The Great Inflation

The Great Inflation

In late-1922 the German government were forced to ask the Allies for a

moratorium on reparations payments; this was refused, and she then

defaulted on shipments of both coal and timber to France. By January of

the following year, French and Belgian troops had entered and occupied the

Ruhr. The German people, perhaps for the first time since 1914, united

behind their government, and passive resistance to the occupying troops

was ordered. A government-funded strike began as thousands of workers

marched out of their factories and steel works. The German economy,

already under massive pressure, gave way. The huge cost of funding the

strike in the Ruhr and the costs of imports to meet basic consumer needs

were met by the familiar expedient of the printing presses. Note

circulation increased rapidly, and by November 1923 had reached almost 92

trillion marks. With less than three per cent of government expenditure

being met from income and with the cost of one dollar at four billion

marks, Germany was in the throes of economic and social chaos. Starvation

became a reality for millions of people, despite a bumper cereal harvest,

as shops reverted to the barter system. Farmers refused to accept the

effectively worthless, banknotes in exchange for grain, and food quickly

began to run short in the cities. Prices rose one trillion-fold from their

pre-war level. More importantly, for the long-term political future of

Germany, the middle and working classes saw their savings wiped out.

These were, in essence, the people who were later to become the hard-core

of the Nazi vote.

Economists will argue that runaway hyperinflation has two sources. Firstly,

it arises through a fall in the foreign exchange value of a currency, when

an adverse balance of payments reduces foreign investors demand for the

currency. A falling exchange rate increases the cost of imports and,

therefore, the cost of living. Wages rise as workers try to maintain their

standard of living, especially if previous institutional arrangements have

linked wages to living costs. Firms paying higher wages raise the price of

the goods they sell, prices rise still further, the foreign exchange value

of the currency falls still more, and the cycle continues. Secondly, it

arises through a large budget deficit which no one believes will narrow in

the future. Faced with the prospect of budget deficits for many years to

come, the usual sources of credit available to the government decline to

make further loans; the government can no longer borrow to cover the

deficit between revenue and expenditure. The only alternative is to print

more and more banknotes. As government workers and suppliers present their

bills to the Treasury, it pays them off with newly-printed pieces of

paper. This puts more banknotes into the hands of the public and they

then spend them. In Germany, as we have seen, the problem was that there

were trillions of marks worth of paper currency in circulation. Prices

could rise one thousand times between a worker being paid and his reaching

the shops. A common analogy used is that if one could afford a bottle of

wine today, one should keep the empty bottle which would be worth more

tomorrow than the full bottle was today.

Eventually, the power to boost government spending by printing money goes.

When the government can no longer gain, even in the short-term, a

budgetary balance through inflation, the situation becomes so intense that

stabilisation through a currency board, a new finance minister or a link

to the gold standard is implemented, and reform can be successful. It was

at this point that some sanity was injected into the German economy by the

election of Gustav Stresemann. He called a halt to resistance in the Ruhr,

and set out to stabilise the mark. Luther, StresemannÐ"†s Finance Minister,

introduced the rentenmark the value of which was based on GermanyÐ"†s staple,

rye, rather than gold. In fact the rentenmark represented a mortgage on

GermanyÐ"†s land and industry, which could never be redeemed. It did not

matter. The point was that the currency was stabilised and became

exchangeable at a rate of one billion old marks to one new mark, and at

the pre-war parity of 4.2 marks to the dollar. The