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2016 International Conference on
National Debt Redemption Movement
유네스코 세계기록유산 등재기관 사례발표
Ⅱ
The Impacts of the French Indemnity of 1871
on the French, German and Global Economies
Dr. Geoffrey WawroⅠUniversity of North Texas
A Paper presented to the National Debt Redemption Conference in Daegu, Korea, November-December
2016.
At the Treaty of Frankfurt terminating the Franco-Prussian War in May 1871, Chancellor Otto von
Bismarck and his German government assessed the post-war French government crushing reparations:an
indemnity for German war costs that was 70 times higher than the indemnity the Prussians had assessed
Austria just five years earlier after the Austro-Prussian War. Bismarck’s demand in 1871 for 5 billion
francs was equivalent to about $20 billion in today’s money.
There were precedents for this. Indeed the indemnity was proportioned, taking account of population,
to be equivalent to the 1807 indemnity Napoleon had charged Prussia at the Treaty of Tilsit. In 1815,
the Allies had assessed France reparations of 700 million francs to pay for the damage of the French
Revolutionary and Nap Wars. And of course the Prussians had extorted indemnities from the Austrians
and the German states in 1866.
But nothing this large. Even generously estimated, the Prussian army’s costs for the war and to
prepare to defend its conquests and fortify its new frontier would not exceed 3 billion. Bismark pushed
the total to 5 billion to cripple France, and make it incapable of ever attacking Germany again. The
burden was even greater because Bismark annexed Alsace-Lorraine, which contained 4 percent of the
French population and much of its coal and heavy industry. “France being the richest country in Europe,
nothing could keep her quiet but effectually to empty her pockets,” Bismark said.
Because France would have to pay not only the indemnity but the occupation costs of the German army
in France until the indemnity was paid, the total sum would be staggering. Bismarck knew this well:
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“The Army of Occupation,” he said in Dec. 1870, “will be like caterpillars on a tree eating their way all
over it.” Germany reserved the right to increase the number of occupation troops at any time – if France
increased its military, concluded a threatening alliance or elected a government unacceptable to Berlin
- thus increasing the total cost to France. Germany also retained French POWs from the war until the
indemnity was paid – a big tax on French families.
Even experts doubted that France could pay such a huge sum. As the banker Abraham Oppenheim
wrote from Berlin in Feb 1871: “the newspapers are driveling about 7 or 8 billion francs, but these
people have no accurate notion of what a billion francs is. We as men of finance must be honest about
what France is in position to do after so bloody a war in which her financial resources have been used in
such an irresponsible way. 4 billion francs would be the outside limit. More would lead to ruin.”
Oppenheim calculated the costs of debt service on a notional 4 billion francindemnity at 250 million per
year. “When one adds to that how much France has been laid waste by the war, and what expenditures
are needed to recover bit by bit from the war, we can assume that it will take the French at least ten
years to get back on their feet … A huge indemnity, on top of the costs of recovery, may plunge France
into a financial crisis that will ruin it.”
The indemnity certainly seemed ruinous. France’s GDP in the early 1870s was just over 20 billion
francs, so the three-year, total transfer in present-value terms constituted roughly 25 percent of a year’s
GDP, or two-and-a-half times the average annual government budget in France. This payment was the
largest transfer in history. The indemnity payments averaged 9 percent of GDP each year from 1871 to
1873. In contrast, the German reparations payments of 1929-1932 averaged 2.5 percent of GDP, the
Finnish transfers to the USSR in 1944-1948 averaged 4 percent of GDP, and the transfers from the
former West to East Germany in 1991-1995 averaged 4.25 percent of GDP. The Franco-Prussian War
indemnity in 1871 was also large as a share of Germany’s GDP, for in 1870 Prussian/German GDP was
only slightly greater than that of France.Germany thus was the beneficiary of a transfer over three years
equal to around 20% of its annual GDP. This was an extraordinarily large transfer of national wealth.
The French indemnity was the largest reparations payment in history.
France was required to pay on the following schedule:
30 days after order was reestablished in Paris: 500 million
During 1871: 1 billion more
By May 1, 1872: 500 million more
By 3/2/74: the final 3 billion (plus 5% interest while debt outstanding.)
Payments had to be in gold, silver, or notes of the rock-solid Banks of England, Prussia, Netherlands,
or Belgium.
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The German aim was to distract and cripple France for years to come. But France stunned the world
with its ability to pay, and pay quickly, in far less time than the years or even decades projected by
Bismarck.
The Franco-Prussian War had been preceded by 15 years of “globalization,” featuring rapid growth in
communications and transport, ever more sophisticated stock and real estate markets, strong international
trade, and regular outflows of capital from the UK and Europe to the US, Latin America, East Asia and
the Ottoman Empire. This hungry, ready-built system, with ample liquidity, was at France’s disposal
after 1871, just as the capital-rich “roaring ‘20s” helped Germany finance its reparations after WW1. It
made it relatively easy for France to borrow the money it needed to pay down the indemnity. Bismarck
– no economist – calculated as if France still existed in a world of capital scarcity. That was not the case
in the early 1870s.
On June 27, 1871, just 48 days after signing the final treaty, the French government subscribed a
2 billion franc loan (at 822, with perpetual 5% interest). This loan – the first 2 billion – got France
through to the end 1872.
13 months later, in July 1872, the French govt sold a second loan, for 3 billion (at 842, 5%). Like
the first issue, these were “perpetual bonds,” meaning the principal would never be repaid. Investors
clearly viewed France as a safe bet. There was little sovereign risk because French President Thiers was
committed to paying the indemnity and lenders knew that the French knew that German troops would
not leave France until the indemnity was paid. The famous European “rentier” lived on rentes like this
– 5% for life -- and the French bonds were immediately oversubscribed in the leading money markets
(London, Paris, Berlin, Amsterdam, Antwerp, and Frankfurt.) One-third of the investors were German.
More than half of the funding came from foreign countries.
The sums weren’t transferred in two great payments; instead remittances were made at the rate of 250
million francs a month to meet German requirements. They were completed in September 1873, two
years ahead of schedule.France’s prompt payment of the indemnity surprised everyone. The country had
endured defeat, civil war, a hard peace, and occupation costs. Experts predicted even in 1872 and 1873
that France would be unable to pay on time. And yet the last centime was paid in September 1873, and
the last German troops were withdrawn from French soil 18 months ahead of schedule.
The payments were made in the form of bills of exchange and to a lesser extent gold, silver, and bank
notes. It was during this time that Germany went fully onto the gold standard, and obviously the massive
indemnity made this not only possible but even easy, guaranteeing a German currency that hadn’t been
regarded as rock solid before the war.
The Germans spent 80% of the indemnity on the costs of the war: war costs, pensions, payments to
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the South German states for their war costs, forts, the navy as well as the new Reichstag building, which
remains today the home of the German parliament.
The macroeconomic effects of the indemnity were interesting, a classic case of economist Charles
Kindleberger’s “displacement” theory, in which normal, predictable economic activity is “displaced” by
extraordinary events, like the French indemnity and its flooding of the market with new money-like
assets. The transfer of capital over three years from France to Germany equal to more than 20% of
either country’s annual GDP should have had predictable impacts — negative for France and positive for
Germany.
In fact, the monetary and economic conditions prevailing in the two countries meant that the indemnity
was misused in Germany – displacing normal, thrifty attitudes and creating a false sense of mastery and
exuberance -- and stolidly absorbed in France.Moreover, when markets are liquid and levered-up as they
were in the early 1870s, they can absorb large debt obligations easily, and because they can convert these
obligations into “money”, they almost appear to be self-financing. (Look at the USA today.)
In victorious Germany, the inflow of French cash and bullion triggered the Gründerzeit– the age of the
founders. In just 24 months, the indemnity released into the German market a sum three times greater
than Germany’s total monetary stock, and greater than the combined debts of all of the German states.
The massive French reparations effectively retired Germany’s public debt and filled the German economy
with liquid funds.
Easy money and new laws facilitating the start-up of joint-stock companies led to a dizzying but
disruptive industrial and financial expansion. Discount rates tumbled to 3% in Berlin. A speculative
frenzy followed in foreign and domestic stocks, especially all of the new start-ups. Fraud and asset
inflation naturally were rampant in this environment. More than twice as many companies were
organized in the two years 1871-72 than in the seventy years before: 1/3 of them were banks.In 1870,
there were 48 large banks in Berlin; in 1873, there were 143. Share prices of banks and railways surged.
German mining and heavy industry boomed.
German notes in circulation surged 40 percent, as did inflation. German prices were 15-20% above
pre-war levels by 1873. Wages rose too.
The surge of new money led to an asset bubble and thena great crash in late 1873. The crash arose
from the collapse of the no less exuberant Vienna stock market in May 1873, followed by bank panics
and market crashes there, in Germany and in the U.S. German shares of banks, railroads, mines
and industrials dropped 70% or more. Hundreds of recently founded banks, corporations and railway
companies went bankrupt. Millions lost everything. No one knew it at the time, but the 1873 crash
turned into the “Long Depression” that would last for a generation – until 1896. It was helped along by
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worldwide deflation, as Germany, France and the U.S. abandoned bimetallism and went over to the gold
standard.
Germany, puffed up by the French indemnity, suffered more than others from the recession and
liquidity contraction. Rumors circulated in France that the Germans might actually return the indemnity
to the French. Norman Angell’s 1913 best-selling book The Great Illusionused the 1871 French
indemnity and its ill effects on the German economy as a warning: reparations were invidious and
counter-productive. As one economist recently observed, Germany, the great beneficiary of French
“largesse” in the 1870s turned out not to have benefitted any more than Spain had benefitted from
German largesse 135 years later. Money poured into dubious, unproductive projects creates a devastating
boom/bust cycle. (Germany, of course, didn’t have to pay back the money after the unprofitable orgy;
Spain did.)
Oddly, France seems to have weathered the storm better than other economies because of its
fiscal conservatism and focus on debt payment.By borrowing the funds to pay the indemnity, the
Frenchfinancedwhat would otherwise have been a lump-sum loss of national wealth. They didn’t redeem
the obligation; they financed it.
This lessened the pain for French citizens, and smoothed the problem of consumption.The French
people, their capital intact – not taxed or surtaxed to pay the indemnity -- still bought things and
powered the economy. In the meantime, France increased its access to capital by founding rural banks –
useful for finding and banking the cash deposits that French peasants had traditionally invested in land or
hidden in their homes. The indemnity triggered a boom in French banking by providing France’s rural
masses with credible, safe investments.
It helped that agriculture, services, transport, and government made up almost two-thirds of French
GDP in 1870, which meant that France, its national wealth undergirded by “non-traded goods,” was
insulated against shocks to its currency or a deterioration in international terms of trade. France, a net
borrower, didn’t suffer as much from its higher borrowing rates than it might have. Germany, awash in
French cash, didn’t have time to profit from its lower borrowing rates.
France’s indemnity at nearly 23% of GDP over three years, might have been devastating to the
economy. It certainly left France with a heavy debt burden, but its immediate economic impact was not
nearly as bad as might have been expected, and was effectively worked off in the decades ahead, when
the French economy vastly expanded through trade and a vast expansion of industry, education and
infrastructure.
Paradoxically, Germany suffered the most from the depression that followed the Gründerzeitbecause
of its absorption of indemnity funds and the surge in speculation. What goes up must come down.
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Investors pulled their money out in a blind panic. In Germany, there was a huge drop in economic
activity, production, prices, receipts and profits across the board.
Economists concluded that the marked expansion and later depression of German industry was largely
due to the receipt of the indemnity funds. The inflow of indemnity funds drove up the value of the
German mark and hit Germany’s manufacturing sector hard. Germans bought more and more French,
British and American imports. The indemnity was commonly believed to have undermined German
industry, a double-whammy when taken alongside the speculative stock market bubble and the surge in
debt based on it.
The French money pushed into Germany via the indemnity wrought havoc. Since the indemnity was
collected and spent by the German govt, not banks, there was less foolish investment than there might
have been otherwise, but there was still plenty. There are some considerations, however, on the other
side of the question. The wiping off of all the costs of the war from the budget of the new empire, the
establishing of the German currency on a gold basis, and the undertaking of various domestic reforms
without immediate expense were advantages which most Germans of the day considered substantial gains
from the French billions.
Overall, the French indemnity of 1871 vanished into historical obscurity because of France’s efficient
and successful payment of it. Had France stumbled, it would have ranked with the loss of AlsaceLorraine as a notorious “cause” of WW1. As it was, the biggest reparations in history became a footnote.
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