Although the bursting credit bubble has some analysts expecting a replay -- albeit an updated version -- of what took place 80 years ago, there are reasons to think things won't turn out that way.
For one thing, the fact that we had the history of that tragedy behind us, and the man pulling the levers at the Federal Reserve has made it his life's mission to prove that such episodes can always be beaten, suggests the outcome this time around won't be the same.
For another, when it comes to patterns of human activity, including those related to economic matters, what people fear most turns often turns out to be something other than the real concern.
Some argue, in fact, that policymakers' aggressive response to the 2001 downturn because they were afraid of deflation set the stage for an altogether different economic calamity in the guise of the the subsequent and unsustainable housing and credit bubbles.
Regardless, a recent Money Morning column by Contributing Editor Martin Hutchinson, "Is it 1932 – or 1923?" gives us some interesting food for thought.
Endless reports in the media have pointed out that this global recession is “worse than anything since the Great Depression.”
To be fair, it’s not even certain yet that this nasty downturn has beaten the mid-1970s downturn, though it probably will. But even if that does happen, by focusing exclusively on the 25% unemployment of the 1930s and the “Grapes of Wrath” Joad family as our inevitable future, we’re ignoring another equally unpleasant potential scenario: The Weimar German hyperinflation of 1923.
The U.S. authorities and those of the G-20 are currently avoiding most of the mistakes that during the period from 1930 to 1932 turned an ordinary recession into the Great Depression. In those years, the U.S. Federal Reserve deflated the money supply by about 30% in real terms. Central bank officials didn’t realize they were doing this; banks kept failing, thus reducing the country’s bank deposits, while the Fed did nothing to offset the money supply shrinkage the bank failures produced.
U.S. President Herbert Hoover raised tariffs via the Smoot-Hawley Tariff Act of 1930, causing world trade to fall by 65%; his huge income tax increase (with the top rate going from 25% to 63%) in 1932 also contributed greatly to the global economic meltdown. All three mistakes have been avoided this time:
- The money supply has expanded rapidly, bringing negative real interest rates almost everywhere except Brazil.
- And fiscal policies have been expansionary and protectionism limited.
The history of the Weimar German inflation was quite different.
