Hjalmar Schacht’s echo – it all feels a lot more like 1932 than 1923

The weekend’s Greek elections brought a neo-nazi party (“Golden Dawn”) into the Greek parliament. The outcome of the Greek elections made me think about the German parliament elections in July 1932 which gave a stunning victory to Hitler’s nazi party. The Communist Party and other extreme leftist also did well in the Greek elections as they did in Germany in 1932. I am tempted to say that fascism is always and everywhere a monetary phenomenon. At least that was the case in Germany in 1932 as it is today in Greece. And as in 1932 central bankers does not seem to realise the connection between monetary strangulation and the rise of extremist political forces.

The rise of Hitler in 1932 was to a large extent a result of the deflationary policies of the German Reichbank under the leadership of the notorious Hjalmar Schacht who later served in Hitler’s government as Economics Ministers.

Schacht was both a hero and a villain. He successfully ended the 1923 German hyperinflation, but he also was a staunch supporter of the gold standard which lead to massive German deflation that laid the foundation for Hitler’s rise to power. After Hitler’s rise to power Schacht helped implement draconian policies, which effectively turned Germany into a planned economy that lead to the suffering of millions of Germans and he was instrumental in bringing in policies to support Hitler’s rearmament policies. However, he also played a (minor) role in the German resistance movement to Hitler.

The good and bad legacy of Hjalmar Schacht is a reminder that central bankers can do good and bad, but also that central bankers very seldom will admit when they make mistakes. This is what Matthew Yglesias in a blog post from last year called the Perverse Reputational Incentives In Central Banking.

Here is Matt:

I was reading recently in Hjalmar Schacht’s biography Confessions of the Old Wizard … and part of what’s so incredible about it are that Schacht’s two great achievements—the Weimar-era whipping of hyperinflation and the Nazi-era whipping of deflation—were both so easy. The both involved, in essence, simply deciding that the central bank actually wanted to solve the problem.

To step back to the hyperinflation. You might ask yourself how things could possibly have gotten that bad. And the answer really just comes down to refusal to admit that a mistake had been made. To halt the inflation, the Reichsbank would have to stop printing money. But once the inflation had gotten too high for Reichsbank President Rudolf Havenstein to stop printing money and stop the inflation would be an implicit admission that the whole thing had been his fault in the first place and he should have done it earlier…

…So things continued for several years until a new government brought Schacht on as a sort of currency czar. Schacht stopped the private issuance of money, launched a new land-backed currency and simply . . . refused to print too much of it. The problem was solved both very quickly and very easily…

…The institutional and psychological problem here turns out to be really severe. If the Federal Reserve Open Market Committee were to take strong action at its next meeting and put the United States on a path to rapid catch-up growth, all that would do is serve to vindicate the position of the Fed’s critics that it’s been screwing up for years now. Rather than looking like geniuses for solving the problem, they would look like idiots for having let it fester so long. By contrast, if you were to appoint an entirely new team then their reputational incentives would point in the direction of fixing the problem as soon as possible.

Matt is of course very right. Central banks and central banks alone determines inflation, deflation, the price level and nominal GDP. Therefore central banks are responsible if we get hyperinflation, debt-deflation or a massive drop in nominal GDP. However, central bankers seem to think that they are only in control of these factors when they are “on track”, but once the nominal variables move “off track” then it is the mistake of speculators, labour unions or irresponsible politicians. Just think of how Fed chief Arthur Burns kept demanding wage and price controls in the early 1970s to curb inflationary pressures he created himself by excessive money issuance.  The credo seems to be that central bankers are never to blame.

Here is today’s German central bank governor Jens Weidmann in comment in today’s edition of the Financial Times:

Contrary to widespread belief, monetary policy is not a panacea and central banks’ firepower is not unlimited, especially not in the monetary union. First, to protect their independence central banks in the eurozone face clear constraints to the risks they are allowed to take.

…Second, unconditional further easing would ignore the lessons learned from the financial crisis.

This crisis is exceptional in scale and scope and extraordinary times do call for extraordinary measures. But we have to make sure that by putting out the fire now, we are not unwittingly preparing the ground for the next one. The medicine of a near-zero interest rate policy combined with large-scale intervention in financial markets does not come without side effects – which are all the more severe, the longer the drug is administered.

I don’t feel like commenting more on Weidmann’s comments (you can pretty well guess what I think…), but I do note that German long-term bond yields today have inch down further and is now at record low levels. Normally long-term bond yields and NGDP growth tend to move more or less in sync – so with German government 10-year bond yields at 1.5% we can safely say that the markets are not exactly afraid of inflation. Or said in another way, if ECB deliver 2% inflation in line with its inflation target over the coming decade then you will be loosing 1/2% every year by holding German government bonds. This is not exactly an indication that we are about to repeat the mistakes of the Reichbank in 1923, but rather an indication that we are in the process of repeating the mistakes of 1932. The Greek election is sad testimony to that.

PS David Glasner comments also comments on Jens Weidmann. He is not holding back…

PPS Scott Sumner today compares the newly elected French president Francois Hollande with Léon Blum. I have been having been thinking the same thing. Léon Blum served as French Prime Minister from June 1936 to June 1937. Blum of course gave up the gold standard in 1936 and allowed a 25% devaluation of the French franc. While most of Blum’s economic policies were grossly misguided the devaluation of the franc nonetheless did the job – the French economy started a gradual recovery. Unfortunately at that time the gold standard had already destroyed Europe’s economy and the next thing that followed was World War II. I wonder if central bankers ever study history…They might want to start with Adam Tooze’s Wages of Destruction.

Update: See Matt O’Brien’s story on “Europe’s FDR? How France’s New President Could Save Europe”. Matt is making the same point as me – just a lot more forcefully.

Leave a comment


  1. Lars
    In 1945 Germany lost the war. At that time it tried to bring Europe to it´s knees with tanks and canons. Now, after the Euro project effectively weakned several countries (Germany a notable exception, of course), it is trying to quelch all resistance through “austerity agreements”. But note, like in the “other war” a resistance mouvement is forming. And like the “old resistence”, in the new the Greek one is just as fragmented as the old, while the French “resistence” is more cohesive.
    Again, Britain has not been “invaded”, although it is weak and Churchill is not around. When will the US be “drawn in”? But Obama is no FDR and he just called on France to keep “austerity” in place!

  2. Marcus, you might, be right – even though I strongly dislike national stereotypes. It is central bank failure rather than national characteristics, but I of course also know you agree with that…

  3. W. Peden

     /  May 8, 2012

    When does a few more percentage points of inflation become tolerable for the German political class? When there are stormtroopers and/or Red Guards goose-stepping through the streets of Athens and Madrid?

    I’m not being rhetorical: just where is the point where the economic and political destabilisation of the eurozone periphery become unacceptable? Because you KNOW it’s going to be much worse next time around with the next financial and sovereign debt crises.

    Compared to the Great Depression, the eurozone has been hit by a small monetary challenge and it has failed utterly as a set of institutions. We can’t guarantee that the crisis will be so small next time around.

  4. William, I am afraid you are right. There is not much reason for optimism.

  5. W. Peden

     /  May 8, 2012

    And Adam Tooze’s book is indeed brilliant!

  6. The Tooze book is one of the best economic history books I have ever read. In fact it is one of the best book on history I have read. Period.

  7. “The rise of Hitler in 1932 was to a large extent a result of the deflationary policies of the German Reichbank”

    Hitler’s Munich Beer Hall Putsch occurred in November 1923, the same month that the exchange rate reached 4 trillion marks per dollar.

    • Mike
      After the Beer Hall Putsch Hitler was imprisioned and the Nazi part outlawed (until 1925). The Nazi party only gained a parliamentary majority in 1932.

  8. Olivier Braun

     /  May 9, 2012

    Mr Christensen,

    Your post in fascinating, and scarring, but I wouldn’t jump to the conclusion that those who refuse inflation are paving the road for extremism. In the case of Germany, wouldn’t the German defeat in WWI, the propaganda about the harshness of the reparations (after all, they did destroy part of my country, France, and somebody would have to pay for), the inflationary policy deliberately adopted to avoid the costs, and the new (leftist) ideological climate in the West, be responsible for the rise of Hitler ? I mean, even if the immediate cause would have been the deflation, (and Great Britain also suffered a deliberate deflation, but didn’t turn to fascism), the real cause would still be the inflationary policies and the demagogy of governments, which created the crisis and the need for deflation.
    In the case of Greece, where the communists, neo-nazi, etc. scored well, though the voters reacted against “austerity”, the root of the crises are in the deficit spending, fueled by money creation and monetary redistribution in the EMU, and the “austerity” came to mean higher taxes, that is, a shrinking of the private sector to the benefit of the State, instead of exclusively spending cuts. If the Greek State spent largely over it’s means, the only way is to cut spending, not to try to extract resources from a shrinking pool.

    For more details, I would like to quote from Philipp Bagus’s The Tragedy of the Euro, 2nd ed, page 106 :

    “The fiscal developments in Greece are paradigmatic of the tragedy of the Euro and its incentives. When Greece entered the EMU, three factors combined to generate excessive deficits. First, Greece was admitted at a very high exchange rate. At this rate and prevailing wages, many workers were uncompetitive compared with the more highly capitalized workers from northern countries. To alleviate this problem, the alternatives were to (1) reduce wage rates to increase productivity, (2) increase government spending to subsidize unemployment (by unemployment benefits or early retirement schemes) or (3) employ these uncompetitive directly as public workers. Owing to strong labor unions the first alternative was put aside. Politicians chose the second and third alternatives which implied higher deficits.
    Second, by entering the EMU, the Greek government was now supported by an implicit bailout guarantee from the ECB and the other members of the EMU. Interest rates on Greek government bonds fell and approximated German yields. Consequently, the marginal costs of higher deficits were reduced. The interest rates were artificially low. Greece has experienced several defaults in the twentieth century, and has known high inflation rates and deficits as well as a chronic trade deficit. Nevertheless, it was able to indebt itself at almost the same rates as Germany, a country with a conservative fiscal history and an impressive trade surplus.
    Third, the tragedy of the commons comes into play. The effects of reckless Greek fiscal behavior could partly be externalized to other members of the EMU as the ECB accepted Greek government bonds as collateral for their lending operations. European banks would buy Greek government bonds (always paying a premium in comparison with German bonds) and use these bonds to receive a loan from the ECB at a lower interest rate (at one percent interest in a highly profitable deal).
    Banks bought the Greek bonds because they knew that the ECB would accept these bonds as collateral for new loans. There was a demand for these Greek bonds because the interest rate paid to the ECB was lower than the interest the banks received from the Greek government. Without the acceptance of Greek bonds by the ECB as collateral for its loans, Greece would have had to pay much higher interest rates. In fact, the Greek government has been bailed out or supported by the rest of the EMU in a tragedy of the commons for a long time.
    The costs of the Greek deficits were partially shifted to other countries of the EMU. The ECB created new Euros, accepting Greek government bonds as collateral. Greek debts were thus monetized. The Greek government spent the money it received from the bonds sale to win and increase support among its population. When prices started to rise in Greece, money flew to other countries, bidding up prices in the rest of the EMU. In other member states, people saw their buying costs climbing faster than their incomes. This mechanism implied a redistribution in favor of Greece. The Greek government was being bailed out by the rest of the EMU in a constant transfer of purchasing power.”

  9. W. Peden

     /  May 9, 2012

    Olivier Braun,

    “which created the crisis and the need for deflation.”

    The crisis was created by central banks outside Germany. There was no need for deflation in Germany in the early 1930s, at all.

    Germany was inevitably going to suffer in the early 1930s due to its links to the US economy via the Dawes Plan. However, there was absolutely no need for the massive squeeze on aggregate demand in Germany during that period, which (only slightly) tipped the political scales in favour of the Nazis.

    We can be as certain as on anything that Greece has more defaults in store. Any country in that kind of fiscal situation (where interest rates on government debt are so much greater than GDP growth) will default through either failure to repay debt or inflation.

    Therefore, there is no question of Greece getting fixed through cutting spending, at least not without the imposition of a foreign military regime to replace democracy. Instead, there is the current game of cat-and-mouse between the eurozone core and Greece, playing default vs. austerity as if there was any choice between the two.

    Given that it’s improbable that Greece will have solved its fiscal problems by its next general election, a situation choice between the ascendancy political extremism and suppression of democracy is a real and worrying possibility.

    As I say, here’s the worst thing: this isn’t even one of the top 3 European crises in the past 100 years (WWI, WWII and the Great Depression were all more serious). If the euro project has been such a disaster within less time than it takes to grow an olive tree, then how can it possibly survive as a long term project? What guarantee do we have that the next financial crisis (which may come sooner rather than later) will not be much, much worse?

    • Rien Huizer

       /  May 15, 2012


      Schacht as an economist was pretty hard to pin down, but I presume that within the appr 1890-1925 spectrum of German language economic thought was on the “German” rather than the “Austrian” side. However, his policies in his pre NSPAD period would have agreed with contemporary but Austrian Mises (I think) and were basically a standard (conservative) elite response to the possibly disastrous results of retail politicians hijacking economic policymaking in a liberal democracy. The same as what every inflation targeting central bank does now: neutralize the effects of fiscal largesse thus discouraging big parts of the socialist/populist policy repertoire.

      Schacht in his NSDAP guise (and as reparation payments negotiator) was very much part of the German Historical tradition (as was, probably FDR and the post war Japanese reindustrialization wizards) and what later became the Freiburg school/Ordoliberalismus.

      All in all then, I am not so sure that Schacht is the appropriate label here. The conditions under which NSDAP Schacht as central banker and finance minister operated were highly artificial (capital controls, combination of a stable money supply and a Ponzi-scheme like range of “Wechseln” ) and enabled (temporarily) highly interventionist policies firmly in the non-Austrian camp. One wonders what would have happened if England and France had ignored Hitler’s aggression on his Eastern side and the war would have come much later (or not at all, as Buchanan speculates). But to what extent this demonstrates that monetary policy can defeat the business cycle, I doubt it. Monetary policy can kill booms and fuel them when started. How to shift from bust to boom is a more difficult question and involves mass psychology. The links between mass psychology and central bank activity are under-explored..We will still have to find out how to grow plants using Round Up, so to speak. Maybe MM, in a suitable economy and with a suitable institutional-political context.

      So it is not surprising that German economists familial with the Freiburg school and Germany’s economic history through a much broader range of narratives than foreigners could be, tend to have a rather cynical view of what politicians will do and like monetary policies that have at least the residual capacity to neutralize retail-oriented politics (which rules outmost alternatives to inflation- or maybe miney supply targeting) . For them, employment is a random walk, at best the subject of specific policies. Also, the case shows that capital controls were a necessary condition for the NSDAP Schacht.

      As to Lars: Schacht was half-Danish (and very well bred too). Was it the Danish or the German part that drove his “bad” period? And which period was “bad”.

      • Rien, yes, Schacht was born in what is now part of Denmark. However, he was surely German. In fact he clearly was a German ultra nationalist. His behavior as central bank governor showed that very clear. He main policy purpose after the nazi came to power was to support the rearmament effort. So no, he was never a Dane. He was all German.

  10. Interesting blogging.

  11. “Central banks and central banks alone determines inflation, deflation, the price level and nominal GDP. Therefore central banks are responsible if we get hyperinflation, debt-deflation or a massive drop in nominal GDP. ”

    Every case of hyperinflation was the result of a collapse of the balance of payments or in rare cases, the destruction of the nation’s productive capacity.

    The Weimar hyperinflation wasn’t caused by domestic spending and it wasn’t cured by the central bank creating less money.

    From Michael Hudson:
    “It was a result of Germany trying to pay reparations abroad
    that led it to print D-marks to flood the foreign exchange markets with domestic currency to raise the dollars and sterling to pay reparations.
    It was the collapse of the foreign exchange that caused the hyperinflation.”

    “The line of causation went from the balance of payments and currency depreciation to rising import prices. More expensive imported goods raised domestic prices as well. It was this that created a need for a higher money supply, not domestic money that forced higher prices”

    “It was cured by setting up a triangular flow of international payments. American bondholders would lend money to German municipalities that would issue bonds. The municipalities would receive dollars, and turn them over to the Reichsbank. It then would issue German currency against this for local spending – using the dollars to pay the Allies. The Allies would pay America, and that would keep the circular flow going. “

  12. “Central banks and central banks alone determines inflation, deflation, the price level and nominal GDP. Therefore central banks are responsible if we get hyperinflation, debt-deflation or a massive drop in nominal GDP. ”

    Asset price inflation is almost entirely a result of private bank credit creation.

    When bank credit is extended to purchase assets already in place it bids up their price.
    And as most bank credit is spent, not on the creation of new productive capacity but to buy assets already in place, the end result of private bank credit creation is asset price inflation followed by debt deflation.

  13. Central bankers seldom make a volte-face because they would lose “institutional credibility”. This is also why the ECB won’t publish meaningful minutes: it would reveal cracks in the facade of consensus. The consequence is that the central bankers spend their time tending to the facade when they should be having a real debate, internally and externally. I wish that there was at least one outspoken dove on the ECB who would make speeches against deflation. (It’s a tragedy for Europe that the BofE is not a member of the ECB; Mark Carney would demolish Weidmann.)

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