How Hawaii broke up from the US monetary union…(Why there is hardly any discussion on break up of Indo-Pak monetary union?)

Brilliant JP Koning has another superb post. He has a knack for drawing our attention to episodes from monetary history on which most of us are just clueless. Blame it on the teaching of economics which lays far more importance on theories and methods than learning about the subject from narration of historical events.

He points how Hawaii exited from US monetary  Union during the 1942 Pearl Harbour attacks: has interesting lessons for the Euro break-up:

In campaigning for a departure from the Euro, both France’s Marine Le Pen and Italy’s Beppe Grillo,  make the process sound easy. But one does not simply walk out of a monetary union. There are all sorts of messy problems to deal with, including harmful bank runs, massive banknote shortages, and long legal battles with investors over wealth confiscation and the redenomination of debts.

I recently stumbled on a successful and rarely-discussed exit from a monetary union: Hawaii in 1942. Hawaii’s was a different sort of exit than a potential French or Italian euro exit. Whereas the latter are reactions to being straitjacketed in the face of a slow and grinding recovery from financial crisis, Hawaii’s exit was executed in anticipation of a potential military invasion. Despite differing motivations, it’s worth investigating the Hawaiian episode to see what it takes to pull off a successful exit.

There was a fear that Japanese will take control over currency post invasion. Thus, a new currency was introduced which will be invalid legal tender if Japanese did invade the island.

Green’s initial solution to the confiscation problem was clumsy one. On the first sign of an invasion, Treasury employees toting burlap bags were to run to important intersections in Honolulu where they would collect bundles of banknotes from citizens, providing a receipt in return. The burlap bags containing the money would then be delivered to the city incinerator where they would be burned. The receipts, which would be redeemable for currency after the war, would be worthless to the Japanese, who wouldn’t be able to collect on them.

Luckily, Green soon came up with a more elegant approach: create a new currency, or scrip, ahead of time. In the event of an invasion, this scrip would be immediately outlawed by a simple proclamation, thus preventing its use by the Japanese. Far easier to solve the confiscation problem by mere proclamation than have employees standing at intersections with burlap bags. Agreeing to the idea, the U.S. Treasury had a special issue of banknotes printed up. The new bills were similar to ordinary U.S. banknotes except that the seals and the numbers were printed in brown ink instead of green and the bills bore the word “Hawaii” overprinted in black on both sides (see top image).

On July 7, 1942 the Governor announced that anyone in Hawaii holding U.S. currency had until July 15 to visit a bank and turn the notes in for special Hawaii overprints. After the 15th, it would be illegal to hold regular banknotes. Henceforth, all notes imported from the mainland had to be immediately turned over to the authorities for conversion. Exports of overprints was prohibited. Anyone who wanted to transfer wealth to the mainland had to exchange it with authorities for regular currency. The punishment for evading these rules was harsh:

“Whoever is found guilty of violating any of the provisions of such regulations, shall, upon conviction be fined not more than five thousand dollars ($5,000), or, if a natural person, may be imprisoned for not more than five (5) years, or both.” (source)

Over the 7-day exchange window, U.S. banknotes that were brought into banks for conversion were collected and burned. According to the New York Times, more than $200 million was taken to a crematorium in Oahu that soon ran out of capacity, the rest subsequently being hauled to furnaces at a a local sugar mill. Among the officer ranks, the task of serving on the crew that burnt notes was much sought after. Here is Green:

“Applications for the last named post were numerous and it was not until I learned of the practice of lighting cigarettes from bills of large denominations that I understood the desirability of such duty. This ritual was enjoyed, especially by young officers who had little prospect of handling, much less burning, bills of large denominations.”

So by July 15, 1942, Hawaii had effectively left the dollar zone. Gone were regular greenbacks. The sole media of exchange were Hawaiian overprints and overprint-denominated deposits. In practice, the authorities maintained a policy of pegging Hawaiian dollars to U.S. dollars at a rate of 1:1. But if they wanted, they could have easily ratcheted that peg down or up. Alternatively, in the event of an invasion, the authorities could completely unpeg the Hawaiian dollar and let its exchange rate float. Without a strong central bank to back it, the exchange rate would probably have plunged to zero, or at least close to it. Which was exactly the point of Green’s scheme… to take all the difficult steps of leaving the U.S. monetary union ahead of time so that, come an invasion, only the last (and easiest) step remained, floating the currency. Very clever.

The era of the Hawaiian dollar was a short one. With the Japanese threat now much diminished, Hawaii would be reabsorbed into the dollar zone in 1944. Regular U.S. dollars were once again allowed to circulate in Hawaii while the issuance of overprints was halted. In 1946 all overprints were recalled and destroyed.

Amazing history.

Though, of course parallels for Eurozone cannot be drawn. Read the post for more details.

Each time I read about these cases of break-up of monetary unions, I wonder why there is no discussion on break-up of Indo-Pak union? This blog made some attempts to unravel the history of the Partition of the Indian monetary union.

  • This post discussed the politics of the break-up and role of RBI in the partition. This is really interesting set of story. How first Indian notes circulated in Pakistan for a period. This was later changed to notes printed by RBI but Government of Pakistan was printed on them. RBI was to be incharge of Pakistan monetary policy till Sep-1948 but the arrangement broke out much earlier. The differences were due to Pakistan side demanding more cash balances which Indian central bank refused. This led to scrapping the arrangemnt with State Bank of Pakistan coming up on 1 July 1948, three months ahead of schedule.
  • This one discussed how Pakistan based banks fared during partition, It discussed both types of banks, those that migrated from India and local banks. Interestingly, the A level Pakistan based banks did well and grew during partition years. One was Habib Bank which moved from Bombay to Karachi and had huge political support. There was another Australasian bank which also did well. Both politics and people perhaps rallied behind well run banks and supported it during these trying times.
  • This one discussed how Punjab based banks fared. Again discussed both partition and local banks. The Punjab based banks struggled as most migrated from West Pakistan and faced a run on the deposits. Though, there was RBI but not a similar political support as seen in case of Pakistan based banks. Thus, runs continued.

It is mixed experience with lots of things to analyse and we just have very limited sets of resources. Moreover, it reflects only Indian side of the story. We hardly know how Pakistan managed its monetary affairs post break-up. India already had a central bank & a currency and had to mainly look at its banks. Pakistan had to do everything afresh and thus the challenges were much much more.

We should clearly know much more about this. There is still some continuous research on political ramifications of Partition, but hardly anything from the economic side and even rarer from monetary side..

 

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