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Friday, October 24, 2008


Today's 2nd Buggy Topic

Believe it or not, there are libertarian economists who have been striving the last month to deny that the U.S. --- they never seem concerned with other countries --- was sliding into a serious credit-crunch, in which neither big businesses and small businesses, not to forget households, would find it ever harder and maybe impossible to get loans from financial institutions . . . either short-term or long-term. 

The Great Depression As a Comparative Standard 

The drying up of credit facilities is what happened in the Great Depression during the Herbert Hoover years, between 1929 and 1933.  The result was a precipitious drop in GDP by 30%.  In the same period, Industrial production fell 47%.  Serious deflation also occurred: wholesale prices declined 33%, with debtors still obligated legally to pay loans taken out when the price level was much higher (and hence money incomes and wages).  As for unemployment, it fell by almost a quarter by the time FDR came to office in 1929. 

To grasp just how severely harmful these sharp declines were, consider what the worst recession in the US since then caused by comparison. 

That was in 1981-1982.  Real GDP fell only 2%; the unemployment rate rose to about 10%; and instead of deflation, prices continued to rise . . . at, please note, a much slower rate than before the recession, which was the reason the Federal Reserve clamped down severely on the money supply and hence interest rates that quickly caused the short recessionary period.  Fortunately, inflationary expectations quickly subsided during the recession.  Simultaneously, the large federal deficit caused by the Reagan tax cuts then brought the country quickloy out of the downturn . . . although, once steady GDP growth and prosperity returned, the deficits kept growing rapidly. 

The Longer-Term Outcome Here: An Important Digression with Current-Day Implications

To repeat, the longer-term outcome of these new federal deficits that started in the Reagan era, in which national debt tripled in 8 years? 

Well, just this: these rising federal deficits were no longer countercylical, but structural; and they continued to grow throughout the Reagan years, those federal deficits, and during the four years of Bush-Sr.  Only in the Clinton era did the structural deficit stop growing faster than GDP; eventually, in the last three years of the 1990s, it turned into a surplus . . . only, of course, for the Bush-W tax cuts to initiate a new 7 year period of structural deficits.  (The current yearly one, mind you, might turn out to be not just large, but counter-cyclical and help to keep the US from falling into a severe recession.) 

But hey . . .  maybe if we wait for a 4th sequence in the game of cut-taxes-especially-for-the-rich --- say, after the Obama period --- the belief that such tax-cutting will not cause structural deficits but pay for themselves will finally be vindicated, right? 

Don't bet your mortgage on it.

Enter the Libertarian Campaign by Some Economists To Deny There Has Been a New Financial Meltdown and Looming Credit-Crunch 

You'll find it posted at the Marginal Revolution, where the regular invited guest economist, Alex Tabarrock --- feeling slighted by his original post about the "myths" regarding our current credit-troubles --- has tried again.  And just as prof bug left a fairly lengthy comment critical of the original Tabarrock post of two days ago, so he did yesterday when Tabarrock renewed his campaign. 

Click here for the Marginal Revolution thread and prof bug's latest views.  (The most informative comments, a couple of them and long too, were left by a financial expert who posts under the name of "Francois".  Alas, his knowledgeable analyses are marred by a lot of jargon and acronyms and at times hard-to-fathom syntax.)