Mr. Grant confronts the subjectivity of economic measurement head-on in his book in an enlightening discussion of whether the 1921 depression was, in fact, a depression at all.
The Forgotten Depression: 1921 — The Crash That Cured Itself, by James Grant, Simon & Schuster, 2014.
Joseph Calandro Jr. writes: To better understand the current economic environment, financial analyst, historian, journalist, and value investor James Grant, who is informed by both Austrian economics and the value investing theory of the late Benjamin Graham, analyzes the Depression of 1920–1921 in his latest work, The Forgotten Depression: 1921 — The Crash That Cured Itself.
Grant understands that despite the pseudo-natural science veneer of mainstream economics the fact remains that economic value is inherently subjective and thus economic measurement is also subjective. Mr. Grant confronts the subjectivity of economic measurement head-on in his book in an enlightening discussion of whether the 1921 depression was, in fact, a depression at all.
Was It a Depression?
Grant concludes it was a depression, but mainstream economist Christine Romer, for example, concludes it was not a depression. As Grant observes, Ms. “Romer, a former chairman of the Council of Economic Advisors, presented her research, titled ‘World War I and the Postwar Depression,’ in a 1988 essay in the Journal of Monetary Economics. The case she made for discarding one set of GNP estimates for another is highly technical. But the lay reader may be struck by the fact that neither the GNP data she rejected, nor the ones she preferred, were compiled in the moment. Rather, each set was constructed some 30 to 40 years after the events it was intended to document” (p. 68).
In contrast, Mr. Grant surveys economic activity as it existed prior to and during 1920–21 and as it was evaluated during those times. Therefore, five pages into chapter 5 of his book, which is titled “A Depression in Fact,” we read that:
A 1920 recession turned into a 1921 depression, according to [Wesley Clair] Mitchell, whose judgment, as a historian, business-cycle theorist and contemporary observer, is probably as reliable as anyone’s. This was no mere American dislocation but a global depression ensnaring nearly all the former Allied Powers (the defeated Central Powers suffered a slump of their own in 1919). “Though the boom of 1919, the crisis of 1920 and the depression of 1921 followed the patterns of earlier cycles,” wrote Mitchell, “we have seen how much this cycle was influenced by economic conditions resulting from the war and its sudden ending. … If American business men were betrayed by postwar demands into unwise courses, so were all business men in all countries similarly situated.”
So depression it was … (p. 71)
- War finance (the currency debasement and credit expansion associated with funding war) has long been associated with economic distortion including World War I, which preceded “The Forgotten Depression.” Such distortions unfortunately continue to the present day.
- Scandal is also associated with booms and busts; for example, the boom preceding “The Forgotten Depression” had Charles Ponzi while the boom preceding “The Great Recession” had Bernie Madoff.
- The booms preceding both financial disruptions also saw governmental banking regulators not doing a very good job of regulating the banks under their supervision.
- Citibank famously fell under significant distress in both events.
- Both eras had former professors of Princeton University in high-ranking governmental positions: Woodrow Wilson was president of the United States at the beginning of “The Forgotten Depression” while Ben Bernanke was chairman of the Fed during “The Great Recession.”
- On the practitioner-side, value investor Benjamin Graham profited handsomely from the distressed investments that he made during “The Forgotten Depression” while his best known student, Warren Buffett, profited from the distressed investments that he made during “The Great Recession.”
The Crash That Cured Itself
Despite similarities, there are noteworthy differences between these two financial events. Foremost among the differences is the reason why “The Forgotten Depression” has, in fact, been forgotten: the government did nothing to stop it. Not only were interest rates not lowered and public money not spent, but interest rates were actually raised and debt paid down. The context behind these actions is fascinating and superbly told and analyzed by Mr. Grant. Read the rest of this entry »
James Pethokoukis writes: US productivity growth, at least as measured, has been in low gear for a decade. And especially so since the Great Recession, averaging just 0.6% annually from 2010 through 2014. We’re aren’t going to consistently hit 3% GDP growth, much less 4%, like that.
Then again, productivity growth has slowed in most OECD countries over the past decade. A new OECD research note doesn’t think the problem is a lack of innovation, so much as an inability to spread innovation broadly throughout advanced economies. “A breakdown of the diffusion machine” is what the OECD calls it.
The gap between high productivity firms and low productivity firms is increasing. (Maybe also helping to explain rising inequality.) So why aren’t innovations spreading as fast as they used to? The WSJ’s analysis of the paper sums it up nicely:
One key reason appears to be that the process of “creative destruction” identified by Austrian economist Joseph Schumpeter as essential to capitalism’s dynamism appears to have lost some of its ferocity. In the OECD’s words, “market selection is weak.” One reason for that is government policy, which the OECD said favors incumbents across a whole range of areas, from regulations designed to protect the environment, to taxation. As a result, older firms that suffer from low productivity growth endure, often “trapping” workers in jobs for which they are over qualified. Read the rest of this entry »
Government versus Private Resource Management: The Theory
Robert P. Murphy writes: According to a common but naïve worldview, there are objective, well-known techniques for producing various goods and services, and the consumer preferences regarding these outputs are also common knowledge. In such a worldview—which even many professional economists, in discussing policy, seem to hold—it seems only natural to conclude that government officials could improve upon the decentralized market outcome. After all, the government has access to the same “production function” as private firms, and if it decides to be the monopoly producer of a good or service, it can avoid wasteful advertising expenses and other redundancies. Such arguments were behind the proposals for outright “market socialism” in the era between World Wars I and II, and, to this day, they guide recommendations for heavy government regulation of “natural monopolies” such as utilities.
However, more-practical economists recognize the limits of their textbook diagrams with elegant marginal revenue and marginal cost curves. In reality, we operate in a world of uncertainty. The “least cost” method of producing a good or service is never obvious, nor is what consumers will be willing to pay for various items. In a famous lecture, “Competition as a Discovery Procedure,” Friedrich Hayek explained how markets in the real world stumble upon this hidden knowledge. Various people with access to different information make piecemeal discoveries and constantly modify their operations accordingly; they receive feedback from market prices in the form of profit or loss. Firms mimic particularly profitable innovations, and if a firm does not adapt quickly enough, it will go out of business. Hayek thus viewed competition as a process rather than a condition or end-state. The state of “perfect competition” described in the textbooks—which includes the property that all firms in an industry use the identical “least-cost” method of production—is actually something that would emerge over time onlybecause of the competitive rivalry between the firms, and only if the conditions in the real world remained static long enough for all firms to fully adapt.