Kwasi Kwarteng makes a persuasive case for his view that some of the world's key monetary innovations have emerged from the need to meet the requirements of war finance. Currency arrangements, such as the gold standard, which tied the value of a currency to a fixed amount of gold, and the Bretton Woods Agreement of 1944 "have been brokered in the aftermath, or have collapsed under the pressure, of war", he writes. It was under pressure to finance the Nine Years' War (1688-1697) that William III's government established the Bank of England in 1694. Similarly, the pressures of the late 18th century revolutionary wars forced both the Americans and the French to issue paper money in unprecedented amounts. And the gold standard, a symbol of stability, was developed after the relative chaos generated by these paper currencies.
In the United States, it was the American Civil War (1861-65) that led the Union to issue the greenback in 1862, which was made the national currency in both the northern states as well as in the southern by Acts of Congress. The Civil War also provided one of the first instances in history in which war bonds were marketed to a wider public (during the European wars of the 18th century, bondholders had been part of a moneyed elite), enabling the federal government to raise unprecedented levels of debt and eventually defeat the southern states. In contrast, the century of peace between Napoleon's defeat in 1815 and the outbreak of World War I in 1914 actually saw a decline in Britain's nominal national debt.
It was the need to spend - and print - colossal amounts of money during World War I that overturned the certainties of the 19th century gold standard. But to the surprise of many, the Bretton Woods Agreement of 1944 still put gold at the centre of the system - perhaps as a backlash against the devastation caused by the World War and depression. But the arrangement lasted less than three decades, and in August 1971, following president Richard Nixon's suspension of the dollar's convertibility into gold, currencies were allowed to float freely against one another without any reference to gold. What followed was again a period of relative chaos. Mr Kwarteng quotes several writers who suggest that the abandonment of dollar convertibility into gold in 1971 marked the beginning of a process that resulted in the "almost limitless" expansion of credit on the basis of paper money, culminating in the credit crisis of 2007-2008.
In two absorbing chapters on the financial crisis of 2007-2008, Mr Kwarteng writes that although Alan Greenspan has been criticised for his "light-touch" regulatory approach and the negative real interest rate regime (following the dot-com bubble and bust, the United States Federal Reserve chairman cut interest rates an unprecedented nine times in 2001), America's spiralling national debt - caused by president George W Bush's "big government" spending commitments coupled with simultaneous tax cuts - also played a key role in triggering the credit bubble. But it is clear from the narrative that Mr Greenspan's negative real interest rate regime fuelled an unprecedented credit boom in credit cards, mortgages and vehicle finance, and that a sharp reversal in property and financial asset prices, on the lines of what happened in Japan in 1990, would cause corporate as well as personal bankruptcies - as two books quoted by Mr Kwarteng had warned, one by an economist in 1999, the other by a banking analyst in 2003.
Mr Kwarteng, the London-born son of immigrants from Ghana and a Conservative Party member of British Parliament to boot, is a historian by training, not an economist. The impeccably researched and skillfully written War and Gold - a work of history, not economics - is his second book after the critically acclaimed The Ghosts of Empire. The narrative is peppered with quotes from scores of writers whose works have been reviewed by the author, who also acquaints the reader with a vast cast of characters, many of whom played key roles in the making of monetary policy in one country or another.
Mr Kwarteng claims that he is not advocating a return to the gold standard of the pre-1914 era, but nevertheless appears to look back with nostalgia to the financial stability of the 19th century. He speculates that just as Britain set the terms of the gold standard, and America the terms of Bretton Woods, it is perhaps China - the world's biggest creditor country - that may set the terms of the next financial system. "China clearly has enough reserves unilaterally to peg its currency to gold", he writes, but concedes that this would make the yuan the strongest currency in the world and totally undermine China's export-growth model of economic development. China "may have no wish to play such a hegemonistic role", he concedes, seemingly reluctantly.
But the obsession with gold never really went away, for, as Mr Kwarteng concludes, although nations may have turned their backs on the gold standard, "movements in the price of gold may well suggest that investors, in their lack of faith in paper money, have informally adopted one".
WAR AND GOLD
A Five-Hundred-Year History of Empires, Adventures and Debt
Kwasi Kwarteng
Bloomsbury;
424 pages;
Rs 499
