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A TREATISE ON MONEY

BK. IV

levels abroad, the foreign-exchange method will haveadvantages because it preserves external equilibriumwithout upsetting internal equilibrium at all; but ifit is due to changing interest-rates abroad, then in thelong run the bank-rate method will be essential, andthere is only room for the foreign-exchange methodas well (assuming stability of money-incomes at hometo be our objective) if the change in relative interest-rates involves an important change in the terms oftrade. In the second place, if the disequilibriumis purely temporary and needs no lasting readjust-ment, then a temporary use of the foreign-exchangemethod has the advantage that it operates quicklyand directly on prices, whereas the bank-rate methodmay not have produced its desired results until theyare too late to be useful. For, in this case, an oscilla-tion in the price-levels of foreign-trade goods andhome-trade goods relatively to one another may causea sufficient modification in B to overcome the fleetingoccasion of disequilibrium, without any serious dis-turbance either in money-incomes or in the equilibriumof savings and investment.

If, therefore, Central Banks could be assumed tobe wise, it would seem—subject to the considerationsin (2) below—that tliey ought to have both weaponsin their armoury for use on the appropriate occasions.

(2) But there is a further important bye-productof the foreign-exchange method. The uncertainty asto the prospective rates of exchange with the outsideworld will have a far-reaching effect on the magnitudeof L, tending to diminish the volume of foreign lendingand equally (if our country is a borrowing country)the volume of foreign borrowing. Thus the choicebetween the two methods may be as much governedby the consideration whether, on grounds of generalsocial and national policy, we desire to encourage orto discourage foreign lending (or borrowing), as by thetechnical monetary considerations adduced above.