893.515/851
The Economic Adviser (Feis) to the Under Secretary of State (Phillips)
Mr. Phillips: I think that the Secretary of the Treasury somewhat misjudges the situation that may develop.
The Chinese authorities apparently went ahead with their devaluation plan and only at the last moment instructed the Ambassador to ascertain whether the American Treasury would directly and immediately buy the large quantities of silver which they expect to acquire if the plan is successful. The main outlines, and the rate of stabilization, were apparently determined before the Ambassador spoke with Mr. Morgenthau.
One not completely clear point is as to whether the Chinese Government will endeavor to keep the Chinese dollar stable in terms of the American dollar or in terms of the pound or yen. For the past few months these three currencies have been relatively stable in terms of each other and the question therefore only presents a limited immediate [Page 634] interest. If however these three currencies should diverge substantially in value one from the other then the Chinese Government would have to make its decision.
The Chinese Government in my judgment was forced to some such move as this by steadily worsening internal conditions. It hesitated a very long time because of its doubts as to whether it could acquire control of the silver in circulation in China (replacing the silver with bank notes) and as to whether the foreign banks in China would cooperate by exchanging their silver reserves for the new bank notes. However, they apparently had no choice and have taken the plunge.
The new rate set for the Chinese dollar is very low and therefore increases the favorable chances for the success of this effort.
To come to the point as regards the position of the American Treasury—the fund which the Chinese Government will have as a supporting and reserve fund for its currency will be mainly made up of the silver bullion it acquires. There will probably be some small fraction of gold and foreign exchange. When and as it may become necessary for the Chinese Government to support the external value of the Chinese dollar it will have no choice but to offer this silver bullion on the world markets. The Treasury will then be confronted with the choice of buying this silver directly or indirectly, or seeing the world price of silver (which it has been holding stable in the neighborhood of 65 cents or somewhat) fall.
The Chinese Government may in the thought that our silver purchasing program is destined to collapse anyhow endeavor to dispose of some or all of the silver it acquires even before it might have to do so to support the Chinese dollar. In that event the Treasury would be called upon similarly to make this decision. The temptation of the Chinese Government to make an immediate profit out of this silver will be large because any such profit would greatly help it in its intense present budget difficulties.
Whether the situation will present itself to the Treasury within two weeks or whether it will be postponed for some months will depend (a) upon the confidence felt that the Chinese authorities can prevent inflation in China, and (b) upon the political developments, especially in connection with the Japanese.
P. S. The morning’s press seems to indicate that the action of the Chinese Government has been an unwelcome surprise to the Japanese authorities and that they are likely to exert their influence to see that the monetary reform scheme does not operate successfully. I suppose that the two ways it can influence the situation are by encouraging the Japanese banks not to give up their silver for the new note issues and by discrediting the new notes in China. If the new notes are not [Page 635] willingly and confidently accepted, violent inflation might be expected in the commercial centers of China. This I suppose would suit Japanese purposes.