As Hitler rose to power, in January 1933 the economic situation in Germany was dire. Stocks of raw materials had been depleted, factories and warehouses lay empty, and about 6.5 million people (about 25% of the domestic workforce) were unemployed and on the verge of malnutrition, while the country was crushed by debt and its foreign exchange reserves approached zero.
Yet, from 1933-1938, thanks to Schacht, the economy recovered spectacularly (Figure 1).2 Schacht’s objective to jumpstart the moribund economy required money. But money was not available, since savings were inexistent and production was so restricted that savings would not accumulate (Schacht 1967). Neither could money be printed, since lending to the government would have put the Reichsbank at risk of losing control of monetary policy.
Schacht then contrived a brilliant unconventional monetary solution. For payments, state contractors and suppliers received bills of exchange issued by a company called ‘MEFO’.3 The MEFO-bills were state guaranteed, they could circulate in the economy and could be discounted by their holders at the Reichsbank in exchange for cash.
Schacht believed that the duty of the central bank was to make available to the economy as much money as necessary to facilitate output production. The issuance of bills of exchange was instrumental to this end – as each bill stood against the sale of newly produced goods, and each issue of money was based on the exchange of the new goods, central bank money issuance against bills could not be inflationary. Indeed, the employees of MEFO checked that every MEFO-bill issued was tied to a quantity of newly produced goods, and only bills issued against the sales of these goods were granted. This way, the circulation of money and the circulation of goods remained in equilibrium.4
The Reichsbank undertook to accept on demand all MEFO bills, irrespective of their size, number and due date, and to exchange them for money. The bills were discounted at a 4% interest rate. As such, they were given the character of interest-bearing money, and banks, savings banks, and firms could hold and use them exactly as if they were money. If all MEFO-bills had been presented for discount at once, inflation would have resulted. But this did not happen – making the bills both re-discountable and interest-bearing allowed for much of them to be absorbed by the market without going through the Reichsbank.5 Also, output responded remarkably well. State purchases fed into a growing demand for labour, and firms restarted investments using MEFO-bills as collateral for borrowing. Investments put additional manpower to work, and incomes and savings increased as a result, raising fiscal revenues (Guillebaud 1940).
In 1938, Schacht strongly urged terminating the MEFO programme, as full employment had been reached and the closing output gap was raising price tensions (Toniolo 1988).6 He clashed with Hitler on this, and on 19 January 1939 the Führer removed him from the Reichsbank.…Schacht was using the real bills doctrine.
Defend Democracy Press
Macroeconomics in Germany: The forgotten lesson of Hjalmar Schacht
Biagio Bossone, Stefano Labini
