other hand, there is a flow of funds from the United States abroad, the controlling suthority has two weapons at its disposal
It can rase the price of gold, making it more costly for the expozt funds. On the other hand, it can regåely export a aneatity of the gold now held. This will be a proof to the world that the United States
18 not seeking a price for the metal thet will give it aubetantial prospect of rapid reeeovery. In doing so, it is cheapening the dollar for the rest of the world, and making it easier for debtors to seet their obligations in dollars. the export of gold is, however, moet unlikely at present, because there is no deficit in the balance of payments and no likelihood of a large flood of capital. The problem is really to deal with en inlow of capital that would cause the gold price to fall. It is very easy to handle this problem by the simple expedient of pure chasing all the gold offering and issuing credit in the United States against the gold offering and

Professor.F. Warren
January 5, 1934- P. 4
against the gold so purchased. This is a transaction upon which it would be impossible to involve the nation in a loss.
I, Therefore, suggest that the technical problem can be handled in the following way:
Abolish the legal fiction of a price of gold of dollars 20,67 to the ounce. 2Create an authority charged with the responsibility of buying and selling all gold offering at rates fixed by the President, up to the legal maximum of dollars 41,34 to the ounce.
A similar policy has been in operation in Australia since Decem= ber 1931 and it has been entirely successful. In Great Britain, as you know, the official policy has been to prevent the price of gola from falling too low. The exchange equalization fund has I think been used more frequently to keep up the price of gold than to promote a fall in the price.
I hope, in the light of this experience, that the President will implement his gold policy with the courage he has shown in the budget policy.
In case you are not in Washington, I am sending a copy of this letter to Rogers for his information.
Yoursb sincerely,