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m m r r m T at~ the bequest of judge viNSoa

Prompt action is urgently needed to halt a further inflation of
capital values. Farm values have increased by more than It per cent over
1935-1939 averages, and in eight States values have risen more than 60 per
cent above prewar levels. Similarly, urban real estate selling prices are
up 33-1/3 to 50 per cent or more over the 19U0 level. Likewise, in the
stock market prices are higher than at any time since the autumn of 1937
and are fully 80 per cent above the low point of the spring of
U »

19 2

If left uncontrolled, the vast and rising tide of war^created
liquid funds could overwhelm the markets for real estate, urban and rural,
and for stocks and commodities generally, including surplus materials.
Smart money is already going into capital assets for speculative purposes
and to take advantage of a loophole in the tax structure. Blocked off by
allocations, by rationing, and by price controls applying to scarce ma~
terials and goods, these liquid funds, including billions now invested in
war bonds, could be used to produce a disastrous inflation of capital values
that are not now subject to effective controls>
Manifestly^ if that were permitted to happen^ the result would be
calamiteus for Government financing. It would wreck the stabilization
program. It would make a mirage of the G. I, Bill of Sights, No one could
foretell the extent of the consequences if there were an unchecked flight
of funds from bank deposits and Government securities into capital assets
of various kinds.

The Inflation Potential
The enormous wartime expansion of liquid p.ssets dwarfs anything
in our history. The total of currency, demand deposits, and U, S. Govern­
ment securities held principally by individuals and corporations^;/ is rapidly
approaching 200 billion dollars, and has nearly tripled since we entered the
war. It will continue to increase as long as the war lasts. Since we entered
the war, upwards of JO billions has been borrowed from the banking system,
which means an equivalent has been added to our money supply. To the extent
that war financing continues to rely on purchases of Government securities
by the banking system, this enormous money supply will continue to grow*

l/ Deposit and U. S. Government security holdings of insurance companies,
of coramerciassayings and Federal Reserve banks, and of Government trust
funds are excluded} Treasury deposits and holdings of State and local
governments are included.


2 -

Some idea of the magnitude of liquid assets already existing can
be gained from a comparison with the total at the end of the last war.
Then, in 1920, currency and demand deposits amounted to less than 25 billions.
Today the total exceeds 110 billions, or between four and five times as much.
Then, Government securities held principally by individuals and corporations
amounted to less than 20 billions, as compared with more than 80 billions
now. In other words, liquid assets in the hands of individuals and busi*nesses today aggregate nearly 200 billions, as compared with about b5 billions
then. Similarly, Government debt, which was approximately 25 billions at its
peak after the last war, is nearly ten times as large and is still growing.
Yet, the relatively small volume of funds then, when left uncontrolled,
produced one of the worst inflations and consequent deflations in the
history of this country.
It was apparent when we entered the present war that the excess
of incomes over good? available for civilian use would be so great, not­
withstanding high taxes, that priorities, rationing and price controls would
have to be applied. Except for rent ceilings on living accommodations, h o w r
ever, nothing has been done to prevent an inflation of capital assets.
Instead, the tax structure contains such a loophole as to invite
speculators to acquire capital assets, and the bigger the speculator, the
greater the advantage to him of rising prices in real estate, in the stock
market, and in other capital assets not now covered by controls. This
leaves a glaring gap in the line of defense against inflationary forces.

The Danger to Government Financing
There can be no positive assurance that funds which are already
invested in Government securities or which should be invested in future
issues will not shift to capital assets unless some effective action is
promptly taken. The nature of the inflation control problem has changed
drastically since the war began. So long as there were no vast accumulations
of liquid funds attention was on the so-called inflationary gap; that is,
the excess of income over available supplies of civilian goods. Now^ how*»
ever, there is not only the problem of excess income, but the additional
problem inherent in the vast reservoir of expandable and volatile funds
which already exist and will continue to expand as long as the war con­
tinues. This clearly presents a grave danger.
To the extent that these funds flow, as they have already begun
to flow, into capital assets and to drive their values steadily higher, the
effect is cumulative and increasingly dangerous. Individuals and businesses
will be increasingly unwilling to put idle balances or excess income into
fixed debt obligations and will be induced instead to buy capital assets.
There is no opportunity, except through black markets, for such funds to

~ 3 go into scarce goods that are controlled. There is nothing to prevent them
from going into real estate, stocks, or other capital assets — including
surplus property — that can be sold for more and more dollars as prices
go higher and higher.
Such a situation makes fixed obligations, like Government securi­
ties, increasingly unattractive. It is not an overstatement to say that
the entire war financing program could be quickly put in jeopardy if any
substantial shift of funds from fixed obligations to capital assets were
to take place.
Moreover, to the extent that the public came to regard Government
securities as a less desirable investment than the purchase of capital
assets, or, to put it another way, to the extent that the public lost con­
fidence in Government securities and sought to protect dollars by putting
them into real estate, stocks, or other assets* the inflation potential
would rapidly increase in magnitude. For under such conditions the Govern­
ment would have to rely more and more upon the banking system to obtain
funds and thus more and more supplies of new money would be added to the
already swollen supply.

The Obligation to War Veterans
This Government has constantly appealed to the public to support
the stabilization program in its own interest and particularly in the
interest of the armed forces. The theme has been dwelt upon over and over
again that we must not lose on the home front while they are winning on the
battle front. They have been led to believe that their visions of a home,
a farm, and other necessities and comforts of life can be realized when the
war is over. Congress has encouraged this hope in the so-called G. I, Bill
of Rights and in providing dismissal pay. The obligation is inescapable to
take whatever steps are necessary to protect the values of these necessities
and comforts so that they will not be hopelessly out of reach of the veterans
of this war.
The Congress, and all who share the responsibility for success of
the stabilization program will face a wrathful day of reckoning if stay-athome profiteers and specula.tars are not effectively prevented from driving
the prices of these values to a point beyond reach of the veteran’s purse.
V/ar profits are not in that purse. No sympathy need be wasted on the
speculator. He can protect himself. Invariably, it is the little people
who are ruinously drawn into the vortej? of upward spiraling prices.

- h Equity Requires a Curb on Capital Values
Apart from the injustice that would be done to the veteran and
to the great mass of the public who want to be protected from inflated
values, there is a gross inequity in a situation that puts a premium upon
capital gains which are a by-product of war expenditures. Capital gains
alone have remained practically untouched by wartime taxation. In fact,
while the tax treatment of capital gains was revised under the Revenue
Act of 19U2, on the whole, rates were lowered rather than raised.¿/ Since
then no substantial change has been made. The maximum rate on long-term
capital gains is 25 per bent for both corporations and individuals. Long­
term gains are defined to mean gains from the resale of capital assets held
six months or more, an absurdly short period if the purpose is to reach the
Yet, sharply progressive surtax rates, rising to a high of 91
per cent, are imposed on war profits received in the form of dividends,
salaries or wage incomes. A 95 per cent'excess profits tax is levied upon
operating profits of corporations. Thus; war profits have been limited to
this extent. But no corresponding curb!
has been placed upon capital gains,
and the differential in favor of capital gains has been magnified. The
bigger the taxpayer, the greater the inducement today to dispose of or re­
fuse to invest in fixed obligations, such as Government securities, and to
take advantage of the loophole provided by the treatment of capital gains.
Given this advantage, large taxpayers are learning to "transform" profits
into oapital gains in order to evade high surtax and excegs profits tax
rates. The more these values are allowed to rise, the more the speculator
stands to gain because of the inequity in the tax structure, and, conversely,
the more those who obey the Government’s injunction to invest in war bonds
lose by comparison. The underlying pressures to shift into capital values
will increase as the war continues and as the supply of goods under Govern­
ment controls remains static or shrinks while money supply grows.

A Penalty Rate on Capital Gains Is the Most Effective Control
A penalty rate on capital gains corresponding to the highest sur­
tax rate is the most effective and simple over-all instrument to take the
speculative fever out of the market for real estate, stocks, commodities,
and other capital assets. Once that impulse is removed, the danger will be
largely, if not entirely, met. Should further controls of a direct nature
subsequently appear necessary they can be applied wherever the need may
arise. The problem has not been and is not now, to uny important degree,
a matter of credit-financed inflation of values. On the contrary, the

l/ The maximum rate on gains from the sale of assets held for over 18 months
was increased from ?0 to
per cent and for gains from assets held for over
2b months from 15 to 25 per centj For assets held from 6 to 18 months the
maximum rate was reduced substantially, and for gains under 6 months the
situation remained about unchanged?


- 5 volume of credit has been diminishing on balance in both urban and rural
property values. The volume of credit in the stock market is but slightly
more than a billion dollars, or about twice the low point of
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19 2

It is a misnomer to call the penalty rate on capital gains a
tax, While it utilizes the capital gains tax mechanism and would close
hfe present tax loophole, it is not in any sense a revenue measure. On
the contrary, the more effective it is as an anti-inf1ation device, the
less it would yield in revenue. It should not open up the tax question
at all, and should be removed like any other inflation control when the
need for it no longer exists. It would be a grave mistake to fail to put
it into effect before capital values rise still more,
It is unfortunate that it was not put into effect much earlier
before prices had risen to present levels. It would have been far better
to close the loophole before speculative funds were able to take the ad­
vantage of it that has already been taken. The longer action is delayed
and the more speculative funds take advantage of this opportunity, the
more inflated prices will be and the more irretrievable the damage is bound
to be. This barn door should be closed before any more horses escape, for
it is legislatively difficult, if not impossible, to make action sufficiently
retroactive to recapture all that have already escaped or will escape s* long
as the opportunity to do so exists.
To attempt to deal piecemeal with the situation by other methods,
such as limitations on credit, would be putting second things first. The
penalty rate may well prove sufficient by itself to hold this sector in the
line of defense against inflation^ If so, the complex machinery of regu­
lating and enforcing price and credit controls by direct means would be
avoided. To put curbs on real estate values, for example, without at the
same time blocking off other avenues of capital gain would invite the
shift of speculative funds from regulated to unregulated fields* The
penalty rate is the only weapon for striking at all fields simply and
simultaneously. Moreover, this weapon would reach both cash and credit
transactions entered into for capital gain, and would do so without inter­
fering with normal nonspeculative transactions t whereas if credit r e^
strictions alone were applied, they would fail entirely to reach cash
transactions for speculative purposes and would be an unjustifiable inter­
ference with normal, nonspeculative credit transactions,
The argument, valid in normal times, that high rates on capital
gains may be a business deterrent will not hold water in a period of in­
flationary danger. Not only are capital gains today ae much a war profit
as are the gains now reached by the excess profits tax o r high surtaxes,
but it cannot reasonably be contended that private investment needs to be
encouraged as long as war expenditures remain at a high level and there is
neither manpower nor materials for new plant or plant expansion* After the
war, when a sufficient supply of manpower and materials becomes available
for civilian production, the situation will be entirely different. It will

- 6 -

then be important to encourage new investment. At such time, of course,
provision should be made to make sure that this inflation control device
will not be a deterrent to investment in new and desirable private enter­

Inflated Capital Values Would Undermine Postwar Stability
It is apparent that if the dangers outlined here should not be
avoided and capital values were to rise to excessive levels, the entire
basis for postwar stability and prosperity would be undermined. All post­
war planning rests on the assumption that prices xvill not rise substantially
above present levels. Capital values could not be inflated without in­
fecting all the rest of the economy, with all the ultimately destructive
sequences flowing from inflation of the price, wage and income structure.
Inflated farm land values after the last war, coupled with the price
collapse, were at the bottom of the agricultural distress that accompanied
the "prosperous Twenties". The hardship then fell particularly to the lot
of the war veterans who bought farms. It was reflected in wholesale bank
failures in the agricultural areas. It needs to be repeatedly emphasized
that great as was the havoc wrought by the inflation and subsequent de­
flation of the early Twenties, especially in the ruinous effects upon agrir
culture, the inflation potential then was not a circumstance to what it is
now and will be after this war.

Proposed Penalty................II,1.1—.-I,.« .I,...................... ......Capital Gains
Rate on Wartime ...........
> j ■ .....M
■ '

....." "
'■ ■

Congress should be asked to impose a substantial wartime penalty
rate on speculative capital gains obtained from the resale of assets
purchased during the period of the inflationary emergency and dating back
to January 1, 1 ^ - * The wartime rate should be kept separate from the
regular capital gains tax, which would apply to the sale of assets purchased
after the emergency is over.
The special rate should apply to all profits defined as capital
gains under current provisions. It should apply to individuals and corpora*
tions alike and steep rates should be imposed* If the property has been
held for less than 2 years the rate might be
per cent, and thereafter
for each additional year it might be reduced by 10 points until the exist­
ing rate on capital gains is reached* Capital losses incurred on trans­
actions subject to the war tax on capital profits should be deductible
against such profits.


Summary of the Case for Action How
Those charged with responsibility for carrying.out the stabiliza­
tion program should bring the situation forcefully to the attention of
Congress. The case for prompt action on this line is so strong that it is
difficult to see how Congress could refuse to act. Until this gap in the
line is closed, there is the ever-present danger that more and more of the
billions that are or should be invested in war bonds will be tempted into
capital values. To the extent that this happens, it not only undermines the
Government's financing operations, but it multiplies inflationary forces
that threaten now and in the postwar. More and more funds would then have
to be raised through the banking system. That, in turn, means more and
more newly created money, adding fresh fuel to inflationary fires. This
argument alone should be compelling. But there are other strong consider­
ations. The so-called G. I. Bill of Rights is one of many assurances to
returning veterans that they will be helped in buying a home, a farm. What
becomes of such assurances if the prices of homes and farms are driven to
prohibitively high levels by a failure to close this gap? How can anyone
defend a situation in which the bigger the speculator, the greater the ad­
vantage to him in escaping from high surtaxes through this loophole? l / a
becomes of pledges to take the profiteering out of war when this invitation
to make fortunes out of war conditions is held out to big speculators, busi­
nesses, as well as individuals? How can we hold the line on the labor front
if we fail to put a stop to this flagrant war profiteering?
If this simple overfall action should subsequently turn out to be
insufficient to curb rising prices of capital assets, then supplementary
action to restrain the use of credit could be taken ivith justification now
laoking. The defect in credit curbs alone is that they put second things
first at a time when credit is not the dangerous factor, and they prevent
regular, legitimate transactions, but fail entirely to reach the speculator
operating on a cash basis. The penalty rate on capital gains would strike
effectively at the speculative buyer without interference with legitimate
The leak in the dike should be stopped without further delay
before it overwhelms the entire stabilization program.

February 8, 19U5•