A Brief History…

Unless the election next year reverses the present course of this administration, we are on course to repeat most of the mistakes that led to the last Depression. The trade war is under way now and seems to be fulfilling the role played by Smoot-Hawley in 1930.

The modern free-trade era began during the Great Depression, after the catastrophe of the Smoot-Hawley tariff of June 1930. Hoover also thought he was shrewdly playing tactical politics by adopting a tariff that the economist Joseph Schumpeter said was the “household remedy” of the Republican Party at the time. But the tariff ignited a beggar-thy-neighbor reaction around the world, and the flow of global goods and services collapsed.

Like Britain in the 19th century, the U.S. has been the linchpin of this liberal trading order that despite occasional setbacks has moved in the direction of lower tariffs and fewer nontariff barriers. As the world’s largest economy, the U.S. has largely kept its market open, using access to U.S. consumers as a lever to open other countries to foreign goods and services. Even as Big Labor broke with this consensus, Bill Clinton continued this bipartisan tradition by supporting Nafta, and prodding Congress to ratify the World Trade Organization and most-favored nation trading status for China.

That era appears to be over. People are fleeing unions in the wake of disastrous results of their actions but it may be too late as this president has shown he is totally in the pocket of unions. Why else the government takeover of the auto makers ?

What other mistakes are repeating the run-up to the Depression ? One cause of the recent financial meltdown was excessive reliance on credit ratings that were too optimistic. Why did the banks and investment funds do this ? Because, going back to the 1930s, regulators insisted that they do so. We are being told that regulation was too lax. In fact, it may have been too tight, leading institutions that should have been able to assess risk to rely on false signals. Here is more on this story (pdf). The cost of amnesia may come higher this time. We are more in debt than we were when Carter tried to take the economy down.

The housing bubble resembles the Latin American bond bubble of the 1920s. The difference is that the buyers in the 1920s were unsophisticated small investors while the buyers in the 2000s were banks and investment funds that should have known better. Why didn’t they ? A lot of it was government policy, like CRA.

The AIG near-collapse was a classical bank run although those participating were other financial institutions that had purchased credit default swaps from AIG and feared that they would run out of money before all the swaps were honored. The dynamics were identical to the sort of bank run illustrated in “It’s a Wonderful Life.” Now the government appears to be concerned with reinflating the real estate bubble. Spending is totally out of control and much of it is going to dubious projects.

Herbert Hoover was determined to keep wages high and this president seems to have the same goals although he seems to care about union wages mostly. If GM and Chrysler had been able to seek bankruptcy protection, their high cost union contracts could have been renegotiated with a judge standing by to enforce reality. Obama instead took them over with government money and stiffed non-union creditors while giving the companies to the unions. This sort of thing looks a lot like Hoover. Now, Obama is going after everybody but the people responsible and will burden the positive parts of the economy with more regulation that does nothing. This is how Depressions begin.

Roosevelt did something similar in supporting TVA over private utilities in the 1930s. Wendell Willkie became a national figure when he battled Roosevelt over the TVA. He lost the TVA fight but, had World War II not intervened, he might have defeated him in the election of 1940. Where is our Willkie now ?

This entry was posted on Tuesday, September 15th, 2009 at 7:05 am and is filed under financial. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed.