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Lessons for America from Germany’s Hyperinflation

Jim Powell
Campaign For Liberty
Thursday, September 9, 2010

Many Americans may be inclined to assume that Germans were barbaric because they supported Hitler, and whatever happened there couldn’t possibly apply to the United States. But the Germans have had much more in common with Americans than we might realize.

Germans were educated and industrious. Germany had world-class universities. Germans long led the world in scientific achievement. Many German companies were highly efficient producers. German immigrants contributed a great deal to American cultural life, including kindergartens, gymnasiums, picnics, hamburgers, hot dogs, and Christmas trees. The long list of notable Germans or persons of German descent in America includes historian Hannah Arendt, astronaut Neil Armstrong, dancer Fred Astaire, Wizard of Oz author L. Frank Baum, landscape painter Albert Bierstadt, brewer Adolphus Busch, actor Tom Cruise, singer John Denver, entertainment entrepreneur Walt Disney, movie reviewer Roger Ebert, Life magazine photographer Albert Eisenstadt, physicist Albert Einstein, New York Yankee legend Lou Gehrig, condiment king Henry J. Heinz, hotelier Conrad Hilton, comedian David Letterman, novelist Thomas Mann, dishwasher entrepreneur Frederick Maytag, journalist H.L. Mencken, movie director Mike Nichols, political cartoonist Thomas Nast, New York Times publisher Adolph Ochs, pharmaceutical entrepreneur Charles Pfizer, pioneering modern architect Ludwig Mies van der Rohe, slugger Babe Ruth, cartoonist Charles M. Schulz, novelist John Steinbeck, piano maker Henry E. Steinway, blue jeans peddler Levi Strauss, real-estate wheeler-dealer Donald Trump, and electrical industry pioneer George Westinghouse. Despite hideous things that happened in Germany during the 1930s and 1940s, we are part of a common civilization and should recognize that what happened there could happen here.

Effects of war socialism

During World War I, the German government expanded rapidly and gained pervasive control over the economy. This was the “war socialism” that inspired Lenin and his comrades in Russia. After the war, the German government retained most of its costly bulk. Municipalities were subsidized by it; similarly, many of today’s financially hard-pressed states are lobbying Washington for bailouts. There were government-run pensions not unlike the unfunded pension liabilities our federal and state governments are struggling with. The German government provided health insurance for increasing numbers of people. It supported 1.5 million disabled veterans. It subsidized artists. There were government theaters and government opera houses. The government owned many businesses, including those producing margarine and sausages, and they lost money. Government-owned railroads were bankrupt because, among other things, freight rates weren’t increased fast enough to cover soaring costs. All those programs were aggressively defended by interest groups who benefited from them.

So the German government was financially stressed out when it was hit with external shocks. German political leaders had expected to win World War I, but they turned out to be wrong about that. Then they expected a postwar settlement according to the lofty principles expressed by Woodrow Wilson, but they were wrong about that, too. The Allies, particularly Britain and France, demanded substantial reparations. Reparations by themselves weren’t so bad — at their peak in 1921, they amounted to 1.2 billion German marks, or about 11.8 percent of the German government’s budget. But since the government was already stressed out, the reparations triggered an epic money-printing binge.

Prices of everything soared, and the inflation proved to be more socially destructive than World War I. It devastated libraries and museums. They couldn’t afford to maintain what they had, never mind acquiring new books or works of art. Scientists couldn’t afford to do their work, and scholars couldn’t do theirs. As historian Gerald Feldman observed, “It wasn’t possible any longer successfully to separate a discussion of the maintenance of German science, scholarship, and artistic life from a discussion of the social condition of their practitioners.”

Private home builders couldn’t afford to continue building new homes. Rather than deal with the interest groups defending price controls, German cities borrowed money — repayable in foreign currencies such as Swiss francs and Dutch gulden — to go into the housing business. As German marks depreciated, cities had a harder and harder time paying the interest, and they begged the national government to help. Government-run enterprises, too, had taken loans repayable in foreign currency, to import milk and cattle, and they were desperate. Retailers liked rent controls because their store space was a bargain, even though landlords couldn’t afford to maintain it. But retailers lost to inflation anyway, because price controls made it hard to recover their other costs.

German inflation, 1923

There was an often-told story about a thief who stole a useful wheelbarrow and left behind the bundles of paper money that had been in it, because the money was worthless.

In an effort to prevent the new issues of money from leading to higher prices, on July 7, 1921, the German Supreme Court ruled that when sellers priced their goods, they couldn’t fully factor in the depreciation of the mark. To illustrate what such a policy led to, Feldman related the story about “a rope manufacturer who had become convinced he could do splendid business by selling his rope for ever increasing amounts of paper marks. He rapidly became a millionaire and then a billionaire, but each time he used his capital to buy hemp, he noted that he progressively received less hemp for more money and that his production steadily decreased. Finally, the day came when he could produce only one piece of rope, and he used it to hang himself at the gate of his desolated factory.”

Government regulations bankrupted most of Germany’s insurance funds. They had been forced to invest in bonds issued to finance the government’s failed venture in the housing business. The value of the bonds was wiped out by inflation. Inflation devastated German insurance companies that had business in other countries, because customers needed payments in their own currencies, not in marks. German regulations limited the ability of insurance companies to maintain accounts in other currencies sufficient to discharge their obligations.

By disrupting all kinds of contracts, inflation led to the collapse of the German economy. Nobody could count on anything. Many judges accepted the cancellation of contracts provided it could be established that inflation was unexpected, so courts were deluged with claims that nobody could have foreseen that the inflation would go on for years. According to Feldman,

German businessmen were sending their domestic and foreign customers learned summations of cases and opinions by company lawyers or printed compilations of German court decisions allegedly sanctifying the cancellation or revision of contracts.

Debtors were pitted against creditors, with hundreds of thousands of debtors rushing to pay off their mortgages and other loans with worthless currency, and creditors helplessly insisting that the value of money borrowed be repaid. One embittered banker remarked that “our real estate credit, to which Germany owes so much for its past reconstruction and which is also so indispensable for a solid reconstruction, must be buried in the grave.”

The German inflation, however, meant that everything was incredibly cheap for foreigners. The Germans knew it and resented it. The American novelist Ernest Hemingway and his wife traveled through Germany in 1922, and he reported that “with marks at 800 to the dollar, or 8 to a cent, we priced articles in different shops. Peas were 18 marks a pound, beans 16 marks. Beer was 10 marks a stein or 1-1/4 cents.” A pastry shop they visited “was jammed with French people of all ages and descriptions, gorging cakes. The proprietor and his helper didn’t seem happy when all the cakes were sold. The mark was falling faster than they could bake.”

By November 1922, the German economy was collapsing. Industries shut down. The government committed itself to paying money to the thousands of workers who became unemployed. Within six months, the government was providing a trillion marks a month in emergency credits to failing banks, railroads, manufacturing businesses, and agricultural cooperatives. On July 1, 1923, one U.S. dollar would buy 160,000 marks; by August, a million marks.

Government officials blamed the depreciation of the mark on speculators and tried to make it more difficult for Germans to exchange their marks for stronger currencies. Traders left the organized exchanges and conducted their business in cafes and other “underground” locations.

The inflation made people desperate. They cut up leather chairs to get leather for their shoes. Draperies were cut up to make children’s clothing. Thieves stripped railroad cars for copper wire. Historian Konrad Heiden reported,

On Friday afternoons in 1923, long lines of manual and white-collar workers waited outside the pay-windows of the big German factories, department stores, banks, offices… . They all stood in lines outside the pay-windows staring impatiently at the electric wall clock, slowly advancing until at last they reached the window and received a bag full of paper notes. According to the figures inscribed on them, the paper notes amounted to seven hundred thousand or five hundred million, or three hundred and eighty billion, or eighteen trillion marks — the figures rose from month to month, then from week to week, finally from day to day. With their bags the people moved quickly to the doors, all in haste, the younger ones running. They dashed to the nearest food store, where a line had already formed. Again they moved slowly, oh, how slowly, forward. When you reached the store, a pound of sugar might have been obtainable for two millions; but by the time you came to the counter, all you could get for two millions was a half-pound….

People employed in the private sector were enraged when government employee unions — who carried out the government’s disastrous economic policies — succeeded in having their salaries pre-paid, so they could convert the currency to goods before the currency depreciated further. The publication Soziale Praxis reported, “Public opinion is turning against the civil service.”

Bank depositors were wiped out. “A man who thought he had a small fortune in the bank,” Heiden reported,

might receive a letter from the directors: “The bank deeply regrets that it can no longer administer your deposit of sixty-eight thousand marks, since the costs are all out of proportion to the capital. We are therefore taking the liberty of returning your capital. Since we have no bank-notes in small enough denominations at our disposal, we have rounded out the sum to one million marks. Enclosure: 1,000,000-mark bill.” A cancelled stamp for five million marks adorned the envelope.

Professional people were devastated. Most doctors’ fees were paid by health-insurance funds, and the lags in receiving such payments meant big losses. Doctors went on strike in Berlin and elsewhere. Independent lawyers weren’t able to increase their fees fast enough to keep up with inflation, since they were regulated by the government. Many lawyers couldn’t afford to attend a professional meeting in Hamburg about inflation in the law. German-born oil consultant Walter Levy recalled, “My father was a lawyer, and he had taken out a 20-year insurance policy in 1903. Every month, he made the payments faithfully. When the policy came due in 1923, he cashed it in and was able to buy only a loaf of bread.”

Farmers tried to keep the food they produced, rather than give it up for worthless paper money. That led hungry city people and gangs of unemployed coal miners to plunder farms.

By that time, of course, not many foreigners were willing to accept marks, either. The government pressured big businesses to lend gold marks. Incredibly, the government — which caused the inflation — tried to put taxes on a gold basis, meaning that taxes would be indexed and go up exponentially along with everything else during the inflation.

“The State wiped out property, livelihood, personality, squeezed and pared down the individual, destroyed his faith in himself by destroying his property,” Heiden reflected. “Minds were ripe for the great destruction.”

“The foster child of inflation”

Adolf Hitler was among the unintended consequences of the inflation. He had been a small-time rabble rouser at the end of World War I, bitterly lashing out at those he blamed for Germany’s defeat. He exploited the fear and resentment caused by the inflation, appealing to those he called “starving billionaires” who were able to buy pitifully little with their wads of worthless paper marks. The ranks of Hitler’s followers expanded dramatically during the inflation. Economist Constantino Bresciani-Turroni called Hitler “the foster child of the inflation.” The price of black bread hit one billion marks, businesses were losing money, and the government couldn’t meet its own payrolls. “The crisis, without which Hitler would have been nothing,” wrote biographer Ian Kershaw,

was deepening by the day. In its wake, the Nazi movement was expanding rapidly. Some 35,000 were to join between February and November 1923, giving it a strength of around 55,000.

Hitler staged an inept coup attempt in a Munich beer hall. He was arrested and imprisoned, but he had emerged as a public figure determined to rise again when another crisis gave him an opportunity.

Meanwhile, the inflation helped break the grip of interest groups, particularly government-employee unions, that always pushed for more government spending. Desperate citizens were willing to consider alternatives to politics as usual. Finance Minister Karl Helfferich proposed some tough reforms, and they were adopted.

First, he introduced a new currency, the Reichsmark, to replace the worthless mark. Second, to prevent the Reichsmark from becoming worthless, he aggressively cut government spending. He eliminated the government employees’ perk of having their salaries prepaid. He began giving them weekly paychecks, so they would suffer from inflation like everybody else, if it returned. They bitterly protested that the practice would jeopardize the stability of the government. Next, national government payrolls were cut, by 396,838 employees, almost 25 percent.

At the bloated nationalized railroads, payrolls were cut more than half, from 576,083 to 186,658. The government-run health-care system was cut back, too. There were howls of protest, but people had lived through the consequences of runaway government spending. They couldn’t afford it anymore. The government-run social security program couldn’t be saved, because inflation had made social security funds worthless. Retired people, widows, and the disabled who needed help were given relief, and that was it.

Since the United States is a mighty superpower, many Americans probably continue to believe that what happened to Germany can never happen to them. But runaway inflation is driven by runaway spending financed by money-printing, and the spending can be on all sorts of things, not just reparations. Today federal spending on entitlements is skyrocketing, and in 2009 entitlements consumed all federal tax revenue, which meant, in effect, that the United States had to go deeper in debt to cover other costs such as national defense and interest on existing debt. By any standard, the U.S. government is financially stressed out. Since the United States intervenes in the affairs of other countries more than anyone else, it is likely to become embroiled in future wars, perhaps in addition to the two wars that have dragged on in Iraq and Afghanistan. During each of the biggest wars the United States has been involved with (the Civil War, World War I, and World War II), federal spending soared about tenfold. Something like that would certainly qualify as an external shock. Clearly, the risk of a U.S. inflation catastrophe is going up.

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