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Financing China’s Defense

ISSUE:  Summer 1939

Varying estimates of the cost of the present Sino-Japanese War to China have been made by well known Chinese and other economists. It should be understood that the term “war cost” is not to be interpreted in its widest sense here, but that it means simply the expenditures in goods and services, calculated in terms of money, that are necessary to ensure that China’s military defense will be carried on as effectively as may be.

The late Hou Shu-ping, brilliant banking expert, gave the highest estimate. He figured that China needs 3,000,000,000 dollars, in Chinese National Currency, to finance one year of fighting against Japan. Ching Tien-Hsi thinks that China’s war-time expenditure for the support of the army is probably six times that of its military expense in peace time. Thus, if the peace-time expense for each soldier per day, including living expenses, arms, munitions, and transport, is seventy cents, the war-time expense will probably be four dollars. Estimating the total number of men mobilized for the war to be one and a half millions, the yearly expense amounts to $2,180,000,000. This figure agrees with the opinion of Chen Ch’ang-hung, an outstanding economist in the Legislative Yuan, who thinks that “during the period of war China must spend three or four million dollars daily more than what was provided in the budget expenditure of normal times, and, if the war continues to spread, the daily increase over the budget figure will be five or six million.” Since the budget estimate for military expenses in peace time for 1937 was $360,000,000, this increase will make a total of $2,185, 000,000. Chu Hsieh, Professor of Public Finance at Central University, estimates the first year’s cost at $1,900,000,000. Hsu Ti-hsin, economist on the staff of The New China Daily News, tends to agree with Professor Chu. He writes, “Taking into consideration salaries, supplies, transport, arms, and ammunition, . . . [and] calculating on the basis of 1,500,000 men under mobilization . . . the yearly expense [is] $1,780,000,000. To this sum should also be added $320,-000,000 for debt services (estimated on the basis of the 1937 budget), and $170,000,000 for administrative, cultural reconstruction, and other expenses. Thus the total expenditure of China in war time will be $2,270,000,000 per year.” The lowest estimate is given by a Soviet Russian economist, Bortilef, who thinks that $1,200,000,000 per year will be sufficient to cover military expenses during war time.

Estimates of this character will mislead the reader unless it is pointed out that, in reality, the actual expenses are bound to fluctuate with the development of the war, as a result of changes in tactics as well as the shifting of the geographical theater of the fighting. It is conceivable that during the first period of the conflict, before the loss of Canton and Hankow, when China was fighting primarily positional warfare and sacrificing great quantities of costly equipment like airplanes, the expenses of warfare were much greater than they are in the present second period, in which guerrilla and mobile tactics are being emphasized. For the same number of men, much more financial support is needed when they are concentrated in one spot for positional warfare than when they are organized into guerrilla bands and scattered over a wide area. Guerrilla bands, naturally, are equipped only with light armaments; they usually operate in a manner which tends to reduce their sacrifice of both men and equipment; they regard the raiding of the enemy’s store of supplies as one of their main objectives, and being organized in small bands in close contact with the local population, they are in a much better position to secure voluntary contributions from the local communities than are large bodies of troops. Since most of the estimates given above were made during the first period of the war, before Generalissimo Chiang Kai-shek had assigned one-third of the regular army to conduct guerrilla attacks in the rear of the enemy, they show, perhaps, a tendency to overestimate the probable expense of the whole campaign.


China has suffered a severe reduction of revenues as a result of the war. According to widely accepted estimates made before the fall of Canton and Hankow, the loss of coastal regions and major cities reduced the revenue of the Chinese Central Government by about eighty per cent. “In the first seven months of the financial year 1937 (July 1937 to January 1938 inclusive),” estimates Dr. H. H. Kung, “the total customs receipt was $262,000,000. In the following five months of the same financial year (February to June 1938 inclusive), however, the total customs receipt had been reduced to $81,000,000.” If we make our calculation on the basis of the 1936 customs total, which is close to $400,000,000, then Dr. Kung’s statement places the loss of Customs Revenue in the first year of the war at about forty per cent. If we use the monthly average of $1,600,000 for the first half of the calendar year 1938, given by Dr. Kung, to estimate the receipts of the remaining four months before the fall of Canton and Hankow in October, 1938, the loss of customs receipts in this period amounts to no less than ninety-five per cent. With the fall of Canton, the receipts of this source of revenue must have been reduced to two or three per cent of the pre-war total.

The losses in revenue from the salt tax, estimated on the basis of material I collected in Chungking, were also severe. In the first year of the war, when the important Changlo salt fields in North China and the Huei salt fields in East Central China fell into the hands of the invader, the loss was perhaps not less than forty-five per cent, when compared to the yield in 1936. In the first six months in the second year of the war, the loss was at least as high as sixty-five per cent and perhaps even higher. Revenues from the consolidated tax, which is largely a tax on manufacturing, naturally dropped with the loss of the industrial cities of Shanghai, Tsingtao, Wuhsih, Hankow, and Canton. The loss in the first year of the war must have been about eighty per cent, and in the first half of the second year of the war probably not less than ninety-five per cent.

The total loss of revenue in the first year of the war was about fifty per cent of the pre-war income, and the total loss in the first half of the second year may amount to as high as ninety per cent. Even if we regard this estimate as an exaggeration and take the generally accepted eighty per cent as a basis of discussion, we can expect the total income from taxation in the second year of the war to be not more than $160,000,000, providing of course, that the tax system remains the same. With an estimated yearly expense of $2,-270,000,000, this means that the Chinese Central Government will have to secure over two billion Chinese dollars each year in order to meet the expenses of the war.

One sure way of raising money is to save money. At the beginning of the war, on October 2, 1937, the Chinese government worked out a plan for reducing governmental expenses. According to this plan, no financial support is to be given either to newly established or old organizations or enterprises that are not necessary for purposes of national defense, the maintenance of public order, the collection of taxes, or economic production. Appropriations for one group of organizations and enterprises were reduced to seventy per cent of the budget figures, and those for another group of organizations and enterprises were reduced to forty per cent of the sum originally allotted. National subsidies to provincial and municipal governments were cut to seventy per cent. A number of tax-collecting agencies were either consolidated with other agencies or abolished. The only expenses that have not come under the economy axe of the government are expenditures connected with military affairs, the maintenance of public order, tax police, embassies and consulates, relief for the victims of war, services on domestic and foreign debts, payment on contracts with foreigners, and salaries of employees of foreign nationality. It is difficult to ascertain exactly to what extent these economy measures have been carried out, but available information seems to indicate that a fair measure of success has been obtained. According to the estimate of Chin Tien-hsi, the total saving of these economy measures amounts to $100,000,000 each year. A further reduction of ten per cent on the budget appropriations in regard to Kuomintang and administration expenses was put through to take effect in March, 1938. This would make a further saving of $20,000,000.


In order to increase revenue to meet war expenses, the Chinese government has raised the rate or extended the scope of three old taxes and introduced two new taxes. First, by a decree of the Ministry of Finance, effective October 1, 1937, the transit tax was extended. Formerly this tax was levied on Chinese commodities leaving or passing through a Chinese port on modern ships. Under the new law the tax is levied on commodities transported by railroad, highway trucks, airplanes, and Chinese junks as well. The rate is seven and a half per cent ad valorem. Since this tax was broadened solely for the purpose of meeting war expenses, the government has tried to reduce to the minimum the hardship that it may produce. At first it provided for exempting the tax when the total collectible tax amounted to less than twenty-five cents, and later the exemption was extended to include goods on which the tax was less than one dollar. Thus, coolies and peddlers are not taxed.

The monthly yield of this tax was reported in the fall of 1938 to be about four or five million dollars monthly. Since the war has cut down the trade in foreign commodities, the trade in Chinese commodities is likely to increase, and a corresponding increase in the yield from this tax can be expected.

The second tax to be revised was that on tobacco and alcoholic beverages. Effective October 13, 1937, a fifty per cent increase was added to the tax on all Chinese tobacco, liquors, and wines. Furthermore, the income from the luxury tax in comparison with the consolidated tax, for instance, is more evenly distributed in the various provinces than that of the consolidated tax, and a fairly large yield can therefore be expected from this source despite the fact that the demand on luxuries is usually flexible and an increase in the tax burden tends to reduce consumption.

The third measure concerns the revision of the stamp tax. On October 11, 1937, the rate was raised one hundred per cent and the scope of the tax was widened.

The two new taxes introduced are the inheritance and excess war-profit taxes. The inheritance tax law provides for a tax rate of one per cent on inherited property the total value of which exceeds $5,000. For inheritances above the value of $50,000, a super-tax on a progressive scale is levied until the rate of the extra levy reaches fifty per cent, which is placed on inheritances of $10,000,000. The date for the law to become effective has not yet been set. The excess war-profit tax provides for a graded tax on a progressive scale. On profits exceeding fifteen per cent but below twenty per cent of the aggregate capital, an excess war-profit tax of ten per cent is levied. On rents exceeding twelve per cent but below twenty per cent of the value of the property rented, the tax is ten per cent. For profits or rents higher than twenty per cent, the tax rate is higher, reaching fifty per cent on profits or rents exceeding fifty per cent. This law became effective July 1, 1938.

Both of these measures have been criticized in the Chinese press as being too lenient. Indeed, in comparison to similar taxes in many Western countries, the rates are far too low.

It is expected that as the war continues and public opinion becomes more articulate for a more progressive tax program, the rates will be revised upwards. For the time being, despite the low rates, the importance of the two taxes must not be underestimated. The introduction of these new taxes must be regarded as highly significant landmarks in the development of the Chinese tax system.

Important as these tax measures are, they are far from being, nor can they be expected to be, adequate to meet the needs of the war. Aside from taxation, there are two other methods for financing a war: inflation and borrowing. The Chinese financial authorities have steadily refused to resort to the use of inflation. In a speech before an officers’ training corps on July 24, 1938, Dr. H. H. Kung made a categorical statement against inflation. “No matter how much difficulty the government confronts and how hard the pressure it may be subjected to,” he said, “it will never follow the path of inflation!” Available figures of note issue and data on price movements indicate that the authorities have adhered closely to this policy. At the beginning of the war, the total amount of national currency notes in circulation was $1,445,000,000. According to a generally accepted recent estimate, the present note circulation is a little over $2,000,000,000, which would place the total increase in note issue since the war at about $600,000,000. This sum cannot be considered excessive, especially when it is considered in the light of the fact that since the beginning of the war, more and more National Currency notes have been introduced into the south- and northwestern provinces to take the place of local currency which has been gradually retired, and that even in the territories occupied by the Japanese, notes issued by the four Chinese government banks are still very much in favor and are being hoarded in substantial quantities. As for price movements, the available facts show that the rise which had been noticeable recently is far from being general; in certain agricultural products the movement has actually been downward. Most economists in China regard the rise in prices as resulting partly from the shortage of certain commodities, especially imported commodities, and partly from profiteering.

One of the reasons why the authorities are set against inflation is naturally the fear of those consequences of inflation that have been made glaringly evident by the cases of postwar conditions in Germany, Austria, and Russia. An even more important reason, however, is the unshakeable determination not to undo the remarkably good and successful work that has been accomplished by the new monetary system. Inaugurated in November, 1935, the new monetary system placed Chinese currency on the basis of a managed standard and, by the nationalization of silver, most of which was shipped abroad, prevented China’s bullion reserves from being immobilized by the blockade. Thus it created for China a war chest of sizeable proportions. It has proved to be a pillar of strength. It has strengthened the position of the government both internally and externally, and its obvious strength before as well as since the war has greatly facilitated the floating of loans both in China and abroad. In view of these facts, it is understandable why the Chinese government has been so reluctant to do anything that will jeopardize the monetary system.


Since the beginning of the war, the government has floated four internal loans; it is making preparations to float a fifth one. On September 1,1937, the government issued the National Salvation Loan of $500,000,000, bearing a yearly interest of four per cent, which, beginning in 1941, will be paid back within thirty years. On May 1,1938, there were issued the National Defense Loan and the Gold Loan. The former is a loan of $500,000,000, bearing a yearly interest of six per cent; beginning May 1, 1939, it will be paid back in thirty years. This loan is secured by revenue from the income tax.

The Gold Loan aims to raise 100,000,000 gold units, 10,000,000 pounds sterling and 50,000,000 American dollars. The interest rate is five per cent yearly and the loans, to be paid back in fifteen years beginning May 1, 1939, are secured by revenue from the salt tax. The fourth loan is the Relief Loan of $100,000,000 issued on July 1, 1938; it bears a yearly interest of four per cent and is to be paid back in twenty years beginning July 1, 1942.

The total of these four loans, all the internal loans that China has issued since the outbreak of the war, amounted approximately to $1,600,000,000 in Chinese dollars (roughly 450,000,000 American dollars). It is reliably reported that the Chinese government has completed plans for the issuing of a fifth internal loan of $500,000,000 to be called the National Reconstruction Loan for the specific purpose of promoting the economic development of the southwestern and northwestern provinces.

As a result of refugee movements, deposits in the banks in the interior have increased very much. Large amounts of accumulated capital have been used for nothing better than to speculate in commodities and real estate, and interest rates are by no means high. There is every reason, therefore, to support the contention that the maximum limit of the lending capacity of the Chinese money market is far from being reached; with proper stimulation, even public loans of what may be regarded as very large dimensions in China can still be raised. It is important to point out, however, that in China, the money market cannot be taken as an accurate index of the capacity of the public to contribute to meet the emergency needs of the country. The bulk of China’s wealth has not yet assumed the form of money, and a considerable proportion of the wealth that has already been converted into money is hoarded and has not yet been placed at the disposal of the money market. This means that in terms of the mobilization of the resources of the country for the supreme task of defending the nation’s independent existence, the capacity to absorb state loans is limited only by the resources available for mobilization. Indeed, since public bonds are given to people who have lent money to the state, there is no reason why public bonds should not be issued to people who lend commodities or labor power to the state. The fact that suggestions of this sort have already appeared in isolated articles in the current press in China indicates that the idea of a broad conception of public loans comes rather naturally to economists in a country where money economy has not yet become dominant. On the basis of this broad conception of public loans and regarding them merely as one of the means for the mobilization of resources, it is conceivable that a broad national plan for the mobilization of resources can be mapped out for the purpose of outlining the varied ways and conditions by which moneyed wealth, commodities, and labor power should be borrowed or conscripted.

This, of course, is an ideal objective that may be approximated only to the extent of the effectiveness and efficiency of the organization or the organizations that undertake to do the work. The immediate problem is to indicate what efforts should be made for correcting present shortcomings and for developing new methods for promoting new public loans. In this connection, it is important to point out that only the first loan issued by the government since the beginning of hostilities was given to public subscription. The other three loans were all underwritten by the banks, and no public campaign worthy of the name has yet been launched to get the public to subscribe to them. The inflationary danger inherent in the situation needs only to be pointed out. If the government is exchanging government bond certificates for currency notes with the banks without taking back currency notes by selling the bonds to the public, the result is the same as issuing so much currency merely by resorting to the printing press. And it is also true that the campaign for public subscription of the National Salvation Bond was accompanied by certain abuses. But abuses can easily be corrected if the campaign is accompanied by an intelligently directed educational program and if the mass of the people rather than merely their rulers are mobilized for the task. Under the conditions of village and small-town economy in China, the common people know better than any government official or economic investigator how much wealth each individual or family possesses and how much an individual or family can contribute to buy government bonds without actually suffering material hardship. The common people are also in a better position than any official or police inspector to check abuses and corrupt practices. If the people can be mobilized, which means providing channels for them to participate in the campaign democratically, and if proper educational and other stimuli are applied by the authorities, the spontaneous development of the power of public recognition and social censure can be expected to achieve miracles in facilitating the sale of government bonds.

In short, the question of internal loans is basically the question of the mobilization of the resources of the country for the purposes of winning the war. China has great natural and human resources, even if the territories occupied by the invaders are excluded from our consideration. The question is how to mobilize them. This is primarily a political problem. With the progress of the war, as the unwilling and the inefficient elements still in the governmental apparatus gradually and surely are weeded out by the quickened tempo of official life in the war, it seems clear that a satisfactory solution of this problem will become progressively more necessary as well as more probable. Thus, as far as internal financial conditions are concerned, there is no question of bankruptcy; it is merely a question of more efficient organization or less efficient organization. With proper organization for the mobilization of resources, China will be able to match her superior natural resources, her hidden wealth, and her manpower against Japan’s superior industrial mechanization. She will be aided also by her undeniably higher morale and by the fact that she is fighting a defensive war on her own soil. Thus, in terms of the comparative internal resources of the two countries—provided that China successfully prevents Japan from making use of the occupied territories to replenish her supply of raw materials —China can outlast Japan and win a war of attrition.


But neither China nor Japan relies exclusively on her own internal resources for supporting the war. In the case of China, external financial assistance is rendered particularly important by the blockade, which has meant the loss of important lines of communication and sources of important export commodities, thus weakening China’s ability to obtain foreign exchange. Of course, China can increase her foreign balances by the export of precious metals, especially silver, of which she is thought to have a considerable reserve in the country. Despite this possibility, however, no one will deny that foreign borrowing constitutes a factor of capital importance for the continuation of the war. Although concluded before the opening of hostilities, the 10,000,000 sterling credit arrangement with Czecho-Slovakia and the 400,000,000 franc credit with France, made by Dr. H. H. Kung on his world tour to attend the coronation of the British king, must be regarded as war loans contributing directly to the financing of the war. Since the outbreak of hostilities, railroad credits of 150,000,000 francs and 144,-000 sterling were arranged with France and England in April, 1938. After the fall of Canton and Hankow, several credit arrangements were made. The best known of these are the $25,000,000 commercial loan from the United States Export-Import Bank and the 5,000,000 sterling currency credit from Great Britain. There was also a United States purchase credit of $1,280,000, a British export credit guarantee of several million pounds sterling and a reported Belgian purchase credit of 20,000,000. In a speech at a currency conference in Chungking, in which all the above-mentioned foreign loans concluded after the fall of Canton and Hankow were referred to, Dr. H. H. Kung significantly stated that “more foreign loans can be expected.”

If no more foreign financial assistance is given to China, the prospect would be not a Japanese victory but prolonged warfare in China, which may spread to other parts of Asia. Left entirely to her own resources, China may not be sufficiently equipped for a long time to come to launch a counter-offensive effective enough to drive the enemy out of the country, but she will certainly be strong enough to hold the southwest and northwest provinces and use them as a base, fighting on to keep the invader from consolidating his control of the conquered territories. Under the circumstances, not only will vast stretches of China be withdrawn from the stream of world economic and cultural development, but Japan as well will cease to be a factor of constructive importance in the civilized world. But with more financial assistance forthcoming, China will be able to launch a powerful counter-offensive in the not too distant future and put an end to the devastating war. China will then be able to enlarge the scope and hasten the speed of the program of economic reconstruction which is now being pushed under the energetic leadership of the Ministry of Economic Affairs. Freed from the scourge of war and led by a strong and united government forged out of the stern necessities of the present conflict, China will be able to take her rightful place as a positive and progressive factor in the arena of world economic and cultural development. Financial assistance to China, therefore, is perhaps the least costly and most effective way of stabilizing conditions in the Far East.


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