James writes, in response to Currie’s (and my) insistence that the Fed’s policy in 1929-32 was one of almost complete passivity and acquiescence: “Yeah, yeah, I heard this declaration several times before.  It misrepresents what happened."

He then goes on to say that “the price level fell because of the increased demand for money (cash) in excess of its supply.” James defines money narrowly as cash and on this basis suggests that Currie, besotted by Keynes [which is far from true], failed to understand the classical quantity theory whereby a rise in the demand for money in excess of supply causes deflation.

Actually what James won’t acknowledge is that the Fed did accommodate the demand for cash but only by placing the banks in debt to the Fed at a penalty rate that caused them to contract their earning assets (loans). The result was that the public’s total purchasing power (means of payment) contracted by a multiple of the banks’ loss of reserves. Instead of striving to get the banks out of debt, through OMO or by financing government deficits, thus restoring their willingness to lend, the Fed sat back while bank assets and the public’s spending power contracted drastically. By switching from bank deposits to cash as their preferred means of payment, the public did not increase their total demand for money to hold. Instead they suddenly found a quarter of them were out of work with no income and no money to spend, let alone money to hold. C/Y rose because Y fell, and with it the velocity of circulation of the depleted money supply.

The Fed felt constrained by the 40% gold reserve ratio, but that was a ratio the Fed could and should have lobbied the government to lift. The constraint on issuing base money in exchange for open market bond purchases was a legal one that Currie urged be lifted, because (contra James) he understood monetary theory very well indeed. (He was highly critical of the real-bills, or commercial loan theory of central banking that guided Fed policy: see his JPE April 1934 paper that Harry Johnson selected in 1962 as one of the 24 best JPE papers published in its first 75 years.)

Actually Currie was also very critical of Keynes for inadequate or confused attention to the definition of money and the highly ambiguous term "credit" - a word with so many contradictory meanings that he recommended it be dropped from the monetary vocabulary. And he was also well versed in Smith, Mill, Ricardo, Jevons, Marshall and Allyn Young.* He made wide reference to them in his 1931 PhD dissertation on bank assets as well as in his 1934 (1st ed.) book on the supply and control of money.

Inter alia, here is what he wrote in 1934 (p.46) about Mill, focusing especially on Mill’s concept of “credit” that had become “the standard doctrine”. Currie continued: “The general drift of his reasoning, and such statements (Mill, Bk 4, ch.XII, para 4) as ‘credit… is purchasing power’ and ‘credit, in short, has exactly the same purchasing power with money’ unquestionably tended to identify the term “credit” with the concept of means of payment, even though exception may be taken to some of the instruments which he regarded as purchasing power.’”

Here Currie referenced Jevons who wrote: “It is extraordinary that few writers on currency have remarked the deep difference between commercial documents [such as savings deposits] which bear interest and those [demand deposits] which do not. On this point turns the possibility of their forming representative money.”

James, however, equates demand deposits with “savings”. (In a previous post he wrote: “M1 and M2 include the public's ‘savings’, be they the regular savings deposits or checkable deposits.”)  But if checkable deposits are “savings”, so too is the holding of cash, for both are interchangeable as means of payment or purchasing power. So this is to miss Jevons’s important point. Currency and highly active demand deposits (DDs) almost never earn any real interest. Real interest is only paid on relatively inactive savings or time deposits (TDs). These latter are used to transfer purchasing power from lenders to borrowers through the intermediation of banks and NBFIs. When banks hold only fractional reserves against DDs, their lending operations create multiple new means of payment. Money (purchasing power) is then not transferred, it is created.

In the process banks usurp seigniorage from the government. This is one reason why Currie advocated 100% reserves against DDs (and none against TDs). But the more important reason was that by divorcing the creation of money from the lending of money, monetary control could be enhanced, not least because changes in the public’s preferred C/DD ratio would not affect the total.

I trust this also deals with James point that
> What Currie (and Sandilands) fail to recognize is that bank deposits originate from the public's desire to place their non-consumed incomes with such institutions.  Thus, no central bank can control their volume.

This is an astonishing claim. Central banks do have the power, if they choose to use it, to engage in open-market operations and/or to control the required reserves of banks. I agree they do not really have the power to refuse to accommodate an increase in the public’s C/D ratio. But nor should they, unless they are willing to countenance a catastrophic run on the banks – as tragically happened in 1929-32 when the Fed had the power but failed to use it. By ensuring that the circular flow of national  income is maintained at as near as possible to non-inflationary full employment, control over the controllable part of the nations’ money supply – the DD portion – can also ensure, indirectly, that the currency portion is also under control at its desired C/Y ratio at full employment.

The fact is that the Fed did not expand MO sufficiently to prevent the total money supply from falling by a third. This alone is proof positive, contrary to James's contention, that the Fed failed in its duty as a stabilizing LLR in the Great Depression.

- Roger Sandilands
     * PS: I may also note that Currie was a student both of Edwin Cannan (at the LSE, 1922-25) - who espoused the very  narrow definition of money that James prefers - and of Allyn Young (at Harvard, 1925-27).  Currie evidently preferred Young. This is what Young wrote to Cannan, June 22, 1926, while the LSE was trying to attract him to the Chair of Political Economy on Cannan’s retirement:
      “… I can quite understand that you would have liked to have been followed by one of your own pupils, if that had been possible. Yet, although not a pupil of yours, I can at least put forth a claim of some measure of discipleship. Except for a few points in monetary theory (for example, I would hold that banks _do_ create deposits!) I think there would be very little difference between us.”