Gerard
Jackson
The
1937-38 crash was literally a depression within a depression1. The
seasonally adjusted production index peaked 118 in May 19372. A
year later it stood at 76, a drop of 36 per cent. From April 1937 to May 1938
manufacturing output fell by 38 per cent. The situation for the iron and
steel industry was catastrophic with output collapsing by 67 percent. Factory
employment dived by 25 per cent, factory payrolls by 36 per cent while
aggregate unemployment peaked at 20 per cent. Such a rapid contraction in
production was and is unprecedented in US History. The statistics for
manufacturing, and the iron and steel industry in particular, are both
striking and instructive if the monthly production figures are examined
instead of annual aggregates, a fact that will become increasingly clear.
Even
today there is no consensus on the cause of the contraction. I realise that
for most people this historical event is just that — history, an incident
that has no bearing on the present. But the vast majority of the population —
including our politicians and so-called media — do not appreciate the fact
that the insidious fiscal and monetary policies that gave us the current
economic situation have their roots in the Great Depression. Until it is
properly understood what brought about these economic disasters we will
continue to be cursed by the same economic policies that brought us the
present sorry economic state.
There
are a number of explanations for the 1937-38 crash. For example, Alan Moran
of the Institute of Public Affairs has adopted the view that “once debt
creation was slowed in 1937, the economy again tanked”. (The
Looming Disaster from Deficit Spending, October 2013). Dr
Moran overlooked the fact that from 1932 to 1937 Commonwealth debt actually
fell by about 3 per cent. Instead of tanking the Australian economy continued
to expand and create more and more jobs. This is proof positive that
correlation is not causation. On the other hand, if Dr Moran means by “debt
creation” credit expansion then this is dealt with below.
In
reality there are only three explanations of the crash that contain any real
substance. The first has Milton Friedman and Anna Schwartz blaming the
monetary contraction for the tragedy. (This could be Alan Moran’s “debt
creation” solution to the riddle). A considerable number of people still
adhere to this explanation. However, anti-monetarists, mainly Keynesians,
point the finger at the drop in government spending, claiming that this
fiscal contraction reduced aggregate demand and that this triggered the drop
in production. A third group argues that the magnitude of the depression can
only be explained by the huge wave of strikes that resulted in wage rates
that savaged price margins and recklessly drove up the cost of production.
I
believe the third explanation is the correct one. To make a case I shall deal
with each one in some detail, starting with the Friedman-Schwartz account.
Prices had been rising and the Roosevelt administration was worried that
inflation was taking root. In response to this fear the fed decided to raise
reserve requirements in three stages. In August 1936 they raised reserve
requirements by 5 per cent. The next two increases were on 1 March and 1 May
1937, thereby doubling the reserves. (Although reserves were doubled the
requirements for the banks were not uniform. Nevertheless, the overall result
was the same.) This action reduced reserves from $3 billion to about $0.93
billion. Monetarists therefore deduced from this that the new requirement cut
funding to business to the extent that it triggered a deflation which in turn
precipitated the 1937 crash.
The
monetarists assume far too much. In doing so they overlooked a great deal of
contrary evidence. Classical economists observed that whenever the banks
created a sudden deflation there would be a rapid and desperate rush by
businessmen for cash resulting in interest rates for short term loans being
driven rapidly up. Robert Mushet, a nineteenth century economist, witnessed
rates for businessmen jump as high as 40 per cent to 60 per cent as a result
of the 1825 economic crash caused by the Bank of England’s desperate effort
to restore its exhausted reserves3. This is precisely what one
would expect in these circumstances.
The
stress is on the restoration of reserves. After a series of reckless monetary
expansions followed by steep deflations the English banks once again embarked
on another irresponsible monetary expansion in 1822 that created a wave of
frenzied speculation and eventually generated an external and internal gold
drain4 so severe that by late 1825 the banks’ reserves had fallen
to a point where the banking system found itself on the edge of a financial
precipice. The situation was so grave that it nearly brought about the fall
of the Bank of England. The result was a swift and dramatic deflation that
brought on a deep depression.
Now
this was obviously not the case in 1936 or 1937. The fact remains that the
system had been holding excess reserves since 1929. By 1940 member bank
reserve balances had grown to $13,249 billion while excess reserves stood at
$6,326 billion. This is why there was no frantic scramble by business that
would have driven up short term rates. A monetarist could point to the fact
that immediately the money supply peaked in March the rate on prime
commercial paper rose by 33per cent in April. The commercial paper rate is
important because it is the one that reflects the short term rate that
business borrowed on. From February 1935 the rate had remained unchanged at
0.75 per cent. After rising a quarter of one per cent, it stayed there until
February 1938, after which it began a slow decline.
Even
when the rate rose to 1 per cent it was still barely positive. Moreover, it
was much lower that the rates that prevailed in the booming 1920s and in the
post-WWII economy. If monetary tightening had caused the crash then this rate
should have risen significantly. In addition, Prime bankers’ acceptances
stayed under 1 per cent, where they had been since May 1933. Ninety-day stock
exchange time loans remained unchanged at to 1.25. These rates were absurdly
low and for anyone to suggest that raising any of them by a fraction of 1 per
cent would have generated the fastest drop in production and employment in US
history is just plain ridiculous. Equally ridiculous is the thought that a
6.4 per cent monetary contraction, which is what occurred, could have the
same effect.
The
most damaging evidence against the monetary interpretation of the crisis is
that the thing is out of sequence with the pattern of production. Money
supply peaked in March 1937 and industrial production peaked in May at 118
where it stayed until falling to 114 in June, finally plunging to 80 by
January 1938. Now I am second to none in my respect for the power of money to
disrupt an economy but I just cannot see how industrial production could have
responded so quickly to the change in the money supply, especially when
nothing else did.
Moreover,
when we examine industrial production in greater detail the case against the
monetary explanation becomes overwhelming. Although industrial production
peaked in May manufacturing peaked in April, only several weeks after the
money supply peaked. This is a little too fast. The clincher is that iron and
steel production peaked in January, two months before M1ceased expanding5.
Roosevelt’s
devaluation of the dollar created a large inflow of gold. To prevent what
they thought would be an inflationary surge the Treasury sterilised the
inflow rather than allow it to add to the money supply. Critics of this
policy argued that it contributed greatly to the tragedy. Two points here.
First, it was a bit rich for these critics to attack the Treasury for not
applying the gold-standard rule to the gold inflow when they were part of the
chorus that demanded the demonetisation of gold. Second, it literally did not
matter anyway because the system was holding excess reserves that were
actually expanding. Monetising gold would simply have added to the excess.
These critics also overlooked the fact that sterilising the gold could only
have tightened the money market and hence raised interest rates if the
banking system was in need of rebuilding reserves. In plain English, the
sterilisation process had no effect on the supply of funds for business or
the interest rate structure.
For the
monetarist every significant deflation (monetary contraction) must be
immediately followed by a contraction in output irrespective of the
circumstances. This mechanistic view blinded them to the actual sequence of
events. By sheer coincidence a similar monetary situation also occurred in Australia.
When the first deflation ended in September 1931 it was immediately followed
by a rapid reflation that came to an abrupt halt in March 1932. M1 then
contracted, falling by 10.2 per cent by September 1933 when reflation once
again set in6. The economy did not even flinch.
The
Australian recovery continued uninterrupted with manufacturing leading the
way7. By 1934 employment in manufacturing had reached its 1929
level and by 1938 was 25 per cent higher and still expanding. Chart 1
compares monetary changes in Australia with changes in the unemployment rate
while chart 2 does the same for the US. It can be seen that the second
Australian deflation was deeper than America’s 1937-38 deflation though
shorter by four months. I just cannot imagine how a monetarist could explain
this phenomenon.
The
fiscal explanation for the Roosevelt depression fares no better even though
chart 3 appears to confirm it by showing that changes in unemployment
corresponded to changes in federal spending for the financial years 1928-29
to 1939-40. As always, the devil is in the details.
To get a clearer picture of the spending situation we need to look at it on a
monthly basis. Chart 4 takes the monthly figures for the calendar years 1935
to 19388. Spending for year 1936 increased by 13.7 per cent over
the previous year while for 1937 it fell by 3.2 per cent. As for 1938,
spending scarcely rose at all. This is particularly interesting because all
the economic indicators picked up in June of that year, despite the fact that
federal spending had only increased by a meagre $147.5 million during the
second half of 1937. It is scarcely likely that such a sum would ignite a
rapid recovery from a severe contraction.
What is even more interesting than the June pick up in production is that
anyone could suggest that a 3.2 per cent fall in spending could trigger a
massive drop in production. If, however, we examine spending for the relative
financial years we get a much grimmer picture. Although total spending
(federal + state + local)9 continued to increase during this
period, albeit slowly, chart 5 shows federal spending dropping by 12.3 per
cent, despite the trend line. If we accept the premise that federal spending
is the key variable then this chart certainly appears to confirm the
Keynesian view.
Now the
first thing to note is that the charts have two large spikes. These were due
to the soldiers’ bonuses that were paid in June 1936 and June 193710.
These massive payments clearly distorted the trend in government spending and
explain why both charts produce different results. So which chart should be
used? In my view, it is the calendar years that should count. Nevertheless,
the issue has to be resolved in a way that definitively decides the matter.
Economics
is neither physics nor chemistry, meaning that economists cannot carry out
laboratory-like experiments. But they have the next best thing to
replication: they have at their disposal a significant array of case studies
upon which they can draw. These studies are in fact a record of historical
events that allow us to compare the results of a current economic policy with
the same or similar policies that were made in another decade or even era.
In
short, the solution to the problem rests with applying a historical
perspective. The 1920-21 depression fits the bill. From June 1920 to January
1922 wholesale prices fell by 44 per cent. The story was slightly different
for retail prices. From June 1920 to December 1922 these fell by 22 per cent.
It was particular grim for personal incomes which fell 15 per cent for the
period 1920-21, national income dived by 19 per cent while the official
unemployment rate rose to 11.7per cent. Manufacturing was hit the hardest
with production contracting by 34 per cent from its peak in February 1920 to
its trough in January 1921. If ever there was a dire need for a massive
programme of deficit spending to save the economy, this was it.
As we
can see from chart 6 government spending went from $18,514,880 in 1919 to
$6,403,344 in 1920, a 65 per cent drop while for the same period a massive
$13,370,638 deficit —17 per cent of GDP — was transformed into a $212,475
surplus. (The figures are in billions. Statistical Abstract of the United
States 1942). Moreover, spending continued to fall until 1924 after which
there was a slight increase. The 1920 crisis was signalled when manufacturing
suddenly ceased expanding in February. Now what is really interesting is that
manufacturing began its recovery in February 1921 while government spending
was still contracting and surpluses were accumulating. (This is exactly what
happened in Australia during the Great Depression).
According to the Keynesians this is just not possible. Of course it can be
argued that this event is far from being clear cut because of the distortions
carried over from the war, the existence of massive excess inventories, the
drop in demand from Europe, the monetary contraction and so forth. But the
important thing to note is that the recovery, along with the monetary
expansion, followed the classical pattern. This was the last American
recovery to do so11.
Fortunately
for us Australia provides an absolutely clear cut case that no Keynesian can
refute, no matter how much smoke he blows. Australia suffered a severe
deflation with the official unemployment rate peaking at 30 per cent in June
1932. The government’s response to the disaster was to implement a policy of
spending cuts and budget surpluses, the very policy Keynesians would condemn
today as economically insane. The result was a recovery that put the
Roosevelt administration and its spending policies to shame.
Chart 7
shows a Commonwealth (Fed to American readers) surplus for the financial year
1931-32 with unemployment peaking at 29 per cent. From there on unemployment
continued to fall, with a slight reversal for the year 1938-9, until the
country entered the war, despite the government running surpluses for the
entire period. According to Keynesians, however, running surpluses during a
deep depression will have devastating consequences. The Australian experience
clearly exposes the Keynesian view as a complete fallacy.
Chart 8
is equally damning. It shows a steep fall in the unemployment rate for
manufacturing workers12, even as Commonwealth and total spending
continued to contract. According to Keynesians, this simply cannot be.
Unfortunately, many member of our free-market commentariat jumped to the
erroneous conclusion that the cuts were largely responsible for the dramatic
fall in unemployment13.
The
chart shows Commonwealth spending continuing to fall throughout the financial
year 1933. It did not start rising again until the financial year 1934, by
which time unemployment had fallen by about 33 per cent. Moreover, chart 8
also reveals that total spending peaked in the financial year 1931 and did
not start rising again until the financial year 1935. (Even though
Commonwealth and total spending eventually rose again, GDP rose faster).
Compare
the situation with that in America. The unemployment rate officially peaked
in 1933 at 25 per cent. By 1935 the rate stood at 20 per cent,
notwithstanding the fact that Roosevelt had enthusiastically adopted the new
economics of deficit finance. Yet, according to Keynesians an Australian
approach to the depression would have made a disastrous situation worse by
savaging government net income-creating expenditures.
Although
the cuts may have contributed to Australia’s recovery (I believe they did)
the real explanation lies with ‘changes’ to real wage rates. Chart 9 compares
the real wage of factory workers (the money wage adjusted for changes in the
price level) in Australia with that in America. Here lies the key to
Australia’s recovery and Roosevelt’s failure. Whereas there was a continuous
increase in real wage rates for American factory workers real wage rates for
their Australian counterparts largely remained flat throughout that period,
standing at only 102 in 194015.
Now chart 9 could suggest to most readers that there is no connection between
the real wage rate and the demand for labour16. The error here is
to overlook the fact that the real wage is not what determines the demand for
labour. When hiring labour employers do not take account of the wage rate as
divided by the price level. Their concern is what they have to pay in money
terms with respect to what they calculate they will receive in nominal
revenue from the services of the labour they hire. Therefore, if the price of
labour services is raised above the value of what labour produces then
unemployment will follow. In short, it is the ratio of the money wage rate to
the value of the output that matters to the employer. We may call this ratio
the real factory wage. Chart 10 brings this fact home with startling clarity.
The chart clearly shows that the inverse correlation between the real factory
wage and the value of output is virtually perfect. This is basic economics.
Raise the cost of labour above the value of its services and unemployment
will emerge. The more labour costs are raised the more unemployment we get.
Chart 11 is just as telling as chart 10 and explains why Australia’s
unemployment record during the Great Depression was greatly superior to
America’s.
Australia, like America, also suffered a massive deflation. From March 1929
to September 1931 M1 fell by 27.2 per cent with demand deposits dropping by
33 per cent. As we see from the chart, factory employment dived by 25 per
cent and the value of factory output fell by 35 per cent. Note that the real
factory wage peaked at 130 in the middle of 1931 and then began a slight
decline. It was then that the contraction in factory employment came to a
halt. Note also that at the same point there was a distinct slowdown in the
rate at which the value of factory output was shrinking. During this period
the money factory wage continued to fall until about June 1934 when it
started to rise. The critical point is the middle of 1932 when the value of
factory output started to rapidly increase and continued to do so throughout
the remainder of the 1930s. (Not included in the chart was the dramatic 35
per cent drop in the prices of raw material inputs for manufactures).
Charts
10 and 11 provide clear proof that the America’s high and persistent
unemployment was the result of excessive wage rates revealed by the real
factory wage. This thesis is validated by the Australian experience. By
excessive wage rates it is meant those in excess of the marginal value of the
employee’s product and not his average productivity. These are entirely two
different things. The principle point is very simple but rarely explained. It
is blindingly obvious that if the value of a worker’s marginal product (the
value of an additional unit of output) is x dollars but, let us say, unions
insist on x+y dollars then unemployment must eventually emerge. It also
follows that the greater the gap between full employment wage rates and
union-imposed rates the higher will be the level of unemployment.
In
America money wages in manufacturing had been rising slowly through 1935 and
up to October 1936. Then after the November there was an explosion of union
activity. To extract higher wage rates from employers the union leadership
organised a wave of strikes, violent confrontations, and mass sit-downs. This
was combined with a union recruiting drive that virtually unionised the whole
of manufacturing. The result was wage rate increases that gave America the
depression within a depression.
The
average manufacturing wage in 1936 was $22.60, average weekly hours of work
were 39.1 and the hourly rate was $0.564. Thanks to the union-led wage push
the hourly rate had increased in 1937 by 12.4 per cent, raising the weekly
wage to $24.95. Employers immediately responded by reducing the average
working week to 38.6 hours. (Reducing working hours in these circumstances
creates a form of hidden unemployment17). The situation was even
worse in 1938 with the working week being further cut to 35.5 hours, dragging
the weekly wage down to $22.70 and raising the level of hidden unemployment.
When we
look at some individual industries we can see just how destructive the union
wage push really was. The steel industry was a huge target (we should say
victim) of the union leadership. Its average wage 1936 was $27.42 and the
hourly rate was $0.671 cents while weekly hours of work were 40.9. The
following year the unions had rammed the hourly rate up by 22 per cent. The
weekly wage jumped to $31.64 and working hours fell to 38.7. (One should note
that the fall in working hours means that output was contracting). The full
impact on jobs and wages was revealed in 1938 when the average manufacturing
wage had fallen to $23.92 and working hours to 28.718.
To get
some idea of how a surge in excessive wages rate (still bearing in mind that
by excessive we mean in excess of the value of the marginal product) let us
imagine a manufacturer with a slim net return of 6 per cent and total
operating costs of $100,000,000 with $30,000,000 being wages. A 22 per cent
jump in the wage rate would wipe out his price margin and immediately put him
in the red. Although this is a hypothetical example it is basically what
happened to the steel industry. In fact, once we include the benefits of
union-enforced work rules, pay roll taxes and other Roosevelt imposed burdens
the total increase in labour costs must have exceeded 25 per cent. The same
holds for other industries.
Let us
look at several more industries. The hourly rate in cast-iron production was
pushed up by 11.2 per cent: the weekly wage rose from $18.99 in 1936 to
$21.17 in 1937, weekly hours fell from 38.2 to 37.8. In 1938 the hourly rate
was now 15 per cent over the 1936 rate, but the weekly wage had fallen to
$19.15 and the working week to 32.8 hours. It was the same story for steam
systems and fittings. In 1936 the average weekly wage was $24.25 and working
hours averaged 42.2. The following year saw the hourly rate driven up by 13.2
per cent and the weekly wage rise to $25.02 while hours of work dropped to
40. The hourly rate in 1938 was raised again so that it stood at 19.4 per
cent over the 1936 rate. The average wage now fell to $23.15 while working
hours dived to 33.1, creating even more hidden unemployment.
The
average wage in 1936 in the foundry and machine-shop products industry was
$25.56, weekly hours were 42.4 and the hourly rate was $0.601 cents. In 1937
the unions lifted the hourly rate by 13 per cent. They lifted it again in
1938 so that it was now 18.3 per cent above the 1936 rate. The weekly wage
was now $24.94 but the working had been cut to 35 hours. Weekly wages in the
machine tools industry were $28.40 in 1936, the hourly rate was $0.636 cents
and the working week averaged 44.6 hours. By 1938 the unions had succeeded in
raising the hourly rate by 20 per cent. Employers responded by lowering the
working week to 36.3 hours, bringing the weekly wage down to $26.61. We find
the same thing with aluminum (sic) manufactures. The industry’s average wage
for 1936 was $23.38 and the working week was 41.3 hours. In 1938 the hourly
rate was up by 20 per cent, working hours were down to 36.3 but the average
weekly wage was now $24.07. (The figures are from the Statistical Abstract of
the United States 1939, p. 329).
The
1937-38 depression was not caused by demand deficiency nor was it caused by a
money contraction or a reduction in federal spending. The sole cause of the
disaster was a brutal wage push by a militant union leadership. Huge
percentage increases in wage rates savaged company price margins causing a
massive contraction in production. It was this that triggered the monetary
contraction that monetarists mistakenly think caused the crash. It is true
that some historians point to Roosevelt’s destructive undistributed profits
tax, the pay roll tax and other imposts as at least contributing factors.
Damaging as these were there is absolutely no way they could have caused the
crash. For instance, the undistributed profits tax was a direct tax on
capital accumulation, a fact that an economic illiterate like Roosevelt was
unable to grasp. This tax combined with the other factors would simply have
kept the economy depressed.
Conclusion
Charts
10 and 11 conclusively show the vital relationship between the real factory
wage and the value of manufacturing output. (Australia’s real factory wage
fell by nearly 43 per cent from its peak of 130 in 1931 to 75 in 1939). Now
the Australian experience demonstrates with indisputable clarity that no
matter what happens to government spending unemployment can continue to fall
so long as the ratio of the wage rate to the value of the output is allowed
to decline. Although it is not immediately apparent the ratio approach
confirms the marginal productivity theory of wages. If the theory was false
then there would be no inverse correlation between the real factory wage and
the value of manufacturing output that charts 10 and 11 reveal.
The
standard economic theory of wages stands vindicated. Therefore, the solution
for the problem of persistent wide-spread unemployment is clear. Labour costs
must be brought into line with the marginal value of the product, which is
what the Australian experience amply demonstrates. There are really only two
ways in which this can be done19: increase productivity to the
extent where it continues to reduce the ratio until full employment is
restored or use inflation to cut real wage rates20. The latter is achieved by
using inflation to raise the money price of the product relative to the wage
rate. This is the Keynesian solution.
Oddly
enough, the vast majority of Keynesians are genuinely oblivious to the fact
that their policy proposal actually confirms the classical view that they believe
Keynes refuted. They are also equally oblivious to the fact that the
classical economists were aware of this deception and its dangers20.
These economists fully understood that purchasing power springs from
production (Say’s law) and this is why they rightly attacked as extremely
dangerous the economic fallacy that consumer spending drives an economy. In
1937 three economists pointed out what should have been obvious to the
profession as a whole:
The
larger number of payments is not from consumers to producers, but is made
between producers and producers, and tends to cancel out in any computation
of net income of net product value. “In fact, income produced or net product
is roughly only about one-third of gross income.” [Italics added]. What is cost
for one producer is in part income for some other producer, but part of that
income the latter has to pay out in costs to other producers in another stage
of the productive process (for intermediate products, raw materials,
supplies, etc.), and so on21. All that is necessary in order that
equilibrium be maintained is that consumers’ incomes equal the cost of
producing consumers’ goods; the total of producers’ payments necessarily
exceeds that of consumers’ incomes. (C. A. Phillips, T. F. McManus and R. W.
Nelson, Banking and the Business Cycle,
Macmillan and Company 1937, p. 71).
John
Stuart Mill used what he called the Fourth
Proposition of Capital to express this fact in another way
when presenting the classical case against what we now call Keynesian thinking:
Demand
for commodities is not demand for labour. The demand for commodities
determines in what particular branch of production the labour and capital
shall be employed; it determines the direction of the labour; but not the
more or less of the labour itself, or of the maintenance or payment of the
labour22. (Principles of Political
Economy, Vol II, p. 78, University of Toronto Press 1965.)
Once we
grasp the fundamental truth that the classical economists understood then we
can see why Roosevelt’s New Deal economics were an utter failure and why by
1938 Australian unemployment had fallen from its peak of 30 per cent in 1932
to 8.8 per cent while American unemployment stood at 20 per cent against its
peak of 25 per cent in 1933. The comparison between factory employment in
both countries is even more striking.
In 1938
US manufacturing employment was 14 per cent below its 1928 level while in
Australia it was 26 per cent higher than the 1928 rate and still growing.
Moreover, during the depression hours of work in Australian manufacturing
never fell below 44. In 1938 the average working week for US manufacturing
was 35.5 hours against 44.82 hours in Australia. (This figure covers all
industrial groups except shipbuilding). Furthermore, weekly hours of work in
American manufacturing clearly indicate that the real unemployment rate
certainly exceeded the official figure.
The
extent to which Australia took (albeit unintentionally) a near-classical
approach to the depression explains why she did so much better than
Roosevelt’s America.
Note: Also see Australia and the
Great Depression. In a forthcoming article
on the Great Depression in America I shall return to the 1937-38 crash.
* * * * *
1According
to President Roosevelt and some of his supporters the second depression was
caused by monopoly pricing, a thoroughly embarrassing explanation that his
admirers would rather forget.
2Federal
Reserve Bulletin, September 1939, p. 804
3Robert
Mushet, An Attempt to Explain from the
Facts the Effects of the Issues of the Bank of England Upon its Own
Interests, Public Credit and the Country Banks, Baldwick,
Craddock, and Joy, Paternoster Row, 1826, p. 179.
4Thomas
Tooke dealt with this monetary episode in considerable detail in his Considerations on the State of the Currency
(London: John Murray, Albemarle-Street, 1826)
5The
pattern of decline is particularly interesting. Although industrial production
fell by 36 per cent durables fell by 52 per cent, non-durables by 24 per cent
and iron and steel by a staggering 67 per cent. Therefore, we find that not
only is the pattern of the contraction out of sequence with the monetary
explanation so is the sheer scale of the collapse.
6The
monetary figures are from C, B, Schedvin’s Australia
and the Great Depression, p. 386. The odd thing about this is
that Australian economists and historians completely missed the second
deflation.
7Australia’s
recovery in manufacturing was led by “metals and machinery”. (Australia and the Great Depression,
pp, 304- 5). The opposite case held for the US where manufacturing was
consumption-led, causing severe imbalances in the production structure. By
1936 Australian manufacturing employed more people than before the depression
and was still expanding capacity and creating even more jobs. The expansion
was still proceeding when war was declared.
8Calendar
year figures from the Statistical
Abstract of the United States, 1937.
9The
state and local spending figures came from www.usgovernmentdebt.us,
which relies on official sources for its data.
10To
fund the soldiers’ bonuses the government issued bonds worth about $2
billion. Most of these were issued in June 1936. The June expenditures also
included $500 million of bonds that were deposited in the United States
Government Life Insurance Fund. The remainder were issued in June 1937.
11This
fact leads me to stress at this point that it is actual spending that has to
be examined and nothing else and not any fancy constructs designed to
rationalise government spending as the cure for recessions. Now it is argued
that the net government contribution to spending dropped by $3.3 billion
dollars and that this contraction was responsible for the 1937-38 crash.
Unfortunately some people on the net think the preceding figure is the
definite amount by which government spending fell: it is nothing of the kind.
12Unlike
America there was little work-sharing in Australia and none at all in
manufacturing, including reduced working hours. This makes the American
recovery look even worse in comparison because reduced working hours and
work-sharing is a form of hidden unemployment.
13Professor
Sinclair Davidson and Julie Novak both made this mistake in their Five and a half big things Kevin Rudd doesn’t
understand about the Australian economy. They also made
the additional error of stating that Australia left the gold standard in
1931. Australia was actually on a sterling exchange standard that it
abandoned in December 1929. Professor Davidson repeated these errors in his The Stimulus and the great recession.
Sinclair
Davidson is Professor of Institutional Economics in the School of Economics,
Finance and Marketing at RMIT University and a senior fellow at the Institute
of Public Affairs. Julie Novak is also a fellow at the Institute of Public
Affairs.
14Net
government income creating expenditures are those that are spent on current
output.
15Schedvin’s
table only went to 1936. I extended his table by using the same data from the
Official Yearbook of the Commonwealth of Australia.
16This
refutes the absurd argument of some so-called economists that there is no
relation between excessive wage rates and unemployment
17Working
hours in Australian manufacturing never fell below 44. In short, there was no
hidden unemployment.
18Statistical Abstract of the United States
1939. I think it is very important to continue to stress the fact that during
the whole of the Great Depression the working week in Australian
manufacturing never fell below 44 hours, meaning that there was no hidden
unemployment. If America’s unemployment rate had been adjusted according to
hours worked it would have been significantly higher.
19I
ignored a direct cut in money wage rates to make the adjustment because the
current state of public opinion would probably not support this measure. The
best approach is to educate the public about the danger of excessive wage
rates.
20Henry
Thornton noted that inflation increases the demand for labour by lowering the
cost of labour. He also drew attention to the consequences of sticky wages
during a deflation. (Henry Thornton, An
Enquiry into the Nature and Effects of the Paper Credit of Great Britain,
1802, Augustus M. Kelley, New York 1965, pp. 118, 189-90). Robert Torrens
made the same observation in An Essay on
the Production of Wealth (Longman, Hurst, Rees, Orme, and
Brown, Paternoster Row, 1821, pp. 326-27). These men fully understood that
inflation restored price margins and increased the demand for labour by
raising prices.
21Today’s
economists dismiss this fact on the absurd grounds that it is
double-counting. Only the Austrians realised the vital importance of
aggregate spending to the economy. In fact, it is impossible to properly discuss
the concept of a production structure in the absence of aggregate spending.
This Austrian insight has now been validated by the Bureau of Economic
Analysis that has started to use a gross output concept (aggregate spending)
to measure the economy for each quarter. This will finally confirm the
Austrian argument that consumption does not drive the economy. (The Wall Street
Journal, Mark Skousen, At Last, a Better Economic Measure).
22Writing
in 1871 Stanley Jevons unleashed a strident attack on all four of Mill’s
propositions on capital, reserving most of his ire for the fourth one. The
extraordinary thing is that Jevons inadvertently made it clear that he had
absolutely no understanding of what Mill had really said. Apparently
following in Jevons’ footsteps Simon Newcomb, a prominent American economist,
also launched a detailed attack on Mill’s fourth proposition. He too had
failed to comprehend the reasoning behind Mill’s position. Edwin Cannan was
another eminent economist who attacked the fourth proposition. Like Jevons he
too failed to grasp what Mill really meant.
(W.
Stanley Jevons, The Principles of
Economics, London: Macmillan and Co., Limited, 1905, Ch.
XXIV. Simon Newcomb, Principles of
Political Economy, New York: Harper & Brothers, 1886, pp,
434-40. Edwin Cannan, The History of the
Theories of Production and Distribution from 1776 to 1848,
Staples Press, 1953, pp. 379-81).
If
these critics had paid closer attention to Mill they might have detected the
influence of John Rae’s views on capital. It was Rae’s brilliant insights
into the nature of capital that directly influenced the thinking of Nassau
Senior and Mill on the subject, a fact that they both admitted. That Mill’s
critics were unaware of John Rae’s original contribution to capital theory is
made clear by the fact that their books did not contain a single reference to
the man. It is apparent from Jevons’ comment regarding Jeremy Bentham’s
opinions on capital that he had no knowledge of Rae’s work.
(John
Rae, The New Principles of Political
Economy, 1834, reprinted by August M. Kelley, New York,
1964).
|