Foreign Relations of the United States: Diplomatic Papers, 1944, China, Volume VI

102.1/10419: Telegram

The Ambassador in China (Gauss) to the Secretary of State

Chungking, March 23, 1944—1 p.m.
[Received 4 p.m.]

517. (Section 1.) To Secretary of Treasury from Adler.

1. Fully agree with the conclusions of Ambassador’s cable of March 8.⁸¹ Re your 331, March 11. (All sums in CN dollars unless otherwise specified.)

2. Overall picture. Economic situation in China while extremely unstable will not come apart from undue strain from expansion of American military operations, [or?] collapse for some time as long as harvests continue satisfactory. Growing disintegration of military and political power of Central Government, weakening of its war effort such as it is and of its military potential, and spread of malpractices inevitable unless and until (a) China’s isolation is broken (b) internal reforms take place—a remote contingency.

3. Last year’s harvest slightly larger than 1942 though there were again acute localized famines; it is too early as yet to predict 1944 crops. Decline in industrial production can be expected to continue. Prices in 1943 more than trebled and note issue more than doubled, i. e., rate of increase in both was only slightly greater than in 1942. (Published and official price data are becoming increasingly unreliable.) Since beginning of year, however, there has been a spectacularly sharp rise in prices. Preliminary estimated increase in average of retail prices in leading cities (February level 300 times 1937) is about 30 percent for first 2 months of year. Increase in Chungking retail index for same period only 12 percent but this obviously incorrect as even official opinion estimates it at nearer 60 percent. In Kweilin same index shows rise of over 40 percent while Buck’s⁸² wholesale and cost of living indices for Chengtu show increases of 65 percent. Causes of this sharp spurt partly seasonal, partly impact of United States expenditures (as in Chengtu, cf. my 392, February 29), increasing speculation in commodities, wide fluctuations in price of gold and United States currency and of course cumulative long run factor of expanding note issue. Unfortunately recent marked upward trend in prices still being maintained, seasonal pre-harvest factor likely to continue and United States expenditures to increase for some months.

4. Budgetary situation. 1943 expenditures were about 48 billion and revenues under 20 billion (preliminary). It should be noted that for first time expansion of note issue of over 40 billion was substantially higher than official deficit of 30 billion due to direct United States Army expenditures of over 2 billion, probable existence of concealed deficits and fact that Government banks used newly issued notes to make loans for Government approved projects. This year estimated expenditures are 80 billion and revenues 35 to 40 billion but actual expenditures will probably be nearer 100 billion and actual revenues nearer 25 billion. Thus apart from concealed deficits and Government bank loans note issue will double, i. e., increase by 75 billion in 1944. Given same rate of increase as last year, it will expand by nearly 90 billion. Above estimates do not allow for heavy contemplated increase in expenditures by and for United States Army during 1944.

(Section 2.) Impact of United States Army expenditures.

1. Up to end of 1943 United States Army had spent directly under 2¼ billion, while, according to Kung’s message to YFC [you?] of January 24,⁸³ Chinese Government had spent 5% billion in connection with our Army operations. Since then Army has spent directly one half a billion yuans, Ministry of Finance has advanced 1 billion a month for direct expenditures in February and March. In addition Ministry has spent 1.4 billion in January and February for Chengtu projects, an unspecified but much smaller amount for construction and maintenance elsewhere and for living costs of American Army in China, and has allotted 1.7 billion for construction projects in March. All in all under 8 billion were spent by and for United States Army in 1943 and another 6 billion since.

2. While these expenditures undoubtedly contributed to aggravating innovation inflation?], especially in areas in which they were concentrated (Kunming, Kweilin and Chengtu), they did not constitute an intolerable burden on Chinese economy, as is borne out by fact that 1943 rate of increase in prices and like issue was not perceptibly greater than in 1942. Total expenditures by and for United States Army in 1943 constituted 20% of expansion of note issue and less than one-fourth of budgetary deficit. In Yunnan United States Army direct expenditures totaled 1.4 billion in 1943 and three-fourths billion for January–February 1944, and in Kwangsi 1 billion and under 100 million for same periods. While no breakdown of Central Government expenditures in these areas is available, presumably a substantial portion of its disbursements of 3 billion in 1943 and three-fourths billion in January–February 1944 in Yunnan and of 1.1 billion and 300 million in Kwangsi for same periods was incurred in connection with United States Army operations.

3. The immediate impact of these expenditures in these areas was to push up prices, to intensify speculation and hoarding in anticipation of further United States Army expenditures and thus aggravate price situation still further (this process inevitable in absence of effective Government economic and political controls given which problem would have been much more tractable), to create acute shortages of [apparent omission] maintenance of even a few thousand American troops also taxes food supply in areas where they are located owing to huge discrepancy between war and normal Chinese living standards. Rate at which this impact is transmitted to other cities and country as a whole is slow in China, its economy is so loosely integrated. Data on differential impact of Army expenditures and speed of its transmission inconclusive. Farmers Bank retail index reveals increases in Kweilin and Kunming of 3½ and over 3 times in 1943 as compared with somewhat under 3 times in Chungking and Chengtu, cities where United States Army expenditures were small in 1943; but too much weight cannot be attached to this index. [The] Buck’s Chengtu cost of living index just about quadrupled in 1943, while 1944 rate of increase in Chengtu prices under impact of heavy Army expenditures since beginning of year is only slightly greater than in Chungking. Even in case of Kunming where prices are highest in China it took the lead as far back as 1938.

4. It is important to bear this qualification in mind in view of noticeable tendency increasingly prevalent in Chinese Government circles to lay responsibility for inflation on our Army expenditures in order to: (a) strengthen their bargaining position with respect to current financial negotiations, (b) put themselves in a better position should they make another request for a loan, (c) find a convenient alibi for a situation which they have been very far from handling as well as they could, (d) make us morally responsible for extricating them from the collapse if and when it comes.

(Section 3.) 1. But scale of expenditures for U. S. Army now contemplated far greater than in west and will moreover be superimposed on a more advanced stage of inflation. Projected expenditures for April–June 1944 are 12 billion, not allowing for increase in prices in interim, and are much more likely to exceed 15 billion. Even with active sale of gold and U. S. currency, by far largest part of these expenditures will have to be met by expanding note issue. Given continuance of present Chinese attitude towards sale of gold and U. S. currency, with the implementation of U. S. Army plans there will be an increase in note issue of 11 billion a month for next 3 months (6 billion for the “normal” increase and 5 billion for our Army). While Chinese economy may be able to stand this extra strain, it is highly questionable whether we should incur the risk of imposing it on her, unless Army has overriding strategic reasons for doing so. Subject to this, suggest figure it is desirable not to exceed is 3 billion per month for next 3 months.

2. Certainly Army should not make plans for further construction projects entailing such heavy expenditures after June. I understand its present plans call for a tapering down of expenditures after June; it is to be hoped these plans will not be revised, as otherwise note issue fight increase by anywhere between 120 to 150 billion in 1944.

3. Note that:

(a) Chinese Government has avoided and will probably continue to avoid suggesting limits to Army expenditures in China for reasons of diplomatic prestige, in spite of fact that it has been asked to do so.

(b) Army is already experiencing difficulties in letting contracts and spending money at speed it would like and which is necessary for completion of its projects on schedule, particularly in Chengtu. While this limits expenditures in immediate short run, projects cost more the longer they take to complete.

4. China’s economic situation such that it is possible only to recommend palliative measures as follows:

(a) Aggressive sale of gold and U. S. currency to mitigate to some extent however slight inflationary effects of Army expenditures. Unfortunately in spite of his recent request for U. S. 10 million of gold and U. S. 20 million of U. S. currency Kung is at present apathetic to such sale (with continuance of his present attitude it is impossible to clarify request in your 314 of March 8⁸⁴), I suggest your considering personally recommending to him more active sale of gold and possibly U. S. currency.

(b) Shipment by air from India of token amounts of commercial goods to China.

(c) Improvement in U. S. Army’s methods of contracting and purchasing. There is sufficient evidence that contracting and purchasing is often left to inexperienced younger officers who seem to pay little attention either to cost or to normal Chinese commercial practice, which makes them easy victims of unscrupulous businessmen. This both increases burden on U. S. taxpayers and adds to inflation in China. Civilians here carry little weight with Army and pointing out to them that they could employ missionaries experienced in contracting in interior China and reliable Chinese has had little effect.

5. Letter by pouch month ago contains further information on Army expenditures and possible sale of gold and U. S. currency. [Adler.]

Gauss

81. Telegram No. 434, p. 894.
82. John Lossing Buck, Director of the Farm Economic Service Institute, Chengtu.
83. See telegram No. 166, January 26, 3 p.m., from the Ambassador in China, p. 863.
84. Not printed; the Treasury requested clarification of Dr. Kung’s proposal that the sale of “United States currency in China be on joint account of China and the United States (102.1/10309a).