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Outlines of the Evolution of the Public Credit

OUTLINES OF THE EVOLUTION OF THE PUBLIC CREDIT.

§ 495. The purpose of the foregoing survey has been to give a realistic picture of the actual course of development of public debts. For this purpose we have selected countries which are of great importance in this development, or which stand for typical stages of the evolution, such as Italy, Holland and Great Britain, making our account of the development in these coun tries the point of departure for a discussion of the affairs of our own commonwealth and the later growth of its public credit along the same lines.

Our next task is to bring out the most important facts in the history of the development, so as to indicate the successive stages in the growth of public credit.

There are two features in which the public credit differs from private credit. The first of these is the relation of public author ity to the loans negotiated for public purposes. The second is the relative permanency of the public body in quest of a loan.

The sequence of development with which we are occupied depends on the development of these two factors through the process of differentiation by which public credit comes to depart from its original identity with private credit.

In the first place, then, as regards the relation of the public control to the public credit, there is obviously a long step taken in advance when this public control comes to be so employed as to not discriminate in its own favor. A long course of experi ence may be required to inculcate the expediency of using this power of control with moderation, because only in this way will confidence in the government's good faith be firmly established. But the memory is not retentive of experiences of this kind, and recurring necessity is ever anew suggesting recourse to this treacherous use of power. And while it is true that after a great advance has been made along this line the public power is used with great regard for the demands of morality, it is also true that necessity and its temptations can never be quite done away ; so that even at the height of the maturity of the state and of the public credit there always remains an undissolved residuum, within which breach of faith backed by force must of necessity remain triumphant.

As regards the other phase of the matter—the permanence of the commonwealth as compared with the individuals who make up the state ; it is not on the fact of permanence alone, but quite as much on confidence in the continued existence of the state, that the growth of public credit depends. Long centuries of interminable struggles for supremacy precede the final recogni tion of such a stable continuity as is raised above all the changes and vicissitudes of sovereignity and of the lives of individuals. It is to be added that it also requires a long continued growth of the commonwealth before the rulers for the time being come to recognize an element of permanency in their own government, such as to impose the necessity of honoring the obligations of the past while they may themselves in turn transmit new obliga tions to the future.

§ 496. The weight of these two elements will explain why private credit may reach a fair degree of development under the circumstances of a time and a people where the public credit is still in its infancy.

The element of force acts as a hindrance until it has passed through the refining evolutionary process. The clement of per manence, while in its nature favorable to a growth of public credit as compared with private credit, cannot exert its favor able influence at this early period because it is as yet unrecog nized.

On the other hand, there exist for a long time only oases of credit, lying within the restricted circle of commercial relations, while in the world outside the fraud and knavery of untamed natural man are constantly confounding the struggling growth of crcdit.

The first of these striking facts in the historical development of the public credit is therefore the part played by the pledge in credit transactions.

At the outset, the pledge, in public as in private credit, must be a dead-pledge, so as to secure the creditor against any attempt on part of the debtor to violate the contract by physical force. Progress is seen in the fact that the articles which serve as pledges presently come to be delivered into the hands of the creditor, not de facto, but only de jure ; then, little by little, comes an assignment of certain specified income devoted to paying the interest on a given debt or to discharging the principal. So long as the creditor takes over the collection of this income (farming of taxes) there is an actual, and not only a virtual, pledge or pawn, though its terms may be laxer than those of the dead-pledge. As soon as the collection of the pledged income comes to be placed in the hands of the state, the creditor's security is removed from its previous physical basis, and this step therefore serves as introductory to the stage of the mature national credit where there is no longer any mention of such a pledge. The obligation of the state and the financial means at its disposal are, at this highest stage, securities that replace any and all pledges.

497. The second feature of the development is the length of the term for which the loan is to run.

With respect to this point the change accomplished by the course of historical development is very great. At the outset, before the peculiar elements of strength belonging to the public credit have come into view, the condition is always made that, just as in private credit, the debt must be discharged very shortly —after a few months or years ; the creditor. has good ground for anxiety and naturally wants to be paid. On the other hand, in the more advanced stages of growth it is the creditor that is anxious to postpone the repayment ; there is no longer ground for the solicitude at one time entertained, the stability of the public credit has grown so great that all limitations of time are in contradiction to the growing financial strength and maturity.

In this evolution, as in all others, there are transition stages : we have debts of long term, but secured by the pledging of public property or of income from the taxes. Then we have a long period of redemption without such a pledge. The plan of discharging the debt simply on the ground of financial expediency, to which the debtor state has accustomed itself, presently takes the place of redemption simply at the instance of impatient Finally the question of redemption comes by mutual consent to be left entirely undetermined.

Within this field, as on the broader field of credit generally, disturbances are constantly occurring ; there may be a temporary relapse occasioned by disturbances of the peace, by wars, and the like, but after a brief interruption the progressing develop ment resumes its wonted course. A war loan may perhaps be contracted on conditions of much the same kind that were the normal conditions in the same country some generations earlier, and after the lapse of a few years the special circumstances may again have disappeared. But the result of these variations of circumstance may be a very complicated and diversified practice in respect of the conditions on which loans are obtained, combining survivals of the past and the beginnings of future institutions (e. g., redemption within a given term but not until the end of another given term).

§ 498. The third great feature in the evolution of public credit is the progressive development of occasions and induce ments to the contraction of public debts.

At this point the earlier public credit very closely resembles early private credit. In the early days it is usually distress, embarrassment, that leads to the contraction of debt. It is not as in the modern state when extraordinary circumstances may lead to the contraction of a loan ; this necessity is in our day always associated with the consciousness that the ordinary finan cial energies are always, in the long run, adequate to meet this extraordinary demand. But where financial straits are the chronic condition, where the ordinary regular revenues are never sufficient to meet the regular expenses, still less to meet any extraordinary exigency, the case is very different.

The result is that in the early days of public credit we have the situation which is characteristic of the credit relation in early times—distress on one side and usury, either as actual fact 'or as a supposed fact, on the other side. The result for the state is partly that it finds itself compelled by circumstances to violate the traditional injunction of past centuries against usury (or to betray others into violating it), partly it yields to the ever present temptation to make use of its sovereign power to punish the usurers.

Under such circumstances it is of course impossible to have even a moderate development of public debt. The Italian repub lics, German towns of the later Middle Ages, the Netherlands of the seventeenth century, England in the eighteenth century, all these had long since passed this stage. The relatively orderly system of the finances, the abundant supply of loanable capital, and habituation to the institution of public credit, had removed the notion of usury outside the sphere of the public debt. All that is left is the notion itself, and the letter of the law with which scholastic legal erudition occupies itself in an attempt to harmonize two contradictory assumptions : the interdiction of interest, and the sovereign authority of the state.

In the course of the approach to a mature development there results not only harmony between the state's need of loans and its ability to repay them, but there presently comes into view a particular use of public credit which sets out with opening a source from which the means of paying the debt is to be derived ; this is the productive credit of the state, the counterpart to that form of private credit which, both in theory and practice, most violates the prohibition of usury.

§ 499. The fourth typical feature is the contrast between coercion and free choice in public loans —the varying degrees and stages of the coercion employed.

To the superficial view there is no continuity of sequence with respect to this point. At one end of the course of devel opment we have an unscrupulous use of compulsion accompany ing extreme scantiness of pecuniary means ; at the other end of the course there is progressive substitution of the compulsory tax for the voluntary loan, coincident with a plentiful supply of loanable capital. In the former case compulsion is the result of physical need, in the latter case it is the result of a qualitative change in the moral factors on which the public economy rests.

This consummation of the development has so far remained an unattainable ideal even for the maturest of modern states, to which some approach has been made only here and there during periods of heightened patriotic sentiment (as in Great Britain at the beginning of this century): but be this as it may, on looking to the past growth of public credit we find that there has been a progress from compulsion to voluntarism, in the course of which compulsion has been dispensed with, and that gladly, as fast as it has lost usefulness in the negotiation of loans. This progress reaches its highest point where the great abundance of voluntary loans acts like a sweetened poison and tempts to the accumula tion of debts. This stands out in extreme contrast to that scantiness of resources which tempts the undeveloped public economy to resort to compulsion, without being able to surmount its necessities even by this means.

If we compare Prussia with Great Britain at the beginning of the nineteenth century we have before us an instructive contrast between these two stages of development. Enormous sums are voluntarily offered to the national credit of Great Britain on very moderate terms ; whereas Prussia can scarcely obtain the mini mum of necessary financial means by the method of voluntary loans, and the inevitable resort to compulsion, for the most part in the shape of redeemable forced loans and war contributions, never avails to cover the state's necessities. This condition of things in Prussia is of course not merely a consequence of poverty and of the disturbance of business that results from war ; the difficulty is quite as much a lack of any productive national credit, which, if it existed, would not be restricted to domestic capital alone.

Under such circumstances the state, whose privilege and duty it is to assert and preserve itself at any cost and by any means available, has recourse, besides its unavoidable neglect of its financial obligations, to those expedients which are always ready to the hand of the national authority. It exploits its sovereign right of coinage, in order by this forcible means to obtain advances in the readiest way which the circumstances permit. With regard to this point, again, the growth of public credit and of public morals creates a succession of stages of development. The issue of light coin, the forced circulation of great quantities of the minor coins in place of the larger coins of full weight, the issue of paper money with forced circulation as a legal-tender on equal terms with coin,—these follow one another as successive stages in the growth of the Prussian national and military administration, crowded into the short space of half a century.

Each of these several stages may reach a more definite and characteristic development if the condition of the finances and of financial morals favor it. Or a relapse may occur even at a relatively high stage of the development, the degree of such a relapse being determined by the general political situation of the time. Compare the employment of the Assignats of the French Revolution with the forced circulation of the Bank of England. The former was a system of plunder whose basis was terror ; the latter was an abnormality in the currency, perhaps avoidable, but at any rate appreciably mitigated by financial stability and a strong public credit, and not sufficient to hinder the growth of national wealth.

§ 500. The fifth characteristic feature in the development of public debts lies in the use and disuse of " relishes," gambling risks which are added in order to commend a public loan to the taste of creditors.

Adam Smith pointed to the difference between England and France in this respect, to prove by an example of his own time that habits of productive industry and the sober commercial spirit favor those forms of public debts which promise a perma nent, safe investment of capital ; while an industrial dilettanteism naturally takes to the more doubtful forms of life annuities, tontines, lotteries, premium-loans and the like.

Even those who (as I conceive, too realistically) hold very different views as to the desirability of discontinuing the use of these "relishes," cannot deny the historical fact that the various countries with great unanimity discard the infusion of this gam bling element in proportion as their national credit approaches a mature development.

This implies a recognition of the principle that, under the presence of an undeveloped credit and the onerous conditions which attach to public loans under those circumstances, the state is not above employing these dubious fiscal expedients in order to adapt its credit to the circumstances and get its loans on easier terms. But so soon as the state reaches the stage of develop ment where its credit no longer has need of this bait, and where capital is to be had in abundance at a moderate rate of interest, it discards these expedients as something unworthy of the pres ent, and a discreditable reminder of the past.

In Great Britain this class of expedients fell into disuse about the middle of the eighteenth century, in Prussia and Germany not until the middle of the nineteenth century. In Russia they flourish today. The Central American republics, however, which (in the words of an English parliamentary committee) "are states in name only," consider themselves to have carried out a successful financial operation if they are able to obtain a loan for a term of years even by this means.

Even during the eighteenth century the Dutch had reached an appreciation of the fact that the national sale of life annuities involved a legitimate element of life insurance, besides the gam bling element already alluded to ; they had also, as we are aware, reached the point of view, which strikes us as extremely modern today, that it is proper and desirable even apart from financial reasons, that the state should undertake this class of business as an insurance business, rather than leave it to private enterprise. But it is to be added that we are today standing at a stage of the historical development where the private undertakings that replaced the rudimentary attempts made by the public finances, are enjoying a well-earned reputation for their services in this line; it is only the peculiarly restricted circumstances of the laboring classes that has latterly induced the state to enter this field.

§ 501. As a healthy body needs no medicine, sc also it needs no physician. The feebler and less developed the national credit is the more does it need these stimulants and the physician to administer them.

In the character of the organs which serve the public credit, accordingly, lies a sixth characteristic trait which marks the stage of development of the public credit. One such characteristic of the modern stage of development of capital and of an international market for capital is the growth of organs with an abnormal fatty development, which owe their existence to the presence of great accumulations of capital on the one hand and needy states in search of loans but with poor credit on the other hand. These organs are, with great benefit to the state, sloughed off as the national credit approaches maturity.

The Barings, Hopes, Rothschilds are such organs. The enormous brokerage which they receive, as evidenced by their accumulations of wealth, is a mark of the unripe condition of things under which it has been acquired. They have received this broker's commission for pledging their own private credit in cases where the public credit of the state in search of a loan was insufficient ; private credit in this case is therefore superior to the public credit, and this fact is sufficient evidence of the imma turity of the latter.

This contrast is broadest, and the consequences most striking, where a state crosses its boundaries in search of a loan and, as has been customary ever since the' Middle Ages, seeks out a country which is its superior in point of wealth and in the devel opment of credit. But this is a phenomenon which recurs, with typical constancy, to the same extent to which the various states and nations differ in the degree of civilization.

The individual state in the end attains to a degree of credit and accumulation of capital such that the very simplest organs and methods suffice to satisfy its need of loans on reasonable terms. Taking the aggregate of states together, there is every reason to expect that for an indefinite time to come differences will exist between individual states such as to make an exchange of deficiency and surplus advantageous or even necessary. The means of carrying out this exchange are at hand in the above mentioned organs of the unripe national credit. The greater the interval between the states in question, physically, culturally or financially, the more indispensable are these organs.

The exponent of this interval, for the purposes of the money market, is the rate of interest charged. Just as a high price for corn attracts the cheap corn of another country and overcomes the cost of transportation, so a high rate of interest draws the surplus capital of a wealthy country with a lower rate of interest into the country which is in need of capital. The interests of the exporting and of the importing country go hand in hand in this matter, as they do in the case of other trade relations between different countries or tegions. The difference lies only in this, that in an exchange of goods there is no other obstacle to be surmounted than the interval of space, whereas in the case of a transfer of capital this element of remoteness is of a much more complex character ; it is not.a question of physical distance only, but involves also both subjective prejudices and objective differences of culture, both of which may be of very different magnitude even where the physical distance intervening is the same. The interval of space between the United States of America and Europe is much greater than the distance between Egypt and Europe ; but the demand for capital on part of the former country which Europe met during the war of the seces sion was backed by a state of civilization which placed that country in much closer contact with Europe, and which has by this time even put the United States in position to afford loans of capital to European states.

It is a consequence of the historical nature of economic life that this exchange, just like every other international exchange relation, is forever subject to change. Even as late as the end of the eighteenth century Dutch capital was being invested in English public loans ; since the beginning of the nineteenth century English capital is being loaned to all other countries. Prussia, once so needy of capital as we have seen it to have been even after the wars of liberation, has very lately been investing large amounts of capital in Russian securities.

Just as, in general, war sets a nation's industrial life back for the time being, so also on this particular point does war bring out symptoms of an earlier stage of development. The great need of loans to pay the war indemnity, etc., during the years 1871-72, obliged the French Republic to fall back on what was to it an obsolete stage of growth, and go into the English mar ket for funds; and in addition to capital borrowed from abroad it was chiefly French capital which had long been invested in foreign countries that was now, under the stimulus of an enhanced rate of interest, brought home and put into French securities.

§ 502. If it can be said that History in any part of our scien tific field favors us with an exhibition, in the present, of the varied phases of its past development, the proposition will hold with especial force in the case of the public credit.

In fact, the situation of the various nations of the world today shows us the entire diversity comprised in all the various characteristic phases which have prevailed in the history of the past.

If we look for the first crude beginnings we will find them in those volcanic national structures which, under a strong European stimulus, have developed a caricature of a civilized state, but whose future possibilities, it is to be remarked, are not to be denied by any impartial historical discussion.

Examples of such rudimentary structures have been brought before the public by the parliamentary inquiries concerning " Foreign Loans" (1875) in the states of Spanish America— Honduras, Santo Domingo, Costa Rica, Paraguay. Honduras was, upon the dissolution of the Central American Union, appor tioned its share of one-sixth of a national debt incurred by the Union in London and Paris in 1825, amounting to 163,000 pounds sterling, but had, down to 1867, made no payment what ever, either on principal or interest. Still, this state entered the English market in 1867 to place a loan of one million pounds sterling (partly to pay off the old debt, partly for an ostensible construction of railways). The loan was negotiated by diplo matic agents, who either saved themselves from imprisonment only by the fact of their official position as embassadors, or who had already been in custody. Banking houses in London and Paris lent them their aid, to the detriment of their credit and their good name. All the domains and the public lands of the state of Honduras were pledged ; redemption was to take place within fifteen years, with interest at 12 per cent. The most questionable means were employed to tempt the investing public into the loan on the London exchange. Under similar circum stances and on similar conditions a loan of 2.50 million pounds was placed in 1870. The terms of the contract were observed only so long as was necessary in order to place the loans. In 1872 a further loan was attempted but failed. The securities declined in June 1872, from 72 to 44 per cent., and by July 1875 to six per cent. By this latter date Honduras was owing 1.25 million pounds in interest and nearly 5.5o million pounds as principal. Much the same is true of the republics of Santo Domingo, Costa Rica and Paraguay.' There is here presented to us a complete clinic, including all the pathological phenomena of primitive national credit. What .cf. Zeitsehrift fur die gesammte Slizatswissen.rehaft, vol. xxxii., 1876, pp. 410-447.

occurs in the history of the civilized states of Europe of a hundred years ago is here repeated and all exaggerated in an enormous degree. Financial straits, deception, default, eventuating in a hopeless nullity for the creditors. Where else than in France dur ing the Terror of the Revolution is it possible to find in modern times a monetary system to equal that of the Black Republic of Hayti,' which has depreciated its paper dollars to a ratio of one to 6500 ? Intermediate stages between these crude beginnings of national credit and the high degree of development which we find in modern Great Britain or in Germany and France, are to be found in the states lying geographically and culturally between Europe and Asia. These states present to our eyes the spectacle of what prevailed in middle and western Europe one or more centuries ago.

development, capital, loans, national and loan