Tuesday, October 7, 2008

FDR’s New Deal prolonged depression

The Great Depression was supposed to end in 1936, say two UCLA economists. By regulating the market, creating government-sponsored monopolies that reduced competition, and artificially inflating wages (and, therefore, prices), Roosevelt put a noose around economy’s neck and prolonged the depression, making it Great.

Is there anything we can learn from this? This morning, people on NPR wondered: why didn’t the bailout package work? Maybe not enough time has passed? Maybe it wasn’t enough? Maybe new government regulation policies are necessary — the ones that haven’t been invented yet?... This reminds me of bloodletting practice used before in medicine. Doctors and scientists (if they could be called so) misunderstood how the body works and thought that if you just release blood, it will release the disease with it. What it did, of course, was making a patient weaker and prolonging the disease. What would the doctor say if asked why the patient hasn’t recovered? Maybe not enough time has passed… maybe it wasn’t enough… maybe new ways of bloodletting need to be implemented.

“History teaches man that man learns nothing from history.” We already have a history of one Great Depression created by regulationist practices of the Big Government that kept pulling the hand-break higher and higher and couldn’t quite figure out why the car wasn’t going faster. The problem? They confused the hand-break with gearshift stick and didn’t realize that the car was automatic. Just let go of the big controlling lever, press the gas and let the car go into the next gear by itself.

“President Roosevelt believed that excessive competition was responsible for the Depression by reducing prices and wages, and by extension reducing employment and demand for goods and services,” said Cole, [a UCLA professor] of economics. “So he came up with a recovery package that would be unimaginable today, allowing businesses in every industry to collude without the threat of antitrust prosecution and workers to demand salaries about 25 percent above where they ought to have been, given market forces. The economy was poised for a beautiful recovery, but that recovery was stalled by these misguided policies.” [...]

In the three years following the implementation of Roosevelt's policies, wages in 11 key industries averaged 25 percent higher than they otherwise would have done, the economists calculate. But unemployment was also 25 percent higher than it should have been, given gains in productivity.

Meanwhile, prices across 19 industries averaged 23 percent above where they should have been, given the state of the economy. With goods and services that much harder for consumers to afford, demand stalled and the gross national product floundered at 27 percent below where it otherwise might have been.

“High wages and high prices in an economic slump run contrary to everything we know about market forces in economic downturns,” Ohanian said. “As we’ve seen in the past several years, salaries and prices fall when unemployment is high. By artificially inflating both, the New Deal policies short-circuited the market's self-correcting forces. [Emphasis mine throughout the quotes — A.]

The policies were contained in the National Industrial Recovery Act (NIRA), which exempted industries from antitrust prosecution if they agreed to enter into collective bargaining agreements that significantly raised wages. Because protection from antitrust prosecution all but ensured higher prices for goods and services, a wide range of industries took the bait, Cole and Ohanian found. By 1934 more than 500 industries, which accounted for nearly 80 percent of private, non-agricultural employment, had entered into the collective bargaining agreements called for under NIRA.

Cole and Ohanian calculate that NIRA and its aftermath account for 60 percent of the weak recovery. Without the policies, they contend that the Depression would have ended in 1936 instead of the year when they believe the slump actually ended: 1943. [...]

“The fact that the Depression dragged on for years convinced generations of economists and policy-makers that capitalism could not be trusted to recover from depressions and that significant government intervention was required to achieve good outcomes,” Cole said. “Ironically, our work shows that the recovery would have been very rapid had the government not intervened.”

What does this mean for us (in case you haven’t guessed yet)?
“Why the Great Depression lasted so long has always been a great mystery, and because we never really knew the reason, we have always worried whether we would have another 10- to 15-year economic slump,” said Ohanian, vice chair of UCLA’s Department of Economics. “We found that a relapse isn’t likely unless lawmakers gum up a recovery with ill-conceived stimulus policies.”
Oops… (By the way, the above article was written in 2004.) What is amazing is that nothing changed in seventy years: the government still thinks that it can make everything better by imposing new regulations on the market, and people think that giving out free soup is a solution to everything.

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