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Who Caused the Great Depression?
Lessons from an era in which four men held sway over global finance.

Reviewed by Frank Ahrens
Sunday, February 15, 2009

LORDS OF FINANCE

The Bankers Who Broke the World

By Liaquat Ahamed

Penguin Press. 564 pp. $32.95

From the 1870s to 1914, the world's developed nations basked in a shimmering age of commerce. The European powers were at peace. Goods flowed home from colonies. The newly reunited United States was growing into muscular adolescence. And all of the world's major economies rested on a seemingly solid base: the gold standard.

But it proved to be a system in a snow globe, easily shattered. World War I broke the idyll and unhooked country after country from dependence on gold. They resorted to printing money to fund the war, leading to massive inflation, unemployment, political instability and general suffering across the Continent.

It's no wonder, then, that after the signing of the armistice in 1918 the world's four most powerful bankers -- a fraternity described in newspapers of the time as "the world's most exclusive club" -- did everything they could to force nations back to the discipline of the gold standard.

It was a ruinous decision. as Liaquat Ahamed notes in Lords of Finance, all the gold mined in history up to 1914 "was barely enough to fill a modest two-story town house." There simply was not enough of it to fund a global conflict or to allow economic recovery afterward.

Ahamed's illuminating and enjoyable book focuses on the four men whose arrogance and obstinacy, he contends, caused the worst depression in modern times: Benjamin Strong Jr., the morphine-using, consumptive governor of the New York Federal Reserve; Montagu Norman, the spiritual seeker at the helm of the Bank of England; Emile Moreau, the xenophobic governor of the Banc de France; and Hjalmer Schacht, the president of Germany's Reichsbank, a Prussian by temperament, if not by birth, whose sensibilities led to a flirtation with the Nazis.

They were the most important central bankers in their respective nations when those four countries controlled most of the world's wealth and one -- England -- was its unrivaled lender. It was a time, almost unrecognizable to us, when the central banks that printed each nation's currency were privately owned, and regulation was unheard of. As a consequence, this handful of men -- who knew each other intimately enough that one was godfather to another's son -- could wield a coordinated, long-lasting and terrible impact on the global economy.

The gold standard's role in the worldwide depression of the 1930s has been probed before, notably in Barry J. Eichengreen's scholarly Golden Fetters (1992). But Ahamed -- a hedge fund adviser, a World Bank veteran and a supple writer -- personalizes the story, exploring how insular relationships led to bad choices. Strong and Norman, for instance, became friends and gained each other's trust through lengthy correspondence. Strong used his influence to secure a loan for England, then prodded Norman to put England back on the gold standard. Norman, in turn, persuaded Strong to push down U.S. interest rates, helping to create the stock bubble that eventually burst in October 1929. When Strong died in 1928, his replacement became Norman's thrall and fell in lock-step with the emphasis on gold, extending the economic agony.

Meanwhile, the unchecked concentration of power in one banker's hands was also roiling Germany. In 1924, Schacht went bizarrely off the farm and attacked his government, releasing public statements accusing the state of losing control of its finances and saying that Germany was too broke to pay additional war reparations. While Schacht partly spoke the truth, his freelancing undermined already shaky public confidence. Later, he sabotaged a loan his nation tried to secure in New York, nearly bringing down the government.

Ahamed damns the dead, placing blame at the feet of men largely lost to history. The risk in writing about forgotten men, however, is that they might not have been interesting enough to be remembered. Lords Of Finance unearths some gossipy details: Norman, for example, was a salad-bar spiritualist who tried a little of this, a little of that (including Theosophy and autosuggestion) and once told colleagues he could walk through walls. But quirky does not equal memorable. These four bankers are about as compelling to us as, say, Treasury Secretary Henry Paulson may be to readers a century from now. My guess is that readers in 2109 will instead remember Warren Buffett and Bill Gates, just as we still know J.P. Morgan and John D. Rockefeller.

Rather than splendid personalities, this book's real advantage is timeliness. Parallels to today's global financial collapse come with regularity throughout, sometimes causing spit-take laughs, sometimes shudders. Heading into the Paris Peace Conference of 1919, one pugnacious English banker proposed forcing Germany to pay reparations of $100 billion, eight times its pre-war gross domestic product. He said he came up with the figure "between a Saturday and a Monday" -- which sounds a lot like the three-page request for $700 billion Paulson whipped up one weekend in September and sprang on Congress.

Until last year, few believed anything would stop U.S. homes from going up in value 10 percent every year. That is, until the sub-prime mortgage crisis exploded. Likewise, in the prosperous and interdependent Europe of 100 years ago, war was considered unthinkable because it would destroy all. By 1917, an entire generation of young male university graduates was dead. And, frankly, the brainpower needed for forward-thinking was lacking. European bankers of the time carried a cavalier ignorance of economics, and that goes double for America's first Federal Reserve directors. The science of monetary policy was still in its infancy, and no one could have expected four dreary bankers to turn suddenly into brilliant, ahead-of-their-time economists.

That role should have fallen to John Maynard Keynes, one of the few heroes of Ahamed's book. Keynes called the gold standard a "barbarous relic" and clearly explained its limits; in 1925, he accused the British banking elite of "attacking the problems of the post-war world with unmodified pre-war views and ideas." But despite being a well-known Cambridge don, Keynes was an outsider, not a member of the world's most exclusive club, and those in power largely ignored his warnings.

Looking at the events of the 1920s and 1930s, one wonders: Could a modern confluence of catastrophes cause another global depression? No major power is likely to return to the gold standard, so that risk is off the table. But is there a comparable systemic problem today, something we refuse to see? Ahamed thinks we're plain lucky that recent financial crises -- in Mexico in 1994, Asia and Russia in 1997-98, the United States beginning in 2007 -- "have conveniently struck one by one, with decent intervals in between." After reading his bracing book, one can only hope that our economy is in the hands of decision makers who are more numerous, less powerful or much wiser than in the past. ยท

Frank Ahrens is a reporter in The Post's Business section. His blog is called The Ticker.

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