THE THEORY OF EXCHANGE ISI 
to be the case, the loss on exchange is greater than the 
decline in the internal purchasing power of a currency, 
or, in other words, that as a result of the exchange crisis 
there is a certain disparity in purchasing power in favour 
of the country with a depreciated currency. Thus the 
exchange profit obtained by exporters in the purchase of 
foreign bills is not at first wiped out by a rise in the cost of 
production; and this additional profit tends to bring the 
balance of payments into equilibrium. On the other hand, 
this return to equilibrium cannot fail to promote the 
restoration of the exchange until such time as its own 
restoration, by eliminating the premium on exports, 
allows the exchange to fall back to its normal level. 
An attempt has been made to find a confirmation of 
this theory by comparing the curve of such disparities 
with that of the trade balance. In the absence of sufficient 
1 Some writers have such confidence in this theory of automatic adjust- 
ment that they do not think it possible to explain a continuous exchange 
depreciation without finding some factor which has prevented this 
automatic mechanism from coming into play. For instance, M. Rist in his 
work, “Les Finances de guerre de I’Allemagne,” asks how the mark could 
have continued to fall during the hostilities. “This can only be explained,” 
he says (p. 179), “by some new factor, viz., the internal rise in prices due 
to inflation.” Superficial observers may perhaps content themselves by 
pointing out that it is not very surprising for the premium on exports 
resulting from the loss on exchange to be incapable of developing exports 
in a country which is at war and which is devoting all its productive energy 
to the manufacture of arms and munitions and is also subjected to a strict 
blockade. 
But this argument is in itself worth examining, and it is an interesting 
question whether it is true that in peace time and without inflation a 
balance of payments, and with it the exchange, will be automatically 
restored. Now Germany after the war offers an example of an exchange 
falling indefinitely, whereas expansion of the currency at any rate from 
1919 onwards lags behind the fall in the exchange, and is so far behind the 
rise in prices that this apparent inflation really amounts to a modified 
form of contraction. In the case of Czechoslovakia from August 1919 to the 
end of 1921, we have also seen a crash in the exchange and a prodigious 
rise in internal prices in spite of a currency steadily restricted. Moreover, 
further observations in this chapter will show that while there may be in 
every fall in the exchange some balancing factor tending to restore it, the 
influence of this factor could hardly be considered as decisive in normal 
times.