The traditional age of the gold standard came to an end with the outbreak of the World War I in 1914. Almost all the nations deferred redeeming their domestic bank notes into gold as well as the unrestricted transfer of gold from one country to another. However, in many cases, such restrictions in the movement of gold across the borders were unofficial efforts. For instance, although the import and export of gold by private parties theoretically continued to be a legal affair, in reality people dealing in bullion or bullion dealers declined to allow exporting gold simply owing to nationalistic reasons. In addition to this, the government also enforced several controls and rules that basically put off gold trade.
It is important to mention here, the government in the Dominion of Canada had postponed the convertibility of all notes in that country during this period. People as well as merchants started taking out huge amounts of gold from the banks as apprehensions escalated just before the World War I was declared on August 4, 1914. In such an atmosphere of a developing economic crisis, the authorities were apprehensive regarding the risk of sudden and heavy cash withdrawals by depositors who had lost trust in the feasibility of the banks. Even the absence of a lender as the only remaining option, the scenario seemed to be virtually very grave as the law of the land required the closure of all such banks that were unable to fulfill the demands of the depositors for gold or the Dominion notes.
With a view to resolve the impending catastrophe, the government held an emergency meeting with the representatives of the Canadian Bankers' Association in Ottawa on August 3, 1914. Following the meeting, the government issued an Order-in-Council later on the same day with a view to offer safeguard to the banks confronted with the hazard of liquidation by promoting all notes circulated by these banks to legal tenders. This came as a great relief for the banks threatened with insolvency as now they were able to fulfill the demands of their depositors with their respective notes and were no longer required to depend on gold or the Dominion notes. At the same time, the government also lifted the ceiling on the amount of notes that the banks were officially allowed to issue. In addition, now with the Order-in-Council in effect, the government was also authorized to pay the banks funds in advance by means of issuing Dominion notes against the collaterals deposited with the Finance Minister. As a result of this stipulation, the banks were now able to enhance the quantity of their paper money in circulation.
The government issued another Order-in-Council on August 10, 1914 whereby it deferred the convertibility of the Dominion paper currency into gold. Later, the government translated the first and the second Orders-in-Councils into a law that came to be known as 'an Act to conserve the commercial and financial interests of Canada or the Finance Act that obtained the assent of the British Imperials on August 22, 1914.
In fact, the new Finance Act empowered the government function as a lender to the banks as the only remaining option. Incidentally, this is among the powers that are vested with the contemporary central banks. At the same time, the Finance Act also endowed the government or the Treasury Board with a method or way to fix the Advance Rate or the fee that it would charge from the chartered banks for the loans to them. According to the provisions in the new Finance Act, the government was only entitled to make advance payments to the chartered banks when they requested for the same. However, the government was not very active or keen in administering the interest fees on the loans granted to the bank, not was their any board or committee to supervise the management of the fiscal policy.
The Advance Rate continued to be five per cent all though the World War I. However, an exceptional 3.5 per cent interest rate was set up in 1917 whereby the government marked down the British Treasury Bills in the possession of the chartered banks. In fact, this unique provision was created with a view to aid the armed expeditions undertaken by the British government during the World War I. This move was balanced by issuing unique Dominion paper currency worth $50 and these notes were secured by the British Treasury bills with a view to aid the British authorities to acquire materials required for the war from Canada. At the same time, in 1915, the government also augmented the fiduciary issue (notes not backed by gold) of the Dominion paper currency through an amendment of the Dominion Notes Act.
Although the government had suspended the exchangeability of the Canadian dollar in August 1914, it continued to do business in a very slender assortment very near to equivalence with the United States dollar all the way through the World War I. Nevertheless, the value of the Canadian dollar started failing in 1918 and the down turn in its value picked up speed for the duration of two years after the end of the war and this trend continued till 1920 when it touched a low of approximately US$0.84. The vulnerability of the Canadian dollar was a sign of a major fiscal development, steep inflation or very high price rises and the worsening of Canada's balance of payments linked with funding the war endeavors as well as the subsequent expenditures towards the disbandment of the troop after the war.
During this period, there was a common belief that the key industrialized nations would reinstate the gold standard once the war was over. Since the United States took part in the war at a much later stage and did not suffer any major financial strain or the pressures of inflation like the United Kingdom or Canada, it was among the first countries to go back to the old ways of establishing its currency in terms of gold after the war ended. In other words, the United States returned to the gold standard in June 1919. Though at a much later date, the United Kingdom also followed the footsteps of the United States and reverted to the pre-war valuation of its currency in terms of gold - corresponding US$4.8666 - in 1925.
The Canadian government had enacted the Finance Act in 1914 with a view to meet the expenses of the World War I, continued till 1919 and finally amended in 1923. The amended Finance Act included stipulations that made it possibly to automatically revert to the gold standard after a period of three years provided the government did not initiate any opposing measure on the issue.
The amended Finance Act also provided the Dominion government with much more suppleness in changing the interest rates on the advance funds made available to the chartered banks on their request. Nevertheless, the Treasury Board of the Province of Dominion that was actually accountable for overseeing the Act made no effort whatsoever to manage an vigorous fiscal policy.
Meanwhile, the Advance Rate or the rate of interest at which the government was permitted to make advance payments to the chartered banks continued to be set at five per cent all through the World War I. Hence, as discussed earlier, there seemed to be virtually no obvious endeavor on the part of the authorities to strengthen the prevailing fiscal policy as they expected that the government would sooner or later reinstate gold standard. They further anticipated that the return of the gold standard would not only set the value of the dollar equivalent to what it had been before the war, but also be at par with the dollar of the United States.
In spite of a perceptible absence of action on the part of the concerned authorities to tighten the fiscal system, there was a noticeable reduction in the supply of currency for the duration of the first half of the 1920s. And this, in effect, helped the authorities to return to the gold standard much after the war had concluded. However, maintaining the Advance Rate at a fixed five per cent at a time when the interest rates in the market were on the decline led to deflation. In addition, several other issues were also responsible for a short supply of currency during this period. These reasons also comprised Britain's reimbursement of the war loans taken from the Canadian banks (the interest rate in this case was reduced from the fixed five per cent to 3.5 per cent in pursuance of the stipulations in the Finance Act), and the withdrawal of the purported 'British Issue' of the Dominion notes circulated in 1917 against the security of the British Treasury bills. The fiscal policy of the United Stated that was inclined towards expansion and aimed at expediting the European nations' restoration of the gold standard also smoothed the process of Canada's return to the gold standard on July 1, 1926. Nevertheless, the gold stocks with the Dominion of Canada then were generally considered to be insufficient for the mission.
