Gold, banknotes and money supply in the First World War
In times of war or other upheaval, people turn to gold. In difficult circumstances, gold has always been seen as the best way to preserve wealth.
The rush to gold
As Europe was engulfed in financial crisis at the end of July 1914, many people and businesses sought to convert their bank balances and other assets to cash in the form of gold sovereigns. On the last business day before the outbreak of war, great crowds queued outside the Bank of England to do just that. The effect was cumulative; seeing people converting money to gold would make others rush to do the same. The Bank of England paid out £12.3m of its £26.5m gold coin reserves in 6 days, leaving it drained of gold and putting sterling at risk of collapse.
Worse still, London – as the world’s preeminent financial centre – held massive sterling deposits and other customer assets belonging to foreign people and companies, including citizens of enemy states. If these customers demanded conversion into gold, not only would Britain’s economy lose the wealth, but it would pour into the economies of Britain’s enemies.
The government needed an immediate solution to prevent a run on the banks, but it also had an eye on a longer-term problem. Britain was about to need more gold than ever before. Although it is sometimes said that people thought the war would be ‘over by Christmas’, many observers – even before fighting began – predicted a long and terrible war. Every ounce of gold in the country would not be enough to pay for everything the government was going to need to buy, but the rebuilding of gold reserves in the national coffers would help to keep the currency stable, stave off uncontrollable inflation and equip the government to borrow the money it needed.
Britain’s banks still had substantial gold holdings, which would be gradually transferred to the Bank of England over time, but there was also an estimated £70m of gold held in pockets, cash boxes and tills all over the country. If the government wanted to increase central gold stocks and prevent gold from leaving the country, it was clear that it would need to draw gold in from the wider circulating economy.
The transition to paper money
The government needed to adapt the national economy to run with much less gold in its system, which meant persuading people to accept paper money instead of gold coins. This was not such a great change in Scotland, where paper money was already widely used and accepted, but in England, the Bank of England only issued banknotes for values of £5 and up. This was a substantial amount of money, so many ordinary people never saw or used banknotes at all.
Now, the plan was to introduce notes for values of £1 and 10 shillings (that is, half a pound), to be used by the general population in day-to-day transactions. The Bank of England could not prepare and print them quickly enough, so the government took the unprecedented step of issuing the notes itself. They would be called Treasury notes or, unofficially, 'Bradburys', after the signature they bore of Sir John Bradbury, permanent secretary to the Treasury. They would be legal tender, meaning that they had to be accepted when offered in payment of a debt; the creditor could not insist on gold.
Designs were drawn up over the weekend of 1-2 August 1914. They were delivered to the printer on Tuesday 4 August, the day Britain entered the war. The engraved vignette was borrowed from an existing one at the Royal Mint, and the notes were printed on postage stamp paper – the only ready supply available at the time. After two days of round-the-clock printing, £2.5m of new £1 notes were distributed to banks on Thursday 6 August 1914, ready for when they reopened on Friday. The £1 notes got them through the immediate crisis, and the 10s notes – useful for smaller transactions – were ready a week later.
The great haste with which the notes were prepared led to problems for anyone handling cash, including bank clerks. For one thing, the notes were small, measuring less than 13x7cm – about the size of a modern £5 note. In contrast, a Bank of England £5 at that time was about the size of a paperback book cover. People found them difficult to handle; one Ulster Bank clerk complained, 'the operation of dealing with a large number of 10/- notes is a severe test even to a sleight-of-hand artist. In short the notes are too small for rapid manipulation.' There were also problems with forgery. The hasty design had made it impossible to incorporate effective anti-counterfeiting measures. Worse still, in England and Wales people were not used to handling banknotes, so did not know how to spot a fake. Furthermore, people were moving around the country more than in peacetime. Shopkeepers and bank clerks found themselves dealing with strangers, making it easier for fakes to be passed into circulation unnoticed.
Despite the difficulties, Treasury notes played a vital role in keeping the economy moving during the First World War. For the first time in England and Wales, paper money became normal currency, used by ordinary people. After the war, its use continued. Treasury notes were issued until 1928, and thereafter the Bank of England took over responsibility for issuing £1 and 10s notes.
In Scotland, meanwhile, the population’s experience of paper money was very different. Thanks to legal differences existing since the 19th century, Scotland’s commercial banks still issued their own banknotes, and people had been using and trusting paper money for 200 years.
This familiarity placed Scotland at a theoretical advantage in 1914, when the government asked people to put their faith in paper money. There was, however, one obstacle. Another legal difference north and south of the border was that in Scotland banknotes were legal currency, but not legal tender. This was a technicality that would not normally matter, but in a crisis, there was a key distinction; legal tender is the only type of payment a creditor must accept if it is offered in return for a debt. If Scottish notes were not legal tender, consumers could legally refuse them and insist on gold. In order to prevent this, the government extended legal tender status to Scottish banknotes, with the caveat that at their head offices, banks were still obliged to pay in gold or Treasury banknotes.
Paper money circulation continued to increase throughout the war, placing further demands on the Scottish banknote issuers. By 1918, Scotland’s banknote circulation had reached £25m, compared to £9.5m in 1914. Amid paper shortages and rising labour costs, the expense of producing all these extra notes was a significant burden for the banks.
After the war, the Scottish banks continued to issue their own notes, although they returned to their traditional status as legal currency but not legal tender. Note circulation continued to rise until 1920, peaking at £29m. It fell again in the mid-1920s, but still remained at least double the pre-war circulation.