David R. Henderson

Harding's Stimulus Plan

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Floccina writes:

David Henderson, Arnold Kling & Bryan Caplan, I would love to read your take on Jim Powell's article about the 1920-1921 depression. Is Jim Powell showing huge bias? Can we learn anything that would be helpful in the current situation from the 1920-1921 depression? Could it be that there is a trade off between a shorter more severe down turn were certain workers are crushed and a longer but less down turn were pain is less but more persistent?

I admit that until Floccina made me aware of this article, I had not known much about it. So here are my answers:

1. No, I don't think Jim Powell is showing huge bias, at least not in the way that term is usually used. It's probably true that Powell starts with a bias, as I do, in favor of the view that government will tend to mess things up, but there's a lot of evidence behind that "bias." Moreover, if you have that bias but are open to counterevidence, then I don't see much problem.
2. I think we can learn something from Harding's response. I think we would have a much better shot at improving the economy, short term and long term, if government cut spending and taxes as drastically as Harding did.
3. I think there is such a tradeoff, although I don't think workers were crushed. Some might have been worse off, but I would reserve the term "crushed" to describe having coercion used against them, as many in Congress want to do with the mis-labeled "Employee Freedom of Choice Act." (This Act, if passed, would further enhance the power of unions to be the sole bargaining agent for workers, even if individual workers don't want it to be.)

Finally, as a bonus, I've often said in talks that my favorite 20th century president was silent Cal Coolidge. Move over, Cal, and make way for your predecessor.


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COMMENTS (14 to date)
ionides writes:

George Reisman covers this period in his book "Capitalism". Prices and wages were allowed to drop by 25 to 50 percent. Accordingly, the 1920 depression was sharp and short. He blames the prolongation of the Great Depression on Hoover's policy of pressuring business to keep wages high. Of course New deal policies also contributed.

ws1835 writes:

I will admit up front that I am an engineer not an economist, and I understand the field of economics is not necessarily as precise as some other fields, say IT or hydraulics. However, I hear all the debate among 'economists' over the net effect of government stimulus spending, etc and it drives me nuts.

I believe empirical evidence over the last 100 years pretty conclusively answers the question of whether aggregate government spending stimulates the economy. Harding slashed taxes and spending. His policy quickly ended the 1920-21 recession. Hoover and Roosevelt spent like crazy and adopted price/wage controls. Their policies took a short recession and turned it into the great depression. JFK cut marginal tax rates and jumpstarted the economy in the early 60's. LBJ's New Deal spending ended a decade later in stagflation. Reagan cut marginal tax rates and deregulated (i.e., less government control of the economy). His policy kicked off a decade of unparalleled growth.

So we have five test cases ti judge by. All of the tax cuts worked. None of the spending and economic meddling did. With all this history readily available, how in the heck can anyone argue that Keynesian style government spending will in anyway help the economy??

Stewart Griffin writes:

"With all this history readily available, how in the heck can anyone argue that Keynesian style government spending will in anyway help the economy??", ws1835

When you really want to believe something you will find a way.

Bryan Caplan writes:

I actually wrote my second-year paper on this topic under Bernanke's supervision. It was never published, but here it is: http://www.gmu.edu/departments/economics/bcaplan/year2.doc

libfree writes:

yeah, everyone has an out somewhere in this whole mess....if you'd only done it like I told you to.

spencer writes:

Maybe you need to look at a different source because his data is all wrong.

Maybe nominal gdp fell by 24%, but real gdp fell less than 5% as compared to a third in the great depression.

He says unemployment in 1921 was 4.9 million.

But that is an unemployment rate of 11% versus over 25% in 1933 and a peak of almost 11% in 1982, the second year of the Reagan Presidency.

His attempts to claim that the recession caused by the end of WW I was comparable to the Great Depression is a rewriting of history that is not worth the paper it is printed on.

You should be ashamed of yourself for taking such misrepresentation of facts seriously. Any economic historian would call this article pure bunk.

tom writes:

"Maybe nominal gdp fell by 24%, but real gdp fell less than 5% as compared to a third in the great depression."

If this is true then Keynesian philosophy should be dead an buried. A short downturn in the face of deflation and cuts in government spending? The deflation alone should have threatened the ominous deflationary 'spiral', and the spending cuts by the government should have hammered AG. I can't think of a scenario that Keynesians, or neo Keynesians should fear more.

spencer writes:

Tom

The primary cause of the 1919-20 recession was the sharp cut in government spending on military equipment and aid to the Allies as WW I ended.

This is exactly what almost always happens at the end of major wars as the major Keynesian stimulous of war time spending ends.

If anything it shows that government can strongly influence the economy, exactly what Keynes claimed.

scott clark writes:

Spencer,

You may have just moved the goal post a little. People were talking 1920-1921, you pushed that up to 1919-1920, presumably to get it closer to the war.

Then reconcile the growth of 1946 and beyond with the statement about the recessions resulting from drop in keynesian stimulous as the war ends. I say, a la Robert Higgs, we had a rise in prosperity after WWII as the rationing and price controls were ended, as the government was literally too exhausted to keep up with all the economic nonsense.

tom writes:

"If anything it shows that government can strongly influence the economy, exactly what Keynes claimed."

That government spending can influence the economy isn't in dispute by anyone of any economic school. Neo Keynesians or Psuedo Keynesians (or whatever you want to call them) like Bernake and Krugman assert that reducing government spending during a depression should make things worse and that price deflation can be expected to lead to a spiral that leaves the economy to permanently (or at least long term) lower production levels.

It is my (superficial) understanding that there was some rate lowering by the federal reserve during 1921, the NYT archives has a piece saying the first cut was on May 5th 1921, from 7 to 6.5, another on June 16th, 1921 to 6, and a third on July 21 to 5.5. (looks like the rate may have gone as low as 4%, I'm not going to write a paper here though so I'm limiting my research to quick google results)

http://query.nytimes.com/mem/archive-free/pdf?res=9F0CE5DA1731EF33A25752C2A9619C946095D6CF

If we apply a standard time lag to monetary stimulus of 9-12 months we have to credit a 1.5-3% rate cut with completely reversing a serious price deflation in the teeth of government spending cuts in less than a year of them actually hitting the economy. I don't believe I have ever seen a model that would predict that type of speed and efficiency.

David R. Henderson writes:

Dear Spencer,

You wrote:

Maybe nominal gdp fell by 24%, but real gdp fell less than 5% as compared to a third in the great depression.
He says unemployment in 1921 was 4.9 million.
But that is an unemployment rate of 11% versus over 25% in 1933 and a peak of almost 11% in 1982, the second year of the Reagan Presidency.

So in other words the 1920-21 recession was way more serious than this one appears to be. Thus my second answer above.

Best,

David

Barkley Rosser writes:

David,

The 1920-21 one in the US looks a lot like the one in 1982 in terms of the numbers. However, even though in the US the GDP growth and unemployment numbers have not yet gotten as bad as either of those, the reason this one looks like it could be much worse, certainly with a major danger of dragging on for long, is that it is the most globally synchronized and nearly universal one we have ever seen, including the Great Depression. The IMF is now calling for the lowest rate of world GDP growth since WW II, a 0.5% rate for 2009. In November, world industrial production dropped at around a 15% annual rate, and world merchandise trade dropped at nearly a 45% annualized rate. We have never seen anything like this, certainly not in 1920-21.

David R. Henderson writes:

Dear Barkley,
Good points. I'm wondering, though, whether you think this undercuts the point that wage flexibility, combined with spending and tax cuts, can get us out of this.
Best,
David

Barkley Rosserr writes:

Wage flexibility might help, although in this economy one needs some kind of mechanism to have it be felt as shared to get it to come about, so much resistance to it.

I do think that the magnitude of this situation does call for some aggregate demand stimulus, although there are clearly a lot of differences out there about the right mix of things. But, this does not strike me as a good time to be cutting spending, even if one does not want to raise it much.

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