The crisis ran its course in 3 days, but, needless to say, the post-mortem took longer. One of his observations about the Amsterdam traders was that they were “very clever in inventing reasons” for a sudden rise or fall in stock prices, and the Wall Street pundits certainly needed all the cleverness they could muster to explain why, in the middle of an excellent business year, the market had suddenly taken its second-worse nose dive ever up to that moment.
A margin call is a demand for additional collateral from a customer who has borrowed money from his broker to buy stocks and whose stocks are now worth barely enough to cover the loan. If a customer is unwilling or unable to meet a margin call with more collateral, his broker will sell the margined stock as soon as possible; such sales may depress other stocks further, leading to more margin calls, leading to more stock sales, and so on down into the pit. This pit had proved bottomless in 1929, when there were no federal restrictions on stock-market credit. Since then, a floor had been put in it, but the fact remains that credit requirements in May of 1962 were such that a customer could expect a call when stocks he had bought on margin had dropped to between 50-60% of their value as far as that from its 1961 high.
After more than a decade of more or less constant profits to yourself and your customers, you get to think you’re pretty good. You’re on top of it. You can make money, and that’s that. This break exposed a weakness. It subjected one to a certain loss of self-confidence, from which one was not likely to recover quickly. The whole thing was enough to make a broker wish that he were in a position to adhere to de la Vega’s cardinal rule: “Never give anyone the advice to buy or sell shares, because, where perspicacity is weakened, the most benevolent piece of advice can turn out badly.”
All that summer, and even into the following year, security analysts and other experts cranked out their explanations of what had happened, and so great were the logic, solemnity, and detail of these diagnoses that they lost only a little of their force through the fact that hardly any of the authors had had the slightest idea what was going to happen before the crisis occurred.
The Edsel, these people argued, was designed, named, advertised, and promoted with a slavish adherence to the results of public-opinion polls and their younger cousin, motivational research, and they concluded that when the public is wooed in an excessively calculated manner, it tends to turn away in favor of some gruffer but more spontaneously attentive suitor.
If Michelangelo ever added the number of decisions that went into the execution of his “David,” he kept it to himself, but Krafve, an orderly-minded man in an era of orderly-functioning computers, later calculated that in styling the E-Car he and his associates had to make up their minds on no fewer than 4K occasions.
American ingenuity — which has produced the electric light, the flying machine, the tin Lizzie, the atomic bomb, and even a tax system that permits a man, under certain circumstances, to clear a profit by making a charitable donation — has not yet found a way of getting an automobile on the market within a reasonable time after it comes off the drawing board; the making of steel dies, the alerting of retail dealers, the preparation of advertising and promotion campaigns, the gaining of executive approval for each successive move, and the various other gavotte-like routines that are considered as vital as breathing in Detroit and its environs usually consume about 2 years.
We said to ourselves, “Let’s face it — there is no great difference in basic mechanism between a $2K Chevrolet and a $6K Cadillac. Forget about all the ballyhoo and you’ll see that they are really pretty much the same thing. Nevertheless, there’s something — there’s got to be something — in the makeup of a certain number of people that gives them a yen for a Cadillac, in spite of its high price, or maybe because of it.” We concluded that cars are the means to a sort of dream fulfillment. There’s some irrational factor in people that makes them want one kind of car rather than another — something that has nothing to do with the mechanism at all but with the car’s personality, as the customers imagines it.
We should like this name to convey, through association or other conjuration, some visceral feeling of elegance, fleetness, advanced features and design.
So enthusiastic was Cone about the prescription that he accepted it with only one revision — the substitution of “middle-income” family for “younger executive,” his hunches being that there were more middle-income families around than young executives, or even people who thought they were young executives.
The mob action took the form of a concerted tendency to blame the design of the car for the whole debacle; Edsel men who had previously had nothing but lavish praise for the radiator grille and rear end now went around muttering that any fool could see they were ludicrous. The obvious sacrificial victim was Brown, whose stock had gone through the roof at the time of the regally accoladed debut of his design. Now, without having done anything further, for either better or worse, the poor fellow became the company scapegoat.
The Edsel’s advertising campaign, which had started with studied dignity, began to sound a note of stridency. “Everyone who has seen it knowns — with us — that the Edsel is a success.” “The Edsel is a success. It is a new idea — a YOU idea — on the American Road… The Edsel is a success.” “They’ll know you’ve arrived when you drive up in an Edsel.”
The same day, this mumbled admission was confirmed and amplified by a Ford Company spokesman, who did some mumbling of his own. “If we knew the reason people aren’t buying the Edsel, we’d probably have done something about it.”
The end of Edsel set off an orgy of hindsight in the press. Time declared, “The Edsel was a classic case of the wrong car for the wrong market at the wrong time. It was also a prime example of the limitation of market research, with its “depth interviews” and “motivation” mumbo-jumbo.”
Doyle, with the born salesman’s intensely personal feeling about his customers, talks like a man betrayed by a friend — the American public. “It was a buyers’ strike. People weren’t in the mood for the Edsel. Why not is a mystery to me. What they’d been buying for several years encouraged the industry to build exactly this kind of car. We gave it to them, and they wouldn’t take it. Well, they shouldn’t have acted like that.”
Still, automobile dealers, some of whom work on credit margins as slim as those of Miami hotel operators, occasionally go broke with even the most popular cars.
A good deal of the attention given to the income tax is based on the proposition that the tax is neither logical or equitable. Probably the broadest and most serious charge is that the law has close to its heart something very much like a lie; that is, it provides for taxing incomes at steeply progressive rates, and then goes on to supply an array of escape hatches so convenient that hardly anyone, no matter how rich, need pay the top rates or anything like them.
Still another school of critics contends that because of its labyrinthine quality (the basic stature, the Internal Revenue Code of 1954, runs to more than 1K pages, and the court rulings and IRS regulations that elaborate it come to 17K) the income tax not only results in such idiocies as gravel-producing actors and unborn partners but is in fact that anomaly, a law that a citizen may be unable to comply with by himself. This situation, the critics declare, leads to an undemocratic state of affairs, for only the rich can afford the expensive professional advice necessary to minimize their taxes legally.
When it comes to the income tax, we almost all want reform. As reformers, however, we are largely powerless, the chief reasons being the staggering complexity of the whole subject, which causes many people’s minds to go blank at the very mention of it, and the specific, knowledgeable, and the energetic advocacy by small groups of the particular provisions they benefit from. Like any tax law, ours had a kind of immunity to reform; the very riches that people accumulate through the use of tax-avoidance devices can be — and constantly are — applied to fighting the elimination of those devices. Such influences, combined with the fierce demands made on the Treasury by defense spending and other rising costs of government (even leaving aside hot wars like the one in Vietnam), have brought about 2 tendencies so marked that they have assumed the shape of a natural political law: In the US it is comparatively easy to raise taxes and to introduce tax-avoidance devices, and it is comparatively hard to lower tax rates and to eliminate tax-avoidance devices.
Yet gradually, despite repeated setbacks, and even extended periods of total oblivion, the British income tax began to flourish. This may have been, as much as anything else, a matter of simple habituation, for a common thread runs through the history of income taxes everywhere: Opposition is always at its most reckless and strident at the very outset; with every year that passes, the tax tends to become stronger and the voices of its enemies more muted.
Before 1900, very few new income taxes appear to have been enacted anywhere without the stimulus of a war. National income taxes were — and until quite recently largely remained — war and defense measures.
An income tax! A tax so odious that no administration ever dared to impose it except in time of war. It is unutterably distasteful both in its moral and material aspects. It does not belong to a free country. It is class legislation. Do you desire to offer a reward to dishonesty and to encourage perjury? The imposition of the tax will corrupt the people. It will bring in its train the spy and the informer. It will necessitate a swarm of officials with inquisitorial powers. Mr. Chairman, pass this bill and the Democratic Party signs its death warrant.
In 1950, another important escape route, the so-called “restricted stock option,” opened up, enabling some corporate executives to be taxed on part of their compensation at low capital-gains rates. The significant change, invisible in the rate schedule, has been a continuation of the one begun in wartime; namely, the increase in the proportionate tax burden carried by the middle and lower income groups. Paradoxical as it may seem, the evolution of our income tax has been from a low-rate tax relying for revenue on the high income group to a high-rate tax relying on the middle and lower-middle income groups.
In most countries, it’s impossible to engage in a serious discussion of income taxes, because they aren’t taken seriously. They are taken seriously here, and part of the reason is the power and skill of our income-tax police force, the IRS.
Unquestionably, the “swarm of officials” feared by the Pennsylvania congressman in 1894 has come into being — and there are those who would add that the officials have the “inquisitorial powers” he also feared. As of 1965, the IRS had approximately 60K employees, possessing the right to inquire into every penny of everyone’s income and into matters like exactly what was discussed at an expense-account meal, and armed with threat of heavy punishments, have powers that might reasonably be called inquisitorial.
Remember that we had a Republican administration then, and I’m a Democrat. When you are drafting a stature, you operate as a technician. Any pride you may feel afterward is pride in technical competence.
He is more pessimistic than Caplin about finding the answer in simplification. “Perhaps we can move the rates down and get rid of some deductions, but then we may find we need new deductions, in the interests of fairness. I suspect that a complex society requires a complex tax law. If we put in a simpler code, it would probably be complex again in a few years.”
If the single most important law now on the statute books of the US is the income-tax law, it would follow that we must have the income-tax law we deserve. Much of the voluminous discussion of the income-tax law in recent years has centered on plain violation of it, among them the deliberate padding of tax-deductible business-expense accounts, the matter of taxable income that is left undeclared on tax returns, fraudulently or otherwise — a sum estimated at as high as $25B a year — and the matter of corruption within the ranks of the IRS, which some authorities believe to be fairly common, at least in large cities. Such forms of outlawry, of course, reflect timeless and worldwide human frailties. The law itself, however, has certain characteristics that are more closely related to a particular time and place and national characteristics.
The Code, a document longer than “War and Peace,” is phrased — inevitably, perhaps — in the sort of jargon that stuns the mind and disheartens the spirit; a fairly typical sentence, dealing with the definition of the word “employment,” starts near the bottom of page 564, includes more than 1K words, 19 semicolons, 42 simple parentheses, 3 parentheses within parentheses, and even 1 unaccountable interstitial period, and comes to a gasping end, with a definitive period, near the top of page 567.
Throughout its life, the rate of 91% was a public tranquilizer, making everyone in the lower bracket feel fortunate not to be rich, and not hurting the rich very much. And then, to top off the joke, if that is what it is, there are people with more income than anyone else who pay less tax than anyone else — that is, those with annual incomes of $1M or more who manage to find perfectly legal ways of paying no income tax at all.
By far the simplest method of avoiding income taxes — at least for someone who has a large amount of capital at his disposal — is to invest in the bonds of states, municipalities, port authorities, and toll roads; the interest paid on all such bonds is unequivocally tax-exempt. Since the interest on high-grade tax-exempt bonds in recent years has run from 3-5%, a man who invested $10M in them can collect $300K-$500K a year tax-free without putting himself or his tax lawyer to the slightest trouble; if he had been foolish enough to sink the money in ordinary investments yielding, say, 5%, he would have a taxable income of $500K, and if he did not avail himself of any dodges, he would have to pay taxes of almost $367K.
If the capital-gains provision resembles the exemption on certain bonds in that the advantages it affords are of benefit chiefly to the rich, it differs in other ways. It is by far the more accommodating of the 2 loopholes; indeed, it is a sort of mother loophole capable of spawning other loopholes. For example, one might think that a taxpayer would need to have capital before he could have a capital gain. Yet a way was discovered for him to get the gain before he has the capital. This is the stock-option provision.
By favoring capital gains over ordinary income, the Code seems to be putting forward 2 very dubious notions — that one form of unearned income is more deserving than any form of earned income, and that people with money to invest are more deserving than people without it. From a sociological viewpoint, there is a good deal to be said for more severe taxation of profit from appreciation in the value of property than from personal-service income. The defense, then, is based on other grounds. For one, there is a respectable economic theory that support a complete exemption of capital gains from income tax, the argument being that whereas wages and dividends or interests from investments are fruits of the capital tree, and are therefore taxable income, capital gains represent the growth of the tree itself, and are therefore not income at all. Another argument — this one purely pragmatic — has it that the capital-gains provision is necessary to encourage people to take risks with their capital. (Similarly, the advocates of stock options say that corporations need them to attract and hold executive talent.) Finally, nearly all tax authorities are agreed that taxing capital gains on exactly the same basis as other income would involve formidable technical difficulties.
Unsurprisingly, the percentage-depletion allowance is always under attack, but, also unsurprisingly, it is defended with tigerish zeal. The usual argument is that the percentage-depletion allowance is needed in order to compensate oilmen for the risks involved in speculative drilling, and thus insure an adequate supply of oil for national use, but many people feel that this argument amounts to saying, “The depletion allowance is a necessary and desirable federal subsidy to the oil industry,” and thereby scuttles itself, since granting subsidies to individual industries is hardly the proper task of the income tax.
A collector who donates a work of art to a museum may deduct on his income-tax return the fair value of the work at the time of the donation, and need to pay no capital-gains tax on any increase in its value since the time he bought it. If the increase in value has been great and the collector’s tax bracket is very high, he may actually come out ahead on the deal.
One of the most marked traits of the Code is its complexity, and this complexity is responsible for some of its most far-reaching social effects; it is a virtual necessity for many taxpayers to seek professional help if they want to minimize their taxes legally, and since first-rate advice is expensive and in short supply, the rich are thereby given still another advantage over the poor.
One obstacle to any victory more sweeping is the fact that many of the Code’s complexities were introduced in no interest other than that of fairness to all, and apparently cannot be removed without sacrificing fairness.
There are several forces that work against the enactment of tax-reform measures, among them the skill, power, and organization of the anti-reform lobbies; the diffuseness and political impotence of the pro-reform forces within the government; and the indifference of the general public, which expresses practically no enthusiasm for tax reform through letters to congressmen or by any other means, perhaps in large part because it is stunned into incomprehension and consequent silence by the mind-boggling technicality of the whole subject.
Private information, whether of distant public events, impending business developments, or even the health of political figures, has always been a valuable commodity to traders in securities — so valuable that some commentators have suggested that stock exchanges are markets for such information just as much as for stocks. The money value that a market puts on information is often precisely measurable in terms of the change in stock prices that it brings about, and the information is almost as readily convertible into money as any other commodity; indeed, to the extent that it is used for barter between traders, it is a kind of money. Moreover, until quite recently, the propriety of the use of inside dope for their own enrichment by those fortunate enough to possess it went largely unquestioned. Nathan Rothschild’s judicious use of advance news of Wellington’s victory at Waterloo was the chief basis of the Rothschild fortune in England, and no Royal commission or enraged public rose to protest.
In the post-Civil War era in the US the members of the investing public, such as it was, still docilely accepted the right of the insider to trade on his privileged knowledge, and were content to pick up any crumbs that he might drop along the way.
It paraded before the judge a platoon of mining experts who testified as to the notorious fickleness of first drill holes, some of the witnesses going so far as to say that the hole might very well have turned out to be not an asset but a liability to Texas Gulf.
The defense asserted that the release “accurately stated the status of the drilling in the opinion of Stephen, Fogarty, Mollison, Holyk, and Clayton,” that “the problem presented was obviously one of judgment,” and that the company had been in a particularly difficult and sensitive position in that if it had, instead, issued an overly optimistic report that had later proved to have based on false hopes, it could just as well have then been accused of fraud for that.
In sum, the lawyers for the 2 sides could agree on neither whether the rules had been violated nor what the rules actually were; indeed, it was one of the defense contentions that the SEC was asking the court to write new rules and then apply them retroactively, while the plaintiff insisted that he was merely asking that an old rule be applied broadly.
The steps, each of them in itself familiar enough in connection with other technologies, were utterly new in combination — so new, in fact, that the kings and captains of commerce were markedly slow to recognize the potentialities of the process.
Meanwhile, small teams of scientists at Battelle and Haloid, struggling to develop the process, were encountering baffling and unexpected technical problems one after another; at one point, indeed, the Haloid people became so discouraged that they considered selling most of their xerography rights to IBM. But the deal was finally called off, and as the research went on and the bills for it mounted, Haloid’s commitment to the process gradually became a do-or-die affair.
“The corporation cannot refuse to take a stand on public issues of major concern” — piece of business heresy if there ever was one, since taking a stand on public issue is the obvious way of alienating customers and potential customers who take the opposite stand.
Many of them asserted that the UN was an instrument for depriving Americans of the Constitutional rights, that its charter had been written in part by American Communists, and that it was constantly being used to further Communist objectives.
I find that companies are inclined to be at their most interesting when they are undergoing a little misfortune, and therefore I chose the fall of 1966 as the time to have a look at Xerox and its people.
The members of our team were all gambling on the project. I even mortgaged my house — all I had left was my life insurance. My neck was way out. My feeling was that if it didn’t work Wilson and I would be business failures but as far as I was concerned I’d also be a technical failure. Nobody would ever give me a job again. I’d have to give up science and sell insurance or something.
Xerography had practically no foundation in previous scientific work. Chet put together a rather odd lot of phenomena, each of which was obscure in itself and none of which had previously been related in anyone’s thinking. The result was the biggest thing in imaging since the coming of photography itself. I’m amazed by his discovery now as I was when I first heard of it. As an invention, it was magnificent. The only trouble was that as a product it wasn’t any good.
Once its effectiveness was discovered, we were around the corner, although we didn’t know it at the time.
On the other hand, some people around here resent Xerox. Most of the local industries go back to the 19th century, and their people aren’t always noted for receptiveness to newcomers. When Xerox was going through its meteoric rise, some thought the bubble would burst — no, they hoped it would burst. On top of that, there’s been a certain amount of feeling against the way Wilson and Linowitz are always talking about human values while making money hand over fist. But, you know — the price of success.
And I asked him whether, on a gloomy day like this, he was ever assailed by doubts that the old quality could be preserved. He nodded briefly and said, “It’s an everlasting battle, which we may or may not win.”
The government further alleged that, in an effort to preserve the secrecy of these meetings, the executives had resorted to such devices as referring to their companies by code numbers in their correspondence, making telephone calls from public booths or from their homes rather than from their offices, and doctoring the expense accounts covering their get-togethers to conceal the fact that they had all been in a certain city on a certain day.
After years of cloaking the company in the mantle of a wise and benevolent corporate institution, the PR people at GE headquarters were faced with the ugly choice of representing its role in the price-fixing affair as that of either a fool or a knave. They tended strongly toward “fool.”
Campbell reports that a large Japanese electrical concern has drawn up a list of 7 company commandments (for example, “Be courteous and sincere!”), and that each morning, in each of its 30 factories, the workers are required to stand at attention and recite these in unison, and then to sing the company song. (“For ever-increasing production / Love your work, give your all!”)
But now fate played a cruel trick on Ginn, and, all unknowing, he landed in the very position that Paxton and Cordiner had been for years — that of a philosopher vainly endeavoring to sell the Lord to a flock that declined to buy his message and was, in fact, systematically engaging in the hanky-panky its leader had warned it against.
It appears that Ginn had not been able to impart much of his shining new philosophy to others, and that at the root of his difficulty lay that old jinx, the problem of communicating.
In earnestly striving to analyze the cause of the failure, Ginn said, he had reached the conclusion that merely issuing directives, no matter how frequently, was not enough; what was needed was “a complete philosophy, a complete understanding, a complete breakdown of barriers between people, if we are going to get some understanding and really live and manage these companies within the philosophies that they should be managed in.”
Actually, the breakdown is between the person and himself. If you’re not able to communicate successfully between yourself and yourself, how are you supposed to make it with the strangers outside?
Though the supply floats, it is scrupulously kept track of; the short seller, borrowing, say, a thousand shares from his broker, knows that he has incurred an immutable debt. What he hopes — the hope that keeps him alive — is that the market price of the stock will go down, enabling him to buy the thousand shares he owes at a bargain rate, pay off his debt, and pocket the difference. What he risks is that the lender, for one reason or another, may demand that he deliver up his thousand borrowed shares at a moment when the market prices is at a high. Then the grinding truth of the old Wall Street jingle is borne in upon him: “He who sells what isn’t his must buy it back or go to prison.” And in the days when corners were possible, the short seller’s sleep was further disturbed by the fact that he was operating behind blank walls; dealing only with agents, he never knew either the identity of the purchaser of his stock (a prospective cornerer?) or the identity of the owner of the stock he had borrowed (the same prospective cornerer, attacking from the rear?).
After all, his paper profits at that moment ran to several million dollars. The hitch, of course, was that he could not realize them, but he seems to have been slow to grasp that fact or to understand the extent to which his position had been undermined. The indications are that he went to bed convinced that, besides having personally brought about a first-class mess on the hated Stock Exchange, he had made himself a bundle and had demonstrated how a poor Souther boy could teach the city slickers a lesson. It all must have added up to a heady sensation. But, like most such sensations, it didn’t last long.
It soon became evident, though, that public sympathy was one thing and public willingness to translate sympathy into cash was quite another.
For the second time, Saunders’ glory was fleeting. The very first wave of the depression hit Sole Owner Stores such a crushing blow that in 1930 they went bankrupt, and he was broke again. But again he pulled himself together and survived the debacle. Finding backers, he planned a new chain of grocery stores. He never made another killing, however, or bought another million-dollar estate, though it was always clear that he expected to.
Lilienthal argued that not only the productive and distributive superiority of the US but also its national security depends on industrial bigness; that we now have adequate public safeguards against abuses of big business, or know well enough how to fashion them as required; that big business does not tend to destroy small business, as is often supposed, but rather, tends to promote it; and, finally, that a big-business society does not suppress individualism, as most intellectual believe, but actually tends to encourage it by reducing poverty, disease, and physical insecurity and increasing the opportunities for leisure and travel.
One of the tenets of democracy that grow out of this central core of a belief that the individual comes first, that all men are the children of God and their personalities are therefore sacred. It is a deep belief in civil liberties and their protection; and a repugnance to anyone who would steal from a human being that which is most precious to him, his good name, by imputing things to him, by innuendo, or by insinuation.
I’d come home at night with some frightful experience in me. No one who so much as touches the atom is quite the same again. Perhaps I’d have been in a series of conferences and listened to the kind of talk that many military and scientific men to in for — cities full of human beings referred to as “targets,” and that sort of thing. I never got use to that impersonal jargon. I’d come home sick at heart. But I couldn’t talk about it to Helen. I wasn’t allowed to get it off my chest.
I wanted an entrepreneurial experience. I found a great appeal in the idea of taking a small and quite crippled company and trying to make something of it. Building. That kind of building, I thought, is the central thing in American free enterprise, and something I’d missed in all my government work. I wanted to try my hand at it. Now, about how it felt. Well, it felt pretty exciting. It was full of intellectual stimulation, and a lot of my old ideas changed. I conceived a great new respect for financiers. There’s a correctness about them, a certain sense of honor, that I’d never had any conception of. I found that business life is full of creative, original minds — along with the number of second-guessers, of course. Furthermore, I found it seductive. In fact, I was in danger of becoming a slave. Business has its man-eating side, and part of the man-eating side is that it’s so absorbing. I found that the things you read — for instance, that acquiring money for its own sake can become an addiction if you’re not careful — are literally true.
Starting in business is like learning to walk after a long illness. At first you have to think: move the right foot, move the left foot, etc. Then you are walking without thinking, and then walking is something one does with unconsciousness and utter confidence. This latter state, as to business, has yet to come, but I had the first touch of it today.
Living in NY is a great experience. I wouldn’t live anywhere else. It is the most exciting, stimulating, satisfying spot in the world. There was a grandeur about the place, and adventure, and a sense of being in the center of a great achievement.
But along with that I want to be free enough to think about what these things mean, free enough to read outside the immediate field of interest. This requires keeping out of status (the absence of which I know makes me vaguely unhappy).
What is it that investment bankers do for their money? Well, I have certainly had my eyes opened, as to the amount of toil, sweat, frustrations, problems — yes, and tears — that has to be gone through. If everyone who has something to sell in the market had to be as meticulous and detailed in his statements about what he is selling as those who offer stock in the market are now, under the Truth in Security law, darn little would be sold, in time to be useful, at least.
I have found a new kind of satisfaction, and in a sense, fulfillment, in a business career. I really never felt that the “consultant” thing was being a businessman, or engaging in the realities of a life of business. Too remote from the actual thinking process, the exercise of judgment and decision. In this company, as we are evolving it, there are so many of the elements of fun. The starting with almost nothing… the company depending on patents alone… acquisition, mergers, stock issues, proxy statements, the methods of financing internally and by bank loans… also the way stock prices are made, the silly and almost childlike basis upon which grown men decide that a stock should be bought, and at what price. The beginning of better costs. The catalyst idea. The drive and energy and imagination: the nights and days (in the lab until 2am night after night) and finally the beginning of a new business.
In Washington, it had been development of natural resources, atomic energy, or the like — world-shaking things. Now it turns out to be some little business to make money. It all seems a bit petty.
Then there’s the matter of money itself. In the government, our hypothetical man didn’t need it so badly. He had all these services and the basic comforts supplied him at no personal cost, and besides he had a great sense of moral superiority. He was able to sneer at people who were out making money. He could think of somebody in his law-school class who was making a pile in the Street, and say, “He’s sold out.” Then our man leaves government and goes to the Wall Street fleshpots himself, and he says, “Boy, am I going to make these guys pay for my services!” They do pay, too. He get big fees for consulting. Then he finds out about big income taxes, how he has to pay most of his income to the government now instead of getting his livelihood from it. The shoe is on the other foot. He may begin to scream “Confiscation!” just like any old Wall Streeter.
Lilienthal nodded in deference to that. Then he said that he thought the undertone of dissatisfaction I had noticed in the journal probably stemmed, at least in part, from the fact that his career in private business, absorbing though it was, did not bring with it the gratifications of public-service work.
One other touchy matter that Lilienthal may have questioned himself about in the process of making his Wall Street fortune was the fact that in making it he had not really needed to scream “Confiscation,” since he had made it through a tax loophole, the stock option. Possibly there have been liberal, reformist businessmen who have refused to accept stock options on principle, although I have never heard of one doing so, and I am not convinced that such a renunciation would be a sensible or useful form of protest.
Lilienthal — 68 now, and as combative as ever — put it, The gloomy economists have to be gloomy about some other underdeveloped country.” D&R had just signed a new 5-year contract with Iran to carry on the work.
The American economy has become so big that it is beyond the imagination to comprehend. But now on top of size you are getting rapid growth as well. It is a situation of fundamental power unequalled in the history of the world.
Even though the courts have repeatedly ruled that a director does not have to follow stockholder instructions, any more than a congressman has to follow the instructions of his constituents, stockholders nevertheless do elect directors, on the logical, if not exactly democratic, basis of one share, one vote. The stockholders are deprived of their real power by a number of factors, among which are their indifference to it in times of rising profits and dividends, their ignorance of corporate affairs, and their sheer numbers. One way or another, they vote the management slate, and the results of most director elections have a certain Russian ring — 90% or more of the votes cast in favor.
It was only then that I understood the nature of the advantage that the company had gained by moving its meeting away from NY: it had not succeeded in shaking off the gadflies, but it had succeeded in putting them in a climate where they were subjected to the rigors of that great American emotion, regional pride.
If there had been no professional stockholders at them I would probably have learned almost as much as I did about the companies’s affairs but that I would have learned a good deal less about their chief executives’ personalities. It had, after all, been the questions, interruptions, and speeches of the professional stockholders that brought the companies to life, in a sense, by forcing each chairman to shed his official portrait mask and engage in a human relationship.
The need for the protection of trade secrets was fully recognized in the Middle Ages, when they were so jealously guarded by the craft guilds that the guilds’ employees were rigorously prevented from changing jobs.
However, I will say this. If I were to get a better offer from some other company now, I’m sure I would evaluate the question very carefully — which is what I didn’t do the last time.
The Federal Reserve Bank of NY is set apart from other banks of Wall Street in purpose and function as well as in appearance. As by far the largest and most important of the 12 regional Federal Reserve Banks — which, together with the Federal Reserve Board in Washington and the 6.2K commercial banks that are members, make of the Federal Reserve System — it is the chief operating arm of the US’s central-banking institution. Most other countries have only 1 central bank – the Bank of England, the Bank of France, and so on — rather than a network of such banks, but the central banks of all countries have the same dual purpose: to keep the national currency in a healthy state by regulating its supply, partly through the degree of ease or difficulty with which it may be borrowed, and, when necessary, to defend its value in relation to that of other national currencies. To accomplish the first objective, the NY bank cooperates with its parent board and its 11 brother banks in periodically adjusting a number of monetary throttles, of which the most visible (although not necessarily the most important) is the rate of interest at which it lends money to other bank.
Charged as it is with acting in the national interest — in fact having no other purpose — the Federal Reserve Bank of NY, together with its brother banks, obviously is an arm of government. Yet it has a foot in the free-enterprise camp; in what some might call characteristic American fashion, it stands squarely astride the chalk line between government and business. Although it functions as a government agency, its stock is privately owned by the member banks throughout the country, to which it pays annual dividends limited by law to 6% per year. Although its top officers take a federal oath, they are not appointed by the POTUS, or even by the Federal Reserve Board, but are elected by the bank’s own board of directors, and their salaries are not paid out of the federal till but out of the bank’s own income. Yet that income — though, happily, always forthcoming — is entirely incident to the bank’s purpose, and if it rises above expenses and dividends the excess is automatically paid into the US Treasury. A bank that considers profits incidental is scarcely the norm in Wall Street, and this attitude puts Federal Reserve Bank men in a uniquely advantageous social position. Because their bank is a bank, after all, and a privately owned, profitable one at that, they can’t be dismissed as mere government bureaucrats; conversely, having their gaze fixed steadily above the mire of cupidity entitles them to be called the intellectuals, if not actually the aristocrats, of Wall Street banking.
The market price of the pound fluctuates in response to supply and demand, and so do the prices of all other currencies — all, that is, except the dollar, the sun in the planetary system of currencies, inasmuch as the US has, since 1934, stood pledged to exchange gold in any quantity for dollars at the pleasure of any nation at the fixed price of $35 per ounce.
Currency speculators, whose noses have been trained to sniff out weakness, pounce on a falling pound and make enormous short sales, in the expectation of turning a profit on a further drop, and the BoE must absorb the speculative sales along with the straightforward ones.
The ultimate consequence of unchecked currency weakness is something that may be incomparable more disastrous in its effects than family bankruptcy. This is devaluation, and devaluation of a key world currency like the pound is the recurrent nightmare of all central bankers. If at any time the drain on Britain’s reserves became so great that the BoE was unable, or unwilling, to fulfill its obligation to maintain the pound at $2.78, the necessary result would be devaluation. The heart of the danger was the possibility that what followed might be chaos not confined to Britain. Devaluation, as the most heroic and most dangerous or remedies for a sick currency, is rightly feared. By making the devaluing country’s goods cheaper to others, it boosts exports, and thus reduces or eliminates a deficit in international accounts, but at the same time it makes both imports and domestic goods more expensive at home, and thus reduces the country’s standard of living. It is radical surgery, curing a disease at the expense of the patient’s strength and well-being — and, in many cases, some of his pride and prestige as well. Worst of all, if the devalued currency is one that, like the pound, is widely used in international dealings, the disease — or more precisely, the cure — is likely to prove contagious. To nations holding large amounts of that particular currency in their reserve vaults, the effects of the devaluation is the same as if the vaults had been burgalized. Such nations and others, finding themselves at an unacceptable trading disadvantage as a result of the devaluation, may have to resort to competitive devaluation of their own currencies. A downward spiral develops: Rumor of further devaluations are constantly in the wind; the loss of confidence in other people’s money leads to a disinclination to do business across national borders; and international trade, upon which depend the food and shelter of hundreds of millions of people around the world, tends to decline. Just such a disaster followed the classic devaluation of all time, the departure of the pound from the old gold standard in 1931 — an event that is still generally considered a major cause of the worldwide Depression of the 30s.
For any country, a favorable balance of payments means an accumulation of dollars, either directly or indirectly, which are freely convertible into gold, in the country’s central bank; if the demand for its currency is great enough, the country may revalue it upward — the reverse of a devaluation — as both Germany and the Netherlands did in 1961. Conversely, an unfavorable balance of payments starts the sequence of events that may end in forced devaluation. The degree of disruption of world trade that devaluation of a currency causes depends on that currency’s international importance. And — to round out this brief outline of the rules of an intricate game of which everybody everywhere is an inadvertent player — even the lordly dollar is far from immune to the effects of an unfavorable balance of payments or of speculation. Because of the dollar’s pledged relation to gold, it serves as the standard for all other currencies, so its price does, not fluctuate in the markets. However, it can suffer weakness of a less visible but equally omious sort. When the US sends out substantially more money (whether payment for imports, foreign aid, investments, loans, tourist expenses, or military costs) than it takes in, the recipients freely buy their own currencies with the newly acquired dollars, thereby raising the dollar prices of their own currencies; the rise in price enables their central banks to take in still more dollars, which they can sell back to the US for gold. Thus, when the dollar is weak the US loses gold. France alone — a country with a strong currency and no particular official love of the dollar — required $30M or more in US gold regularly every month for several years prior to the autumn of 1966, and between 1958, when the US began running a serious deficit in its international accounts, and the middle of March 1968, our gold reserve was halved. If the reserve ever dropped to an unacceptably low level, the US would be forced to break its word and lower the gold value of the dollar, or even to stop selling gold entirely. Either action would in effect be a devaluation — the one devaluation, because of the dollar’s preeminent position, that would be more disruptive to the world monetary order than a devaluation of the pound.
The one thing that international financial markets hate and fear above all is uncertainty. Any election represents uncertainty, so the pound always has the jitters just before Britons go to the polls, but to the people who deal in currencies this election looked particularly menacing, because of their estimate of the character of the Labour Government that might come into power.
The BoE had for several years a standing agreement with the Federal Reserve that either institution could borrow $500M from the other, over a short term, at any time, with virtually no formalities.
There are degrees of speculation; the word itself, like “selfishness” or “greed,” denotes a judgment, and yet every exchange of currencies might be called a speculation in favor of the currency being acquired and against the one being disposed of.
Its monthly board meeting served (and still serve) as a chance for the central bankers to talk in an informal atmosphere — to exchange gossip, views, and hunches such as could not comfortably be indulged in either by mail or over the international telephone circuits. Basel, a medieval Rhenish city that is dominated by the spires of its 12th-century Gothic cathedral and has long been a thriving center of the chemical industry, was originally chosen as the site of the Bank for International Settlements because it was a nodal point for European railways.
And language, like the manner of its use, has tended to follow economic power. European central bankers have always used French (“bad French,” some say) in talking with each other, but during the long period in which the pound was the world’s leading currency English came to be the first language of central banking at large, and under the rule of the dollar it continues to be. It is spoken fluently and willingly by all the top officers of every central bank except the Bank of France, and even the Bank of Frances officers are forced to keep translators at hand, in consideration of the seeming intractable inability or unwillingness of most Britons and Americans to become competent in any language but their own.
The term “pound sterling” is believed to have originated well before the Norman Conquest, when the Saxon kings issued silver pennies — called “sterlings” or “starlings” because they sometimes had stars inscribed on them.
As time went on, the monetary prestige of gold rose steadily in relation to that of silver (in modern world silver has no standing as a monetary reserve metal), but it was not until 1816 that Britain adopted a gold standard — that is, pledged itself to redeem paper currency with gold coins or bars at any time. The gold sovereign, worth one pound, which came to symbolize stability, affluence, and even joy to more Victorians than Bagehot, made its first appearance in 1817.
Prosperity begat emulation. Seeing how Britain flourished, and believing the gold standard to be at least partly responsible, other nations adopted it one after another. The results were disappointing, hardly any of the newcomers found themselves immediately getting rich, and Britain, which in retrospect appears to have flourished as much in spite of the gold standard as because of it, continued to be the undisputed monarch of world trade.
In 1933, the US, compelled by the worst depression in history, abandoned the gold standard. A year later, it resumed it in a modified form called the gold-exchange standard, under which gold coinage was ended and the Fed was pledged to sell gold in bar form to other central banks but to no one else — and to sell it at a drastic devaluation of 41% from the old price.
In the postwar era, the pound has been almost continuously in trouble. The new rules of the game of international finance that were agreed upon at Bretton Woods recognized that the old gold standard had been far too rigid and the virtual paper standard of the 1930s far too unstable; a compromise accordingly emerged, under which the dollar — the new king of currencies — remained tied to gold under the gold-exchange standard, and the pound, along with the other leading currencies, became tied not to gold but to the dollar, at rates fixed within stated limits.
The pound, like most European currencies, had emerged from Bretton Woods flagrantly overvalued in relation to the shattered economy it represented, and had been kept that way only by government-imposed controls.
In its unsentimental and tactless way, the pound — just as by its gyrations in the past it had accurately charted Britain’s rise and fall as the greatest of world powers — now, with its nagging recurrent weakness, seemed to be hinting that even such retrenchment as the British had undertaken in 1949 was not enough to suit their reduced circumstances.
And in November 1964, these hints, with their humiliating implications, were not lost on the British people.
As he prepared to do so, Mrs. Hayes commented that since he would have to get up in the middle of the night, she supposed she ought to feel sorry for him but since he was obviously looking forward with keen anticipation to whatever it was that would get him up at that hour, she envied him instead.
And, indeed, Hayes readily fits the picture of a perfectly planned and perfectly tooled piece of machinery to perform a certain complex task, but there are other sides to him, and his character contains as many paradoxes as the next man’s. Although hardly anyone in banking ever tries to describe Hayes without using the words “scholarly” and “intellectual,” Hayes tends to think of himself as an indifferent scholar and intellectual but an effective man of action. Although in some ways he is the complete banker, he has a distinctly unbankerlike philosophical curiosity about almost everything else. And although casual acquaintances sometimes pronounce him dull, his close friends speak of a rare capacity for enjoyment and an inner serenity that seem to make him immune to the tensions and distractions that fragment the lives of so many of his contemporaries.
On Saturday night, bearing in mind that scarcely anything but a major war upsets world financial arrangements more than devaluation of a major currency, I went down to the capital of world finance, Wall Street, to look around. A nasty wind was whipping papers through empty streets, and there was the usual rather intimidating off-hours stillness in that part-time city. There was something unusual, though: the presence of rows of lighted windows in the otherwise dark buildings — for the most part, one lighted row per building. Some of the rows I could identify as the foreign departments of the big banks.
The scene seemed to me to epitomize one of the 2 faces of central banking — the cold and hostile face, suggesting men in arrogant secrecy making decisions that affect all the rest of us but that we can neither influence nor even comprehend, rather than the more congenial face of elegant and learned men of affairs beneficently saving faltering currencies over their truffles and wine at Basel.
By no means all of it had been wanton speculation by those famous — although invisible and perhaps nonexistent — gnomes of Zurich. On the contrary, much of it had been a form of self-protection, called hedging, by large international corporations, many of them American, that made short sales of sterling equivalent to what they were due to be paid in sterling weeks or months later.
Other American companies let it be known that they had come out all right, but declined to elaborate, on the ground that if they revealed the methods they had used they might be accused of taking advantage of Britain in its extremity. “Let’s just say we were smart” was the way a spokesman for one company put it. And perhaps that, if lacking in grace and elegance, was fair enough. In the jungle of international business, hedging on a weak foreign currency is considered a wholly legitimate use of claws for self-defense.
In a larger sense, it was an expression of an age-old tendency to distrust all paper currencies in times of crisis, but more specifically it was the long-feared sequel to sterling devaluation, and — perhaps most specifically of all — it was a vote of no confidence in the determination of the US to keep its economic affairs in order, with particular reference to a level of civilian consumption beyond the dreams of avarice at a time when ever-increasing billions were being sent abroad to support a war with no end in sight. The money in which the world was supposed to be putting its trust looked to the gold speculators like that of the most reckless and improvident spendthrift.
And, finally, the President calling for a program of national austerity to defend the dollar, yet at the same time carrying on at ever-increasing expense the Vietnam war, which had become as menacing to the health of America’s money as, in the view of many, it was to that of America’s soul. Ultimately, it appeared the nation had just 3 possible economic courses: to somehow end the Vietnam war, root of the payments problem and therefore heart of the matter; to adopt a full wartime economy, with sky-high taxes, wage and price controls, and perhaps rationing; or to face forced devaluation of the dollar and perhaps a depression-breeding world monetary mess.
The success of the plan in achieving its end — averting dollar devaluation, overcoming the world shortage of monetary gold, and thus postponing indefinitely the threatened mess — will depend on whether or not men and nations can somehow at last, in a triumph of reason, achieve what they have failed to achieve in almost 4 centuries of paper money: that is, to overcome one of the oldest and least rational of human traits, the lust for the look and feel of gold itself, and come to give truly equal value to a pledge written on a piece of paper. The answer to that question will come in the last act, and the outcome for a happy ending is not bright.
Remember that, after all, our effort and the effort of the other central-banks wasn’t to hold up sterling for its own sake. It was to hold it up for the sake of preserving the system. And the system has survived.