893.5151/8–1748: Telegram

The Consul General at Shanghai (Cabot) to the Secretary of State

1829. For Treasury and ECA and State from Casaday and Parker. Currency reform measures previously reported Embtel 1426, August 3 and ConGentel 1805, August 15, repeated Nanking 1438 (plan A) now reported suspended pending consideration alternative proposal (plan B) which would have effect putting Chinese currency on gold standard. Alternative plan being advanced by Central Bank which on Sunday August 15 balked at earlier proposal. Reported practically certain either A or B will go into effect prior September 1. [Page 386]Plan B taken to Nanking August 16 by Governor Yui and now approved by Prime Minister, Finance Minister and Foreign Affairs Minister. Yui and Prime Minister now Kuling seeking final approval from Generalissimo. Proposal discussed T. V. Soong who approves. Reported that only other persons Chinese Government who know plan are Deputy Governor Central Bank,46 Assistant Finance Minister Hsu and Rogers who is reported author of plan. Accordingly utmost secrecy required handling this information, including no disclosure International Monetary Fund.

Basis of proposal is that gold held by Ministry of Finance and under personal control Generalissimo will be “loaned” Central Bank which, backed by Executive Yuan, will give assurance return of at least substantial portion in 3 to 5 months. Central Bank will use gold as reserve against new currency and sell gold on demand against new currency. Gold regulations will be revised so as to authorize buying, selling gold only through Central Bank. Gold to be bought-sold only few places in China. Plan provides valuation of currency probably at 4 units to dollar with domestic gold price equivalent dollars 35 per ounce. Ratio with dollar and other foreign currencies would be maintained through establishment single fixed exchange rate.

Currency would be issued in fixed ratio to gold reserve and note issue would be stabilized. Budget would be balanced following institution of plan; Central Bank feels there will be breathing space of at least month and half to 2 months following conversion in which balancing budget can be achieved. Well understood that only possibility of success this daring proposal is attainment balanced budget. Minister of Defense47 reported willing make very substantial reduction his budget if assured stability of prices.

Bank estimates it may be forced to sell up to dollars 20 million in gold, but at that level contraction of currency would create such tight money situation that public would be forced to sell gold and foreign exchange holdings, so that some gold would be returned. During initial period there would be almost complete restriction on credit and cost of living indices would be abolished.

Present note issue, with allowance for northeastern currency, equivalent approximately 625 trillion CNC (Taiwan will be excluded from conversion plan). No information available to us on total bank deposits for which average reserve less than 30 percent. Bank proposes immediately preceding conversion date it will drive up black market rate to at least above 20 million to 1 US and on date of conversion BM48 rate would be made official. This procedure, by reducing dollar [Page 387]value of present note issue, would greatly reduce quantity gold necessary back currency.

Sun currency has been distributed to Central Bank branches throughout China during past 10 days. However, small denomination notes (equivalent to fractional part of dollar) insufficient and coins not yet available. Therefore, large portion of present fapi would be kept in circulation to perform function subsidiary coins, possibly until end December.

Reported that plan could be put into effect within 24 hours of Generalissimo’s approval, although Central Bank would prefer at least another week to work out final details such as pricing policy for imports now coming in at reduced rate, recasting of China aid program, determination of internal remittance rate policy, interest rates, etc.

2. Three days prior inauguration plan B, US would be officially advised, probably by Koo visit to Secretary of State. Forty-eight hours prior inauguration Koo will advise Gutt of IMF,49 and 24 hours prior Koo will advise Board of Executive Directors in form of communicating an exchange rate. Date of conversion will be weekend or specially declared bank holiday. On morning conversion date Executive Yuan will be called for early morning meeting and for first time advised of plan immediately prior public announcement.

Central Bank anticipates plan B would have immediate effect in restoring confidence in currency as soon as gold sale demonstrated good faith of government. Expected reaction is sharp deflationary crisis as velocity of circulation drops and credit restrictions are felt. Possible some business failures with bank failures also possible. Bank feels institution plan will result in immediate expansion exports and almost complete diversion illegal exports to legal channels. Although tight import-export control will be continued, reduction imports below present levels not anticipated since such reduction considered inflationary. Bank believes that expanded exports plus increase in remittance through official channels will bring balance in international payments with ECA import program. Since entire plan directed toward creating confidence in stable currency and stable exchange rate certificate plan will be abandoned with Central Bank buying and selling foreign exchange directly on basis fixed rate.

Reported that aim of program will be to carry new currency for period of at least 4 to 6 months without additional foreign assistance. Strong efforts will be made within that period to secure substantial currency stabilization loan from US to be effective early next year. Objective plan B to enable China to represent to US that she has made [Page 388]courageous effort to meet her integral inflation program using all the resources remaining at her disposition, and that plan, by increasing exports and raising domestic production also attempt to meet balance of payments problem. Chinese Government may be expected to do everything possible secure sympathetic attitude on part US toward plan B following its institution.

Assuming that budget can and will be balanced (at least to extent that ECA commodity sales proceeds equal remaining deficit), greatest apparent risk in proposal appears as possibility flight of gold from China. Bank assures that every safeguard will be made to prevent exports smuggling, but takes position that so long as gold sales contract local currency circulation or provide foreign exchange there will be no serious danger. Appears clear that Central Bank and Chinese Government appreciate great risks involved plan B, but feel such action only possibility averting complete collapse.

Sent Department 1829, repeated Nanking 1452. [Casaday and Parker.]

  1. S. Y. Liu.
  2. Gen. Ho Ying-chin.
  3. Black market.
  4. Camille Gutt, Chairman of the Board of Directors of the International Monetary Fund.