Thinking About the Great Depression

|Peter Boettke|

Many economists explain the Great Depression as a consequence of monetary mismanagement.  The more prevalent view focuses on the monetary contraction of the 1930s, a minority view focuses on the manipulation of money and credit in the 1920s.  But in both narratives monetary policy plays a central role in the cause of the Great Depression. And if one is so inclined, you don't have to choose between either narrative because both can be invoked for different historical periods.  The "cure" for running over a pedestrian with your car, is not to then back up over him again; the "cure" for inflation is not deflation.

But what about non-monetary theories of the Great Depression?  For most of the history of economic thought, I would argue that such theories while often popular had little grounding in the logic of economic activity.  Underconsumption theories or overproduction theories don't really satisfy the economic imagination, nor do they fit the historical record neatly.  Wild swings on optimism and pessimism don't work as explanations.  As Larry White has often said in the context of the current financial crisis --- "Yes, people did crazy things. But someone gave them the crazy juice!"  That someone, was the Fed and its easy monetary policy through much of the first decade of the 2000s.

But a full story of the current financial crisis would also have to invoke non-monetary factors which both steered the initial misallocations in one direction and not another, and which have prevented an adjustment (read a recalculation) of economic decisions and allocations to be consistent with the underlying realities of economic life.  In short, monetary theories must work alongside of non-monetary theories to provide a full account.

But which ones?

Joe Stiglitz offers his explanation in an opinion piece for Vanity Fair.  What do you think about the structural explanation?

I have always been persuaded by the narrative provided by Murray Rothbard in America's Great Depression.  Not only do I buy the Austrian theory of the manipulation of money and credit in the 1920s, I have always found Rothbard's analysis of the various government programs which prevented the necessary market correction from taking place to be persuasive.  In fact, while I know that Rothbard's (and Austrians in general) narrative of the 1920s is often challenged, has there been a good critique of the narrative about how the governmental policies adopted first by the Hoover and then pursued by the Roosevelt administrations prevented the market corrections that were necessary for economic recovery?  What substitute for market discipline can be reasonably relied upon during a period of recalculation?

When I read Robert Higgs (my favorite economic historian of the American experience), I see his work as completely consistent with Rothbard (and Friedman for that matter), and focusing on the non-monetary causes of the depth and severity of the Great Depression.  But his non-monetary factors are different from those that Stiglitz focuses on.

Gene Smiley's work on the Great Depression provides an excellent overview as well.   So whose explanation best fits the facts, and best has parallels to today?

 

Meta point: If my priors are correct on this issue, but the vast majority of economists cut the opposite way, can this be explained without recourse to (a) an explanation that focuses on shifts in the philosophy of science in middle of the 20th century, and (b) an explanation that focuses on shifts in the philosophy of public administration during the 20th century.  In other words, can we explain the rise of Keynesianism within economics and politics without also talking about a shift in the nature of scientific explanation in economics (see Knight "What is Truth in Economics?") and the transformation of public administration (see V. Ostrom, The Intellectual Crisis of American Public Administration) and the unique timing of both?

Methodology matters because it not only defines what is considered a good question, but more importantly what is considered acceptable answers.  And political expectations matter because when a discipline is asked to provide something that it is constitutionally incapable of providing, but it must provide it anyway for it success as a policy science it will corrupt the practice of the discipline.  The alliance of scientism and statism didn't just effect public policy, but the nature of the practice of the discipline, the selection process for that discipline, and the historical narratives that are accepted and those that are rejected by that discipline.  That much said --- all we have is the constant contestation of ideas in that discipline as a hope for self-correction.  In short, we have to think harder, dig deeper, write clearer, and in general just work harder to persuade our scientific peers of the correctness of our position.   There are no short-cuts, nor end-runs around the profession.  Simply put, we have to be better economic thinkers and communicators if we hope to provide a corrective to what we think of as error in thought and practice.

Comments

[Adamgurri]

I'm surprised you didn't mention the Kling, Patterns of Sustainable Specialization and Trade/Recalculation story.

[Steve Horwitz]

Why choose? When I teach the GD, I do it this way:

There's three questions any explanation of the GD must answer:

1. What started it?
2. Why did it get so bad, so quickly?
3. Why did it last so long?

Answers:

1. You can tell an Austrian story of the 20s, noting that it's been challenged.

2. The combination of the Fed's mismanagement of the money supply after 1930 along with Hoover's high wage policy and other interventions made things very bad, very quickly.

3. Higgs, Cole/Ohanian and others give us reasons to think FDR's policies prevented a quicker recovery and made things last longer than they otherwise would have.

So you can use Austrian, Monetarist, and "non-monetary" stuff like Higgs and Rothbard on Hoover to tell a complete story.

This is not a mono-causal event. You need multiple stories, just like you do with the Great Recession. ABCT is necessary but not sufficient to explain either one.

I hope to do a short book on this one of these days.

[McKinney]

Steve, I agree. I tell people that all theories of depression are correct, just at different point in the cycle. The ABCT provides the skeleton while the others flesh out the details.

When explaining the rise of Keynes, keep in mind the love affair that most Americans had for the USSR during the 20's and 30's. Most people and many economists seem to have concluded that the Soviets had the perfect economic system. The US needed to imitate the USSR economically without abandoning democracy.

[McKinney]

PS, don't forget the decline of bourgeois values before the Great D.

[Bill Woolsey]

Nick Rowe gives a pretty good response to Stiglitz. I don't agree with his argument that aggregate demand needs to increase to prevent deflation.

http://worthwhile.typepad.com/worthwhile_canadian_initi/2011/12/the-gizmo-theory-of-the-recession.html

[William Bruce]

Does any member of the commentariat hold a strong opinion on the relative importance of Smoot-Hawley, particularly in light of the monetary effects emphasized by researchers such as Rustici?

[Jerry O'Driscoll]

The late Jonathan Hughes, another great economic historian, wrote a terrific paper years ago making the point that no extant theory could explain the magnitude and duration of the Great Depression. Steve Horwitz offers the practical resolution. He needs to write that book.

John Wood has a paper pointing out that a Great Deflation was inevitable (not necessarily a Great Depression), given that all major countries (including the US) had not experienced a great enough deflation after WWI. To have stayed on the gold standard, all should have changed their gold parities. Or allowed more deflation in the 1920s.

Particularly with respect to the UK, the range of economists calling for a change in parity before returning to the gold standard. was breathtaking: Hayek, Keynes, Mises, et al. That was Ricardo's advice after the Napoleonic Wars. Instead, Britain returned at pre-war parity. Internationally, we got a gold-exchange standard. Its inevitable failure long tarnished gold's reputation.

[Pietro M.]

I believe that the Great Depression is a historical unicum and deserves to be treated as a unicum.

For an explanation, I agree with Horwitz: credit expansion set in motion by the Federal Reserve in the '20s combined with monetary and financial problems in '29-'33 which have been magnified and made persistent by Hoover and Roosevelt. Mises -> Friedman/Fisher -> Ohanian/Cole. Of course, Cole/Ohanian and Chester Phillips / Rothbard basically told the same story.

Monetary theories and credit theories like Irving Fisher's can explain something, but are too general to explain a historical unicum.

If the Fed didn't produce a crisis in 1929, a crisis would have erupted anyway, like in 2007. Long booms begets fragility, real and financial. Without government interventions any crisis has an endogeneous upper point, with government interventions also, because policies lose effectiveness once the economy has become sufficiently fragile.

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As depression disorders are very serious medical conditions, one should be very careful about their lifestyle. If stress, tension, work or any of things make you depressed just try to stay away from them. When anyone is in depression, first find out why he is depressed, carefully listen to his words, understand his situation, behave patiently, stay in contact with him, encourage him to not to use drugs, and advise him to seek professional help.

[UGG Boots sale]

their lifestyle. If stress, tension, work or any of things make you depressed just try to stay away from them. When anyone is in depression, first find out why he is depressed