Money Mischief_ Episodes in Monetary History - Milton Friedman [69]
They conclude that "the U.S. silver purchase program did not set off a chain of bad economic events which eventually forced China off silver and onto a fiat standard. The U.S. silver purchase program undoubtedly did help cause the fall in the Chinese price level.... But the evidence points against any massive disruptions in real economic activity as having resulted from the price level fall.... The Chinese monetary system was driven off silver by its government, which wanted to increase its share of [the boon from the higher price of silver]...and which also perhaps foresaw that in coming years it would be easier to issue debt with low rates of returns if it could prevent competition from banks offering high-yielding low-denomination assets in the form of bank notes convertible into silver" (p. 49).
Evidence on foreign trade—which incidentally rests on a firmer statistical basis than Yeh's and Rawski's estimates—sharply contradicts this highly imaginative and theoretically attractive interpretation. If the deflation had negligible real effects, it should not on that account have had any effect on exports or imports in real terms, though both would go down in nominal terms. On the contrary, with the rest of the world in general expanding from 1933 on, both exports and imports might have been expected to increase in real terms. Add now the effect of the "boon" to the holders of silver. The unanticipated increase in wealth would induce them to spend more on both foreign and domestic goods and services. Extra spending on foreign items would increase real imports, and extra spending on domestic items would reduce real exports, the difference being financed by the export of now redundant silver.
The actual pattern was the opposite. Both nominal imports and nominal exports fell, but imports fell much more. Expressed in real terms (adjusting by a wholesale price index), imports fell every year from 1931 to 1935, and particularly sharply from 1933 to 1935, the years of the heavy export of silver. Exports in real terms actually rose from 1932 to 1933, apparently benefiting from recovery elsewhere and low real prices in China. They fell slightly from 1933 to 1934 and rose slightly from 1934 to 1935 (based on data in Chang 1988, table 4, p. 103). This pattern is entirely consistent with the monetary deflation interpretation but the opposite of that required by the Brandt-Sargent interpretation. Real imports began to fall when Britain went off gold in 1931, falling most sharply when the United States went off gold in 1933 and began its silver purchase program. Real exports fluctuated up and down, reflecting the low real prices in China produced by a failure of internal prices to respond fully to the change in external prices expressed in terms of silver.
Examined more closely, neither new set of estimates constitutes a real challenge to the monetary interpretation. Both Schwartz and I and the contemporary observers may well have overestimated the real effects of the nominal deflation. "Money illusion" tends to produce such an overestimate, as was noted by Alfred Marshall many years ago. In Monetary History we report that such an overestimate occurred with respect to the 1873–79 U.S. depression. Nonetheless, I find it hard to dismiss entirely the judgments of contemporary observers on the basis of the necessarily imperfect and incomplete aggregate statistics that underlie Yeh's estimates.* In addition, it stretches credibility