Thus the Theory of Purchasing Power Parity tells us that movements in the rate of exchange between the currencies of two countries tend, subject to adjustment in respect of movements in the “equation of exchange,” to correspond pretty closely to movements in the internal price levels of the two countries each expressed in their own currency. It follows that the rate of exchange can be improved in favour of one of the countries by a financial policy directed towards a lowering of its internal price level relatively to the internal price level of the other country. On the other hand a financial policy which has the effect of raising the internal price level must result, sooner or later, in depressing the rate of exchange. The conclusion is generally drawn, and quite correctly, that budgetary deficits covered by a progressive inflation of the currency render the stabilisation of a country’s exchanges impossible; and that the cessation of any increase in the volume of currency, due to this cause, is a necessary pre-requisite to a successful attempt at stabilising. The argument, however, is often carried further than this, and it is supposed that, if a country’s budget, currency, foreign trade, and its internal and external price levels are properly adjusted, then, automatically, its foreign exchange will be steady.[36] So long, therefore, as the exchanges fluctuate--thus the argument runs--this in itself is a symptom that an attempt to stabilise would be premature. When, on the other hand, the basic conditions necessary for stabilisation are present, the exchange will steady itself. In short, any deliberate or artificial scheme of stabilisation is attacking the problem at the wrong end. It is the regulation of the currency, by means of sound budgetary and bank-rate policies, that needs attention. The proclamation of convertibility will be the last and crowning stage of the proceedings, and will amount to little more than the announcement of a _fait accompli_. [36] Dr. R. Estcourt, criticising one of my articles in _The Annalist_ for June 12, 1922, writes: “The arrangement would not last for any appreciable period unless, as a preliminary, the Governments took the necessary steps to balance their budgets. If that were done, the so-called stabilisation speedily would become unnecessary; exchange would stabilise itself at pre-war rates.” This passage puts boldly an opinion which is widely held. There is a certain force in this mode of reasoning. But in one important respect it is fallacious.