China’s Great Inflation Helped Bring Communists to Power

First Published: 2014-03-21

by Richard Ebeling, Jan 14, 2014

First published at EPICTiMES

Inflations have undermined the cultural and economic fabric of society, bringing about social chaos and revolution. Inflation is the enemy of social order and economic stability. Inflation can destroy accumulated wealth, ruin the entire well being of broad sections of a country’s population, and sometimes bring about radical change in a nation’s political system. When combined with war, inflations tear apart the human community.

One example is the Great Chinese Inflation of the 1930s and 1940s. Indeed, the destruction of the Chinese monetary system during this period helped Mao Zedong’s communist movement come to power on the Chinese mainland in 1949.

In the nineteenth and early twentieth centuries, Imperial and then Republican China had no central bank. The monetary system was based on a diverse network of private banks operating in the various regions of the country. While copper was widely used in coins, the primary medium of exchange was silver, and the entire Chinese economy functioned on an informal silver standard for most of this time. A year after Chiang Kai-shek’s Nationalist (or Kuomintang) Party came to power in Nanking in 1927, the Central Bank of China was established with its headquarters in Shanghai, and the country was formally put on a Chinese silver-dollar standard.

U.S. Silver Policy Caused Deflation in China

For the first two years of the Great Depression, beginning in 1929, China not only weathered the international financial and economic storm, but also actually experienced an export boom, with many domestic prices rising while the rest of the world suffered a serious price deflation. But in September 1931 Great Britain went off the gold standard and a growing number of countries engaged in currency depreciation, which adversely affected the value of the Chinese silver dollar on the foreign exchange markets.

The fatal blow came in 1933 and 1934, when, under Franklin Roosevelt’s New Deal, the U. S was taken off the gold standard and silver was remonetized. The U.S. government went on a silver-buying spree at a price above the world price in an inflationary attempt to push up prices in the United States. As the export price for silver rose in the financial center of Shanghai, silver flowed from the Chinese countryside to the main port cities on the coast, followed by a massive export of silver from China to the United States. A resulting catastrophic price deflation severely hit both Chinese agriculture and industry due to the contraction in the silver-backed currency supply.

In October 1934 the Nationalist government imposed foreign-exchange controls on silver exports. Then in November 1935 the Central Bank of China officially took the country off the silver standard, made its bank notes legal tender, and placed the country on a fiat (paper) currency with government in full control of the quantity of money. With no restraint now on the power of the Chinese government to turn the handle of the printing press, Central Bank policy soon led to monetary disaster with the coming of China’s war with Japan.

China’s Inflationary Financing of Its War with Japan

The war between China and Japan lasted eight years, from July 1937 to September 1945. The Japanese army occupied more than one-third of China, including virtually all of the country’s leading port cities and industrial centers. Over ten million Chinese civilians lost their lives in the fighting, many of them brutally executed by the invading Japanese.

The end of the Second World War in 1945 only reopened the longstanding civil war between Chiang Kai-shek’s Nationalist government and the large communist forces led by Mao Zedong, a civil war that had begun in the late 1920s. The civil war raged across China for four years, until Mao’s communists were triumphant on the mainland and the remnants of Chiang’s Nationalist army withdrew to Taiwan in late 1949. Another five million innocent civilians lost their lives in China’s civil war.

In the war against Japan, Chiang’s government resorted to the printing press to finance the majority of its spending, covering 65 to 80 percent of its annual expenditures through money creation. During the civil war years of 1946 –1949, monetary expansion covered 50 – 65 percent of the government’s spending.

When war with Japan broke out in 1937, the total quantity of money in circulation (currency and demand deposits) was 3.6 billion Yuan. By December 1941, when the United States entered the war, the Chinese money supply had increased to 22.8 billion Yuan. For the remainder of the war years the figures were: 1942, 50.8 billion; 1943, 100.2 billion; 1944, 275 billion; and 1945, 1,506.6 billion.

Hyperinflation and China’s Postwar Civil War

The civil war brought a worse inflation. By the end of 1946, the money supply had increased to 9,181.6 billion Yuan, with a more than six-fold increase to 60,965.5 billion by December 1947. Seven months later, in July 1948, the money supply had expanded to 399,091.6 billion Yuan.

The Chinese government then created a new Yuan to replace the old depreciated Yuan, at a conversion rate of three million old for one new and supposedly backed by gold.

In August1948, the Central Bank of China said it would redeem paper Yuan for gold, in an attempt to restore public confidence in the paper currency, and at half the black market price for gold.

Thousands of people, with giant bags and pockets full of paper money, lined up at the Bank of China in Shanghai along the Bund to trade their paper Yuan for gold. Seven people were killed in the crush of bodies trying to get into the Bank.

The government stopped selling gold the next day, and in fact, declared gold, silver and foreign exchange ownership to be illegal, with people, now, having to accept the new paper currency for the old.

In August 1948 the new converted money supply stood at 296.82 billion Yuan. But the government printing presses were set to work again, and by December 1948, the supply of this new Yuan was 8,186.33 billion. Four months later, in April 1949, it had been increased to 5,161,240.0 billion Yuan.

Rising Prices and Falling Foreign Exchange Value

From 1937 to 1949, prices rose dramatically but to different degrees in the various regions of China, because of war-related scarcities and destruction, and the uneven impact of the monetary expansion. As one very rough indicator, we can use the wholesale price index of Shanghai during this period, with May 1937 equaling 1.

By the end of 1941 the Shanghai wholesale price index stood at 15.98. By December 1945 it had reached 177,088, and by the end of 1947 it was 16,759,000. In December 1948 the index had risen to 36,788,000,000, and in April 1949 it was at 151,733,000,000,000.

The value of China’s paper money on the foreign-exchange market reflected this huge depreciation of the currency. In June 1937, just before the start of the war with Japan, 3.41 Yuan traded for one U.S. dollar. By December 1941, on the black market 18.93 Yuan exchanged for a dollar. At the end of 1945, the Yuan had fallen to 1,222 to the dollar. And by May 1949, one dollar traded for 23,280,000 Yuan.

China’s Hyperinflation Helped Open the Door for Triumphant Communism

It would be an exaggeration to say that China’s Great Inflation was the only cause for the defeat of the Nationalist government and the victory of the Chinese communists. The Nationalist Party was dictatorial in its structure, notorious for its corruption and abuse of political power, and often as ruthless as the communists in its use of military force.

But it is nonetheless true that whatever basis of popular support Chiang’s government might have had against the communists at the end of the Second World War, especially among the country’s middle class, was undermined by the inflation. It destroyed the wealth and savings of the Chinese middle class, and created chaos in virtually all commercial dealings due to the loss of a reliable and stable medium of exchange for purposes of rational economic calculation and business planning.

In addition, the inflation and its effects drove some segments of the rural population into a more severe poverty than even the war had generated. Thus, whatever support the Nationalist government may have had in the countryside soon withered away, as well.

Also, during and after the war, the Nationalist government imposed unworkable price and wage controls as a supposed tool to “fight” price inflation that only succeeded in creating even more distortions and imbalances throughout the Chinese economy due to shortages, black markets, and mounting corruption.

Its policies produced the social and economic unrest that played right into the hands of the communists, as Mao’s revolutionary government promised to do away with the corruption and abuse of Chiang’s Nationalist government.

The hyperinflationary policy followed by the Nationalist Chinese government, therefore, helped bring about more than half a century of Marxist tyranny on the mainland of China, a communist tyranny under Mao Zedong that historians have estimated cost the lives of at least 80 million innocent men, women and children in the name of building the “bright socialist future.”


Dr. Richard M. Ebeling is professor of Economics at Northwood University. He was formerly president of The Foundation for Economic Education (FEE), was the Ludwig von Mises Professor of Economics at Hillsdale College in Hillsdale, Michigan, and served as president of academic affairs for The Future of Freedom Foundation.

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