Hungarian Bonds

[Ozie Melzer]

Thedissolution of the Austro-Hungarian Empire in 1918 provides the key historical example of the breakup of a currency union not compelled by occupation authorities or civil war or orchestrated by a colonial power. 1/ It is particularly instructive because the consequent changes in the economic and political landscape closely parallel current developments in Eastern Europe. At the end of World War I the minority nationalities in the Empire received support from the Allies for their demands for independence. On October 15, 1918, Croatia and Slovenia declared independence from Austria-Hungary and established the state of Slovenes, Croats and Serbs. Bosnia-Hercegovina and Vojvodina declared themselves for union with Serbia. On December 1, 1918 the two groups joined in the Kingdom of Serbs, Croats and Slovenes with its capital in Belgrade. On October 20, 1918, the Czech National Council proclaimed the independence of the Czech and Slovak state, comprising Bohemia, Moravia, Slovakia, and part of Galicia. In response, the Austrian Provisional National Assembly was formed on October 21 and proclaimed the German-Austrian Republic on November 12, comprising what was left of the Austrian half of the Empire. On October 25, Hungarian politicians formed their own assembly and proclaimed the Hungarian Republic on November 16, having lost Transylvania and other territory to Romania. Other parts of the Empire were claimed by Italy and the new Polish state.

The creation of the new states had respected historical political geography more than economic relationships. Czechoslovakia inherited the bulk of the most efficient heavy industrial plants, coal mines, textile plants, and sugar production. Hungary inherited most of the best farmland (although much of it was lost to Romania) while Austria inherited a considerable, although weakened, industrial base and most of the administrative and financial infrastructure of the Empire. These new states shared a greatly devalued, hyperinflating currency, a collapsed trade and payments system and large external debts.

During the immediate postwar period, the Allies maintained their trade embargo against Austria and Hungary. 2/ After four years of war the situation in these countries was poor. There had been shortages of food and raw materials in Vienna as early as 1916 as Hungary restricted food deliveries to ensure self-sufficiency, and transportation routes were disrupted. 3/ In an attempt to protect their industrial bases and to compete against the financial strength of Vienna, Czechoslovakia, Hungary and the Serb-Croat-Slovene State raised tariffs to between 150 percent and 200 percent of Austrian tariffs. 4/ Moreover, exports of food and fuel were forbidden in Czechoslovakia and Hungary and imports of Austrian consumer goods were also proscribed. Even the Austrian provinces refused to send food to Vienna because they had their own shortages of food and fuel and were reluctant to accept crowns in payment for their shipments. It is difficult to ascertain how important the trade embargoes in Czechoslovakia and Hungary were since food and raw material shortages in these countries would have reduced food available for export. 1/ The trade that was permitted was hampered because of disruptions in the rail network and because Czechoslovakia, the Serb-Croat-Slovene State and Hungary were reluctant to accept crowns in payment. Thus, most of the trade was barter arranged by the three governments.

The pressing problem facing the Successor States was that they shared a common currency, the Austro-Hungarian crown; but they did not all share in the seigniorage and did not have the same need for inflationary finance. 1/ For example, the Austrian government, faced with unprecedented unemployment, huge debt payments, a large civil service, a commitment to food subsidies and scarce foreign exchange and gold reserves, maintained the wartime policy of monetizing government budget deficits. 2/ The Czech and Hungarian representatives on the board of governors of the Austro-Hungarian Bank objected strongly to this policy and to the discounting of government and commercial paper.

As inflation in the region soared in response to the monetary expansion, the governments of the Successor States increasingly embraced the necessity of currency reform. Beginning in March, 1919, the Kingdom of Serbs, Croats and Slovenes, Czechoslovakia, Austria, Romania and Hungary successively undertook currency reforms designed to create an identifiable domestic currency over which their own institutions had control. 1/ This episode provides the best historical example of the process that makes a breakaway reform, a currency reform undertaken unilaterally by one of a group of states in a currency union, an ephemeral stage of a successor-state reform, in which all states in the currency union introduce reforms.

The new Kingdom of Serbs, Croats and Slovenes comprised territories that had either been part of the Austro-Hungarian Empire or had been occupied by its army during the war. Consequently large quantities of Austro-Hungarian Bank notes circulated along with Serbian dinars, Montenegran perper and Bulgarian lev. 2/ The Serb-Croat-Slovene State started the successor-state reform process in the region on January 8, 1919 by calling in and stamping with the national emblem all Austro-Hungarian notes in its territory between January 8 and February 2. 3/ This initial operation was unsuccessful, because the stamp was easily forged, and in a second operation, undertaken between November 26 and December 15, 1919, a stamp was affixed to notes bearing the ink mark. 4/ When the stamps were attached to the notes the authorities imposed a levy, converting 20 percent of the currency submitted into 10-year government bonds which paid 4 percent interest per year. For amounts below 1000 crowns, the 20 percent that was retained was returned no later than April 1, 1920. 1/ The currency exchange was effected on two occasions, first between February 16 and May 15, 1920, and between May 17 and June 4, 1921, at a rate of four crowns per dinar, although the imposition of a 20 percent tax refundable in ten year bonds lowered the effective rate to 5:1, which was worse than the market rate in Vienna. 2/ Zeuceanu (1924) reports that the Yugoslav authorities submitted 5.7 billion crowns to the liquidators of the Austro-Hungarian Bank. 3/

Czechoslovakia undertook its own stamping procedure between March 3 and 9, 1919. The authorities prepared the details of their reforms in secret parliamentary sessions although evidently people were not taken completely by surprise. 2/ On February 25 the borders were ordered closed for the night and all postal communications abroad were suspended until March 9. 3/ All large-denomination notes were supposed to be surrendered for stamping, and bank deposits were converted to the new Czech crown at a one-to-one conversion rate. 1/ However, 50 percent of the stamped notes were then withheld by the Ministry of Finance in a forced loan that paid 1 percent interest. 2/ Similarly, current accounts and Treasury bills were stamped, subject to a 50 percent retention. 3/ Small-denomination (one- and two-crown) notes were not included in the stamping order but remained legal tender and likewise a few million crowns in iron, nickel and copper coins were not converted to Czech crowns. 4/ The Czech authorities reported in February, 1922, that 8.4 billion crowns had been stamped and an additional 2.1 billion in deposits and Treasury Bills were converted. At that time, 2.8 billion crowns were withheld of which 2.1 billion were banknotes and the remainder were forced loans deducted from deposits. 1/ After March 9, only the stamped notes were legal tender.

On March 6, 1919, legislation was passed providing for the establishment of a private bank of issue to be established at a later date. As an interim measure a banking office in the Ministry of Finance was established by decree on May 15, 1919. The Czech operations and staff of the Austro-Hungarian Bank (including its thirty branches) were taken over by the banking office and provided the nucleus of this new office. 2/ The decree gave the banking office the sole right to issue notes and forbade the banking office from providing credit to the government. In late November, the banking office was charged with controlling transactions in foreign bills and currencies.

Legislation on April 10, 1919 converted the stamped notes into a new Czech currency, ordered the replacement of the stamped notes by new Czech notes and made the Czech state the sole debtor vis-a-vis the holders of the stamped banknotes and the sole Czech claimant on the assets of the former central bank. The new currency unit and sole legal tender was called the Czech crown and for purposes of settling previous debts was initially fixed at par with the old Austro-Hungarian crown. This legislation also placed a limit, equal to the value of the notes stamped, on the total value of Czech crowns that could circulate without being covered by private commercial securities.

The banking office exchanged stamped notes for new Czech crowns between September 25, 1919 and July 31, 1920, and stamped notes ceased to be legal tender on August 31, 1920. The stamped notes were retained by the banking office as claims on the liquidation account of the Austro-Hungarian Bank. Thus, the initial issue of the Czech currency was backed almost entirely by these notes. New issue of Czech notes however, was determined solely by discounting Czech commercial paper and purchasing foreign exchange.

The sudden assertion of monetary independence did not take the Austrian government by surprise. On February 16, the Austrian government forbade the import of Austro-Hungarian banknotes or the transfer of crown deposits from outside Austria and strictly controlled the sale of Austrian securities and stocks to nationals of the Successor States to prevent an influx of notes from Czechoslovakia. There are indications that these ordinances were widely evaded. 1/ On February 28, the Austrian government published details of its own stamping exercise to be undertaken between March 12 and 24.

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