Money Mischief_ Episodes in Monetary History - Milton Friedman [64]
In 1935 and 1936, as the price of silver rose higher and higher, one country after another changed the silver content of its coins. "The Silver coinage debasement campaign to keep coins from the melting pot was world-wide. Central America, South America, Europe, Asia and even Africa participated" (Paris 1938, p. 72).
Mexico was a special case. As the largest producer of silver, it benefited from the higher prices. But, also, much of its money supply consisted of silver coins. Toward the end of April 1935, the value of the silver peso as metal rose above its value as money. "[I]n order to prevent the peso from being shipped to the United States either as a coin or in melted-down form, President Cardenas proclaimed a bank holiday on April 27. Then he ordered all coins to be exchanged for paper currency, and prohibited the export of silver money....[A] year and a half later, when silver prices had fallen, these orders were revoked and silver coinage was restored" (Paris 1938, p. 71). Nonetheless, Mexico had permanently converted its monetary system to a managed paper standard. The short-term benefit from the higher price of silver may have outweighed the immediate harm from the bank holiday and the accompanying monetary developments. However, over the long term, this immediate gain was almost surely more than offset by the loss of a major source of demand for silver and by the lasting monetary effects of being forced to adopt a managed paper standard.
The Effect on China
I single out China for special attention because it was the only major country that was on a silver standard in 1933, when U.S. action to raise the price of silver began.* As a result, the U.S. silver purchase program had more far-reaching effects on China than on any other country. Although China did not produce any significant amount of silver, it had accumulated a large stock of the metal as a result of its use as money. Only India had a larger silver stock. (Like China, India had long been on a silver standard, but, unlike China, it had gone off silver in 1893 and had adopted a gold standard in 1899.)
The silver standard was a blessing for China in the early years of the Great Depression. Thè countries it traded with were on a gold standard, and prices in those countries fell drastically after 1929, including the price of silver. With China on a silver standard, the fall in the price of silver was equivalent to a depreciation of the exchange rate of its currency with respect to gold-standard currencies; it gave China the equivalent of a floating exchange rate. For example, in 1929 the Chinese dollar was valued on the foreign exchange market at 36 U.S. cents; in the next two years the price of silver in terms of gold fell more than 40 percent, making the Chinese dollar worth only 21 cents. Since U.S. wholesale prices fell by only 26 percent, China could command higher prices in terms of its own currency for its exports, despite their lower price in terms of gold. Imports, of course, were also more expensive. The net result was that while exports from China fell, they fell much less than either world exports or Chinese imports. In 1930 and 1931, China had a balance-of-payments surplus reflected in net imports of gold and silver. Internally, it experienced a mild inflation and a mild boom while the rest of the world was suffering from drastic deflation.*
The departure of Britain, India, Japan, and other countries from the gold standard in 1931 eroded the advantage conferred on China by a floating exchange rate. These countries' currencies depreciated