The case against fiscal stimulus: post-WWI recession

[20000miles]

The recession that occurred between 1919 and 1921 was a market response to the destructive effects of inflation used to finance the war effort.

Prices for goods and services fell substantially in the US, as Friedman and Schwarz write in their Monetary History:

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By June 1921, they had fallen to 56 per cent of their level in May 1920. More than three-quarters of the decline took place in the six months from August 1920 to February 1921. This is, by all odds, the sharpest price decline covered by our money series, either before or since that date and perhaps also in the whole history of the United States.”

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[FONT=Times New Roman][FONT=Verdana][SIZE=2]Now everybody beleives falling prices to be bad, but in reality they act as an antidote to the excesses of the past. Vastly inflated prices begin to fall to a more reasonable level. (Just look at the price of houses in the UK and Ireland today)[/SIZE][/FONT][/FONT]

[FONT=Times New Roman][FONT=Verdana][SIZE=2]The collapse in prices in 1919-1921 was much sharper than it was at the onset of the Great Depression.[/SIZE][/FONT][/FONT]

[FONT=Times New Roman][FONT=Verdana][SIZE=2]On the employment front, the problem of unemployment was solved by a drastic decline in wages. Wages plummeted about 19% in this period, and as such those unemployed in the downturn were able to be re-employed. This was possible due to weak labour unions and little government intervention (ie. a flexible labour market).[/SIZE][/FONT][/FONT]

[FONT=Times New Roman][FONT=Verdana][SIZE=2]It should be noted the American treasury secratary, Herbert Hoover wanted to heavily intervene in the market process. As Rothbard writes in his History of Money and Banking in the United States, [/SIZE][/FONT][/FONT]

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[SIZE=3][FONT=Times New Roman]For a decade, Herbert Hoover had urged that the United[/FONT][/SIZE]
[SIZE=3][FONT=Times New Roman]States break its age-old policy of not intervening in cyclical[/FONT][/SIZE]
[SIZE=3][FONT=Times New Roman]recessions. During the postwar 1920–1921 recession, Hoover, as[/FONT][/SIZE]
[SIZE=3][FONT=Times New Roman]secretary of commerce, had unsuccessfully urged President[/FONT][/SIZE]
[SIZE=3][FONT=Times New Roman]Harding to intervene massively in the recession, to “do something”[/FONT][/SIZE]

[SIZE=3][FONT=Times New Roman]to cure the depression, in particular to expand credit and

[SIZE=3][FONT=Times New Roman]to engage in a massive public-works program. Although the[/FONT][/SIZE]
[SIZE=3][FONT=Times New Roman]United States got out of the recession on its own, without massive[/FONT][/SIZE]

[SIZE=3][FONT=Times New Roman]intervention, Hoover vowed that next time it would be different.[/FONT][/SIZE]
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[FONT=Palatino-Roman][SIZE=3]The post WWI recession lasted for only 3 years even though the collapse in prices was more severe than in the following depression. Will Obama et. al. learn from history?[/SIZE][/FONT]

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[H.R. Haldeman]

I can't help feeling that stimulus package is just a nice way of saying re-inflating the bubble(s).

Gordon's Brown's entire reputation is really on the line with his stimulus plan. If it doesn't work, his political reputation - as Chancellor and PM - is ruined. High risk stuff. Already, his recent VAT reduction is getting a lot of criticism.

[20000miles]

No armchair economists around?

I can't help feeling that stimulus package is just a nice way of saying re-inflating the bubble(s).

Gordon's Brown's entire reputation is really on the line with his stimulus plan. If it doesn't work, his political reputation - as Chancellor and PM - is ruined. High risk stuff. Already, his recent VAT reduction is getting a lot of criticism.

Yeah I think you should just substitute stimulus package for inflation package.

[floatingvote]

I agree with you both that fiscal stimulus and inflation would appear to be interchangeable, although in general I'm not opposed to keynesian policies (as long as they leave us with something worthwhile).
There is probably a better thread around to add this thought to, but i'm not in the mood to go searching, but what exactly are the problems with a small open country like us experiencing deflation?
For one thing it should bring the price of housing down to vaguely affordable levels, more importantly however, it may even make us competitive internationally again, in much the same way that dropping wage levels in the period above resulted in increased employment.
On the issue of deflation and wage cuts throughout the economy, if we all take wage cuts, none of us are relatively worse off, so whilst our imports will become more expensive (again that could help stimulate demand for homegrown product, hell, it might even stimulate some activity in renewable energy), will be really be worse off??
I know there are issues with people postponing purchase decisions etc, but is that really a bad thing? Do economies have to be built on endless needless purchases?

[20000miles]

hi floatingvote, yeah the jist of what I'm saying is that falling prices help purge the exceses of the past. Any Keynesian policy can only get in the way. There is no cure for a recession. A recession is the cure.

[Dios]

hi floatingvote, yeah the jist of what I'm saying is that falling prices help purge the exceses of the past. Any Keynesian policy can only get in the way. There is no cure for a recession. A recession is the cure.

Keynesian stimulus revolves around one basic concept, I would say - that the government can better target areas to invest on a large scale than the average person, who is busily stuffing all their spare money into the mattress, rather than spending it as they would normally do.

The short lived post world war 1 recession was ended by factories retooling towards consumer goods, a market for which was created with the return of the soldiers from the war, jobs for whom were opened by women leaving the workforce to make room for them. Its also worth noting that despite the growth in GDP over the twenties, 40% of the US population lived below the poverty line in this period, and increased consolidation meant that only 200 companies were responsible for almost half of all industrial output.

If you could point out where the current situation resembles that situation in anything but the broadest strokes, or if we want to end up in a similar situation to the US during the badly named "roaring twenties", it would be much appreciated.

[20000miles]

Keynesian stimulus revolves around one basic concept, I would say - that the government can better target areas to invest on a large scale than the average person, who is busily stuffing all their spare money into the mattress, rather than spending it as they would normally do.

And yet lack of spending money does not cause a recession.

The short lived post world war 1 recession was ended by factories retooling towards consumer goods, a market for which was created with the return of the soldiers from the war, jobs for whom were opened by women leaving the workforce to make room for them.

Do you dispute the fact that wages fell dramatically to reemploy those men? Also, mainstream economics claims that falling prices are bad, and must be avoided at all costs. Yet in 1920, no catastrophe occured.

Its also worth noting that despite the growth in GDP over the twenties, 40% of the US population lived below the poverty line in this period, and increased consolidation meant that only 200 companies were responsible for almost half of all industrial output.

Not surprising, seeing as the roaring twenties was fuelled by the Federal Reserve through a massive expansion of money and credit. Phoney wealth.

If you could point out where the current situation resembles that situation in anything but the broadest strokes, or if we want to end up in a similar situation to the US during the badly named "roaring twenties", it would be much appreciated.

A collapse in prices, general fall in prices beginning, output down, unemployment up. These are all the results of a recession in the broadest sense.

What's worse is that if the government persues its stimulus policies we could end it in a decade long slump.

[Dios]

And yet lack of spending money does not cause a recession.

What would you say causes a recession?

Do you dispute the fact that wages fell dramatically to reemploy those men? Also, mainstream economics claims that falling prices are bad, and must be avoided at all costs. Yet in 1920, no catastrophe occured.

Wages fell dramatically, a fact which I link directly to the 40% living below the poverty line during the decade. Mainstream economics don't claim that falling prices are bad, banks claim that - it terrifies them, they don't know what to do with it. A limited deflationary period can be quite a good thing for an overall economy.

Not surprising, seeing as the roaring twenties was fuelled by the Federal Reserve through a massive expansion of money and credit. Phoney wealth.

Ah now see, that is a situation which bears much similarity to our own. Despite which, we don't see enormous swathes of the population living in poverty in those countries where the credit boom was most extant.

A collapse in prices, general fall in prices beginning, output down, unemployment up. These are all the results of a recession in the broadest sense.

Even in the most expansive sense, the situations are completely different - post world war 1 Europe went into an extended recessionary period while the US was "booming", for example.

What's worse is that if the government persues its stimulus policies we could end it in a decade long slump.

As far as policies go, its the best of a bad lot, to be honest.

[Mr.De-Regulation]

The major problem with Keynesian economics, is that it usually idiots attache dto special interest groups, that execute the plans.

[20000miles]

What would you say causes a recession?

I adhere to the Austrian Business Cycle Theory, first formulated by Ludwig von Mises in 1912.

According to the theory, the business cycle unfolds in the following way. Low interest rates tend to stimulate borrowing from the banking system. This expansion of credit causes an expansion of the [COLOR=#0000ff]supply of money[/COLOR], through the [COLOR=#0000ff]money creation[/COLOR] process in a [COLOR=#0000ff]fractional reserve banking[/COLOR] system. This in turn leads to an unsustainable "monetary boom" during which the "artificially stimulated" borrowing seeks out diminishing investment opportunities. This boom results in widespread malinvestments, causing [COLOR=#0000ff]capital[/COLOR] resources to be misallocated into areas that would not attract investment if the money supply remained stable. A correction or "[COLOR=#0000ff]credit crunch[/COLOR]" – commonly called a "[COLOR=#0000ff]recession[/COLOR]" or "bust" – occurs when credit creation cannot be sustained.

Wages fell dramatically, a fact which I link directly to the 40% living below the poverty line during the decade. Mainstream economics don't claim that falling prices are bad, banks claim that - it terrifies them, they don't know what to do with it. A limited deflationary period can be quite a good thing for an overall economy.

My economics textbook lists deflation in the "pathologies" section. The mainstream claim that this leads to a deflationary spiral, less spending, less investment, more misery.

Ah now see, that is a situation which bears much similarity to our own. Despite which, we don't see enormous swathes of the population living in poverty in those countries where the credit boom was most extant.

Those are the key features of a recession. Preceding credit expansion, increased production, malinvestment, realisation that businesses have made malinvestments (like building tens of thousands of houses), liquidation of debt and falling of prices.

Even in the most expansive sense, the situations are completely different - post world war 1 Europe went into an extended recessionary period while the US was "booming", for example.

As far as policies go, its the best of a bad lot, to be honest.

Its annoying to hear Keynesians attack the "free market" when their school of economics has caused more misery for more people than any other.