Lords of Finance_ The Bankers Who Broke the World Part 9

IN 1925, emile Moreau, now fifty-seven, was in his twentieth year at the Banque d'Algerie and his fourteenth as its director general. He was proud of his achievements: his role in providing credit to the Moroccan economy, in stimulating the development of industry in Algeria after the war, and in launching a campaign against usury in Tunisia. For his services, he had acc.u.mulated a large array of decorations, including the czarist Russian Order of Saint Anne, the Spanish Order of Isabella the Catholic, and the Belgian Order of Leopold II, in addition to being a Commandeur de la Legion d'Honneur. But for all of these accolades, he had never been able to shake off the conviction that his a.s.signment remained a form of professional banishment.

For many years, he had harbored the faint hope of one day returning to the mainstream of the civil service, maintaining, for example, his status as a member on leave of absence of the elite Inspectorat des Finances. But as the years had gone by and no new a.s.signment had come his way, he had finally reconciled himself to his lot. In 1922, he had resigned from the higher civil service, though he continued to hold his position as the head of the Banque d'Algerie.

He and his wife had no children, and he was at an age when he could begin to look forward to more time for his other interests-he had a.s.sembled an extensive collection of Islamic coins, was an avid bibliophile, and also an active member of the Touring Club France, periodically taking off on long automobile trips through the countryside. And after twenty-two years, he was still a very dedicated mayor of his tiny home commune of Saint Leomer, only two hundred miles from Paris, which allowed him to get back to the old village as often as he wished.

Then suddenly in April 1925, when the Herriot government fell over the scandal at the Banque de France, it seemed that Moreau's star was about to turn. Paul Painleve29 formed a new left-wing coalition government and named as his finance minister a man whose four previous tours in the office had gained him a legendary reputation in the field of public finance: Moreau's old mentor, Joseph Caillaux. formed a new left-wing coalition government and named as his finance minister a man whose four previous tours in the office had gained him a legendary reputation in the field of public finance: Moreau's old mentor, Joseph Caillaux.

In a country infamous for political instability, few men had had as stormy a career as Caillaux. In 1920, he had been sentenced to three years imprisonment for damaging the security of the state. But having already spent two years at La Sante prison awaiting trial, he had the remainder of his sentence commuted. Legally banished from Paris, Caillaux and his wife, Henriette, retired to the little town of Mamers in the Loire valley. For the next four years they lived quietly. Though he wrote an account of his years in prison that became a best seller, with the shadows of her trial for murder and his conviction for treason hanging over them, they found themselves outcasts, not only shunned in society, but dogged by petty humiliations-turned out of hotels, refused service in restaurants, insulted in cafes and on the streets. Caillaux was even once attacked by a gang armed with clubs and bricks.

But as France headed toward bankruptcy, more and more people could not help remembering Caillaux's warnings at the height of the war that both victors and vanquished would be ruined and increasingly he came to be seen as a victim of wartime hysteria. What had then been looked down upon as defeatism on his part now began to be viewed as prescience. In December 1924, his supporters in the National a.s.sembly voted to abrogate his sentence. His return to the Ministry of Finance with a reputation, according to one French senator, as "a kind of Treasury magician, capable of turning dry leaves into bank notes," was the final vindication for this remarkable man.

Not everyone had forgiven or forgotten, however. As he strode into the Chamber of Deputies on April 21, 1925, to take his place on the government bench, his domed bald head gleaming, a monocle fixed firmly in his right eye, there was hissing and booing and shouts of "traitor" and "deserter." One ardent Nationalist got up and cried, "Have we reached the point where we must chose between bankruptcy and M. Caillaux? Bankruptcy would be better." An American newsmagazine reported that it was as if Benedict Arnold, instead of being executed, had been barred from Philadelphia, exiled to the country, then pardoned, and appointed secretary of war.

Over the years, even during Caillaux's long banishment into the political wilderness, Moreau had a.s.siduously maintained his friendship with the brilliant and erratic politician. For all of Caillaux's many faults-the indiscretions, the abysmal judgment, the disreputable friends with whom he surrounded himself, the terrible thirst for power, his essential "frivolity"-Moreau had never wavered in his belief that Caillaux was one of the best financial brains France had produced and that had he been minister of finance during the war, France would not have been in its present shape.

The situation confronting the new minister was grave. The franc was the only major currency still "off gold" and fluctuating on the exchanges, its ups and downs serving as a barometer of confidence in French financial management. In the spring of 1924, during the Dawes negotiations, it had briefly sunk to 25 to the dollar. Thereafter it had recovered somewhat, remaining reasonably stable for a year at about 18 to 19 to the dollar, 25 percent of its prewar level. But the affair of the faux bilans faux bilans damaged that fragile equilibrium, and by the end of June, it was wavering at around 22 to the dollar. damaged that fragile equilibrium, and by the end of June, it was wavering at around 22 to the dollar.

Caillaux threw himself into the task of saving France from insolvency with characteristic energy. Immediately upon a.s.suming office, he tried to fire Governor Robineau from the Banque de France and replace him with his old friend emile Moreau. A housecleaning at the Banque would have helped to reestablish its credibility abroad. But fearing such a move would irretrievably compromise the Banque's reputation, the president of the republic killed the idea. Moreau saw his hopes of redemption dashed yet again.

Caillaux succeeded on some fronts. He managed to negotiate a budget deal that, for the first time since 1913, promised to balance the government's accounts. At the same time, he squashed the proposal for a capital levy, a form of wealth tax much enamored by the Socialists, the threat of which was provoking a flight of capital. In July, he went to London and struck a bargain with Winston Churchill to restructure the French war debt to the British at 40 cents on the dollar, effectively cutting it from $3 billion to $1.2 billion.

But the combination of France's financial problems and its political logjam were too great even for a man of Caillaux's abilities as financier and politician. He traveled to Washington to negotiate a similar write-down of the $4 billion debt owed to America but came back empty-handed. And while his appointment may have inspired confidence "in elegant social circles and the higher reaches of the Ministry of Finance," he was less successful in generating the same enthusiasm among those average French investors who held short-term government bonds. He became embroiled in a confrontation with the regents of the Banque de France, who, finding the government unable to meet all of its short-term obligations, tried to push Caillaux to impose some sort of debt moratorium-in effect for the government to admit that it was insolvent. So frustrated was Caillaux by the Banque's att.i.tude that at one point he burst out how much he "regretted not having thrown the management of the Banque out of the window the minute he had a.s.sumed power."

In November, Caillaux was ousted, one more victim of the vendettas and personal intrigue that pervaded French political life. As he left, the franc touched 25 to the dollar. In his seven months in office, the cost of living had risen by 10 percent. During the following eight months, France had five different finance ministers, each with his own pet solution-a wealth tax, a moratorium on certain maturing debts, more vigorous collection of taxes, an increase in the turnover tax. Each failed to stem the collapse in confidence. French investors continued to pull their money out of the country.

In April 1926, France and the United States finally negotiated a war-debt settlement at 40 cents on the dollar. The budget was at last fully balanced. Still the franc kept falling. By May, the exchange rate stood at over 30 to the dollar.

With a currency in free fall, prices now rising at 2 percent a month, over 25 percent a year, and the government apparently impotent, everyone made the obvious comparison with the situation in Germany four years earlier. In fact, there was no real parallel. Germany in 1922 had lost all control of its budget deficit and in that single year expanded the money supply tenfold. By contrast, the French had largely solved their fiscal problems and its money supply was under control.

The main trouble was the fear that the deep divisions between the right and the left had made France ungovernable. The specter of chronic political chaos a.s.sociated with revolving-door governments and finance ministers was exacerbated by the uncertainty over the government's ability to fund itself, given the overhang of more than $10 billion in short-term debt.

It was this psychology of fear-a generalized loss of nerve-that seemed to have gripped French investors and was driving the downward spiral of the franc. The risk was that international speculators, those traditional bugaboos of the left, would create a self-fulfilling meltdown as they shorted the currency in the hope of repurchasing it later at a lower price, thereby compounding the very downward trend that they were trying to exploit. It was the obverse of a bubble, where excessive optimism translates into rising prices, which then induces even more buying. Now excessive pessimism was translating into falling prices, which were inducing even more selling.

In the face of this all-embracing miasma of gloom, neither the politicians nor the financial establishment seemed to have any clue what to do. In early 1926, the budget minister, Georges Bonnet, invited the regents of the Banque de France to his office to seek their advice. He was struck by how extremely old they seemed to be-one of them could only walk leaning on two canes; another entered on the arm of his valet, who had to a.s.sist him into his chair. During the meeting, the panel, which represented the collective financial wisdom of France, seemed only to be able to offer one plat.i.tude after another about the need to restore confidence. When asked how to achieve this, they fell back on the usual military metaphors that were de rigueur at times of French financial crisis. One of the regents proclaimed vehemently that "we are the soldiers of the franc and we will die in the trenches for the franc." That winter and spring, there was much in the press about the "battle of the franc," "monetary Marnes," and the "Verdun of the currency."

At one point, the government decided it had to do more than just rely on a lot of military-sounding talk. Marshal Joffre, the "Hero of the Marne," was summoned out of retirement and placed in charge of the "Save the Franc Fund." It managed to raise all of 19 million francs, rather less than $1 million, including 1 million francs from Sir Basil Zaharoff, the noted European arms merchant, and 100,000 francs from the New York Herald New York Herald, the precursor of today's International Herald Tribune International Herald Tribune.

The authorities still had one weapon in reserve to break the downward spiral-the more than $1 billion in gold holdings of the Banque de France, some $700 million parked in its vaults on the Rue de la Vrilliere, and a further $300 million held abroad with the Bank of England.

For much of modern history, including well into the latter half of the twentieth century, gold has occupied a hallowed place in the French psyche. So revered was it that during these years of financial turmoil, the regents could never quite bring themselves to actually draw upon their reserves. At one point during the war, the British had tried to persuade the Banque de France to utilize some of its gold for the war effort. What was the point, they asked, of building up a reserve if not to use at times of crisis? But the Banque had insisted that its reserves had to be preserved so that when the troubles were all over, and France was in a position to resume its rightful place in the economic order, the gold would be there to back its currency. The French gold reserves were like family heirlooms or jewels, "which must never be brought out and never be touched; to lie idle, as it were, under a gla.s.s case."

In early 1926, the government, its finances now restored but its currency still inexorably and inexplicably falling, tried to persuade the Banque that now was the time to redeem its pledge by supporting the franc with foreign currencies borrowed against the security of the gold. The Banque refused. Its behavior during the whole crisis-its reluctance to help and its lack of cooperation with the government-would later give rise to the accusation that the plutocrats at the apex of the French banking system had been determined from the very start to bring the left-wing coalition to its knees. Le mur d'argent Le mur d'argent-the wall of money-it was called, joining les deux cents familles les deux cents familles as the twin rallying cries of the left in France. as the twin rallying cries of the left in France.

In May 1926, the government, spurned by its own central bank, sought frantically to obtain credit abroad. But the scandal of les faux bilans les faux bilans had confirmed the universal prejudice among British and American bankers that French inst.i.tutions-government, politicians, press, and now even the central bank-were decadent, corrupt, and dysfunctional. A French delegation came to see Benjamin Strong, then in London, to beg for a $100 million loan from the New York Fed and was firmly turned down-he could not lend to the French government by statute and would not lend to the Banque de France until all the groups involved-government, opposition, the Banque itself, and the most important French bankers-"[laid] down their squabbles" and agreed to cooperate. At a further meeting in Paris later in May, when French officials again pressed for a loan, Strong told them that when, as he quite expected, they would be unable to pay, the Americans would have to physically take the pledged gold reserves from the vaults of the Banque, for which they would be "excoriated from one end of France to another." Rejected by the Federal Reserve, the French approached every investment house they could-Morgans, Kuhn Loeb, and Dillon Read. Every house demurred. had confirmed the universal prejudice among British and American bankers that French inst.i.tutions-government, politicians, press, and now even the central bank-were decadent, corrupt, and dysfunctional. A French delegation came to see Benjamin Strong, then in London, to beg for a $100 million loan from the New York Fed and was firmly turned down-he could not lend to the French government by statute and would not lend to the Banque de France until all the groups involved-government, opposition, the Banque itself, and the most important French bankers-"[laid] down their squabbles" and agreed to cooperate. At a further meeting in Paris later in May, when French officials again pressed for a loan, Strong told them that when, as he quite expected, they would be unable to pay, the Americans would have to physically take the pledged gold reserves from the vaults of the Banque, for which they would be "excoriated from one end of France to another." Rejected by the Federal Reserve, the French approached every investment house they could-Morgans, Kuhn Loeb, and Dillon Read. Every house demurred.

On June 15, the "Ballet of Ministries" came around full circle, and Joseph Caillaux returned as minister of finance, his fifth time in that position. This time he finally succeeded in firing Robineau, and emile Moreau was invited to take over from him. Caillaux was set on making a clean sweep of the Banque's entire upper management, replacing it with men who were more pragmatic and less ideologically opposed to the government. The deputy governor, Ernest Picard, was packed off to the Banque d'Algerie, a convenient and proven place of exile for unwanted civil servants, and replaced by Charles Rist, a professor of law at the Sorbonne, a well-known specialist in monetary economics. Albert Aupet.i.t, as secretary general of the Banque the primary architect of les faux bilans les faux bilans, was also shunted aside. When a group of regents threatened to resign en ma.s.se in outrage at the government interference in their internal affairs, Caillaux and Moreau called their bluff. All of them stayed.

On June 24, Moreau, fifty-eight years old, vindicated at last, a.s.sumed the governorship. That day, the currency stood at 35 francs to the dollar, having bounced modestly from its low of 37 to the dollar. A friend to whom he confided of his elevation to the new position told him that he pitied him. In his diary that evening, Moreau wrote, "Am I to become the liquidator of the national bankruptcy? This has to be feared or at least expected. . . . My wife is very unhappy."

COINCIDENTALLY, As THE financial crisis in France was reaching a sort of crescendo, Norman and Strong were enjoying their annual vacation together, this year on the French Riviera. They had developed the practice of meeting twice a year, combining business and pleasure-in New York during the winter and in Europe during the summer.

The previous summer, Strong had spent a full three months in Europe. After going to London, Strong, who was accompanied by his eldest daughter, Katherine, had gone on to Berlin with Norman to meet with Schacht, then to Paris and then for a month to the Palace Hotel at Biarritz.

Come 1926, Strong proposed that they go to the south of France. The Cote d'Azur was one of Norman's favorite vacation spots-he had been a regular visitor since 1902, when he had spent several months in Hyeres recuperating after the Boer War. But like most of the other English people who frequented the Riviera in those years, he preferred to be there in the winter and the early spring. "My doubt is only about the heat: I like to be warm but not grilled," he groused when Strong first came up with the idea. But the inducement of being able to sit down with his friend and "ooze out whatever questions are in my head" persuaded him to go along.

They chose to stay at the Hotel du Cap Eden-Roc. Before the war, the Hotel du Cap, secluded in twenty-five acres of ornamental gardens at the tip of Cap d'Antibes, had been a favorite watering hole of European royalty. Like most resort hotels on the Riviera, it used to shut between May and September. However, in 1923, a rich young American couple, the Murphys, 30 30 persuaded the owner to keep it open and took over the whole hotel for the summer. Thus was born the summer season in the south of France. In the three years since the Murphys had first commandeered the Hotel du Cap, it had become the most fashionable summer resort hotel on the Cote d'Azur. persuaded the owner to keep it open and took over the whole hotel for the summer. Thus was born the summer season in the south of France. In the three years since the Murphys had first commandeered the Hotel du Cap, it had become the most fashionable summer resort hotel on the Cote d'Azur.

In the last week of June, Strong and Norman and the other guests found themselves besieged by newspapermen. It seemed too much of a coincidence that the world's two most important central bankers should happen to be in France at the very moment its currency crisis was reaching some sort of denouement. Rumors were rife that a meeting of the world's great financiers, to be held in Antibes, of all places, was in the offing; that Schacht was on his way; that Andrew Mellon, the U.S. secretary of the treasury, would soon arrive; that Moreau was already in daily contact.

The two bankers did manage to elude the escort of reporters one evening, but were soon discovered dining at the Colombe d'Or, a small restaurant at St. Paul-de-Vence, twenty miles away. Another intrepid journalist managed to talk his way into the hotel grounds and reported encountering Norman perched acrobatically on a sort of surfboard being dragged through the waves by a small motor dinghy. The hotel management became so irritated with the inconvenience to its other guests caused by the press barrage that its employees were given strict instructions not to deliver messages to the two men. In fact, while Norman and Strong followed the events in Paris avidly, they knew that at this stage it was premature to enter into any sort of discussions with the French authorities.

At the end of July, Norman returned to England. Strong went to Paris, arriving on July 20. Three days before, the latest French government, having lasted all of four weeks, collapsed. It was followed by another left-wing coalition that survived only seventy-two hours. There was talk of revolution or a coup d'etat. The streets outside the National a.s.sembly were daily thronged with protesters. Strong found his French banking correspondents so fearful that they had begun sending their families to safety in the provinces, while the American officials he knew were preparing for violent anti-American demonstrations.

Since the founding of their republic, Americans had had a love affair with France and especially with Paris. In the early twenties, with the franc at a quarter of its prewar level, that romance had suddenly become accessible to any American with a couple of hundred dollars to spare. A tourist-cla.s.s pa.s.sage across the Atlantic could be had for as little as $80 and the cost of living in France was astoundingly cheap for anyone with dollars. By 1926, an estimated forty-five thousand Americans were living in Paris and every summer another two hundred thousand tourists arrived to enjoy the combination of culture, gracious living, and a risque nightlife that made Paris, even then, the most visited city in the world.

Unfortunately, the affection of Americans for all things French was increasingly unrequited. The French press had for a while expressed its indignation at the spectacle of rich Americans taking advantage of the low franc to buy up the choicest French property on the Cote d'Azur and Cote Basque, along the Loire valley, and on the Champs de Mars in Paris. The newspaper Le Midi Le Midi had taken to referring to Americans as "destructive gra.s.shoppers." had taken to referring to Americans as "destructive gra.s.shoppers."

One incident in particular had been a lightning rod for bad feeling. In March 1924, at the height of the currency crisis, the U.S. amba.s.sador, Myron Herrick, bought out of his own pocket a grand mansion at Two Avenue d'Iena to house the emba.s.sy. Built in the late nineteenth century at a cost of 5 million francs, equivalent at the time to about $1 million, the mansion was now selling for 5,400,000 francs.31 Herrick astutely chose to exchange his dollars for francs on March 11, 1924, the very day that panic selling on the Bourse drove the exchange rate down to 27 francs to the dollar, which gave him the house for only $200,000. As amba.s.sador from 1912 to 1914 Herrick had won the affection of the French for his decision to stay in the city when it seemed about to fall to the Germans. The affection was great enough that he had been asked to return as amba.s.sador in 1921. But when the newspapers discovered that the American amba.s.sador himself had cut a sweet deal from the franc's collapse, there was outrage. Herrick astutely chose to exchange his dollars for francs on March 11, 1924, the very day that panic selling on the Bourse drove the exchange rate down to 27 francs to the dollar, which gave him the house for only $200,000. As amba.s.sador from 1912 to 1914 Herrick had won the affection of the French for his decision to stay in the city when it seemed about to fall to the Germans. The affection was great enough that he had been asked to return as amba.s.sador in 1921. But when the newspapers discovered that the American amba.s.sador himself had cut a sweet deal from the franc's collapse, there was outrage.

The tough stance adopted by the U.S. government, particularly Congress, over repayments of war debts had aroused much bitterness in France. Casualties of Frenchmen during the war had been twenty times that of Americans. Coolidge's infamous remark-"They hired the money, didn't they?"-had displayed a remarkable indifference to the human sacrifice of Britain and France that all Europeans found chilling. The deal over the French war debts agreed to by Victor Henri Berenger and Andrew Mellon in April 1926 did nothing to bridge that chasm but only intensified the resentment further. Americans thought they had been extraordinarily generous by reducing their claim by 60 percent. The French, on the other hand, viewed the American decision to collect at all on a debt, the liquidation of which would take sixty-two years, as simply rapacious.

On July 11, in a dramatic protest, twenty thousand mutiles mutiles-maimed war veterans-the legless in wheelchairs, the blind led by nurses, marched in silent protest up the Champs-elysees to the Place d'Iena overlooking the U.S. emba.s.sy, where they laid a wreath at the foot of the equestrian statue of George Washington.

On July 19, the night before Strong arrived in Paris, a bus carrying American tourists was attacked by a rabble in Montmartre. Two days later a few hundred demonstrators surrounded some Paris-by-night tourist buses near the Opera and prevented them from taking sightseers through the more insalubrious parts of the city. Several thousand locals soon gathered around and began jeering and hurling epithets. A couple of days later another party of American tourists responded by plastering the part.i.tions of their railway compartment with French money, and conspicuously lighting cigars with fifty- and hundred-franc notes as a mark of their contempt for the currency.

Relations between American visitors and their reluctant hosts had so deteriorated that the New York World New York World felt compelled to proffer the following dos and don'ts to tourists planning to visit France that summer: felt compelled to proffer the following dos and don'ts to tourists planning to visit France that summer: Don't boast in cafes that American currency is the only real honest-to-G.o.d money in the world. It isn't. Besides such bursts of financial patriotism are annoying to people who did not spend the years 1914 to 1916 acc.u.mulating world credit by selling munitions, cotton and wheat to other nations which were busy with a war. . . .Don't confide to your fellow pa.s.sengers on railway trains that America is the most generous of creditors because America has cancelled all that part of debts, which n.o.body can collect. Talk instead of our prowess in tennis, golf or Prohibition. It comes with better grace.

It was against this backdrop that Moreau came to see Strong at his hotel in Versailles. They were to meet several times during the next days-always at Strong's hotel, because he did not wish to be seen visiting the Banque and even requested that the mere fact of their meetings be kept a secret. He was facing severe political opposition at home to any Federal Reserve involvement in the finances of France: "Xenophobic displays in Paris," he explained, "have produced the worst possible impression" on the American public.

The two men got on well. Moreau found Strong "friendly but reserved." Nevertheless, the latter was noncommittal about a loan. For one, it would require some signal that the French government would respect the Banque's independence. For another, the National a.s.sembly would have to ratify the April deal on war debts.

On the morning of July 29, it was Norman's turn to meet with the Banque's new leadership. He came to call on Moreau at his office on the first floor of the Hotel du Toulouse. The governor's suite at the Banque was a marked contrast to the cla.s.sical simplicity of his own office on Threadneedle Street. The rooms had once been the private apartments of the princess de Lamballe, granddaughter-in-law of the comte de Toulouse, a close confidante of Marie Antoinette who had often entertained the queen there.32 The floor was covered by a floral Savonnerie carpet, the governor's desk faced a painting by Boucher, the anteroom boasted a beautiful Fragonard park scene. The floor was covered by a floral Savonnerie carpet, the governor's desk faced a painting by Boucher, the anteroom boasted a beautiful Fragonard park scene.

The meeting of the two governors-Norman, tall, distinguished, and cosmopolitan, with his trimmed beard and his well-cut dandyish clothes; Moreau, short, squat, and bald, looking like a provincial notary out of a novel by Flaubert-immediately got off on the wrong foot. For once, Norman's infamous charm seemed to desert him. He was gratuitously patronizing, and despite being fluent in French, insisted on speaking to Moreau, who spoke no foreign languages, in English throughout that first encounter.

"Mr. Norman arrived at eleven o'clock," Moreau wrote in his diary. "At first sight he is very likeable. He appears to have stepped out of a van Dyck painting, elongated figure, pointed beard, a big hat: he has the bearing of a companion of the Stuarts. It is said that Israelite blood flows in his veins. I know nothing of this, but Mr. Norman seemed, perhaps because of it, full of contempt for the Jews about whom he spoke in very bad terms. He does not like the French. He told me literally: 'I want very much to help the Bank of France. But I detest your Government and your Treasury. For them I will do nothing at all.' On the other hand he seems to feel the deepest sympathy for the Germans. He is very close to Dr. Schacht. They see other often and hatch secret plans. . . . Nevertheless Mr. Norman is above all profoundly English and this makes him very creditable. He is an imperialist seeking the domination of the world for his country which he loves pa.s.sionately. . . . He adores the Bank of England. He told me: 'The Bank of England is my only mistress. I think only of her and I have given her my life.' He is not a friend to us French. Very mysterious, extremely complicated, one never knows the depths of his thoughts. Even so he is very amiable when he wants to be. . . . Norman spares nothing in his efforts to flatter [Strong] or gain influence over him. He went to spend several days at Antibes, only because Strong was staying there."

A Bank of England official accompanying Norman wrote later that Moreau left the impression of being "stupid, obstinate, devoid of imagination and generally of understanding but a magnificent fighter for narrow and greedy ends."

Norman essentially reiterated the conditions that Strong had set down for a.s.sistance: a change in the statutes to give the governor of the Banque security of tenure and the ratification of both the British and American war-debt settlements. Moreau did try to make both men see the political difficulties of each measure, particularly of trying to change the Banque's statutes in such politically fractured times. Many politicians were bitter at the Banque for sitting on its remaining gold reserves when the currency collapsed that year.

Moreau had received a quick lesson in the ways of international capital markets-financial a.s.sistance was "a commodity" that his fellow central bankers were "only ready to sell . . . at a stiff price." He would not forget. In his own mind, he blamed the sinister machinations of Norman and his malice toward the French for the failure of central bankers to come to France's aid.

ON July 21, Raymond Poincare was asked to form a ministry. He was then the most ill.u.s.trious and experienced politician in France, had been in politics for more than forty years-twice prime minister, from 1912-13 and 1922-24, and president of the republic during the fateful years of crisis and war, from 1913-20. Though not formally a.s.sociated with a party, he was a man of the center who in many ways stood above the political fray. And while he had been the architect of the disastrous and expensive decision in 1923 to occupy the Ruhr, which had left France isolated and weak, he had been equally responsible for setting in motion the Dawes Plan; and his anti-German stance had mellowed considerably in the previous three years. Within two days, he announced a national unity government that encompa.s.sed the full spectrum of political opinion, except for the Socialists, and included six former prime ministers.

What happened over the next few days ill.u.s.trates the overwhelming power that psychological factors had come to exercise over the currency market. On the day that Poincare became prime minister, the franc touched 50 to the dollar. But even before he had had a chance to outline his financial program or introduce any new tax measures, his presence alone seemed to rea.s.sure investors. Within the s.p.a.ce of two days, the franc had rebounded to 43 to the dollar and by the following week, it was back at 35, a rise of more than 40 percent. This astonishing recovery seems to confirm the thesis that in the last stages of its collapse, the currency had lost all connection to economic reality and was being driven downward by speculators.

The franc found as much comfort in Poincare's personality as in his political stature. The most uncharismatic politician in all France-cold, withdrawn, and antisocial33-he made up for it by his prodigious appet.i.te for work, married to a photographic memory, and a meticulous attention to detail. Most of all, in an era when French politicians seemed to have only the vaguest comprehension of the boundary between public obligation and private gain, he was scrupulously honest. He had a well-publicized provincial suspicion of all cosmopolitan Parisians, particularly bankers. The average French investor-the small shopkeeper from Picardy; the thrifty farmer in the Auvergne; the eminently practical village doctor from Normandy; and, of course, the gla.s.s manufacturer of Poincare's native Lorraine-recognized themselves in him and took comfort in his stewardship of their finances.

As the franc surged upward on in the exchanges, the prices of imported goods and the cost-of-living index began falling. That summer the papers were full of the comings and goings of American financiers in Europe. On July 24, Secretary of the Treasury Andrew Mellon arrived in Paris. In the first week of August, Strong was discovered in The Hague conferring with Schacht. On August 20, Strong and Mellon surfaced in Evian with Parker Gilbert, the agent-general for German reparations. What could all these prominent American moneymen be talking about if not the problem of the franc? In fact, while the mysterious peregrination of bankers across Europe was wonderful fodder for financial gossipmongers, it proved to be largely a sideshow. Mellon, it turned out, had come to Europe mainly to see his sick daughter in Rome and take her to Evian for the waters.

The capital that had fled France during the past two years began to wash back irresistibly, largely obviating the need for American or British financial a.s.sistance. In any case, Poincare, confronted by enormous resistance to the war-debt agreements within the National a.s.sembly, delayed submitting them for ratification. Without these agreements, there could be no loans from abroad.

Moreau himself was initially unsure how to respond to rebound in the franc. His initial inclination was to let it run. He was by training an old school civil servant; and though he had considerable experience in banking, his understanding of monetary economics was quite rudimentary and at times confused. The truth is that at that time, very few bankers could claim to understand fully the situation of France in 1926, particularly the complicated dynamics between the inflow of money and its effect on the exchange rate and domestic prices and, in turn, their impact on the overall economy. Moreau was lucky enough in his two subordinates, Charles Rist and Pierre Quesnay, to have stumbled across two of the few men who did.

Rist, aged fifty-two, had been an academic all his life, and was best known for the cla.s.sic tome History of Economic Doctrines from the Physiocrats to the Present Age History of Economic Doctrines from the Physiocrats to the Present Age, coauth.o.r.ed with his fellow professor Charles Gide, the uncle of the writer. According to Moreau, Rist was something of a "slave to the books he has written and the lectures he has delivered." In 1924, he had come to the attention of the finance bureaucracy with a short but highly influential monograph Deflation in Practice, Deflation in Practice, which argued, like Keynes's which argued, like Keynes's A Tract on Monetary Reform, A Tract on Monetary Reform, that attempts to force down prices would impose an excessive cost on the economy and society. He had been very reluctant to escape the comforts of academia when first approached about coming to the Banque and had only been persuaded when Caillaux, at their initial interview, exclaimed, "You are not going to remain a grammarian for the rest of your life!" that attempts to force down prices would impose an excessive cost on the economy and society. He had been very reluctant to escape the comforts of academia when first approached about coming to the Banque and had only been persuaded when Caillaux, at their initial interview, exclaimed, "You are not going to remain a grammarian for the rest of your life!"

Pierre Quesnay was only thirty-one years old, a former student of Rist's who, after being demobilized in 1919, had joined the financial service of the League of Nations. Moreau brought him in as his chief of staff, appointing him as the Banque's director of economic research a month later.34 During the fall, the inflow of money turned into a flood, and as it carried the franc irresistibly upward, breaching 30 to the dollar, Rist and Quesnay began to worry that France might repeat the British mistake: an exchange rate that was too high, making exports chronically overpriced and uncompet.i.tive. In mid-December, as the franc reached 25 francs to the dollar, Moreau's two colleagues, determined to prevent the French economy from slipping into British-like stagnation, began to agitate for the Banque to intervene to cap its rise. At one point, they even threatened to resign unless Moreau persuaded the prime minister to go along.

While Quesnay and Rist provided the Banque's intellectual horsepower, Moreau was the political strategist. He recognized that the choice of the exchange rate ultimately determined how the financial burden of the war was to be shared. It was Maynard Keynes who had first articulated the political dimension to exchange rate policy in the Tract Tract, back in 1923: "The level of the franc is going to be settled, not by speculation or the balance of trade, or even the outcome of the Ruhr adventure, but by the proportion of his earned income which the French taxpayer will permit to be taken from him to pay the claims of the French rentier." The higher the Banque de France let the franc rise, the higher would be the value of the government debt, the better for the French rentier and the worse for the taxpayer. As Moreau put it, fixing the exchange rate was a matter of balancing "the sacrifices demanded of the different social cla.s.ses in the population."

Every country in Europe to emerge from the war had faced the same set of issues. Britain had chosen one extreme: to impose most of the burden on its taxpayers and to protect its savers. Germany had chosen the opposite extreme: the way of pathological inflation, which had wiped away its internal debts at the price of annihilating the savings of its middle cla.s.ses. Moreau was set on finding a middle way.

Poincare's natural inclination was to savor the benefits to his reputation of the strengthening currency and let the franc keep rising. He was understandably reluctant to go down in history as the man who had formally acceded to an 80 percent reduction in the value of his nation's money. But he also recognized that by allowing it to rise too far, he risked driving the economy into recession. Like many with a genius for detail, Poincare was by nature indecisive and vacillating, one day in favor of capping the rise, the next day against.

The principle of opposition to capping the franc's recovery did not come from the prime minister but from within Moreau's very own inst.i.tution. A faction within the Banque's directorate, led by the two most powerful regents, Baron edouard de Rothschild and Francois de Wendel, saw in the decline of the franc the decline of France. True diehards, they considered it their moral obligation to defend the interests of all those who had invested in French bonds during the war.

No one better symbolized the power of les deux cents familles les deux cents familles and and le mur d'argent le mur d'argent than these two men. Rothschild was the epitome of the French aristocrat. Tall and slender, always fastidiously dressed in his old-fashioned banker's uniform of frock coat and top hat, he had become the senior partner at Rothschild Freres at the age of thirty-seven. Beneath his haughty demeanor, he was shy, almost withdrawn; cautious and old-fashioned, he was a true conservative. The family bank matched his character, a place where, according to his son Guy, "The past clung to everything and everyone" and whose main purpose was in "gently prolonging the nineteenth century." than these two men. Rothschild was the epitome of the French aristocrat. Tall and slender, always fastidiously dressed in his old-fashioned banker's uniform of frock coat and top hat, he had become the senior partner at Rothschild Freres at the age of thirty-seven. Beneath his haughty demeanor, he was shy, almost withdrawn; cautious and old-fashioned, he was a true conservative. The family bank matched his character, a place where, according to his son Guy, "The past clung to everything and everyone" and whose main purpose was in "gently prolonging the nineteenth century."

A familiar figure in the best Parisian clubs, Rothschild had been an intimate friend of Edward VII's, and was known as a great philanthropist, being especially generous to Jewish charities. To the public he was above all famous for his racehorses; during the season he was a fixture at Longchamps. More than just another wealthy breeder and owner of thoroughbreds, he was a skilled equestrian in his own right who had even represented France at polo at the 1900 Olympics.

In the world of banking the Rothschild name and the family's great wealth evoked both awe and resentment. There was much anti-Semitic innuendo about their political influence. One exaggerated account has it that between 1920 and 1940, "No cabinet was formed without edouard de Rothschild being consulted." edouard had been a young man of twenty-five when the Dreyfus affair broke in 1894. As Dreyfus was being publicly degraded from his rank, an enraged mob had howled, "A Mort les Juifs!"-"Death to the Jews!" He was determined thereafter that the Rothschilds should keep a low profile, keep out of the papers, and guard their privacy-though justly enraged by an anti-Semitic slur, he did once challenge a man to a duel.35 If edouard de Rothschild was the glamorous face on the "wall of money," Francois de Wendel was, in the public mind, its more sinister visage. The Wendels were one of the great arms manufacturers of Europe, armorers from Lorraine for more than 250 years, who had supplied weapons to, among others, Napoleon Bonaparte. Under the Second Empire, they had diversified, building one of the largest steel empires in Europe so that by 1914 the Wendel name in France had become as synonymous with steel as that of Carnegie was in the United States.

In the French edition of Who's Who, Who's Who, Francois de Wendel listed his profession simply as "Maitre de Forges"-ironmaster. He did not look the part. His receding chin gave him the appearance of "a tall friendly duck." He lived discreetly in a mansion at 10 Rue de Clichy, not the most elegant or fashionable quartier of the capital, and liked to spend his weekends at his private game reserve just outside Paris, where he was said to be an enthusiastic but not very talented shot. Francois de Wendel listed his profession simply as "Maitre de Forges"-ironmaster. He did not look the part. His receding chin gave him the appearance of "a tall friendly duck." He lived discreetly in a mansion at 10 Rue de Clichy, not the most elegant or fashionable quartier of the capital, and liked to spend his weekends at his private game reserve just outside Paris, where he was said to be an enthusiastic but not very talented shot.

Unusually for a regent of the Banque de France, Wendel was an elected member of the National a.s.sembly, leaving his two brothers to run the vast steel empire. In 1918, he became president of the Comite des Forges, the very powerful industry a.s.sociation of iron, steel, and armament manufacturers.

It required a certain obstinacy and tenacity of purpose for Moreau to take on the most powerful of his own regents. But over a thirty-year career in the higher civil service, he had acquired the remarkable skill in operating within the machinery of government. He certainly did not rely on diplomatic skills or charm-he had neither. Furthermore, after years on the periphery of power and of avoiding the salons of Paris, he had a limited network of political allies. His one great mentor, Caillaux, who might have helped him through the labyrinth of the French power structure, was gone within a few weeks of his appointment. It did not help that Poincare was a long-standing enemy of Caillaux's, and from the very start viewed Moreau with some hostility and suspicion as a holdover.

But Moreau proved to be unusually adept at bureaucratic infighting. In his diaries, he displays a natural talent for the give-and-take of policy formulation, knowing when to concede and when to push, when to bluff, when to threaten and when to fold, and considerable insight into the motivations and character of those he was up against.

On December 21, the Banque began to purchase foreign exchange and sell its own currency to prevent the franc from rising above 25 to the dollar. For the next two years, with Poincare's blessing, Moreau pursued a policy of intervening in the currency market to keep it pegged there.

Meanwhile, Rothschild and Wendel waged a guerrilla campaign against Moreau within the halls of the Banque and the corridors of power of the finance ministry on the Rue de Rivoli. Few inst.i.tutions were more riddled with byzantine intrigue than the Banque. Moreau had had his first taste of it soon after joining-in August 1926, to his great surprise, he discovered that all incoming and outgoing calls including those from the governor's office were being wiretapped. He had the taps dismantled.

Unable to secure a majority within the Council of Regents, Rothschild and Wendel employed every possible tactic to undermine Moreau. They lobbied the prime minister. They breached a long-standing tradition of discretion among the regents by making public p.r.o.nouncements on currency policy, hoping thereby to lure such a flood of money into the country that Moreau would be forced to remove the cap. At one point, Rothschild ordered the Chemin de Fer du Nord, the largest railway company in France-of which he was president-to buy francs in order to push the exchange rate higher, risking the accusation that a regent of the Banque de France was engaged in inside trading in the currency market.

By the middle of 1927, it was clear that Moreau had won. Waves of French capital that had fled to London or New York had washed back home, allowing the Banque to acc.u.mulate a foreign exchange war chest of $500 million dollars, most of it in pounds. Despite the pressure from the diehards among the Regents, Poincare had been won over. Moreau kept urging him not to look to France's past but to its future. At 25 francs to the dollar, French goods were among the most compet.i.tive in the world; exports were booming, while prices were stable. It seemed as if, thanks to Moreau, France, of all the European countries, had finally hit upon the right recipe for dealing with the financial legacy of the war, avoiding the two extremes of German-style inflation and British-style deflation.

Moreau's mistake was to a.s.sume that the value of the currency of a major economic power such as France, the fourth largest industrial economy, was a matter for that country alone. Exchange rates, by their very nature, involve more than one side and are therefore a reflection of a multilateral system. Though it may have been very difficult in 1926 to know the exact ramifications of the franc's exchange rate on surrounding countries, Moreau seems to have deliberately closed his eyes to the impact of his decision on the wider system. Perhaps he was irritated at an international regime that he felt had done so little to support France in its time of trouble. Perhaps he resented that the structure was dominated by an Anglo-American combine led by Norman-or so he believed. Whatever the reason, his decision to fix the franc at an undervalued rate would eventually help to undermine the stability of the very standard to which he had now hitched his currency.

14. THE FIRST SQUALLS.

1926-27.

Circ.u.mstances rule men; men do not rule circ.u.mstances.

-HERODOTUS, Histories ORGY OF SPECULATION.

No other issue would create more debate, disagreement, feuds, and confusion within the Federal Reserve System than what to do about the stock market. Wall Street had always loomed large in the American national psyche. Charles d.i.c.kens, visiting the United States in 1842, had been struck by the local taste for speculation and the desire "to make a fortune out of nothing." After the 1884 panic on the New York Stock Exchange, the London magazine The Spectator The Spectator commented, "The English, however speculative, fear poverty. The Frenchman shoots himself to avoid it. The American with a million speculates to win ten, and if he takes losses takes a clerkship with equanimity. This freedom from sordidness is commendable, but it makes a nation of the most degenerate gamesters in the world." commented, "The English, however speculative, fear poverty. The Frenchman shoots himself to avoid it. The American with a million speculates to win ten, and if he takes losses takes a clerkship with equanimity. This freedom from sordidness is commendable, but it makes a nation of the most degenerate gamesters in the world."

Surprisingly, despite this national proclivity for betting on stocks, the U.S. market had never been especially large. In 1913, the total value of common stocks was some $15 billion, roughly the same size as the British stock market, which rested upon an economy about a third the size of that of the United States. From the beginning of the century until the outbreak of war, the stock market had essentially gone nowhere. The "merger" bull market from 1900 to 1902 had been cut short by the "rich man's panic" of 1903, which was followed by the "Roosevelt" bull market, then the "1907 panic," and finally the "recovery" bull market. As a consequence, the Dow had fluctuated for a decade and a half in an irregular wavelike movement between 50 and 100 without breaking in either direction.36 When war came, the U.S. economy experienced a boom and profits shot up dramatically for a couple of years as America became the arms supplier and financier to the Allies. But few investors were convinced that European Armageddon could be good for stocks in the long run, and so despite the profit surge, the market remained firmly range bound. Wisely so, for once the United States did enter the fray, labor shortages emerged, the war effort consumed great chunks of the national product, and profits suffered. By the end of 1920, the Dow stood at 72, almost at the midpoint of its range for the last twenty years-though after taking wartime inflation into account, this represented half the 1913 level in real terms.

But once the initial postwar adjustment pains had died away, the market began to take off. From 1922 onward, the Fed, under the leadership of Benjamin Strong, did a remarkable job in stabilizing prices. With inflation thus effectively at zero, it was able to keep interest rates low. This allowed the economy, boosted by the dynamic new industries of automobiles and radios, to surge ahead. While overall economic growth was exceptionally strong, even stronger and more exceptional was the rise in profits. Powered by new forms of organization and by a surge in factory mechanization, productivity accelerated in the 1920s while hourly wages grew only modestly. Most of the benefits, therefore, of the "new era" flowed to the corporatebottom line-by 1925, earnings were double their level in 1913. As a result, the Dow, after hitting a low of 67 in the summer of 1921, more than doubled to above 150 during the subsequent four years. By 1925, after the reelection of Calvin Coolidge as president, this last upward ride even acquired its own moniker: the Coolidge bull market.

FIGURE 4.

No company better exemplified the booming economy and provided a better window into the rising stock market than General Motors. It had been founded in 1908 by William c.r.a.po Durant, grandson of H. H. c.r.a.po, the Civil War governor of Michigan. Young Billy Durant grew up in Flint, Michigan, and after dropping out of high school, drifted through a series of nondescript jobs, including grocery boy, drugstore attendant, traveling medicine man, insurance promoter, and tobacco shop manager. The bantam-sized Durant was a natural salesman, charming, soft-spoken but determined, with a winning smile, an infectious att.i.tude of irrepressible optimism, and an unusual talent for persuading people. After building one of the largest buggy businesses in the country, in 1903 he acquired the Buick Motor Company, one of the several hundred car companies then in America, and during the next eight years steadily acquired a whole series of small automobile firms-among them Oldsmobile, Cadillac, and Pontiac-whose names have become so familiar that they are now almost part of the language.

In 1910, after overexpanding and going too deeply into debt, Durant lost control of General Motors to his bankers. Instead of giving up, the indefatigable Durant went on to form a new car company with Louis Chevrolet, a racing driver, and was so successful that in 1915, he was able to reacquire his old company, General Motors, which had gone public, in a takeover raid. But in 1920, the postwar recession once again found him overextended and he lost control of the company for a second time, on this go-around to the Du Pont family.

When the Du Ponts acquired their stake in General Motors, the company was producing 250,000 cars a year, had just earned some $30 million in profit, and was valued at a little over $200 million. Under its new professional management, General Motors went on to become the most successful company in the country and the darling of Wall Street. By 1925, it was making over 800,000 cars a year, about 25 percent of all those sold in the country and generating over $110 million in profit. Its stock price in those five years quadrupled in value, from around $25 to over $100 a share.

Supported by growing companies such as General Motors, the stock market ballooned into something of a financial behemoth during the Coolidge bull market. By the mid-1920s, about $1 billion was being raised annually for new investments, the number of corporations listed had quintupled, and the total value of stocks had increased from $15 billion in 1913 to over $30 billion in 1925.

Wall Street was not the only beneficiary of the growth in the economy. The buoyant stock market was accompanied by a real estate boom in Florida. Since the war, Florida had been swamped by an enormous migration of people attracted by the climate-in five years, the population of Miami had more than doubled. All the money flooding into the state had driven real estate prices into a frenzy. Lured by brochures, which promised graceful palm trees, golden beaches, sun-kissed skies, and whispering breezes, but somehow omitted to mention the hurricanes and the mangrove swamps, the public began buying land indiscriminately. New developments such as Coral Gables and Hollywood-by-the-Sea sprang up overnight. From Palm Beach to Miami and across to the cities of the Gulf Coast, prices skyrocketed. A strip of land on Palm Beach worth a quarter of a million dollars before the boom was priced, by early 1925, at close to $5 million; vacant lots that had once gone for a few hundred dollars were being sold for as much as $50,000.

Watching other people become rich is not much fun, especially if they do it overnight and without any effort. It was therefore inevitable that all this frenetic activity-the thriving stock market, the new issues, the ballyhoo about a new era, the buying and selling of Florida real estate-provoked a chorus of voices demanding that the Fed do something to stop the "orgy of speculation," a phrase that would become so commonplace over the next few years as to lose all meaning.

Leading the charge was the ever disputatious Adolph Miller. His hostility to the rise in the stock market rested, like so many of his arguments, upon several misconceptions. There was the erroneous notion that a rising stock market "absorbs" money from the rest of the economy. This is sheer nonsense, because for every buyer of stocks there is a seller and whatever money flows into the stock market flows immediately out.

In the fall of 1925, Miller had also become particularly alarmed by the data on so-called brokers' loans. These were loans provided by banks to stock brokers who used the money to finance their own inventories of securities or to lend to their own customers to buy equities on margins. Typically such margin investors only paid 20 to 25 percent of the value of stocks with their own money and borrowed the rest. The total volume of such brokers' loans, which had averaged around $1 billion in the early years of the decade, had suddenly ballooned to $2.2 billion at the end of 1924 and looked likely to reach $3.5 billion by the end of 1925. Miller saw these loans as a symptom of speculation, and he was firmly convinced that it was somehow more "inflationary" for banks to finance stock market purchases than for them to finance other activities. Again, we now know this to be fallacious-the inflationary consequences of easy credit have much more to do with the total amount the public borrows and very little to do with the purposes for which it does so.

Miller's campaign was given an added boost one quiet Sunday afternoon in November 1925, when he was sitting in the study of his house on S Street in Washington, going through one of the many Board reports he took home with him, and the doorbell rang. "Before the butler could move," Miller's neighbor from two doors down pushed his way into the house unannounced, "bounded up the stairs, taking them two at a time," and barged in, demanding, "Are you as worried about this speculation as I am?"

Miller's unusually energetic neighbor was none other than the "boy wonder," Herbert Hoover, secretary of commerce. Hoover, a Quaker orphan from Iowa, was an engineer by profession who had graduated in the very first cla.s.s from Stanford and had made a fortune in the first decade of the century as a promoter of mining ventures in every corner of the globe-from China to the Transvaal, from Siberia to the Yukon, from the Malay peninsula to Tierra del Fuego. He had come to national prominence by accident as the man in charge of evacuating Americans from Europe in 1914, then as the War Food Administrator in the Wilson administration and as the head of Belgian Relief, "the only man who emerged from the ordeal of Paris with an enhanced reputation," according to Maynard Keynes. Appointed to the cabinet by Harding, he had distinguished himself from his do-nothing colleagues by his superb organizational ability, his belief in himself, and the constant flurry of activity that always surrounded him.

In the fall of 1925, Hoover, not shy about interfering in his cabinet colleagues' business-Parker Gilbert called him the "Secretary of Commerce and the Under-Secretary of all other departments"-decided to launch a campaign against the pervasive atmosphere of speculation that he claimed was infecting the country, from Florida real estate to the stock market.

For both Miller and Hoover, the culprit behind this speculative fever was Benjamin Strong. They believed that his policy of keeping interest rates artificially low to help European currencies was responsible for fueling the incipient bubble. Hoover had once been a prime supporter of American engagement in European affairs following the war, and had counted Strong a good friend. But he was now convinced that the policy of propping up Europe with artificially cheap credit had been taken too far. In his words, Strong had become "a mental annex to Europe."