Is the deficit ceiling debate a Smoot-Hawley moment?
I probably am not going to do justice to this question since I intend this to be a short post. But I have been thinking about this issue for some time.
People like to draw historical analogies and figure out how what’s occurring today rhymes with what occurred in the past. We certainly saw that during the US election campaign in 2008 when people were comparing Barack Obama with Franklin Roosevelt (despite the fact that Obama faced a situation more akin to Herbert Hoover). And we saw the same kind of historical parallelism to 1994 during the healthcare debates in the US.
This an exercise fraught with peril because every historical episode is unique; if you are looking for exact parallels, you are likely to overlook the less obvious but more important parallels. For example, right now, a lot of people hearken back to the government shutdown fiasco of 1995, looking for clues as to how to solve the debt ceiling fix. It’s a pretty good parallel. However, the problem with that analogy is the economy. Then, the US was four years into a decade-long upturn. Unemployment was lower, inflation was higher. Consumers were much less indebted and the housing downturn was limited to Massachusetts and California.
In my view, a better parallel is the early 1930s, during Hoover’s presidency. Here’s what Wikipedia says about the Smoot-Hawley Tariff Act of 1930:
The Tariff Act of 1930, otherwise known as the Smoot–Hawley Tariff (P.L. 71-361) was an act, sponsored by United States Senator Reed Smoot and Representative Willis C. Hawley, and signed into law on June 17, 1930, that raised U.S. tariffs on over 20,000 imported goods to record levels.
The overall level tariffs under the Tariff were the second-highest in U.S. history, exceeded by a small margin only by the Tariff of 1828 and the ensuing retaliatory tariffs by U.S. trading partners reduced American exports and imports by more than half.
Many economists have opined that the tariffs caused or contributed to the severity of the Great Depression…
At first, the tariff seemed to be a success. According to historian Robert Sobel, "Factory payrolls, construction contracts, and industrial production all increased sharply." However, larger economic problems loomed in the guise of weak banks. When the Creditanstalt of Austria failed in 1931, the global deficiencies of the Smoot-Hawley Tariff became apparent
U.S. imports decreased 66% from US$4.4 billion (1929) to US$1.5 billion (1933), and exports decreased 61% from US$5.4 billion to US$2.1 billion, both decreases much more than the 50% decrease of the GDP.
If you look beyond the specific issues of Smoot-Hawley or the debt ceiling fiasco, the macro backdrop is similar: global credit crisis, large drop in GDP, dropping money supply aggregates, flirtation with consumer price deflation, large asset price deflation, incipient sovereign debt and banking crisis in Europe, fragile recovery (people felt recovery was coming in 1930). My point is that it’s as if people somehow think that we are out of the woods and are willing to risk a global depression.
I think Ross Douthat has it right:
For months, Republican leaders used all the tools at their disposal — the anti-spending intensity of their base, the White House’s desire for a deal, the specter of dire consequences if the debt ceiling wasn’t raised — to leverage their way into a favorable position. Despite controlling just one house of Congress, they spent the spring and summer setting the agenda for the country: not whether to cut spending, but how deeply and how fast.
But last week, the Republican offensive suddenly collapsed in disarray. In the space of a few days, a party that once looked capable of pressing the White House into a deal that would have left liberals fuming found itself falling back on two less-palatable options instead: either a procedural gimmick that would try to pin the responsibility for raising the ceiling on President Obama, or a stand on principle that would risk plunging the American economy back into recession.
What went wrong? It turns out that Republicans didn’t have a plan for transitioning from the early phase of a high-stakes political negotiation, when the goal is to draw stark lines and force the other side to move your way, to the late phase, in which the public relations battle becomes crucial and the goal is to make the other side seem unreasonable, intransigent and even a little bit insane.
So, if the US defaults, who gets the blame? Recent polls show 71% shun GOP handling of the debt crisis. Default will be blamed on Republicans. No default and a weak economy will be blamed on Obama and the Democrats. Either way, the risk of a serious fall in output from overly large cuts is there. If I had to make parallels, I still say this is Hoover’s time, not Roosevelt’s and certainly not Clinton’s.
At the time of Smoot-Hawley the US was in mid-industrialization and the percentage of the population directly dependent on urban financial economies was a fraction of what is now. When Mellon said “liquidate labor, liquidate stocks, liquidate farmers, liquidate real estate… it will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up from less competent people.” He honestly believed that a rural and robust economic base outside the urban economies would allow the enterprising and moral to replace the lazy and corrupt, though of course he did not see himself as one of the lazy and corrupt.
The sentiment was wrong then because it was ignorant of what Keynes would soon explain about the errors of “Say’s Law”, the realities of demand deficiency and the inability of the economic base to sustain itself during the collapse of a modern, centralized industrial society without support from the center. At that point the distribution systems for food into cities were newly dependent on a banking system created only 15 years earlier and with only a generation of population growth behind him from this point, Mellon simply could not imagine the scale of the displacements he was calling for. In any case, bankers then had as little sympathy for the poor as they do today.
But today the US population is almost triple what it was when Mellon made his famous quote and three and a half times what it was when The Federal Reserve was created. Mellon’s delusion has been carefully recreated by thirty years of anti-government propaganda and the systematic defunding of everything that once worked in government. But the dependance of the populations of modern industrialized societies on central management has only grown. The proposal to defund that central management today is more a capitalist “Great Leap Forward” than “Smoot_Hawley” analogue: it is an attempt to liquidate a hundred years of economic infrastructure that is essential to support current population densities.
from the ame wikipedia entry:
Monetarists such as Milton Friedman who emphasize the central role of the money supply in causing the depression, downplay the Smoot-Hawley’s effect on the entire U.S. economy.
The false importance of Smoot-Hawley in the Great Depression was invented by crackpot Jude Wanniski on the soiled editorial page of the Wall Street Journal .
The canard has been repeated often enough that now it is accepted as conventional wisdom.
While Smoot Hawley is used as a bludgeon by political hacks and propagandists of various stripes and persuasions, no serious economic thinker regards it as having any importance whatsoever in the Depression.
“no serious economic thinker”. Rubbish. Plenty of economists of note believe Smoot-Hawley was a contributory factor just a competitive currency devaluations were, just as the deflationary impact of the gold standard was (especially on Britain where the peg was ridiculously high). In any event, we are seeing the falsity of many of the monetarist ideas that Friedman peddled. I don’t believe for one second that printing money was the key to ending the Great Depression.
Plenty of economists believe that Smoot-Hawley did great damage because they are ignorant about history and how to interpret economic statistics. Back off Harrison, on this one you’re dead wrong.
Economists!! who actually needs these parasites anyway. They talk a lot, produce nothing. Their full of nonsensical commentary that really most of us don’t give a toss about. Just leave all of the worlds wows to a free market to resolve and get these dumb politicians and economists out of our friggin lives.
The biggest factor to the ending of the depression was WWII creating huge demand for weapons and men that drained the economy of any slack. That might explain why Republicans think that military spending is good for the economy.
I do not think that trade wars are the cause of depression. The collapse of an Austrian bank can be down to many things. In fact I suspect that an Austrian bank will collapse sooner or later because of problems in eastern Europe. Hungary is very export dependant and so any such restrictions could push Hungary into default with its impact on Austrian banks. That does not mean that a new tariff barrier will be responsible for the next depression. Those banks were over extended and would have collapsed at some point.
What I do see as a problem is a lack of capital controls. It has allowed Germany to export its surplus funds to the PIIGS creating bubbles there. The US capital flowed out of America because they could diversify and so now US workers are in a weaker position than they probably have been for more than a century. This does not bode well for recovery. The recent dollar carry trade has inflated bubbles in commodities and were a factor in the Arab Spring. If capital controls were in place it would not have allowed banks to grow so large and spread contagion around. It would have meant lower growth for German banks but when the crisis hit there would be far less impact as they would have had plenty of funds domestically and easier to bail out if necessary.
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