Foreign Relations of the United States: Diplomatic Papers, 1945, The Far East, China, Volume VII

893.51/9–1745

Memorandum by the Assistant Chief of the Division of Foreign Economic Development (Lockhart) to the Assistant Secretary of State (Clayton)

[Washington,] September 17, 1945.

Following the request through your secretary that I be prepared to discuss with you the memorandum submitted by Mr. Pei Tsu-yee, I have familiarized myself with that memorandum and the accompanying outline of a plan, as well as with Mr. Sumner’s memorandum of conversation.³⁸ I have also discussed these papers with Mr. McGuire of FN, and suggest that we should together discuss them with you. Meanwhile, I offer the following comments:

1. Budget. I concur with the Memorandum and Outline regarding correction of the budgetary situation as the first essential of financial rehabilitation in China. Since inflation is due at least as much to currency issues to meet deficits as to the usually rather overemphasized shortage of goods, all proposals for expenditures in China should be carefully scrutinized for their possible effect on issues and weighed against the urgency of the needs for which the expenditures are proposed. Likewise, proposals to expend China’s holdings of foreign exchange resources should be considered in the light of the priority of needs for such resources, immediate and prospective.

In particular, I should suggest that, in connection with A.1. of the Outline, curtailment of military and civil expenditures to the greatest extent possible should begin at once, while rather than after meeting such emergency expenditures as demobilization (which in China will be by no means so costly as in the United States), relief and rehabilitation, and re-establishment of national, provincial, and local governmental agencies in the liberated areas. It will not be easy to realize this program, however; the Generalissimo has not, over the years, shown much interest in demobilization or in budgetary equilibrium.

The proposal in A.3. of the Outline to raise internal funds to meet the deficit (in both the ordinary and the relief budgets) apparently contemplates the use not only of existing foreign resources but also of future credits, in part by selling foreign currencies (and gold) and in part by sale in China of foreign goods purchased, or contributed by UNRRA, or delivered on reparation account. Such use of foreign resources should be only a temporary expedient and is presumably so intended. The proposed measures can have continuing value only if accompanied by reduction of expenditures and contraction of the volume of currency in circulation. Under those conditions they would also contribute greatly to price stabilization.

The proposed “realization of the proceeds of commercial imports for which the Government may provide foreign exchange through the banks” is not clear. The object of these transactions is to raise internal funds for Governmental purposes, thus avoiding or lessening further currency issues. That object would be achieved if commercial importers purchase the requisite foreign exchange from the banks; if they use their existing foreign balances, the proceeds of the sale of imports should go to them—otherwise there would be confiscation of the importers’ foreign assets. Only if the banks should lend foreign exchange to the prospective importers would there appear to be any justification for the Government’s appropriation of any part of the proceeds of the sale of the resulting imports.

A similar question arises in connection with Mr. Pei’s remarks on the continued control of foreign funds, as contemplated by B.14. of the Outline. It may be noted also that in the documents submitted to UNRRA recently the Chinese Government assumed that it would obtain the use of half the existing private foreign exchange resources, estimated to amount to US $300 millions in all. Responsibility for action on Mr. Pei’s suggestion presumably lies primarily with the Treasury and FE, rather than with the economic offices. Mr. Pei asked advice, however; and I should advise against measures tantamount to complete or partial confiscation, including heavy taxation of such resources. If, after careful review of its requirements and resources of foreign exchange, China decides that it must avail itself of these funds, it should in my opinion exchange valid short-term Government obligations for them.

It may be that Mr. Pei desired only to control the use of these funds rather than to use them for Governmental purposes. If so, it would seem that the freezing of funds is unnecessary, since the proposals for trade control in Outline, B.13. should, if adopted, afford an adequate measure of control of the use of these funds.

It is assumed that the proposal in Outline, A.5.d. concerning Chinese debts to Axis nationals contemplates that these debts would be credited to Reparations Account. It may be noted in passing that while the Yokohama Specie Bank nominally underwrote the Japanese tranche of the Chinese Reorganization Loan of 1913,³⁹ this was chiefly a matter of face. It is not believed that Japanese nationals ever held an appreciable part of this loan and practically certain that they do not now hold such a part.

2. Currency. The rate at which a new Chinese currency will exchange for foreign currencies seems to me a matter of relative unimportance. What matters chiefly is the rate of exchange of the new currency for the old and the effect of consequent price adjustments upon the Chinese economy. In my opinion, determination of this rate need not depend on foreign exchange values. Once a reasonable stability of internal prices has been achieved and a considerable foreign trade on a commercial basis has been developed, the external value of the currency will be largely self-determining.

It seems probable that Mr. Pei did not really intend to suggest any harsher treatment of those holding enemy and puppet currencies than is indicated in the Memorandum and Outline he submitted. As reported, he would exchange Chinese currency for these issues “to the degree necessary to prevent” destitution of non-collaborationists. Such treatment would not accord with justice and might cause political repercussions within China. The goal should be the relative equalization of currency supplies throughout China, having in mind the volume of trade and other factors affecting the velocity of circulation, such as the availability and customary use of banking facilities, density of population, etc. As implied in the Memorandum and Outline, there is as yet no dependable information on the volume of currency issued in Occupied China as compared with that in Free China, nor on the relative extent of inflation or price increases in the two areas. Given political stability, absence of arbitrary hindrances to inter-regional trade, and adequate internal transportation, the supply of new currency in the several regions of China would tend to adjust itself automatically.

These documents contain an untenable suggestion to the effect that the rate at which new currency would be exchanged for enemy and puppet currencies is related to the amount of reparations obtained from Japan. These issues may indeed be taken into account in the claim for reparations and so in the apportionment of available reparations among claimant countries, but the amount of reparations received can afford no just basis for determining the amount of new currency to be allocated to Occupied China. It may be noted further that Mr. Pei does not indicate whether he is thinking in this connection of reparations in kind or of gold and foreign exchange assets to be transferred. These latter have been suggested by others, but are unlikely to prove either considerable in amount or available to China alone among claimant countries.

3. Conclusion. The essential features of the proposed program submitted by Dr. Soong through Mr. Pei seem to me to be sound. I think that Dr. Young’s memorandum makes the correct approach to the problem and that financial stability is a prerequisite to sound economic development. Successful solution of both these problems will depend on the firmness, resourcefulness and capacity shown in carrying out the programs laid down as well as on wisdom in planning them. American assistance, both financial and advisory, should increase the probability of success and would seem to be warranted by the economic and political objectives of the United States in the Far East. I venture to think, therefore, that this Government might well suggest to Dr. Soong the desirability of associating with Dr. Young in the development of China’s economic program a group consisting of both foreign and Chinese economists, administrators, and industrial specialists.

38. See memorandum of September 6, p. 1137.
39. See Foreign Relations, 1913, pp. 143 ff.