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Posts tagged “Great Depression

Keynesian Kops


The Obama Economic Plan

Back in the silent movie days, a popular serial involved the escapades of the Keystone Kops. They were a frenetic bunch, but ultimately so incompetent they couldn’t do much of anything. They would run this way and that, stumbling about and generally more successful at running into walls and slipping on banana peels than solving crimes. As a vaudeville act, they were hilarious. As a police force, not so much.

Watching economists from the Keynesian school is a lot like watching those old silent films. They trip over each other in explaining why the economy is moribund and what should be done about it. Never mind that everything in the Keynesian playbook has been tried (and predictably, failed). Fiscal stimulus: over the past 30 months, the federal government has pumped in $2.5 trillion over and above previous spending levels – and GDP is declining after inflation, not growing. Monetary stimulus: the Federal Reserve burned through two rounds of pumping cash into the economy. No growth, but inflation is growing exponentially each quarter. Now the Fed is planning on QE3 – pumping even more cash into an economy that has more cash than can be spent.

Keynesians love to point out that their economic theories are borne out by their successes in the Great Depression. But that assumes that those policies were successful. It seems pretty doubtful that they were. For instance, here in the US, the government did manage to achieve an aggregate GDP growth rate of 9.68% between 1933 and 1940. But in order to achieve that growth, the federal government increased spending by 110% from 1932 levels. In raw numbers, the government spent just shy of $61 billion during those 7 years. But GDP only grew by $47 billion. Remove the government spending, and the economy actually shrank by 26%. That’s a pretty dubious success.

In fact, that’s exactly what happened in 1937: Congress slashed spending, and the economy promptly declined 4.64%. Rather than create sustainable growth, all that government largesse accomplished was an economy that was reliant on government largesse. Entrepreneurship, innovation and efficiency were replaced as keys to success by graft, corruption and political machines. (There was a reason Frank Capra’s Mr. Smith Goes to Washington struck a nerve when released in 1939).

Equally important – and hugely different – from today is the amount of debt headroom FDR had when deciding on a Keynesian approach. In 1932, total federal debt amounted to 51% of GDP. By 1940, that had risen to 71%. In 2008, total debt was already approaching 100% GDP and we’ve since surpassed that.

The liberal wing of politcracy wants a return to full-blown Keynesian economics. If we go down that path, by 2020 the federal government will account for 8 out every 10 dollars spent in the US – but the government will need to borrow 9 out of every 10 dollars it spends.

Maybe our President thinks that kind of vaudeville act is one worth emulating. But I doubt many other Americans agree with him.


Why is Everyone Afraid of the Debt Ceiling?


One of the things we keep hearing from “establishment” politicians, economists and others is that the US entered into the Great Abyss yesterday afternoon. “The sky is falling” they cry. “We’re doomed” they yell.

This guy is broke - and so are you!

You see, the United States of America just crossed the Rubicon. The debt ceiling – the amount of debt Congress authorizes the Treasury to accumulate – has been reached. The great fear is that the US government is about to default on our public debt, sending the world into an economic vortex never before witnessed. Every talking head and government official in DC is warning against not raising the debt ceiling. “We’ve never defaulted on our debt” is the common cry of alarm.

I would certainly be alarmed at this outcry, except for one thing. It isn’t true. Not a single word of it. In fact, the nation has defaulted on the debt at least twice in our history. The first was in 1790, when we couldn’t service the debt we accrued during the Revolutionary War, among other things. The second was in 1933.

In 1790, the Treasury realized it could not possibly repay the outstanding loans the Federal government assumed after the ratification of the Constitution. The solution was to unilaterally rewrite the terms of those loans, reducing the interest owed and deferring payments for ten years.

The scenario most applicable to today is the one enacted by FDR in 1933. The government, faced with a debt it could not repay unless taxes were raised to incomprehensible levels and wanting to inject some life (i.e, capital) into a lackluster economy, devalued the dollar by more than 40%. The problem was that US bonds were issued in gold: you bought x amount of bonds in dollars and in return you received y  amount of gold when the bond matured. The US didn’t own enough gold to cover the debt. The solution was Executive Order 6102, later codified as the Gold Reserve Act of 1934. It essentially confiscated all of the private gold holdings in the US (private citizens were allowed to have 5 troy ounces in their possession; or about $7500 worth in today’s standards).

The exact opposite of what we’ve been told by economists and politicians of all stripes happened: rather than market chaos and depression, the economy stabilized. Freed of the uncertainty spawned from over-indebtedness, the business community actually began expanding again. Yes, the Great Depression was so deep that it took additional government spending to make up for the slack in employment. But contrary to popular myth, it wasn’t the massive infusion of government capital with the outbreak of WWII that jolted the US to full productivity. By 1939, the nation’s economy was growing at 1928 levels again and by the end of 1940 had grown private sector employment to higher numbers than at the outset of the Great Depression. In fact, all of that debt from 1941-1945 precipitated a debt crisis in 1946 comparable to the one we’re now facing. Oh, and Congress took the appropriate actions then, too: they enacted a debt reduction plan that was adhered to by Presidents of both parties until LBJ’s “Great Society” spending in 1967.

Simply put: the US has defaulted on debt obligations before and the world went on as always. Look around you: the debt limit has passed, yet everything continues as on Monday. The real threat is that we continue to spend as profligately as a drunk sailor without any plan to tackle the debt. We can argue about the means to do so. We can inflate it away, as Russia, Argentina, Brazil – and the US in 1933 – did; we can unilaterally reorganize bond terms, as in 1790. We can reserve a greater share of federal revenues for debt service, as in 1946. We can even place tax increases and restructuring on the table. But scaring the citizenry about the implications of failing to to raise the debt ceiling is ludicrous, when raising the the ceiling is the most irresponsible thing the politicians now in Washington can do.