The Federal Reserve Act, which established the United States central banking system in 1913, granted national banks, for the first time, the right to engage in acceptance operations. By 1917, total dollar acceptances arising from the financing of international trade had reached about 600 million dollars. In 1920 and 1921, Congress passed several legislative measures aimed at promoting these international acceptance operations. Three acceptance corporations were created. In order to confront British competition, which had intensified markedly from 1920 onward, New York bankers offered more favorable terms and sought to expand their operations with Germany and Central Europe by relaxing the customary rules of banking prudence. Banks and City institutions also loosened their usual lending requirements so as not to lose ground to New York. A situation of quasi-duopoly thus emerged in the international financial market, with New York imposing its tactics and acting, in a sense, as a price leader.
Under these conditions, the supply of short-term capital increased, which may explain the expansion of loans granted to Germany, Austria, and certain Central European countries. As a result, short-term foreign capital invested in Germany rose from 4.1 billion Reichsmarks in December 1926 to a peak of 11.7 billion Reichsmarks in December 1929. It should also be noted that British commercial banks entered acceptance operations for the first time after 1919. Acceptance houses in the City therefore faced both domestic and foreign competition. This entirely new market structure compared with the prewar period served only to increase short-term indebtedness at the monetary centers, that is, to raise international liquidity at a time when its mobility was very high. This led to excessive indebtedness, the consequences of which Great Britain had to bear in September 1931. This indebtedness was therefore not a consequence of the Gold Exchange Standard, as claimed by advocates of a “pure and simple” gold standard. Only close cooperation among the gold centers and the ratification of a genuine international agreement, as envisaged in the Genoa resolutions, could have eliminated the risks of instability arising from speculative capital movements.
Competition in Long-Term Foreign Lending
In the field of stock exchange operations and long-term investment, the war dealt a severe blow to London while favoring New York. During the 1920s, the same type of competition between the two monetary poles reappeared in both short-term and long-term capital markets. Before the war, the London Stock Exchange conducted more transactions in American securities than the New York Stock Exchange. After 1915, New York became the only center offering complete freedom, while the London Exchange was tightly controlled. For the first time, British borrowers were forced to turn to New York. From 1921 onward, once all London restrictions were lifted, the exceptional wartime situation came to an end.
In 1914, long-term foreign debt amounted to 3.7 billion dollars, whereas by 1919 the same item showed a net creditor balance of about 3 billion dollars. The American government intervened by assuming the role of official adviser to New York banks. The State Department was required to give favorable or unfavorable opinions on all foreign loan applications. The dollar thus became an instrument of American diplomacy, but it must be acknowledged that this policy was not very successful. Long-term capital was massively lent to Germany and certain other Central European countries with no greater discernment than short-term acceptance credits. In a work devoted to dollar diplomacy, an American author wrote in this regard that only the fourth and fifth conditions could be applied without excessive difficulty.
In any case, in the example of France, whose government had refused to pay certain war debts, the prohibition was circumvented through dollar loans obtained via Zurich, Amsterdam, and Canada. Finally, the prohibition was repealed in 1929.