Governments: Beware the errors of the 1930’s Great Depression

“Old myths never die; they just keep showing up in college economics and political science textbooks” wrote Lawrence W. Reed in his August, 1998 article Great Myths of the Great Depression. It is no surprise to learn that one of those myths is that “unfettered free enterprise” was the supposed cause of the 1930s Great Depression. An important reason for the persistence of myths about bad economic consequences is that the guilty parties; politicians and officials in charge of fiscal, monetary and regulatory policies, work very hard to create and maintain them.

Manipulation of the money supply lies at the root of all recessions or depressions, other than wars or natural disasters. Rapid increases in the supply of money and credit that outstrip increases in the supply of goods and services inevitably lead to rapid general price and wage increases and subsequent corrections, the severity of which are dependent on the magnitude of the prior manipulation. The correction period, in turn, is dependent on the extent to which economies are allowed to restabilise without government interventions that futilely attempt to prevent corrections from occurring.

Money, in all countries, is under government control, produced by and supervised by government appointees. There is no “free enterprise” or “free market” money. If there is monetary turbulence, such as inflation or boom and bust cycles, governments are directly responsible.

Murray Rothbard explained in America’s Great Depression how the Federal Reserve Board increased the money supply by more than 60% in the eight years to mid-1929. Interest rates were driven down, inflation increased, there was a stock market boom, and the period became known as the “Roaring Twenties”. In an attempt to correct the situation the Federal Reserve followed policies that reduced the money supply by 30% in the next three years and drove up interest rates. The contraction eventually caused the stock market to crash on “Black Thursday”, 24 October 1929.

As Lawrence Reed explains, “If this crash had been like previous ones, the subsequent hard times might have ended in a year or two. But unprecedented political bungling instead prolonged the misery for twelve long years.” Presidents Herbert Hoover and Franklin Roosevelt dragged out the depression by adopting counter-productive and seriously destructive policies.

Hoover’s administration was responsible for the Smoot-Hawley tariff debacle, which sharply increased tariffs on 887 items and extended the total of dutiable items to 3,218. The severity of the effect of the tariffs on exporting firms in other countries attracted immediate retaliatory tariffs, which cost American farmers nearly one-third of their markets. Farm prices fell sharply, many thousands of farmers were bankrupted as were many rural banks, in turn bankrupting hundreds of thousands of bank customers. Instead of abandoning the tariffs, Hoover increased taxes to pay subsidies to farmers, the federal government’s share of GNP growing by one-third between 1930 and 1931. In 1932 taxes for most Americans were doubled, the top rate increasing from 24% to 63%.

Franklin Roosevelt took office in 1933, after having criticised Hoover during his election campaign for “spending and taxing too much, boosting the national debt, choking off trade, and putting millions of people on the dole.” Also for wanting to centralise decision-making in Washington. Roosevelt’s “New Deal” election platform had promised a 25% reduction in federal spending, a balanced federal budget, a sound gold currency, the removal of government from the preserves of private enterprise, and an end to Hoover’s farm subsidy programme.

His election promises apparently forgotten, Roosevelt’s spending budget in his first year of office was $10bn compared to revenue of $3bn. Between 1933 and 1936 government expenditure increased by a massive 83% and federal debt by 73%. An Agricultural Adjustment Act (AAA) was adopted that imposed taxes on agricultural processors and used the proceeds to purchase from farmers and destroy sound fields of cotton, wheat and maize, and to slaughter and bury in mass graves millions of cattle, sheep and pigs. The purpose was to help farmers by reducing supplies and increasing prices: this at a time when there was mass unemployment and poverty.

Another cynically-named statute, the National Industrial Recovery Act (NIRA), was adopted in 1933. The NIRA regulated all prices and terms of trade, exerting fascist-type control over the American economy that probably provided Hitler with useful ideas for his own Nazi regime, which came to power in that year. Roosevelt presided over further tax increases, ending with a top tax rate of 94% in 1945.

In 1935 and 1936, much to Roosevelt’s annoyance, the US Supreme Court declared the AAA and NIRA to be unconstitutional. However, in 1935 the Works Progress Administration was established. The programme took money through taxes from the productive sector of the economy to build 77,000 bridges and 116,000 buildings in carrying out its make-work schemes in a massive misdirection of resources.

Outlawing of the AAA and NIRA had immediately visible consequences in reduced unemployment from 1935 through to 1937. But Roosevelt was not finished with his trail of destruction. The National Labour Relations Act (the Wagner Act) was adopted in 1935. The labour law transferred disputes out of the law courts to a federal agency called the National Labour Relations Board, which in the words of economist Hans Sennolz became “prosecutor, judge and jury, all in one”, which with labour union sympathisers on its Board perverted the law, already containing legal immunities and privileges for labour unions. Sennolz’s view was that , “The US thereby abandoned a great achievement of Western civilisation, equality under the law.”

By 1938 unemployment was back up to 20% from under 15% and share prices fell by nearly 50% between August 1937 and March 1938. As Lawrence Reed describes it: “The ‘economic stimulus’ of Franklin Roosevelt’s New Deal had achieved a real first: a depression within a depression!”

The lessons to be learned are clear. Money manipulation eventually ends in disaster. If a government or its central bank has manipulated the currency, don’t blame the citizen victims for the consequences. Don’t make matters worse. Stop the printing presses. Allow interest rates to find their true level. Adopt a sound money policy. Reduce taxes don’t increase them. Reduce the size of government, don’t increase it. Free up trade, don’t intervene in it. Remove all unnecessary and burdensome legislation and regulations. Apply the rule of law.

Author Eustace Davie is a director of the Free Market Foundation. This article may be republished without prior consent but with acknowledgement to the author. The views expressed in the article are the author's and are not necessarily shared by the members of the Foundation.

FMF Feature Article/31 March 2009

Note Great Myths of the Great Depression by Lawrence W. Reed is available from FEE online or in hard copy from http://fee.org/economics/101/great-depression/

 

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