What caused the Great Depression? There are countless theories of what caused this plague upon America and the world, but government action, especially with regard to monetary policy and tariffs is certainly a major contributor. According to some researchers, those in charge of monetary policy known as the Real Bills Doctrine linked two nominal variables together (money stock and money value of qualifying loans). This left no basis to anchor a determined price for things.[1] According to Von Mises and Greaves, when there is no anchor to attach to, the basis of the economy especially an expanding economy is false,
Credit expansion cannot increase the supply of real goods. It merely brings about a rearrangement. It diverts capital investment away from the course prescribed by the state of economic wealth and market conditions. It causes production to pursue paths which it would not follow unless the economy were to acquire an increase in material goods. As a result, the upswing lacks a solid base. It is not real prosperity. It is illusory prosperity. It did not develop from an increase in economic wealth. Rather, it arose because the credit expansion created the illusion of such an increase. Sooner or later, it must become apparent that this economic situation is built on sand.[2]
This in effect means that events such as The Great Depression are often corrections to what we see as great expansions but are built on debt or another false premise. As an example, take an individual who has $50,000 in cash available. If the individual uses this cash to purchase a home, the individual may be wealthier than before because he now owns a home worth perhaps $200,000. The individual is not worth more. If that house falsely goes up in value and the individual uses this paper equity to borrow more, he can now easily be in a more precarious state. In this way, The Great Depression seems eerily similar to The Great Recession of 2008. Only the reaction was different.
According to Schlaes, it was the belief that government intervention could change reality that was an error. For Schlaes, “lack of faith in the marketplace” was the real culprit.[3] The reality is that the marketplace will always correct itself regardless of the pressure or restrictions governments or regulatory agencies place on it Tariffs intended to protect the United States at home from European imports had the unintended effect of helping to destroy our trading partners in Europe reducing rather than enhancing our ability to produce by depressing demand.[4] Governments will often react to macroeconomic problems like failed monetary policy or tariffs by employing microeconomic solutions such as the National Recovery Act. In this way, attempts to dig out of a mess can dig the hole deeper and prevent recovery by once again hampering natural marketplace reactions.[5]
Although they often disagree, economists and historians overwhelmingly (over 85% consensus) agree that the governmental intervention known as the Smoot-Hawley tariff increased the probability of a Depression.[6] Nearly fifty percent of economists also believe that failed monetary policy or an attempt to counter deflation was at least partially to blame as well.[7] Pack, Hallett, and Ma applied various modeling exercises concerning the American, British, French, and German economies leading up to The Great Depression and concluded that failed economic policies, especially interventions were a contributing cause to the economic collapse of the thirties.[8]
Barber also pins at least partial blame on the Smoot-Hartley tariff. He noted that as the largest economy in the world and the economy with the most purchasing power after World War I, the United States intervention through tariffs greatly reduced demand for overseas products. This in turn impacted the American economy by reducing demand for American exports.[9] Bernanke adds that failed monetary policy was a contributing factor. The debt-deflation issue was real and contributed to the Great Depression as well. When deflation is present, properties and assets tend to move from debtors to creditors.[10]
Perhaps the best way to look at the causes of The Great Depression is as a firestorm of unfortunate events such as the Dust Bowl, failed war reparations policies, deflation, poor government interventions, and questionable monetary policy. That noted, failed monetary policy and perhaps more importantly governmental tariff actions were pivotal policies and actions that led to the economic travesty of the thirties.
Bibliography
Barber, Clarence L. “On the Origins of the Great Depression.” Southern Economic Journal 44, no. 3 (1978): 432–56. https://doi.org/10.2307/1057202.
Bernanke, Ben S. “The Macroeconomics of the Great Depression: A Comparative Approach.” Journal of Money, Credit and Banking 27, no. 1 (1995): 1–28. https://doi.org/10.2307/2077848.
Foreman-Peck, James, Andrew Hughes Hallett, Yue Ma, “A monthly econometric model of the transmission of the Great Depression between the principal industrial economies” Economic Modelling, Volume 17, Issue 4, 2000, Pp. 515-544, A monthly econometric model of the transmission of the Great Depression between the principal industrial economies - ScienceDirect
Humphrey, Thomas M. and Richard H. Timberlake, Gold, the Real Bills Doctrine, and the Fed: Sources of Monetary Disorder, 1922-1938. Washington: Cato Institute, 2019. Reviewed by Clifford F. Thies, School of Business, Shenandoah University. Gold, the Real Bills Doctrine, and the Fed: Sources of Monetary Disorder, 1922-1938 – EH.net
Shlaes, Amity. The Forgotten Man : A New History of the Great Depression. Pymble, NSW ; HarperCollins e-books, 2007.
Von Mises, Ludwig, and Percy L. Greaves. The Causes of the Economic Crisis : And Other Essays before and after the Great Depression. Auburn, Ala: Ludwig von Mises Institute, 2006.
Whaples, Robert. “Where Is There Consensus Among American Economic Historians? The Results of a Survey on Forty Propositions.” The Journal of Economic History 55, no. 1 (1995): 139–54. http://www.jstor.org/stable/2123771.
[1] Clifford Theis Review. Humphrey, Thomas M. and Richard H. Timberlake, Gold, the Real Bills Doctrine, and the Fed: Sources of Monetary Disorder, 1922-1938. Washington: Cato Institute, 2019.
[2] Ludwig Von Mises, and Percy L. Greaves. The Causes of the Economic Crisis: And Other Essays before and after the Great Depression. Auburn, Ala: Ludwig von Mises Institute, 2006.
[3] Amity Shlaes. The Forgotten Man : A New History of the Great Depression. Pymble, NSW ; HarperCollins e-books, 2007. P. 7.
[4] Ibid.; pp. 7-8
[5] Ibid.; p.8
[6] 2006.
Whaples, Robert. “Where Is There Consensus Among American Economic Historians? The Results of a Survey on Forty Propositions.” The Journal of Economic History 55, no. 1 (1995): p. 144.
[7] Whaples, Robert. “Where Is There Consensus Among American Economic Historians? The Results of a Survey on Forty Propositions.” The Journal of Economic History 55, no. 1 (1995): p. 150.
[8] James Foreman-Peck, Andrew Hughes Hallett, Yue Ma, “A monthly econometric model of the transmission of the Great Depression between the principal industrial economies” Economic Modelling, Volume 17, Issue 4, 2000, p. 515.
[9] Clarence L. Barber.. “On the Origins of the Great Depression.” Southern Economic Journal 44, no. 3 (1978): p. 446.
[10] Bernanke, Ben S. “The Macroeconomics of the Great Depression: A Comparative Approach.” Journal of Money, Credit and Banking 27, no. 1 (1995): p.17.
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