Barry Eichengreen 233policies to be harmonized. The essential role of Britain before 1914 and the United
States after 1944 was not so much to force other countries to alter their policies
as to provide a focal point for policy harmonization.
Liquidity
Under the classical gold standard, the principal source of liquidity was newly
mined gold. It is hard to see how British dominance of international markets
could have much influenced the changes in the world price level and mining
technology upon which these supplies depended. As argued above, where Britain’s
prominence mattered was in facilitating the provision of supplementary liquidity
in the form of sterling reserves, which grew at an accelerating rate starting in the
1890s. It is conceivable, therefore, that in the absence of British hegemony a
reserve shortage would have developed and the classical gold standard would
have exhibited a deflationary bias.
Liquidity was an issue of more concern under the interwar gold exchange
standard. Between 1915 and 1925, prices rose worldwide due to the inflation
associated with wartime finance and postwar reconstruction; these rising prices
combined with economic growth to increase the transactions demand for money.
Yet under a system of convertible currencies, world money supply was constrained
by the availability of reserves. Statutory restrictions required central banks to
back their money supplies with eligible reserves, while recent experience with
inflation deterred politicians from liberalizing the statutes. The output of newly
mined gold had been depressed since the beginning of World War I, and experts
offered pessimistic forecasts of future supplies. Increasing the real value of world
gold reserves by forcing a reduction in the world price level would only add to
the difficulties of an already troubled world economy. Countries were encouraged,
therefore, to stabilize on a gold exchange basis to prevent the development of a
gold shortage.
There are difficulties with this explanation of interwar liquidity problems, which
emphasizes a shortage of gold. For one, the danger of a gold shortage’s constraining
the volume of transactions was alleviated by the all but complete withdrawal of
gold coin from circulation during the war. As a result, the percentage of short-
term liabilities of all central banks backed by gold was little different in 1928
from its level in 1913, while the volume of the liabilities backed by that gold
stock was considerably increased. It is hard to see why a gold shortage, after
having exhibited only weak effects in previous years, should have had such a
dramatic impact starting in 1929. It is even less clear how the absence of a hegemon
contributed to the purported gold shortage. The obvious linkages between hegemony
and the provision of liquidity work in the wrong direction. The straightforward
way of increasing the monetary value of reserves was a round of currency
devaluation, which would revalue gold reserves and, by raising the real price of
gold, increase the output of the mining industry. As demonstrated in 1931, when
the pound’s depreciation set off a round of competitive devaluations, sterling
remained the linchpin of the international currency system; the only way a round