1919: the year another European currency union died
Seán Keyes Jul 16, 2012
A one-krone note carrying an Austrian stamp
Austria-Hungary was a sprawling central European power. It comprised parts of the modern-day Czech Republic, Slovakia, Poland, Ukraine, Romania, Hungary, Serbia, Montenegro, Bosnia and Herzegovina, Croatia, Slovenia, Italy and Austria. Its currency, the krone, was formed in 1892 and managed by the central bank in Vienna and Budapest.
After World War I, the empire was broken into four parts by the Allies, who blamed Austria-Hungary for starting the war. By 1919, it had split into Czechoslovakia, Austria, Hungary and Yugoslavia. The empire had financed its war effort almost entirely by financing from the central bank (ie, money printing). It continued to fund itself in this way after the war.
As you might expect, the policy was highly inflationary. Between 1914 and 1918, the cost of living rose by 1,226%. Economists Peter Garber and Michael Spencer wrote: “The new states shared a greatly devalued, hyper-inflating currency, a collapsed trade and payment system, and large external debts.”
By 1919, Yugoslavia decided it had had enough. It decided to leave the krone. And that’s when events started to spin out of control.
Yugoslavia’s ad hoc plan to escape the krone was simple: all krone in the country would be stamped with a two-headed eagle, the national symbol. So all krone in Yugoslavia would be turned into the new currency.
There was just one problem. The Yugoslavs were leaving the krone because they were sick of high inflation. That suggested to other krone users that the Yugoslavs would do a better job of defending the value of their currency than the existing guardians of the krone.
As a result, money flooded into Yugoslavia from all across the old empire. The economy of 1919 was mainly cash-based, so people literally pushed wheelbarrows of cash across the open fields in order to have them stamped. The Yugoslavs were left with no choice but to physically seal their borders to stop the flood and prevent massive inflation.
This cross-border flood of money forced the other countries’ hands too. One by one, the new countries of the old Austro-Hungarian Empire began to stamp their own currencies too. And as each country decided to break off and form their own currency, the flood got bigger, with savers desperately moving from country to country, seeking the best place to have their krone stamped.
By the time the flood washed over the last country to leave the krone, Hungary, there were railway wagons full of cash left in the country.
The breakup of the krone was chaotic. The new countries made up the rules as they went along.
When ink-stamped currency resulted in widespread fraud, they used sticker stamps. When authorities started to confiscate some of the cash as they converted it into the new currency (in the form of forced loans paying low interest rates), there were bizarre reverse bank runs as savers stuffed money into banks to evade expected levies on cash. Austria even created separate currencies for natives and foreigners.
All the while, the flood of capital across borders created havoc wherever it washed up. The equivalent to the entire money supply of Hungary was transferred out of Czechoslovakia and Austria alone. Most of it ended up in Hungary.
As a result, in the six years after the war, Hungary and Austria both suffered from dreadful hyperinflations. The League of Nations was ultimately called in to manage Austria’s money supply, and Hungary was forced to introduce yet another new currency.
However, Yugoslavia, the country that instigated the panic, was able to keep a fairly even keel throughout. It was better able to maintain its currency’s stability because it was less indebted than the others, and it suffered less from destabilising capital flows.
Could better co-operation have avoided the collapse?
After the old Austro-Hungarian Empire dissolved into smaller states, it was thought that the old patterns of trade and co-reliance would continue. But under pressure, fraternity gave way to factionalism.
Trust between nations disappeared and they stopped trading with one another. Austrian farmers even stopped supplying their own capital city of Vienna, fearing food shortages. The stock of trains and coal was unevenly distributed among the new countries, so they resorted to confiscating whatever crossed their borders.
National self-interest ultimately undid the krone too, writes economist Eduard Marz. The Austrians and Hungarians held most of the war debt, while the Czechoslovaks and the Yugoslavians held relatively more cash. The trouble is, the Austrians and Hungarians also controlled the printing press, and so they were happy to erode the value of their own debt at the others’ expense.
Does 2012 look like 1919?
The krone warns of what happens when politics is out of sync with money. There is no neutral monetary policy - there are always, necessarily, winners and losers. So fraternity between the two groups is essential.
When the losers and winners line up along national lines, there’s a danger the currency will fragment. In other words - it’s not good when nine different languages appear on your bank notes, as was the case with the krone.
In 1919, the dominant powers in Austria and Hungary used the money to benefit themselves at the expense of Yugoslavia and Czechoslovakia, and the Yugoslavs were cohesive enough to fight back.
Similarly today, the winners and losers from eurozone monetary policy in 2012 are clearly lined up along national lines. Money in Europe is tight. That suits Germany, but it is strangling the periphery.
What’s different now – and not in a good way - is that in 1919, Yugoslavia, the first nation to leave the currency union, did so because it wanted a stronger rather than a weaker currency. As a result, money flooded in.
That’s a better problem to have than the inverse, which is what afflicts Greece and peripheral Europe. Greece needs a weaker currency than the euro, but if it talks about leaving then euros will flood out of the country in anticipation of being ‘stamped’ as drachmas. Greek banks would collapse and there would be a terrible crash.
1919 also tells us something about how ordinary people, not elites, drive the breakup of a currency. If savers believe the value of their wealth is in danger of being destroyed, they won’t wait for their politicians to catch up - they’ll take matters into their own hands.
If Greece fell out of the euro, its savers would be wiped out. Savers across the periphery would be right to take fright and move their euros to safety in Germany. That would be enough to drive those countries out of the currency.
There’s another end-of-euro scenario that looks more like the 1919 story. If Germany refuses to pay the price for keeping the euro together (via either higher inflation or explicit transfers to the peripheral countries), it might decide to walk away like Yugoslavia.
It could do so without collapsing its financial system. The main cost would be the devastation it would leave behind in its neighbours and trading partners. It’s a terrible price - but it may be the only one Germany is willing to pay.
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