Central Banking and War

Central Banks, throughout history, have served the purpose of centralizing banking economics.  For example, the Federal Reserve Bank of the United States officially exists to stabilize prices and protect private banks from “dangerous” bank runs.  But, apart from bolstering the private sector’s ability to operate unsound banking policies (on behalf of the State, less we forget), central banks have played a more sinister role in history.  They have made possible the finance of wars which would have otherwise never materialized.  A recent article published by the Mises Institute, How the Fed Helped Pay for World War I, raises interesting points.  However, it does not go far enough.  The Federal Reserve did not help pay for World War I in a way in which it became a compliment of other methods of collecting revenue for the war effort.  The Federal Reserve became a supplement to many other ways of money collection and confiscation, and allowed the United States to go to war.  But, monetary inflation through central banking (or at least State imposition of legal tender laws and State control of printing presses) is not unique to the United States.  It would be safe to go as far as to make the claim that without a government monopoly in currency there would be no method by which to wage war on a grand scale.

In the article How the Fed Helped Pay for World War I, author John Paul Kroning extracts the following from Milton Friedman and Anna J. Schwartz’ book, A Monetary History of the United States, 1867–1960:

“…total federal government expenditures during that period were $32 billion and additions to Treasury cash balances $2 billion.  Of that total of $34 billion, approximately 25 per cent was financed by explicit taxes plus nontax receipts; 70 per cent by explicit borrowing; and 5 per cent by direct money creation, which may be regarded for that period as largely an implicit tax on money balanced levied through the rise in prices.” (Friedman and Schwartz, p. 221)

But these statistics remain misleading.  As stated by Friedman and Schwartz, 70 percent of the war was paid through borrowing (for example, through the sale of bonds).  This represented a separate avenue for inflation and was orchestrated thanks to the Federal Reserve.  Indeed, economist Benjamin Anderson, in Economics and the Public Welfare, goes as far as to claim that without the Federal Reserve the United States’ financial sector would have collapsed under the enormous strain imposed on it by the government:

“The Federal Reserve System performed great and distinguished services for the government and the country in World War I. It is difficult, indeed, to see how we could have handled the financial problems of the war without it. It made possible a smoothness and simplicity in handling huge financial transactions that would have been incredible under the old system. In the summer of 1918, for example, the federal government collected around $4 billion in taxes in a few weeks. In connection with the first liberty loan in 1917, $2 billion were paid into the federal Treasury in a short time. Financial transactions of this magnitude would have led, under the old system, to drains, falling primarily on the New York banks, which would have forced the banks almost instantly to suspend cash payments. Had the old subtreasury remained in full vigor, under which all payments to the federal government were placed in cash vaults of the government itself, the mechanism would have broken down with the first liberty loan. Under the Federal Reserve System, however, these huge financial transactions were largely accomplished by bookkeeping entries.” (Anderson, pp. 57–58)

It immediately becomes evident that the Federal Reserve played a larger role in financing the war than is originally assumed by Milton Friedman and Anna Schwartz.  The reserve system effectively guaranteed government debt by allowing the banks to hold money being lent to explicitly be able to hold it for other uses, by simply creating an account which annotated the money the government owed.  It was another name for fractional reserve banking, which in and of itself is a cause of monetary inflation.  So, if 70% of the war was financed through debt which was only possible with a central bank, and another 5% of the war costs were financed through straight-forward monetary expansion by said central bank, then it could be claimed that as much as ¾ of the war was paid for thanks to the Federal Reserve.

Whether or not the First World War was “just”, at least in regards to allowing the United States to put an end to war in Europe, is irrelevant in the larger picture.  The fact is that a government-imposed monetary monopoly allowed every single power which eventually sparked the First World War to do so (see: von Mises, Ludwig, Nation, State and Economy, pp. 125–136).  Arguments of fractional reserve banking, fraud and boom and bust cycles aside, privatizing the industry of money and decartelizing the private banking industry would effectively hamstring a State’s ability to wage war.  Do you think that the United States could have operated in Vietnam without a central bank to maintain its debt, or even Iraq and Afghanistan?  Take into consideration that had it not been for Russia’s State Bank of the Russian Empire it would have been incapable of declaring and waging war against the German Empire in 1914, and the Russian Revolution and ensuing Russian Civil War would have been impossible to finance.

Nationalizing of the money supply and banking sector, made possible through the foundation of a central bank, is the greatest tragedy yet in the history of the human race.  The consequences can be seen in the destruction of capital during the war and the deaths of millions of people in the 20^th century alone.  The resulting inflation of the ever expanding money supply enriches only some (the original recipients of the money), while impoverishing everybody else (as their savings are now worth less).  Central banking and war finance utterly destroyed Germany during the early 20^th Century and led to the rise of Adolf Hitler.  How much damage will be done before the people realize the dangers of this practice?