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In the Previous piece In the series on monetary history, we described how World War I ended the Gold Standard. The First World War caused a large flow of gold to the Netherlands, resulting in a very large gold stock at the Dutch Central Bank (DNB). After the war, DNB had to intervene harshly at various banks. Why was it that banks were vulnerable in the years after the First World War?
In previous articles in this series, we also saw that the expansion of DNB made it possible to set up all kinds of banks with the help of loans from DNB. Lending gradually shifted to other banks, while DNB slowly moved towards a central bank. The expansion of the banking system continued after the First World War. This resulted in the creation of a number of very large banks, such as the Amsterdamsche Bank, the Rotterdamsche Bankvereeniging and the Twentsche Bank. The five largest banks accounted for as much as 70 percent of lending, according to the book 'De Nederlandsche Bank' by Wim Vanthoor.
The banks also began to focus more and more on industry and trade. And since these banks seemed to have their liquidity and capital affairs well organised, they were able to lend generously. In the first years after the war, lending was an avid deduction, which made unhealthily strong growth possible. But since the bankers did not have the necessary expertise and therefore created bad loans, the sloppy lending caused problems when the economy turned.
A real banking crisis arose, because more and more loans could not be repaid. In the years between 1920 and 1922, 200 million guilders worth of loans had to be written off, a huge amount at the time. And since DNB facilitated a large part of the financing of other banks, DNB also ran into problems.
DNB therefore had to take action to prevent worse. Some banks were saved by issuing shares that were bought by DNB. Banks that received help were not allowed to pay dividends during this period. When Robaver, a bank that posed a systemic risk due to its size, collapsed, the state went even further and gave it a credit guarantee, after which the markets calmed down again.
From this period onwards, DNB also started to supervise bank lending more closely, setting the scythe in the excessive lending of the years after the war. Banks also had to provide DNB with quarterly access to the balance sheet. Since then, banks have focused more on short-term credit. As a result, the banking sector did not become the engine of economic growth and the Dutch economy had to rely mainly on the economic upturn in Germany and America. On the other hand, the Great Depression in the Netherlands in the 1930s was not also exacerbated by reckless lending.
But could DNB have prevented the banking crisis by pursuing a less accommodative credit policy? Due to the abundant gold stock, combined with a lower banknote coverage ratio, DNB would have had a lot of room to increase the money supply during the First World War. As a result, banks also had a lot of capacity to provide loans. And it was precisely because loans had been granted too easily that a crisis had arisen. Whispered suggestions were made to raise interest rates, but the Bank believed that the money growth was mainly the result of the government's large budget deficits.
A second way in which loans would be granted more easily was the so-called rationing policy, in which credit applications were assessed much more critically. Loans could only be granted for productive purposes, i.e. for investment. Credit for economic growth was also a good remedy against inflation, or so the thinking went. Critics countered that it would be undesirable for DNB to interfere too much with the creditworthiness of the government and companies. During the war, DNB had also acted firmly as a government lender.
Vissering, then president of the Dutch Central Bank, replied to critics of DNB's policy and asked the rhetorical question whether DNB should have resisted the government more forcefully, as if there had been no war. That would have meant that it would have been much more difficult for the government to finance itself in wartime, and that would also be undesirable. Vissering also posited that the Netherlands was not a closed country and was always dependent on foreign influences. Even though the Netherlands had its affairs in order, a small economy always suffers from malaise in nearby countries.
After the banking crisis, a discussion also flourished in the Netherlands that is reminiscent of the discussion about the The principles of regulation and liberty. This discussion revolved around the question of whether the money supply should be tied to the amount of precious metal. For a long time, the coverage rate in the Netherlands was 40 percent, but there were also proponents of the principle of freedom, which gave more room for an increase in the money supply.
The economists Keynes and Hayek are often seen as key figures in these discussions, but economists in the Netherlands also addressed this issue. For example, it was the economist Johan Koopmans who initially agreed with Keynes's ideas that price stability and the stabilization of business cycles were observed. Later, in the 1930s, Koopmans changed his mind, and focused on the question of what stable value money actually meant and how it could be preserved.
The comparisons between the 1920s and the present are easy to draw. The fact that banks can cause instability by lending money too easily was not only seen just after the First World War, but also in the years before 2008. And this year, banks like Silicon Valley Bank and Credit Suisse got into trouble after raising interest rates sharply.
The discussion about money is also being conducted extensively today, also on the channel of Holland Gold. Last year, for example, Paul Buitink entered into a debate with Wim Boonstra About money creation and the pros and cons of fractional reserve banking. And more recently, we heard the reflections of, among others, Lex Hoogduin, Jaap van Duijn and Nout Wellink on price stability and whether two per cent inflation actually constitutes price stability. In the coming period, we will further highlight the history of this discussion, such as the fierce polemic Hayek followed against Keynes.
