How Governments Influence Their Investors

WHEN the French government began its policy of penetration in Morocco it had a good deal of difficulty at the start in getting the support of bankers. The first loan to the Sultan under the new policy was in 1904. The Banque de Paris et des Pays-Bas showed great reluctance and refused to handle the loan when originally requested to do so by the Ministry of Foreign Affairs. Later a banker was found who agreed to undertake the business, but a consortium of eleven banks had to be formed to carry through this one tiny transaction. The Crédit Lyonnais had shown a similar hesitation a few years earlier when French diplomats in China secured the right for one-third participation of French capital in the Yangtze Navigation Company. M. Bompard, later ambassador to Turkey, had charge of the matter for the Ministry of Foreign Affairs, and his first approach to the bank met a refusal substantially in these terms: "Our money is not our own but that of our stockholders and depositors. If we invest it far off on the Yangtze we shall be laying ourselves open to merciless criticism. We must look first to the security of the funds in our trust."(1)

German statesmen in 1904 had to formulate a line of conduct with reference to French penetration in Morocco. Ambassador Radolin suggested from Paris that the German government might either explain openly to the French its concern for German trade and request guarantees or equitable treatment in Morocco, or it might simply say nothing and force France to broach the subject by matching every French move with a German one. That is, if France began "peaceful economic penetration" from the east, Germany might do the same from the west. This latter suggestion, noted the Secretary for Foreign Affairs, von Richthofen, was more appealing in itself than the first, but it might be hard to execute due to lack of financial power. "Die deutschen Banken streiken geradezu alle, sobald man von Marokko spricht." ("The German banks, every last one of them, go on strike as soon as Morocco is mentioned.")(2)

The American Assistant Secretary of State who helped apply the Knox policy of "dollar diplomacy" during the administration of President Taft had much trouble at times persuading bankers to invest money in certain Caribbean countries where the State Department needed American capital to back its policy. He remembers phone calls to New York appealing to the patriotism of certain bankers there not to withdraw from placements already made or asking them to put new capital into loans to Central American governments, and conferences were held to the same end. It was hard to find a taker for certain loans. Once having yielded to patriotic appeals from Washington, the bankers would still be reluctant and worried about the safety of the loans; periodically it was necessary to renew the appeals to "keep the bankers on the reservation." They were always asking for security. (3)

These instances illustrate the reluctance of capital to undertake hazardous ventures abroad. The managers of important investment funds are not ordinarily eager to rush in with placements in regions where, in their opinion, the state of affairs is unsettled and the prospects for security unclear. The caricature of the banker burdened with bags of "surplus capital," forced to seek outlets for his excess funds in hazardous territory, then calling upon his government for protection, belongs mainly in mythology. The truth is that enterprises involving considerable amounts of capital (disregarding, that is, the schemes of promoters, adventurers, shoe-string speculators and indemnity hunters) are ordinarily undertaken with reluctance in regions where there are obvious financial hazards, and very often only after considerable persuasion from a government with a political axe to grind. Frequently those areas or ventures of most importance to diplomats, strategists, and patriots, in which the presence of national capital would be most serviceable to the government's foreign policy, are the very ones least calculated to inspire enthusiasm in those who hold available funds. When purely economic prospects are not attractive enough in themselves to bring about private investments desired for diplomatic reasons, what can a government do? How can it influence its investors?(4)



The extent to which governments have participated directly in "private" enterprises of political importance in foreign territory and have guided or stimulated other such enterprises by subsidies and guaranteed earnings proves to be surprisingly large when one sets out to collect the instances. This is a forceful demonstration of the significance which has come to be attached to investments as a tool of diplomacy. Direct methods of this sort seem to have been most used by countries with relatively feeble capital resources or by countries whose investors are exceptionally opposed to risky entrepreneurial operations abroad: Tsarist Russia, Japan, Italy, in the first class; France in the second. The governments of Great Britain, the United States, and Germany have not resorted to these methods so frequently, in part because the private capital and initiative of their citizens has been more widespread over the earth and more venturesome, supplying national footholds freely where policy needed them, or responding readily to indirect guidance and control.

The Suez Canal, opened in 1869, was constructed under the direction of a Frenchman, de Lesseps, by a company which had sold most of its stock in France and was regarded there as a patriotic French undertaking. British diplomacy looked on the venture as a political conspiracy to provide the occasion for interference by France in the Near East and as a threat to Britain's maritime supremacy. It adopted obstructionist tactics. Ismail Pasha, the ruler of Egypt, had granted the canal concession, and had invested eighty million dollars in the enterprise. In 1875 the same ruler, now become Khedive, faced financial ruin and offered to sell his 176,000 shares of stock to a French syndicate. This intelligence came to the British Foreign Office through a London journalist and was brought to Disraeli. A parliamentary appropriation might have been difficult to obtain, and anyway Parliament was not sitting, so Disraeli borrowed four million pounds sterling from the Rothschilds (their commission was 2 1/2 per cent, or five hundred thousand dollars, plus five per cent interest until repayment) and purchased the shares for Great Britain. Though there were only 400,000 shares outstanding, the British government's purchase did not give it the degree of legal control that one might expect, for there were restrictions in the statutes of the company regarding the number of votes that might be cast by any single shareholder. An arrangement with de Lesseps admitted three British representatives to the Board of Directors. Disraeli's famous stroke also turned out to be financially profitable to England, besides winning influence over a strategic link on the road to India.(5)

The Chinese Eastern Railway was the foundation of Tsarist Russia's politico-economic penetration of Manchuria as well as an enormous bridge connecting two portions of Russian territory in the Far East. The original concession for the construction of the railway was conferred in 1896 on the Russo-Asiatic Bank, a private company which had been organized in connection with a loan contracted by China in order to pay contributions called for by the Shimonoseki Treaty with Japan. The loan itself had been arranged by the Russian statesman, Witte, with Paris bankers and carried the guarantee of the Russian government. Shareholders in the Bank (at first called the Russo-Chinese Bank) were the Russian Imperial Treasury and large credit institutions of France; the Chinese government helped to support it by making large deposits. Thus, the bank originally empowered to build the railway was actually connected by close ties, including partial ownership, to the government of Russia. Likewise, the Chinese Eastern Railway Company to which the concession was transferred and which actually carried out the project was in the control of the Russian government. Its statutes provided that its lines were to form an inseparable whole with adjoining Russian lines, the tariff for transit passengers was subject to the approval of the Russian government, mail was to be carried free of charge. In return, the Russian government guaranteed the Company's expenses of exploitation and the annual payments due on its bonds. The Russian treasury regularly covered large deficits arising not only out of the operation of the railway, but also out of tasks related to the administration of the country, which also devolved upon the Chinese Eastern.(6)

Japan as well as Russia used the device of partial ownership and financial guarantee of a "private" company to control railway capital supporting its imperial interests in Manchuria. The South Manchuria Railway Company, organized to operate the line from Port Arthur north to Changchun obtained by virtue of the Treaty of Portsmouth from Russia, has always been merely another name for the Japanese government. When the government formed the company in 1906 it retained one-half of the capital stock and offered the other half to private investors, guaranteeing a return of six per cent on the paid-up capital for fifteen years. Actually, however, four-fifths of the paid-up capital stock remained in the hands of the government, which also appointed the president, vice-president, and directors. Besides the railway system, the South Manchuria Railway Company has conducted a great variety of other activities, including shipping, quays, electric power stations, mines, tramways, gas industries, hotels, agricultural experiment stations, farms, water works, an iron foundry, glass works, a tile factory, and even schools and hospitals.(7) Between 1925 and 1930 much of this property, aside from the railways themselves and certain mines, was turned over to a number of subsidiary companies in which the South Manchuria Company retained a controlling interest. The Japanese government thus controlled, by the familiar methods of corporate organization, business holdings within Manchuria that were estimated at nearly $425,000,000 as of 1931.(8)

One of the best examples of direct governmental participation in capital investments abroad is afforded by the Oriental Development Company. A semi-public colonizing institution incorporated by a special Japanese law in August, 1908, it engaged at first in operations in Korea and then, after 1917, concentrated in Manchuria, which was its most important field of operation from 1919 to 1926 Since July, 1917, the Company has operated also in Mongolia, China proper, the Straits Settlements, and the islands of the South Seas, where it has interests in sugar plantations. The initial capital of the Oriental Development Company was 10,000,000 yen, one-fourth paid up. The Japanese government, with the object of controlling it, subscribed to 60,000 shares, which it still holds. Only Japanese subjects may own shares. The president of the company is appointed by the government, and the directors are appointed by the government from among twice as many candidates elected by the shareholders. Through these devices, through the close relations of the Company with the deposits bureau of the Finance Ministry, and through subscriptions to the Company's debentures by the various semi-official banks, governmental influence over it is assured.(9)

As in the case of banks organized under government auspices, the Japanese government guaranteed a six per cent dividend on all Oriental Development Company shares for the first few years. Likewise, it guaranteed unconditionally the two Oriental Development Company loans floated in the United States in 1923 and 1928. From 1921 to 1923, inclusive, shareholders received ten per cent, the highest dividends ever paid by the Company. In 1923, the year of the earthquake, dividends were lowered to eight per cent, and in 1927 had to be reduced still further. Shortly thereafter the Minister of Finance announced a plan for assisting the Company which included a two per cent reduction in the interest rate on loans advanced to it by the Finance Ministry and an agreement that the government would forego dividend payments on its 60,000 shares so long as earnings continued insufficient to pay five per cent on all non-governmental shares. In 1928 a law was passed which permitted the Company to pay dividends on the government's shares at a rate five per cent lower than that paid other shareholders from 1927 to 1931.(10)

The first efforts of the Oriental Development Company were directed to the development of Korea, which was formally annexed in 1910 but was already in 1908 practically under the rule of Japan. At the time of the Company's reorganization in July, 1917, the head office was moved from Seoul, the Korean capital, to Tokyo; Seoul was made a branch, and new branches were established to expand the Company's sphere into Manchuria and Mongolia. The amount of loans outstanding thereupon rose rapidly. A large part of the Company's business resembles that of mortgage institutions in other countries. It extends loans to merchants, manufacturers, bankers, and municipalities for irrigation, drainage, construction, commerce, land settlement, and the like. It establishes and finances banks and trading posts, helps to supply settlers with implements, and has assisted with loans such varied enterprises as educational institutions, breweries, the ceramic industry, marine product undertakings, fruit growing, stock raising, mining, paper manufacture, rice polishing, bean milling, cotton spinning, and gas production.(11) In 1924, when the larger part of the Company's 152,000,000 yen advances was said to be outstanding in Manchuria, it was announced that its activities outside of Korea would be reduced, and by the end of 1926 loans in Korea again exceeded those in Manchuria.(12)

In 1891 a Russian bank with a French name, the Banque de Prêts de Perse, was established in Teheran. Later it changed its name to the Banque d'Escompte de Perse. It was practically a Russian governmental institution, and its chief purpose was to compete with the English-controlled Imperial Bank of Persia while winning political influence for Russia.(13) With the resources of the Imperial Treasury behind them the Russians were able to be far more generous in their financial operations than the penny-pinching English, who had to show a profit for a private company ---though the British government did give strong support to the Imperial Bank of Persia for political reasons and used it to advance government-guaranteed loans to Persia.(14) Russia had borrowed huge sums in France and could get more; why not put some of the French bondholders' savings at the service of Middle Eastern politics? So the Banque d'Escompte loaned money to the Shah on easy terms (though with political strings attached)---and not only to the Shah. In order to gain the goodwill of influential Persians the Russian bank showed them great liberality, and even extended this liberality to the public in general as a means of displacing the English bank. It loaned in profusion to everybody: ministers, courtiers, priests, business men, bankrupts, in sums far exceeding their real credit. The extravagant scale of its buildings and the huge salaries paid to its managers contributed to its annual deficit. After some twenty years, it is reported, all but about three million roubles of an original capital of thirty millions had been dissipated, and at Teheran alone the bank held credits of sixteen million roubles against individuals.(15)

France found it to the national advantage to subsidize a railway enterprise in Abyssinia. In 1894 the Emperor Menelik was in hot anger against the Italians, who had tried to trick him into accepting an Italian protectorate. French influence ran high at the Abyssinian court, and a concession was granted a French company for a railway from the port of Jibuti in French Somaliland to Addis-Ababa, the Ethiopian capital, and thence eventually to the Nile. Construction began in 1897. Financial difficulties arose when the Compagnie Impériale des Chemins de Fer Ethiopiens found itself in need of new capital to cover unanticipated expenditures, and after unsuccessful attempts to raise funds in France it borrowed from a British syndicate. The International Ethiopian Trust and Construction Company organized to handle this business was composed not merely of financiers but included among its directors prominent personages of the governing class, ex-colonial administrators, and men like Sir Charles Euan-Smith, the former British diplomatic agent in Zanzibar who had aided in the acquisition of British East Africa. The Ethiopian Trust appears to have pursued a conscious policy of financial penetration into the French Company, with a program which called for connecting the Abyssinian railway with a port in British Somaliland as well as with Jibuti, the French port, and for resisting the growth of French influence in Abyssinia. By 1901 the British had acquired almost a controlling interest. At this, French colonial circles took alarm and started a vigorous campaign, appealing to the patriotism of the French public to find sufficient capital for buying the railway free from "foreign control." The campaign did not succeed in producing the necessary privat capital, but it did succeed in bringing the government to the rescue. An agreement signed on February 7 1902, accorded the Compagnie Impériale an annual subsidy of 500,000 francs for fifty years on condition that it remain French and in consideration of certain ultimate rights to ownership of the railway line which could be exercised by the French government under specified conditions.(16)

This agreement produced a sensation in Addis-Ababa, where the astute and independence-loving Menelik hotly resented the indication that instead of a French private company he might find the French state within his empire. British diplomacy, of course, encouraged these views. Menelik showed his displeasure in ways which materially affected the financial prospects of the French company. He refused, for example, to sanction a scheme for the collection of a duty of ten per cent on merchandise carried between Jibuti and Harrar, "on the ground that he had granted the privilege to a commercial company, and not to a company which was practically owned and controlled by a foreign government."(17) Scandalous mismanagement and profiteering by insiders on construction supplies also appears to have hindered the progress of the line and to have impaired its finances.(18) At any rate, the Compagnie Impériale again fell into difficulties, pledged the whole of the annual government subsidy to insurance companies in return for eleven million francs of ready cash, failed in efforts to raise further capital in France, and turned once more to the British syndicate, pledging eighty kilometers of the line as security.

The syndicate, the British minister at Addis-Ababa, the Italian minister, Menelik, and the French financial interests in the Compagnie Impériale now all supported proposals for internationalization of the railway under an administration in which France, Britain, and Italy would participate equally. Some members of parliament in France, like M. Jaurès, even many chambers of commerce, also favored internationalization, but the majority, especially the colonialists organized to carry on a vigorous propaganda through the Comité de l'Afrique Française, wanted the railway to remain purely French. They argued that French political interests in Abyssinia and East Africa generally, as well as the prosperity of the port of Jibuti, depended upon control of this line of communication to the interior. This was the view adopted by Foreign Minister Delcassé. In 1906 a tri-partite agreement between France, Italy, and Great Britain delimited the spheres of interest in Abyssinia within which each might build railways and left the Jibuti route to France, with the provision, however, that the French government would arrange for the appointment of an Englishman, an Italian, and an Abyssinian on the board of the private French company which might be entrusted with the work.(19) Meanwhile, the "bad Frenchmen" at the head of the Compagnie Impériale had been accused of opposing French diplomacy in Abyssinia, and French colonialists feared that something like Disraeli's purchase of Suez Canal shares might be repeated.(20) The French government forced the old company into liquidation for violating the conditions of the 1902 subsidy agreement, arranged with Parisian banking firms in whose patriotism it had confidence to form a new company, headed by a former high colonial official, and guaranteed the earnings of this new company, thus continuing to subsidize a railway enterprise on Abyssinian soil.(21)

In southern China, also, France subsidized a railway on foreign soil. In this case, as in Abyssinia and in Tunis, the rails were a means of economic and political penetration from an existing French colony. Governor-General Doumer of Indo-China urged a considerable railway program upon the French government, particularly a line penetrating into Chinese territory, Yunnan, by the valley of the Red River. France emerged from the concession scramble of 1897-8, in which all the powers extorted railway-building rights from China, with permission to lay rails from the frontier of Tonking to Yunnanfu, the Chinese government having no other responsibility than to furnish the land and to permit the construction by the French government or by a private company which it might designate. In a law promulgated on December 25, 1898, the French parliament authorized the government of Indo-China to borrow 200,000,000 francs for use on this railway and to guarantee the earnings of a private company which would take over the concession. The money that the colonial government might be called upon to furnish was in turn guaranteed by the French republic. In 1901 A Doumer succeeded in launching the Compagnie Française des Chemins de Fer de l'Indo-Chine et du Yunnan, a syndicate composed of the principal financial houses of Paris, with a capital represented by 12,500,000 francs in shares, 12,500,000 francs as a subsidy from the colonial government of Indo-China, and 76,000,000 francs in bonds guaranteed by the home government to the limit Of 3,000,000 francs yearly.(22) When in 1908 the original concessionaire company collapsed on account of the enormous drain on its funds caused by expensive tunneling, bridging, cutting, and filling, the French parliament had to authorize and guarantee a new loan to complete the work. The line was opened to traffic in April, 1910, but its commercial prospects were not bright.(23)

Governments have not only directly influenced, through partial ownership, subsidy, or guarantee, such enterprises as canal, railway, and development companies and banks, but they have interested themselves in oil companies. The acquisition of stock in the Anglo-Persian Oil Company by the British government in 1913, as a result of the Admiralty's conviction that the needs of the navy demanded property in oil wells, has been mentioned above.(24) The French government participated in the Compagnie Française des Pétroles, and Italy also possessed its own government-controlled oil company, the Azienda Generale Italiana Petroli, which has conducted operations in Albania, Rumania, and elsewhere.(25) Steamship lines, cable companies, and lately wireless stations and air lines operating abroad have also been notable subjects of governmental solicitude.

The Italian government's financial sponsorship of development enterprises in Albania has been described (Chapter 9), as have the shipping subsidies which aided the Banco di Roma in its Tripoli undertakings (Chapter 3), and the guarantee of earnings with which Bismarck proposed to assist the Godeffroy firm in Samoa (Chapter 5). In Tunis, before the occupation by France in 1881, both France and Italy subsidized railway lines for penetration purposes. (See Chapter 12.)



From the number of instances in which governments have gone so far as to use direct methods of subsidy, guarantee, or partial ownership to influence and control investments abroad we are justified in surmising that there must have been many more cases in which governments would have been glad to exercise some sort of influence. The direct methods discussed above have two grave disadvantages which often (in certain countries almost always) make a resort to them impossible: they necessitate a more or less open avowal before the world of a policy of politically directed economic penetration, and in democratic countries they require appropriation of funds by what may be a critical parliament. Hence, we should expect to find that governments which wish to employ foreign investments as tools of foreign policy often make use of more subtle methods. Instead of authorizing a subsidy or formally guaranteeing profits they may employ various concealed artifices of persuasion upon investors, inducing them in a confidential manner to undertake projects which promise to further the government's purposes. Such methods of positive governmental influence on foreign investments are, indeed, far more prevalent than those treated in the preceding section. Unlike open subsidies and guarantees, however, they do not leave their traces in public documents, and in studying them we are thrown upon somewhat vague and unsatisfactory evidence.

It is abundantly clear, however, from cases of the type detailed in Chapters 3 and 4, that governments often do succeed in directing private investments abroad to political ends. Sometimes it is only necessary to cultivate the seeds of national interest already sown in a politically important region by some hardy enterpriser. This method has been open to Great Britain, for example, in almost every area where political influence was desired, for British traders and investors penetrated on their own initiative into all the highways and most of the byways of world commerce. The British government rarely lacked economic instruments of foreign policy. Sometimes a government proceeds by obtaining the promise of concession rights from a foreign country through diplomatic channels and then sets out to find a taker for the concession among its own financiers. Those who have not looked into such matters and imagine that concessions are always sought at the instance of profit-seeking capitalists do not realize how frequently the initiative comes from governments, and how frequently governments are even unable to find capitalists willing to accept the "opportunities" that diplomacy desires to press upon them. During the scramble for spheres of interest in the Far East the main business of the diplomats for a time seems to have been to extract all possible concessions from China and then to peddle them from one financial group to another. "Obsessed by their political aims," writes Sir Charles Addis, manager in London of the Hongkong and Shanghai Banking Corporation," the Governments were reckless of finance, and in their anxiety to peg out claims for posterity the powers entered with light hearts into contracts without regard to the ability of their nations to carry them out within a reasonable time."(26) A former German diplomat remarked in 1898 that the powers might find something better to do in Peking than to quarrel over projects for which it was questionable anyway whether any capital could be found.(27)

In still other cases a government may work in close cooperation in a particular area with a selected banking institution or a syndicate which lends itself as the instrument of the government on some projects and benefits from the aid of the government to its own interests in other projects. Having a monopoly of diplomatic support, the private financiers are quite sure to obtain some very profitable privileges and can afford to contemplate some losses on other more risky enterprises undertaken for political reasons. That this was the relationship between British diplomacy in China and the British and Chinese Corporation, Ltd., with reference to railways, has already been indicated in Chapter 6.(28) All the leading powers at times forwarded their policies in China through close coöperation with quasi-official banking institutions. Japan used the Yokohama Specie Bank and a syndicate composed of the Bank of Taiwan, the Bank of Chosen, and the Industrial Bank of Japan. Russia's political purposes were served by the Russo-Asiatic Bank, earlier called the Russo-Chinese. These Japanese and Russian banks were owned in part and controlled by their governments, thus bringing them properly under the preceding section of this discussion. German financial interests in the Far East were organized in the Deutsch-Asiatische Bank, founded in 1889 under the leadership of the Disconto-Gesellschaft and the Deutsche Bank with the encouragement and assistance of the Imperial government.(29) The strong official interest in this institution was shown by the direct participation of the Prussian State Bank (the Seehandlung)(30) and by provisions in the charters of the Shantung Railway Company and the Shantung Mining Company, whose formation was entrusted to the Deutsch-Asiatische Bank, for a measure of government control and government sharing in the profits.(31) France used the Banque de l'Indo-Chine, and, in association with it, the Crédit Lyonnais, the Comptoir National d'Escompte de Paris and other banks. Belgium was represented by the Société Belge d'Etudes de Chemins de Fer en Chine, while American interests acted for a time through a banking group originally constituted under the guidance of the State Department by J. P. Morgan and Company, Kuhn, Loeb and Company, the First National Bank of New York, and the National City Bank of New York.(32)

What types of persuasion and inducement do governments have at their command in securing the coöperation of private capital abroad, apart from direct financial participation or subsidy? The expressions used by insiders on occasion are both revealing and puzzling. "In Nicaragua a New York bank of the highest standing was induced to invest in the financial rehabilitation of the country, its transactions giving it an interest in the railways and in the customs revenues, which it is always desirable to remove from the reach of revolutionary depredations." So wrote a former high official of the Department of State, who also testifies that in Santo Domingo, in Cuba, in Honduras, and in Haiti the United States government participated in bringing about investments by American banks, "urging on the investors to lend themselves as instrumentalities of foreign policy."(33) Lord Curzon, Under Secretary of State for Foreign Affairs, wrote to Lord Salisbury in April, 1898: "1 think our next step in China should be to get some reliable syndicate to undertake the trunk lines North and South from the Yangtze-North towards Pekin, South towards Canton."(34) Sir N. O'Conor, British Minister at Constantinople, urged British investment in the Bagdad Railway project suggesting to the Foreign Office in a dispatch of July 1, 1901, that, "Without some impulsion from official quarters British capitalists may not be disposed to move in the matter."(35) A French banker once related to Paul von Schwabach, a German colleague, that Foreign Minister Delcassé had called him in at the beginning of the developments which led up to the Moroccan crises. Delcassé said that the French government intended to adopt a forward policy in Morocco, that a parallel action on economic lines would be desirable, and that be was "counting on" the coöperation of the French banks to provide it.(36) When the German government was urging its financiers into Italian investments to support the Triple Alliance, as related in Chapter 4, "regard for the important interests at stake" prevailed over difficulties encountered in the founding of the Banca Commerciale Italiana.(37)

In the scanty first-hand accounts of governmental influence on private investments expressions like these recur continually. The government "urges," "induces"; there is "impulsion" from official quarters; the government "counts on" the coöperation of its bankers, who have "regard for" diplomatic interests. Now, just what means of persuasion constitutes urging? To what motives or interests can the government appeal when it induces and impels? Why can it (sometimes, not always) count on the bankers?

First, the interlocking personal connections, ties of friendship, social and business acquaintanceship, and class consciousness which go far to explain the influence of private investors on government are also important factors in the influence of government on private investors. These connections between the rulers of business and the rulers of government have been sufficiently analyzed and illustrated in Chapter 8. Not decisive in themselves, perhaps, they greatly facilitate the operation of persuasions and inducements and must be re-emphasized here.

Secondly, there are certain motives not directly connected with the making of profits which have weight with investors and to which governments may appeal. The chief of these, of course, arises out of the sentiment of patriotism. Now, it would be ridiculous to exaggerate the rôle of patriotism in determining the decisions of financiers in the placement of funds abroad. Probably in the vast majority of transactions it enters very slightly or not at all---not consciously, at any rate. But it would be an equally bad mistake to overlook the reality, on occasion, of conscious non-profit motives. It is well known that men of wealth have voluntarily devoted large sums to the promotion of religion, or of science. Others, both rich and poor, have subscribed great sums in the aggregate to charitable enterprises. Is it cause for wonder, then, if those who direct investment operations and those who buy securities are sometimes influenced in the disposition of their capital funds by nationalist ideals?---ideals which are more vital to many modern men than religion, and for which many have willingly died. Wealthy Zionists financing investments in Palestine provide us with an example of capital movements clearly determined by politico-religious motives. It was the sentiment of nationality which induced Germans in Czechoslovakia to lend money from their coöperative organization to another German minority in the Siebengebirgen district of Rumania.(38) Furthermore, the influence of patriotic sentiment may impinge upon the investor in a thousand unobtrusive ways, so that when he thinks he is putting his money in a country that has a bright future, or is safe, he may really be responding unconsciously to a conditioning process which has been carried out by the blandishments of a patriotic or government-inspired press. This had much to do with sending French savings before the war to Russia. It helps to explain the flow of English capital to the colonies. Finally, patriotic investments are not necessarily unprofitable---as Cecil Rhodes testified. The appeal to patriotism, therefore, may be effective if it does no more than swing a doubtful balance between equally attractive or equally risky opportunities., Or the financier may feet that in the long run his fortunes and those of his country will rise or fall together. This seems to have been in the mind of Georg von Siemens, founder of the Deutsche Bank, who wrote to a German consul in Messina that to his regret the principles of organization followed in the business would not permit him to establish a branch of the bank there as the consul had suggested, "much as we also would be interested in strengthening the German element in Italy. For you are wrong if you believe that this is a minor consideration with us. In the long run one can earn a great deal of money with safety only when one adopts great national and ideal considerations for one's own and identifies one's own interests with the general interest. Our big business men, just as well as our diplomats and soldiers, must play a part in politics, and our country would be much more powerful if the government understood how to make use of the great potentialities in this field which are now unnecessarily wasted."(39)

Some governments are able to appeal to another powerful non-profit motive which strongly influences most men, and, one may suspect, acts with special effectiveness on those who have already reached the pinnacle of success in finance and business. This is the craving for distinction that is fostered and satisfied by the granting of patents of nobility, orders of merit, knighthood. Instances are probably rare where a capitalist has received such recognition as the immediate result of compliance with his government's wishes in the placement of funds abroad, just as direct bribes are relatively unimportant in the influence of investors on governments.

Rather, like good jobs with oil companies and banks for former state officials, these distinctions are legitimate prizes, endowed with social approval, which dangle before the eyes of aspirants and supply an incentive to act generally in a seemly and becoming manner. Even after the award, to be addressed as "Herr Kommerzienrat" or to read one's name in the society column and the financial page as "Sir" or "Baron" so-and-so, may operate to induce a general attitude of sympathy for the policies and projects of the state and a fellow-feeling with those who guide the nation's political destinies, thus preparing a more responsive reception for the hints or urgings of the government. Financiers have received their share of noble honors at the hands of modern governments. A German writer points out, for example, that although the regime of Wilhelm I was rather niggardly in this respect, recognition was bestowed on the head of the banking house of Schickler, on the founder of the F. W. Krause banking house, on Adolf Hansemann of the Disconto-Gesellschaft, and on Gerson Bleichröder, the banker friend of Bismarck. The reign of Wilhelm II provided such honors more copiously. Two Frankfort bankers, Metzler and Granelius, were raised to the nobility, as were the son-in-law of the last Prussian Rothschild, Goldschmidt, Schwabach of the Bleichröder firm, and Rudolph Koch of the Deutsche Bank.(40)

Thirdly, there are various ways in which governments are able to induce the coöperation of private capital through appeals to the normal profit motives of business. Special efforts may be made to bring profitable opportunities in areas of strategic political importance to the attention of business men and investors, through reports and private correspondence of diplomatic and consular officers, personal contacts by foreign office men with business leaders, official utterances, press propaganda, and the like. Normally unprofitable opportunities may be made commercially attractive by obtaining concessions which carry a subsidy or guarantee from the government of the capital-receiving country. The Bagdad Railway, for example, would hardly have been attractive to capitalists without its kilometric guarantee from the Turkish government, and many railway projects in China had Chinese governmental guarantees. Or privileges and bargains at home may help to induce capitalists to coöperate with the government abroad, as we observed in connection with the Banco di Roma's penetration of Tripoli and French post-war penetration of heavy industry in the Saar. It is reported that the Imperial German Marine Office, actively seeking to promote German interests in Shantung, had some difficulty in finding commercial firms to help it along with its Far Eastern policy, and that firms which did establish bases there received favors of one kind or another, such as coal orders from the navy.(41)

Wholehearted consular and diplomatic support in some countries may make all the difference between profitable and unprofitable investment enterprise, by helping the investor to obtain contracts, to overcome the obstruction of petty officials or foreign rivals, to secure permission for carrying out business plans, to check depredations on plantations, to obtain a cheaper and better labor supply, or to get satisfaction on claims against the government. If the investor is sure that he can count on the vigorous support of his government, that in itself reduces his risks and heightens the profit inducement. Since in urging its citizens into particular investments a government impliedly if not expressly obligates itself to lend them vigorous support of this character, the very circumstance that his government urges him on is likely to carry a promise of profit to the investor, as well as an appeal to his patriotism. The State Department, for example, after persuading American bankers to enter rather against their will into various investments in the Caribbean area could hardly stand by inactively and see them lose their money.(42)

The profit incentive to investment in a given region may also be enhanced by diplomatic measures tending to exclude foreign rivals and thereby to establish a partial or complete monopoly. Thus, the pegging out of spheres of interest can in itself be a means of influencing private capital to reenforce the government's foreign policy. Furthermore, when a government commits itself definitely to a certain line of action abroad and lets it be known that it has serious and permanent political intentions in a particular area, that in itself encourages private investors to assist, for they see chances to get in on the ground floor, so to speak, and to speculate on a politically induced rise in values. When it became clear, for example, that the French government had adopted a consistent forward policy in Morocco and would not turn back, especially after troops had been sent in, the early unwillingness of the bankers to risk funds there disappeared.(43) Many companies and individuals also began to speculate on a political rise, anticipating that increased stability and economic development would come with a French protectorate. Urban sites at Casablanca originally costing a few centimes the square meter brought three francs in 1909, six francs in 1910, twenty-five francs in 1911, forty in 1912 (the date of the French protectorate), and one hundred to one hundred fifty in 1914.(44)

The definite, open commitment of the government to support of an enterprise abroad which it desires to promote, expressed in various ways, may be an important aid to the financiers in selling the securities and hence be a means of inducing them to coöperate. "Our power as bankers extends no further than we can be carried by the approval of the public," said Georg von Siemens, founder of the Deutsche Bank and leader in the Bagdad railway undertaking, in 1888.

"If we were to conduct our business with the meager means actually owned by a bank we should be at the end of our resources and of our influence within a few months. Our business is simply a matter of feeling the pulse of the public and of moving a bit in advance of its feel."(45) That is why a few years later, when the German Foreign Office was pressing the Deutsche Bank to proceed more rapidly in the Bagdad matter than von Siemens thought possible in view of the difficulty of financing the huge project, von Siemens suggested that the government might assist by agreeing to accept the railway bonds as collateral for loans at the Reichsbank and by persuading the Prussian State Bank (the Seehandlung) to participate openly in floating the next bond issue. The active coöperation of the State Bank would, of course, stimulate the confidence of the public. The Foreign Office and the German ambassador in Constantinople were for giving this moral support, though the State Bank itself was opposed. Some years later it was finally prevailed upon to lend its partial coöperation in the Bagdad enterprise.(46) Similarly in England, Lord Lansdowne at the Foreign Office saw the political desirability of British participation in the Bagdad Railway under a scheme of internationalization which was then being discussed, but "if we insist upon having such a share someone must be prepared to receive it." So he made inquiries in "the City" and was told that "unless the British Government gives practical proof of its confidence in the undertaking by giving it material support in one shape or another British financiers are not 1909, likely to come forward." The suggestion advanced by Lord Rothschild and Lord Revelstoke (of Baring Brothers) was that the government should agree to take part of the ordinary shares.(47)

Finally, a desire to benefit from the goodwill of the department of foreign affairs in connection with other business ventures abroad puts large foreign investors in a receptive mood for suggestions from the government. Those who control diplomacy are able to exert pressure upon bankers by intimating that if they accede to official wishes in the present instance their interests elsewhere will be much better looked after. "Big financiers are much easier to handle than little ones," says M. Joseph Caillaux, who has had considerable opportunity to observe such matters in France during a political career which included the finance portfolio and the premiership during the development of the Moroccan crisis. "The government and the big ones are in constant conversation. They may have interests in Argentina or Brazil where they need diplomatic support. It is therefore to their advantage to work with the government."(48) Aside from the question of potential diplomatic protection, the goodwill of the foreign office is often valued by bankers simply for the improved sources of information which it opens to them.(49)



So far this discussion has concerned what might be called positive methods of guidance and control by government over private foreign investments---that is, techniques for getting private capital into regions and enterprises abroad where the government wants it. What of the means whereby governments undertake to prevent particular investments that they find undesirable? These negative methods of governmental influence over private investment abroad, it may be observed, have provided a political instrument that can be used in dealing with relatively strong powers---those powers against which the penetration methods applied in "backward" countries are not effective. A second general observation regarding them is that they have been most conspicuously applied in connection with the flotation of loans to foreign governments, but not exclusively so. A brief treatment of negative methods of influence on foreign investment is therefore relevant to this study, though government loans as such lie outside its focus of attention. Perhaps it is unnecessary to add that the negative methods under consideration here do not include emergency controls designed to stop a "flight of capital" or to stabilize the exchanges and protect a currency system. We are interested in politically motivated influence on investors under "normal" conditions of capital export.

The government's attempt to make its disapproval of a proposed capital export effective may rest upon formal, legal, and mandatory controls over the flotation of foreign securities, or it may depend upon informal, non-mandatory intimations and pressure upon those who issue foreign securities. In general, direct investments abroad have not been subjected either to formal or informal controls. That is, bankers who would consult the foreign office as a matter of course before bringing out a foreign security issue would rarely think of asking whether there were any political objections to the construction of a warehouse, the acquisition of an electrical power system, or the establishment of a commercial sales agency in a foreign country. That would be regarded as none of the government's business, unless there were very exceptional circumstances, except in a fascist country where government representatives might supervise private firms directly and both stimulate and veto particular operations abroad. It is publicly issued foreign securities, as distinguished both from securities privately placed and from direct investments, that have mainly been subject to governmental bans.(50)

The formal, open censorship of foreign security issues by governmental authority was applied most vigorously in France, among the pre-war capital exporting countries. There official authorization was necessary before any foreign security could be listed on the stock exchange. Almost every loan to a foreign government, before it could be floated in the Paris market, had attached to it a history of bargaining and negotiation in which the Ministry of Finance had to be satisfied of the economic and the Ministry of Foreign Affairs of the political advantage to France in the proposed transaction. Outside of a tacit embargo on capital exports to the central powers,(51) however, there seem to have been only two instances in which security flotations for private (non-governmental) foreign enterprises were actually vetoed. Bagdad Railway bonds were excluded from the stock exchange in 1903 on account of the imperial German aims embodied in that project, and the stock of the United States Steel Corporation was denied listing privileges in 1909 because it was regarded as a direct competitor of French industries, particularly of the metallurgical and armament firms whose welfare was always an object of governmental solicitude. The German government before the war had two legal means of interposing a barrier against foreign securities of which it disapproved. It could specify, through the Reichsbank, what securities would be accepted as collateral for loans, and it could veto, through the state control of the stock exchanges, the listing of any "issues which endanger a public interest." In actual practice these powers were very little used, and in only one case were they applied against a non-governmental foreign issue. Listing was refused for the bonds of the Chicago, Milwaukee and St. Paul Railway on the Berlin stock exchange in 1911.(52) In general, the German government preferred to proceed informally, keeping in touch with the great banking houses, not so much to restrain them as to induce them to embrace opportunities for the expansion of German political and economic interests and to guide the none too abundant German capital into channels regarded as nationally most productive. England exercised no formal control over the flotation of foreign issues in the British capital market before the war. In all these countries, of course, the war brought special restrictions, which continued well into the 1920'S in the train of currency difficulties and stabilization programs. A few years after it began to appear that normal conditions had again been reached the great depression once more upset world finance and produced more emergency regulations. The United States government, until recently,(53) has had no statutory peace-time authority to interfere with the issue of foreign securities, and its occasional interventions for this purpose during the boom investment period culminating in 1929 were through informal means of persuasion and pressure.(54)

The governments of all the important capital-exporting countries have at one time or another made use of informal controls apart from open application of legally authorized authority, to block the participation by their investors in particular foreign financial projects. These controls operate through private intimations to bankers, advice, persuasion, threats, friendly coöperation, pressure, in innumerable forms varying with the circumstances. They depend for their effectiveness, in so far as they are effective, upon the same ties between the rulers of politics and finance and upon the same springs of action that we have already explored, plus the additional fact that the government would in most cases be able to have considerable adverse influence on the market for any issue which would have to be widely sold, should it decide to express its disapproval openly. Inspired articles in the political and financial press are another means of informal control over capital placements, sometimes used to prevent, as well as to stimulate, investments.(55)

In France it has been the regular duty of one of the higher officials of the foreign ministry to keep in touch with the international financial operations of the great banks and to make known the wishes of the government. The government's supervision over the investment market was also facilitated by its charter right to nominate the directors and inspect the transactions of the Crédit Foncier, which gave it an effective influence over this important bank and a number of subsidiary and associated establishments.(56) In Germany before the war bankers testified that issuing houses regularly consulted the Foreign Office with reference to governmental issues, though seldom or never in connection with industrial securities, and that "the faintest hint" was enough to prevent the flotation of a loan contrary to German political interests.(57)

In England, probably due to the tradition of free trade, the habit of adjusting political and economic affairs to circumstances without the adoption of formal rules, and the relatively greater importance of non-governmental and non-European investments in British portfolios, there has been more freedom from political interference with foreign investment issues, than in any other of the leading capital-exporting countries. "The government tended---as far as ordinary practice went---to treat the financial institutions as a separate independent power, rather than as a subordinate one."(58) There was not only no formal censorship, but no regular, established procedure for coördinating the work of the financiers with the policies of the government. But there was a great deal of informal intercourse between Downing Street and the City, made more effective by the habits and structure of British society.(59) When imperial interests were felt to be at stake the government did not hesitate to exert its influence. Twice British bankers were persuaded not to participate in Bagdad Railway loans, once reluctantly in 1903 when both financiers and diplomats had to bow to the pressure of anti-German public opinion, and again in 1910 when Sir Edward Grey, upon representation from France, persuaded Sir Ernest Cassel not to put in a bid for Bagdad bonds.

The government of the United States, confronted by great capital exports in the 1920's, attempted to set up a systematic censorship over foreign flotations comparable to those of France or Germany but with no more legal basis than existed in Great Britain.(60) The first step was a conference of May 25, 1921, between several members of President Harding's cabinet and a number of investment bankers, at which the banking group was asked to keep the government informed regarding contemplated flotations of foreign bonds in the American market, "so that it might express itself regarding them if that should be requested or seem desirable." This did not obtain the desired degree of response from the bankers, and on March 3, 1922, the Department of State sent a circular letter to American investment bankers in which it repeated the request to be informed in advance of foreign bond issues, stated that it would not pass upon the merits of foreign loans as business propositions nor assume any responsibility for them, admitted that it could not require bankers to consult the Department, but concluded that "in view of the possible national interests involved" the Department "should have the opportunity of saying to the underwriters concerned, should it appear advisable to do so, that there is or is not objection to any particular issue." This has formed the basis of subsequent policy.(61) The practice was for the financiers in charge of a loan to write a letter to the Department (sometimes after the matter had been taken up personally or by telephone) outlining the proposed flotation and. for the Department to reply, in a phraseology which became more or less standard, that "in the light of the information before it, the Department of State offers no objection to the flotation of this issue in the American market."(62) This, of course, was in case that the proposed issue met with no opposition. The State Department in passing upon loans also ascertained whether there were any objections from the Treasury or the Department of Commerce. Sometimes the reply to the banker, after stating that there was no objection to a proposed flotation, expressed the hope that such part of the proceeds of the loan as were not spent in the borrowing country might be expended in the United States, or that American firms might be afforded the freest opportunity to compete on equal terms for the work to be financed by the loan. (63)

The United States government did not confine itself to passing upon particular proposals when submitted, but went further than any other government toward defining in advance the circumstances under which foreign flotations would encounter its objection.(64) It was intimated that official disapproval would be turned against loans to countries not making war debt settlements with the United States, loans for armament, loans to assist in monopolizing products consumed in the United States (such as a proposed coffee valorization loan to São Paulo and a proposed loan to the German potash cartel), and loans to Soviet Russia. Warnings were also issued against excessive lending to German states and municipalities, but this was in the nature of general advice related to the transfer problem and possible future difficulties in repayment; it did not lead to outright disapproval of particular loans. As in other capital-exporting countries, the official censorship was applied chiefly, though not by any means exclusively, to foreign governmental loans. It was the custom of banking houses to consult the State Department on all foreign bond issues, including bonds of corporations. On the other hand, they did not submit bank credits to the Department for approval, nor bonds not publicly floated, nor did the Department exercise censorship over acquisition of proprietary interests in foreign enterprises and other forms of direct investment abroad, nor did it pass on concessions and contracts secured by Americans in foreign countries.(65)

The methods of negative control over capital exports in the various countries examined have not always been effective. While American bankers, for example, respected pro forma the veto against public flotations of French loans in the United States, some of them bought French bonds issued in Holland at the original underwriters' terms and distributed them privately among their clients. Others bought older French issues and then offered them publicly. American banks participated in underwriting syndicates for French loans through their foreign branches and agencies.(66) After the government had objected to the flotation of a São Paulo coffee valorization loan in the United States, an American investment house bought up a large share of the London issue and advertised it publicly for sale in New York. "Bankers said that the only effect of the ban on an original offering here was that American investors paid higher prices for the bonds than would otherwise have been the case."(67) In France, while the government's control over listings on the stock exchange has legally been unlimited, it has not always been able to withstand the opposition of the banks against a particular veto, while its control over private transactions has been even weaker. The Russian Ambassador, Isvolsky, complained to his home government that French financiers had more influence over the French government than did the government over the financiers, and that French bankers frequently evaded government orders by indirect means.(68) The Mendelssohn banking house in Germany informed the Russian statesman, Witte, that they had secretly subscribed to a Russian loan of 1908 through their non-German branches, in spite of the governmental veto against flotation in Germany.(69) Notwithstanding these evasions, however, it remains true that actual or potential restrictions over access to the capital market have been valued by statesmen as an instrument of foreign political and economic policy. Obviously, the extent to which such devices can be used to exert pressure on a would-be borrower depends upon the readiness with which vetoed loans might be floated in other markets, which in turn depends upon such things as the credit standing of the borrower and the condition of world finance at the time.

Chapter Eleven

Table of Contents