What Did Paul Samuelson really say about the Post-WWII US Economy?

Austrians are fond of pointing to various failed predictions of Paul Samuelson about America’s economy after WWII. For background, see my post here.

The relevant predictions by Samuelson can be found in these articles:

Samuelson, Paul A. 1943. “Full Employment after the War,” in Seymour E. Harris (ed.), Postwar Economic Problems, McGraw-Hill, New York and London. 27–53.

Samuelson, Paul A. 1944. “Unemployment Ahead: (I.) A Warning to the Washington Expert,” New Republic, September 11, 297–299.

Samuelson, Paul A. 1944a. “Unemployment Ahead: (II.) The Coming Economic Crisis,” New Republic, September 18, 333–335.

I will focus on Samuelson (1943) in what follows, though I will look at the last two articles in an update.

From the very beginning Samuelson was clear that he did not expect a depression on the scale of the early 1930s:

“... I do not mean to imply that there is a serious prospect that we shall return to national income levels such as characterized the deep depression of 1932-1933. ... The real danger lies in the possibility that we shall lag ever farther behind our true productive potential — that we shall be content with a half loaf instead of insisting upon the whole loaf which can be ours. The thing to fear is an ever-widening gap between our attained levels of output and employment and our true productive potential. It has taken the heavy wartime expenditure to show us how big the gap already is.” (Samuelson 1943: 28).

For Samuelson, then, one of the problems of the post-WWII economy was an output below America’s potential GNP.

Samuelson analyses the nature of consumption and saving when income increases (Samuelson 1943: 29–37), and then the problem of what to do when excessive saving occurs which drains the economy of income and reduces investment.

Samuelson (1943: 37) was also clear that there were fellow economists who were optimistic about a post war boom, on the basis of “private demand alone,” and he listed three types of such economists. The second group of these “optimists” appears to me to be some of his fellow Keynesians:

“[sc. the “optimists” argue that if] ... we add to this the forced saving plans which the future will certainly bring, as well as postwar tax refunds to corporations, it will be seen that the real backlog of deferred demand as a result of wartime depletion of capital will be accompanied by the financial means to make it effective.” (Samuelson 1943: 46).

Certainly this is not dissimilar to what Keynes said about the post-WWII period:

“Keynes harshly rejected the risk of post-war stagnation, holding that because of Social security there would be a large reduction in private saving and so that would be no problem.” (Colander and Landreth 1996: 202).

So here we have evidence from Samuelson that other Keynesians in 1943 were in fact optimists about a boom after WWII.

As an aside, Samuelson also makes some interesting remarks on the post-WWI boom: he notes that the boom of 1919–1920 was also the result of government war spending which continued into 1919 and the surge in demand for American exports in Europe (Samuelson 1943: 48–49), not merely private sector investment and consumption spending.

Now here is the crucial paragraph from Samuelson:

“When this war comes to an end, more than one out of every two workers will depend directly or indirectly upon military orders. We shall have some 10 million service men to throw on the labor market. We shall have to face a difficult reconversion period during which current goods cannot be produced and layoffs may be great. Nor will the technical necessity for reconversion necessarily generate much investment outlay in the critical period under discussion whatever its later potentialities. The final conclusion to be drawn from our experience at the end of the last war is inescapable – were the war to end suddenly within the next 6 months, were we again planning to wind up our war effort in the greatest haste, to demobilize our armed forces, to liquidate price controls, to shift from astronomical deficits to even the large deficits of the thirties – then there would be ushered in the greatest period of unemployment and industrial dislocation which any economy has ever faced. This does not deny that there may be a boom after the war. In this the experts may still be correct. For the release of controls upon demand coupled with plentiful amounts of monetary demand might well give rise to price increase, inventory buying, feverish speculation and all the superficial earmarks of a boom. But it would be the antithesis of a prosperity period, constituting instead a nightmarish combination of the worst features of inflation and deflation. Nor, having spent itself, could it be expected to evolve into healthier channels. Instead, the final outcome would undoubtedly be a cumulative hyperdeflation from which, at best, we should lose a decade of progress and which, at worst, our democracy would not survive.

Of course, this is not intended as a picture of what will in fact happen. For there is every reason to believe that we shall not be lulled into a feeling of false security by the last war’s experience or by the half-truth that the end of the war will witness a boom. No doubt, we shall retain direct controls for a period after the conflict ends. We shall taper off war production gradually. We shall undertake income maintenance in the form of dismissal pay for soldiers, unemployment compensation, direct and work relief expenditure. It is probable, although less certain, that, in addition, the Federal government will initiate employment maintenance measures such as large scale public works, etc. But even these will not be adequate to maintain full employment or any approach to it.” (Samuelson 1943: 51).

When we read this carefully in context, this passage shows us that Samuelson’s predictions were not as erroneous as Austrians and libertarians make them out to be.

For Samuelson said pointblank: “Of course, this is not intended as a picture of what will in fact happen.”

Samuelson’s dire prediction of the “greatest period of unemployment and industrial dislocation which any economy has ever faced” was all dependent on the assumption of the following:

(1) the war ending suddenly within 6 months after 1943;

(2) very rapid termination of war effort and production;

(3) rapid demobilization and liquidation of price controls, and a sudden shift from astronomical deficits to the large deficits of the thirties, and

(4) absence of any “income maintenance in the form of dismissal pay for soldiers, unemployment compensation, direct and work relief expenditure.”

Samuelson was both right and wrong. He was wrong in that he underestimated that private sector investment and consumption boom after 1945.

But he was right on a number of other points. For example, the US did not suddenly dismantle price controls as soon as the war ended: it was not until 1946 that Truman lifted many of these controls.

Samuelson was right that dismissed soldiers would receive “unemployment compensation” and other support: for the Servicemen’s Readjustment Act (or G.I. Bill of Rights, July 1944) gave extensive unemployment benefits to demobilised soldiers. The act also gave soldiers four free years of college education, which must be counted as a significant measure that prevented unemployment from rising as well, since many returned servicemen took college degrees and did not seek work.

The US government still had massive budgets in 1946 and 1947: it did not suddenly reduce the amount of government spending to, say, 10% of GDP, where it had been in 1934-1935. Samuelson was therefore partly correct in saying such measures would in practice avert the “greatest period of unemployment and industrial dislocation which any economy has ever faced.”

Samuelson was also well aware that pent up demand (or what he called “deferred demand”) would be a source of post-WWII growth (Samuelson 1943: 52), but argued that this would fade out after 18 months to 2 years – not an unreasonable assessment at all.

But, above all, the point that emerges from all this is that other Keynesian economists did not share some of Samuelson’s more pessimistic views (and he cited their opinions as those of his second group of “optimists”). And Keynes certainly did not.


BIBLIOGRAPHY

Colander, D. C. and H. Landreth (eds). 1996. The Coming of Keynesianism to America: Conversations with the Founders of Keynesian Economics, E. Elgar, Cheltenham.

Samuelson, Paul A. 1943. “Full Employment after the War,” in Seymour E. Harris (ed.), Postwar Economic Problems, McGraw-Hill, New York and London. 27-53.

Samuelson, Paul A. 1944. “Unemployment Ahead: (I.) A Warning to the Washington Expert,” New Republic, September 11, 297-299.

Samuelson, Paul A. 1944a. “Unemployment Ahead: (II.) The Coming Economic Crisis,” New Republic, September 18, 333-335.

Thomas E. Woods on Keynesian Predictions vs. American History: A Critique

Thomas E. Woods in the video below attempts to debunk Keynesianism. But his attack mostly falls flat on its face.





The trouble with this Austrian balderdash is as follows:

(1) The first part of the video focuses on the post-war economic period after 1945.

Thomas E. Woods asserts that there was no depression after 1945 (11.30), contrary to what some Keynesians (like Paul Samuelson) predicted. In actual fact, if depression is defined as a collapse in real output of 10% or more, then there was a sui generis depression after WWII, which is easily verified in the real GDP data:

Year | GDP* | Growth Rate
1941 | $1,366,100 | 17.07%
1942 | $1,618,200 | 18.45%
1943 | $1,883,100 | 16.37%
1944 | $2,035,200 | 8.07%
1945 | $2,012,400 | -1.12%
1946 | $1,792,200 | -10.9%
1947 | $1,776,100 | -0.89%
1948 | $1,854,200 | 4.39%
1949 | $1,844,700 | -0.51%
1950 | $2,006,000 | 8.74%
* Millions of 2005 dollars
http://www.measuringworth.com/datasets/usgdp/result.php

Now certain Keynesians like Samuelson were right in saying the end of the war would lead to a sharp drop in real output, but wrong in predicting a long-term unemployment problem or a lack of private sector demand after 1945.

Woods even tells us (at 15.20) that “Keynesian economists everywhere ... [sc. were] predicting disaster and depression” to occur after WWII. Woods is wrong, and laughably wrong.

In 1943 — the same year Samuelson got it wrong — Keynes was giving a lecture at the Federal Reserve and was asked by Abba Lerner about the possible economic problems of the post-war period. Keynes’s reply is significant:

“Keynes harshly rejected the risk of post-war stagnation, holding that because of Social security there would be a large reduction in private saving and so that would be no problem.” (Colander and Landreth 1996: 202).

Woods, like other Austrian ideologues, seems utterly ignorant of this. What kind of analysis of the post-war boom ignores what Keynes — the founder of Keynesian economics — thought about this question? The truth is that Samuelson was simply wrong; Keynes was right.

(2) Woods derides the idea that the boom of 1946 to 1948 was caused by the “pent up demand.” He then commits a laughable error by saying that Keynesians simply explain this pent up demand by consumer spending alone. This is utter nonsense: the liberation of demand after 1945 was both a private sector investment and consumer boom, and that is entirely consistent with Keynesian economics. Consumer spending, of course, helped to drive investment, but was only one side of the story. Corporate dissavings were used to finance investment after 1945, and the massive pent-up housing demand was an important factor. Although I have not looked at the figures, I suspect that exports also played a role in the boom. In general, see my post here.

(3) Woods ignores the actual fiscal history of the 1948 to 1950 period. The US government did in fact step in after 1948 to provide macroeconomic stability: the boom of 1948 gave way to a recession from November 1948 to October 1949.

Truman’s budget surplus of 4.6% of GDP in fiscal year 1948 fell to 0.2% in fiscal year 1949, as spending went from $29.8 billion in 1948 to $38.8 billion in 1949, as automatic stabilizers kicked in. In fiscal year 1950 (July 1, 1949 to June 30 1950), the budget went into an actual deficit of 1.1% of GDP. Moreover, Congress had pushed through a tax cut in 1948, which boosted private spending in 1949. What we have here is classic Keynesian countercyclical fiscal policy. Some of the increases from 1950–1953 were, of course, related to the Korean war, but also to new social, welfare and military programs enacted under Truman. Government spending in both absolute terms and as a percentage of GDP surged from 1948 to 1953, fell slightly from 1953–1954 as the Korean war ended, but remained between about 25% and 30% of GDP throughout the classic era of Keynesian economics (1945–1973) – an unprecedented level to that point in American history. And the economy boomed.

(4) Woods takes a dig at Samuelson’s rather stupid predictions about the Soviet Union, which were indeed wrong, but this proves nothing about Keynesianism in the developed world. Keynesians support mixed economies, where there is a vast space for private sector production. And while the Soviet Union was a horrendous and immoral system that ended in the 1980s in severe economic problems, there is no doubt that it did have real output growth and real per capita GDP growth right up until the early 1970s.

(5) Woods attacks the idea of fiscal stimulus, but uses the Austrian business cycle theory. This theory is false and see my posts here on why it is false:

“Austrian Business Cycle Theory: Its Failure to explain the Crisis of 2008,” October 18, 2010.

“The Natural Rate of Interest: A Wicksellian Fable,” June 6, 2011.

“Austrian Business Cycle Theory (ABCT) and the Natural Rate of Interest,” June 18, 2011.

“Austrian Business Cycle Theory: The Various Versions and a Critique,” June 21, 2011.

“Hayek on the Flaws and Irrelevance of his Trade Cycle Theory,” June 29, 2011.

“Robert P. Murphy on the Sraffa-Hayek Debate,” July 19, 2011.

“Hayek’s Natural Rate on Capital Goods, Sraffa and ABCT,” December 27, 2011.

“Hayek’s Trade Cycle Theory, Equilibrium, Knowledge and Expectations,” January 4, 2012.

BIBLIOGRAPHY

Colander, D. C. and H. Landreth (eds). 1996. The Coming of Keynesianism to America: Conversations with the Founders of Keynesian Economics, E. Elgar, Cheltenham.

James Galbraith on the Federal Reserve

A very short but quite interesting statement by James Galbraith on the Federal Reserve.

Krugman on Bill Maher

Below is a video of Paul Krugman on Bill Maher, in a debate with Arthur Laffer. Bill Maher is a comedian, so we should not expect anything too serious (though in fact some quite serous points are made).

One aspect of this interview that, I suspect, will soon be distorted by the right and libertarians in general is the exchange from 2.44–3.31.

It perfectly obvious that the exchange in which Krugman talks about space aliens is nothing but comedy, facetious remarks:

Bill Maher: So we need another Hitler? [laughs].

Krugman: I have actually suggested ...

Bill Maher: I am getting wrong?

Krugman: since it is hard to get people to do ... much better, obviously, to build bridges and roads and healthcare clinics and schools. But my proposed ... I actually have a serious proposal, which is that we have to get a bunch of scientists to tell us that we’re facing a threatened alien invasion, and in order to be prepared for that alien invasion, we have to do things like build highspeed rail. and .. and you know [laughs] ... And then once we’ve recovered, we can say, “Look, there were no aliens.” But look, I mean, whatever it takes because right now we need somebody to spend, and that somebody has to be the US government.

The whole point of Krugman’s remarks is precisely that he wants spending on public infrastructure and social programs (“bridges and roads and healthcare clinics and schools”), and his comments on alien invasions are an attempt at a joke, which elicits laughs from the audience, as it was supposed to.

I have no doubt that we can now just sit back and watch as the libertarian and Austrian blockheads come out and distort these comments, and proclaim that Krugman is actually calling for a fake alien invasion.

Already we have an inkling of how they will treat it here.

Steve Keen on Irish Austerity

A quick radio interview here with Steve Keen when he was in Ireland, where he discusses the myth of expansionary austerity*.





* I hasten to add of course that any Keynesian would admit that, if the private sector is booming (including export booms), then government austerity does not necessarily mean recession. But the neoclassical/neoliberal idea of expansionary austerity when the private sector is in crisis or the global economy is itself depressed is a ridiculous fable.

Austrians Can’t Get their Story Straight on the Effects of Austerity

Here is something I have noticed of late in the ongoing debates on austerity: some Austrians argue that fiscal contraction can directly lead to GDP growth and recovery (a line taken by some neoclassical economists with their pro-growth austerity fables), and they argue that, if only governments would do nothing and pursue austerity, strong recoveries would ensue. In the process, these Austrians seem to deny that recession or depression is the result of fiscal contraction.

The idea is blatantly contradicted by their own business cycle theory, which holds that prolongation of a recession or depression to its “natural” end, and purging malinvestments in the process, is a necessary consequence of the “do nothing” response itself (called “liquidationism”). Therefore it is bizarre and stupid in the extreme for any Austrian adherent of the Hayekian business cycle theory to argue that austerity or a “do nothing” policy will lead directly to growth.

Before he renounced liquidationism, Hayek in Prices and Production explained exactly why nothing must be done during a credit-caused recession, and why the economy and society must suffer the consequences:

“If the foregoing analysis is correct, it should be fairly clear that the granting of credit to consumers, which has recently been so strongly advocated as a cure for depression, would in fact have quite the contrary effect; a relative increase of the demand for consumers’ goods could only make matters worse. Matters are not quite so simple so far as the effects of credits granted for productive purposes are concerned. In theory it is at least possible that, during the acute stage of the crisis when the capitalistic structure of production tends to shrink more than will ultimately prove necessary, an expansion of producers’ credits might have a wholesome effect. But this could only be the case if the quantity were so regulated as exactly to compensate for the initial, excessive rise of the relative prices of consumers’ goods, and if arrangements could be made to withdraw the additional credits as these prices fall and the proportion between the supply of consumers’ goods and the supply of intermediate products adapts itself to the proportion between the demand for these goods. And even these credits would do more harm than good if they made roundabout processes seem profitable which, even after the acute crisis had subsided, could not be kept up without the help of additional credits. Frankly, I do not see how the banks can ever be in a position to keep credit within these limits.

And, if we pass from the moment of actual crisis to the situation in the following depression, it is still more difficult to see what lasting good effects can come from credit expansion. The thing which is needed to secure healthy conditions is the most speedy and complete adaptation possible of the structure of production to the proportion between the demand for consumers’ goods and the demand for producers’ goods as determined by voluntary saving and spending. If the proportion as determined by the voluntary decisions of individuals is distorted by the creation of artificial demand, it must mean that part of the available resources is again led into a wrong direction and a definite and lasting adjustment is again postponed. And, even if the absorption of the unemployed resources were to be quickened in this way, it would only mean that the seed would already be sown for new disturbances and new crises. The only way permanently to “mobilize” all available resources is, therefore, not to use artificial stimulants—whether during a crisis or thereafter—but to leave it to time to effect a permanent cure by the slow process of adapting the structure of production to the means available for capital purposes.

(10) And so, at the end of our analysis, we arrive at results which only confirm the old truth that we may perhaps prevent a crisis by checking expansion in time, but that we can do nothing to get out of it before its natural end, once it has come.” (Hayek 2008: 274–275).

In other words, if we take the logic of this Hayekian solution of liquidationism seriously, honest Austrians should be telling us that their solution requires recession or depression, possibly protracted and devastating depression, which must be allowed to continue until it reaches its “natural end.”

Of course, these ideologues are wrong for the simple reason that their business cycle theory is hogwash.

Moreover, an approximation* of the Hayekian liquidationist “do nothing” approach was taken by Chancellor Brüning in Weimar Germany. The depression and suffering to which the Germans were subjected did not have encouraging results:

“… the German authorities responded to their external difficulties by depressing their internal economy. Schacht, president of the Reichsbank until March 1930 and chief German negotiator for the Young Plan, had consistently pursued a deflationary strategy. Hans Luther, his successor at the Reichsbank, followed suit, keeping the discount rate well above the rates in London and New York in attempt to reduce the bank’s continuing loss of gold ... the fiscal authorities were even more aggressive in their deflationary efforts. The move toward highly restrictive government budgets came in the beginning of 1930. Heinrich Brüning, chancellor from March 1930 to May 1932, continued this, relentlessly attempting to deflate the economy to restore equilibrium in the manner of the gold standard. Germany, unable to pay its foreign bills at gold par, had to reduce internal prices until it could” (Temin 1989: 30–31).

“Economic breakdown [sc. during the Great Depression] led to political upheaval which in turn destroyed the international status quo. Germany was the most striking example of this complex interaction. Without the depression Hitler would not have gained power. Mass unemployment reinforced all the resentments against Versailles and the Weimar democracy that had been smouldering since 1919. Overnight the National Socialists were transformed into a major party; their representation in the Reichstag rose from 12 deputies in 1928 to 107 in 1930. The deflationary policies of the Weimar leaders sealed the fate of the Republic” (Adamthwaite 1977: 34).

A call for liquidationism is nothing less than a call for mass unemployment, impoverishment, starvation, homelessness, breakdown of families, and society – and the political system. In societies with militant extremes on the left or right, authoritarianism may well result.

What is especially telling is that not even Hayek was so stupid as some of his modern followers in calling for a “do nothing” policy as an actual solution to downturns in the business cycle, because
Hayek eventually renounced liquidationism at some point after 1933.

Hayek even went so far as to say that “liquidationism” as a serious policy in Germany in 1930 was, in essence, sheer madness and would lead to revolution:

“… a ‘secondary depression’ caused by an induced deflation should of course be prevented by appropriate monetary counter-measures. Though I am sometimes accused of having represented the deflationary cause of the business cycles as part of the curative process, I do not think that was ever what I argued. What I did believe at one time was that a deflation might be necessary to break the developing downward rigidity of all particular wages which has of course become one of the main causes of inflation. I no longer think this is a politically possible method and we shall have to find other means to restore the flexibility of the wage structure than the present method of raising all wages except those which must fall relatively to all others. Nor did I ever doubt that in most situations employment could be temporarily increased by increasing money expenditure. There was one classical occasion when I even admitted that this might be politically necessary, whatever the long run economic harm it did.

The occasion was the situation in Germany in, I believe, 1930 when the depression was beginning to get quite serious and a political commission—the Braun Committee—had proposed to combat it by reflation (though that term had not yet been coined), i.e., a rapid expansion of credit. One of the members of the committee, in fact the main author of the report, was my late friend, Professor Wilhelm Röpke. I thought that in the circumstances the proposal was wrong and wrote an article criticising it. I did not send it to a journal, however, but to Professor Röpke with a covering letter in which I made the following point:

‘Apart from political considerations I feel you ought not—not yet at least—to start expanding credit. But if the political situation is so serious that continuing unemployment would lead to a political revolution, please do not publish my article. That is a political consideration, however, the merits of which I cannot judge from outside Germany but which you will be able to judge.’

Röpke’s reaction was not to publish the article, because he was convinced that at that time the political danger of increasing unemployment was so great that he would risk the danger of causing further misdirections by more inflation in the hope of postposing the crisis; at that particular moment this seemed to him politically necessary and I consequently withdrew my article.

To return, however, to the specific problem of preventing what I have called the secondary depression caused by the deflation which a crisis is likely to induce. Although it is clear that such a deflation, which does no good and only harm, ought to be prevented, it is not easy to see how this can be done without producing further misdirections of labour. In general it is probably true to say that an equilibrium position will be most effectively approached if consumers’ demand is prevented from falling substantially by providing employment through public works at relatively low wages so that workers will wish to move as soon as they can to other and better paid occupations, and not by directly stimulating particular kinds of investment or similar kinds of public expenditure which will draw labour into jobs they will expect to be permanent but which must cease as the source of the expenditure dries up.” (Hayek 1978: 210–212).

At the end of this passage, Hayek advocates public works as a solution to “secondary deflation,” so modern Austrian advocates of pure and absolute liquidationism take a view that even Hayek rejected.


Further Reading
See my posts here:

“Did Hayek Advocate Public Works in a Depression?,” September 25, 2011.

“When Did Hayek Renounce Liquidationism?,” January 1, 2012.

“Austerity and the Weimar Republic ,” June 5, 2011.

Note

* I say “approximation” because Austrians are like Marxists: Marxists, when confronted with real world examples of Marxist systems that are horror stories, will say that it was not “real” Marxism. When approximate empirical evidence of real world examples of their policy prescriptions are cited, showing that they don’t work, the Austrian response is usually: “it wasn’t really pure liquidationism!”

BIBLIOGRAPHY

Adamthwaite, A. P. 1977. The Making of the Second World War, Allen & Unwin, London and Boston.

Hayek, F. A. von. 1978. New Studies in Philosophy, Politics, Economics, and the History of Ideas, Routledge & Kegan Paul, London.

Hayek, F. A. von, 2008. Prices and Production and Other Works: F. A. Hayek on Money, the Business Cycle, and the Gold Standard, Ludwig von Mises Institute, Auburn, Ala.

Temin, P. 1989. Lessons from the Great Depression, MIT Press, Cambridge, Mass.

Did Anders Borg Pursue Austerity in Sweden in 2009 and 2010?

The right wing press is all aglow with paeans to the Swedish finance minister Anders Borg. See these articles:

Veronique de Rugy, “GDP Growth Rates: The Swedish Approach,” Mercatus Center, May 16, 2012.

Fraser Nelson, “Sweden’s Secret Recipe,” The Spectator, 14 April 2012.

The conservatives appear to be asserting that Sweden’s recovery from the 2008–2009 recession was the result of austerity, and the tax cuts Borg passed in 2007. Unfortunately, this nonsense falls apart when we look at the facts.

Anders Borg became finance minister on 6 October 2006. The government passed tax cuts in January 2007, long before financial crisis of 2008 and global recession. But what kind of tax cut did Borg oversee? Apparently, they involved tax cuts for lower income earners as well as upper income earners:

“What even Borg did not expect was that his tax cut for the low-paid would increase economic growth so much that it has almost entirely paid for itself. Borg had created something that Osborne’s critics say does not exist: a self-financing tax cut. ‘There was some criticism at the time that we were borrowing to finance tax cuts,’ he says. But Sweden could do it, because it was expecting to return to surplus soon.”
Fraser Nelson, “Sweden’s Secret Recipe,” The Spectator, 14 April 2012.

If Sweden was borrowing money to finance tax cuts, then there must have been a resulting deficit, but strangely there doesn’t appear to have been a deficit in 2007:

Swedish Government Budget Surplus/Deficit as % of GDP
2005 1.95%
2006 2.22%
2007 3.53%
2008 2.20%
2009 -1.18%
2010 -1.17%

So I do not know exactly what was going on here: whatever fiscal effect the tax cut had is unclear to me, but the crucial point is that this tax cut happened in 2007.

When the global recession struck in 2008, what did Sweden do? It adopted a Keynesian stimulus package, and expansionary fiscal policy in 2009 and 2010. In December 2008, the Swedish government announced an 8 billion kronor (757 million euros, $966 million) stimulus package, implemented in 2009.

The 2010 budget was also expansionary, and Anders Borg, the man himself, said so:

“Sweden’s centre-right government presented on Monday an expansive 2010 budget bill focused on job creation and economic stimulus to lift Sweden out of the crisis a year ahead of general elections. ‘We are trying to limit damage from the crisis by taking forceful action to promote jobs and enterprise and by providing support to everyone who has been severely hit by unemployment,’ Finance Minister Anders Borg said.”
Economic Stimulus to Lift Sweden out of the Crisis, The Swedish Wire, 21 September 2009.

The Swedish economy was lifted out of its recession around the middle of 2009, owing to the stimulus. The belief that tax cuts in 2007 (whose actual fiscal effects are unclear) caused a recovery in mid-2009 is ridiculous beyond words.

Another ridiculous and misleading trick of conservatives to say that Swedish government spending as a percentage of GDP fell from 52.9% in 2006 to 51.8% in 2011, and then imply that this was the reason for the recovery. Yet the actual figures show a large increase in government spending as a percentage of GDP during the recession and economic crisis:

Swedish Government Spending as % of GDP
2006 52.9%
2007 51.0%
2008 51.7%
2009 55.2%
2010 53.0%

Note the huge surge from 2008–2009 (partly, of course, a function of falling GDP from 2008–2009, but also a result of automatic stabilisers and stimulus spending).

Then the percentage falls once the recovery occurred and the stimulus did its work, causing private sector growth, and rising GDP and tax revenues.

All precisely predictable and consistent with Keynesian economics.

Randall Wray on MMT and the US Economic Crisis

Randall Wray gives an enlightening talk here called “Money and the Public Purpose: The Modern Monetary Theory Approach” (Capitalist Mode of Power: Past, Present, Future Conference, October 20, 2011, York University, Toronto), on MMT and the current economic crisis in America.

Excellent analysis and explanation of MMT. Wray speaks first, but there is a second speaker after him (so Wray’s talk is only the first half of this video).

Richard Koo on the West’s Lost Decade

Richard Koo (Nomura Research Institute) speaks at the Closing Panel “Overhangs, Uncertainty and Political Order: Where Do We Go From Here?” at the Institute for New Economic Thinking’s (INET) Paradigm Lost Conference in Berlin (April 14, 2012). He draws lessons from Japan’s lost decade, and why the West is now in the same position, owing to its private debt crisis, collapsed asset bubbles, and debt deflation.

Richard Koo’s approach is very similar to that of Steve Keen. There is a disease rotting modern neoliberal capitalism. Many countries are stricken with debt deflation, caused by excessive private debt and the collapse of asset bubbles in real estate from 2007–2009, which led to severe recessions in many nations (or what Koo calls “balance sheet recessions”). The theory required to explain what is afflicting Western economies is Hyman Minsky’s “financial instability hypothesis.”

A crucial point is that an important aspect of Japan’s lost decade was the austerity imposed on the economy in 1996 to 1997 by Prime Minister Ryutaro Hashimoto. The result was five quarters of negative growth in a terrible recession (1997–1999) and resulting banking crisis. This shows up in the annualised GDP figures, as you can see here:

Japanese Annualised Average GDP, 1994–2001
Year | GDP
1994 | 0.86%
1995 | 1.88%
1996 | 2.64%
1997 | 1.56%
1998 | -2.05%
1999 | -0.14%
2000 | 2.86%
2001 | 0.18%

http://wikiposit.org/am?WB.JPN.NY.GDP.MKTP.KD.ZG=101

A major consequence of the recession induced by fiscal contraction was that the Japanese budget deficit soared by 68%, owing to the collapse of tax revenue. This must be counted as another fundamental reason why Japanese public debt soared as well: it was not just the periods of fiscal expansion from 1993–1996 and after November 1998 (when the government started planning fiscal stimulus again).

One minor criticism I have is that Koo could benefit from using endogenous money theory. Also, Steve Keen urges a much more radical solution than Koo to the crisis of debt deflation: private debt write offs or a QE for the public, to allow them to repay debt (see the previous video I have posted). I think Steve Keen is right on this. Axel Leijonhufvud, another heterodox Keynesian, has also pointed out that debt deflation/deleveraging causes “financial sinkholes in private sector balance sheets” for fiscal policy (see Leijonhufvud 2009), which makes standard Keynesianism an incomplete tool for dealing with the present crisis.

Of course, government fiscal policy is badly needed and does help the private sector delever, but it needs to be done on a big scale. To make it effective, a more sensible policy is just massive writing-off and restructuring of private debt, and the use of monetary policy to protect depositors and keep the financial system solvent, before large-scale Keynesian stimulus.




UPDATE

An excellent post here from Bill Mitchell analyzing recent fiscal expansion in Japan:

Bill Mitchell, “Japan Grows – Expansionary Fiscal Policy Works!,” Billy Blog, May 24, 2012.

We are often told that Japanese government debt stands at over 200% of GDP, yet, as I have shown above, an important reason why that is so was the effect of austerity on the budget deficit from 1997 to 1999.


BIBLIOGRAPHY

Leijonhufvud, A. 2009. “Out of the Corridor: Keynes and the Crisis,” Cambridge Journal of Economics 33: 741-757.

Steve Keen on Debt

An interview here with Steve Keen on both private and public debt: the real issue today here is the disaster of private debt, not public debt.

Links for Economics, Updated

Here is an updated a list of links here of online newspapers, magazines, blogs and staff pages relevant for economics.


I. Online Newspapers, Journals, Magazines
Businessweek.com
http://www.businessweek.com/

Economist.com
http://www.economist.com/

Wall Street Journal
http://online.wsj.com/

Forbes.com
http://www.forbes.com/

Barrons
http://online.barrons.com/home-page

Financial Times
http://www.ft.com/

BBC News Business
http://www.bbc.co.uk/news/business

Leftbusinessobserver.com
http://www.leftbusinessobserver.com

Dollars and Sense, Real World Economics
http://www.dollarsandsense.org/


II. Mainstream Blogs
New Keynesian
Paul Krugman Blog
http://krugman.blogs.nytimes.com/

Facts and Other Stubborn Things, Daniel Kuehn
http://factsandotherstubbornthings.blogspot.com/

Greg Mankiw’s Blog
http://gregmankiw.blogspot.com/

Economics One, A Blog by John B. Taylor
http://johnbtaylorsblog.blogspot.com

Brad DeLong, Grasping Reality with the Invisible Hand
http://delong.typepad.com

Monetarist
Market Monetarist
http://marketmonetarist.com/

Scott Sumner
http://www.themoneyillusion.com

Macro and Other Market Musings, David Beckworth
http://macromarketmusings.blogspot.com

Stephen Williamson: New Monetarist Economics
http://newmonetarism.blogspot.com

MacroMania, David Andolfatto
http://andolfatto.blogspot.com

Uneasymoney.com, David Glasner
http://uneasymoney.com/

New Classical
John H. Cochrane, The Grumpy Economist
http://johnhcochrane.blogspot.com

Other
Dani Rodrik’s Weblog
http://rodrik.typepad.com/dani_rodriks_weblog/

Matthew Yglesias
http://www.slate.com/blogs/moneybox.html

Hjeconomics: The Blog, Henrik Jensen
http://blog.hjeconomics.dk

Marginalrevolution.com
http://marginalrevolution.com

Nakedcapitalism.com
http://www.nakedcapitalism.com/


III. Post Keynesian and Heterodox Keynesian
Post Keynesian Economics Study Group
http://www.postkeynesian.net/

Naked Keynesianism
http://nakedkeynesianism.blogspot.com/

Debt Deflation, Steve Keen
http://www.debtdeflation.com/blogs/

Mark Hayes, Robinson College, Cambridge
http://people.pwf.cam.ac.uk/mgh37/

Dr. Thomas Palley, PhD. in Economics (Yale University)
http://www.thomaspalley.com/

Marc Lavoie, Professor in the Department of Economics at the University of Ottawa
http://www.socialsciences.uottawa.ca/eco/eng/profdetails.asp?id=64

Dr. J. Barkley Rosser, Jr., Professor of Economics, James Madison University
http://cob.jmu.edu/rosserjb/

Philip Arestis
http://www.levyinstitute.org/scholars/?auth=5

http://www.landecon.cam.ac.uk/staff/profiles/parestis.htm

Robert Pollin, Professor of economics at the University of Massachusetts-Amherst
http://www.peri.umass.edu/staff/#c128

Professor Malcolm Sawyer, Leeds University Business School
http://business.leeds.ac.uk/about-us/faculty-staff/member/profile/malcolm-sawyer/

http://lubswww.leeds.ac.uk/MKB/MalcolmSawyer/

Professor Sheila Dow, University of Stirling
http://www.economics.stir.ac.uk/People/staff/Dow/dow.htm

Debtonation.org, Ann Pettifor blog
http://www.debtonation.org/

Michael Hudson
http://michael-hudson.com/

Richard P.F. Holt’s Web Site
http://www.richolt.net/Ric_Holt/Welcome.html

Ric Holt, “What is Post Keynesian Economics?”

Barkley Rosser’s Home Page
http://cob.jmu.edu/rosserjb/

Mark Hayes’s Staff Page
http://people.pwf.cam.ac.uk/mgh37/

Malcolm Sawyer’s Web Page
http://lubswww.leeds.ac.uk/MKB/MalcolmSawyer/

Modern Monetary Theory (MMT)/Neochartalism
New Economic Perspectives
http://neweconomicperspectives.org/

L. Randall Wray, Professor of Economics at the University of Missouri-Kansas City
http://www.cfeps.org/people/wraylr

Billy Blog, Bill Mitchell
http://bilbo.economicoutlook.net/blog/

Warren Mosler, The Center of the Universe
http://moslereconomics.com/

Centre of Full Employment and Equity (CofFEE)
http://e1.newcastle.edu.au/coffee/

Mike Norman Economics Blog
http://mikenormaneconomics.blogspot.com/

Modern Money Mechanics
http://modernmoney.wordpress.com/

Other Heterodox Resources
Prime, Policy Research in Macroeconomics
http://www.primeeconomics.org/

New Economics Foundation
http://www.neweconomics.org/

Unlearningeconomics Blog
http://unlearningeconomics.wordpress.com/

Heteconomist.com
http://heteconomist.com/

Real-World Economics Review Blog
http://rwer.wordpress.com/

Econospeak Blog
http://econospeak.blogspot.com/

James Galbraith
http://utip.gov.utexas.edu/JG/publications.html

Robert Skidelsky’s Official Website
http://www.skidelskyr.com/

The Other Canon
http://www.othercanon.org/

Tony Lawson, Staff Page, University of Cambridge
http://www.econ.cam.ac.uk/faculty/person.html?id=lawson&group=faculty

Thoughts on Economics, Robert Vienneau
http://robertvienneau.blogspot.com/

Post-Keynesian Observations
http://rommeldak.wordpress.com/

Lars P. Syll’s Blog, Docendo discimus
http://larspsyll.wordpress.com/

Levy Economics Institute of Bard College
http://www.levyinstitute.org/

Multiplier Effect, Levy Economics Institute Blog
http://www.multiplier-effect.org/

New Deal 2.0
http://www.newdeal20.org/

Triplecrisis.com
http://triplecrisis.com/

Unsettling Economics, Michael Perelman
http://michaelperelman.wordpress.com/

The Progressive Economics Forum
http://www.progressive-economics.ca/

John Quiggin
http://johnquiggin.com/

Ambrose Evans-Pritchard Columns, The Telegraph
http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/

IV. Libertarian and Austrian
ThinkMarkets, A blog of the NYU Colloquium on Market Institutions and Economic Processes
http://thinkmarkets.wordpress.com/

Radicalsubjectivist Blog
http://radicalsubjectivist.wordpress.com/

Free Advice, The Personal Blog of Robert P. Murphy
http://consultingbyrpm.com/blog

Coordination Problem
http://www.coordinationproblem.org/

Economic Thought.net, Jonathan Finegold Catalán
http://www.economicthought.net/blog/?author=1

Krugman in Wonderland, William L. Anderson
http://krugman-in-wonderland.blogspot.com/

Ludwig von Mises Institute
http://mises.org/

Mises Economic Blog
http://blog.mises.org/

Cafehayek.com
http://cafehayek.com/

Taking Hayek Serioulsly, Greg Ransom
http://hayekcenter.org/

Mskousen.com
http://www.mskousen.com/

Roger W. Garrison, Professor of Economics, Auburn University
http://www.auburn.edu/~garriro/

Libertarianpapers.org
http://www.libertarianpapers.org/

The Free Man Online
http://www.thefreemanonline.org/

The Independent Institute
http://www.independent.org/

Foundation for Economic Education (FEE)
http://fee.org/

Library of Economics and Liberty
http://www.econlib.org/index.html

Rothbardiana
http://www.rothbard.it/

The Daily Bell.com
http://www.thedailybell.com/index.asp

Hanshoppe.com
http://www.hanshoppe.com/

Walterblock.com
http://www.walterblock.com/

Free Banking, George Selgin
http://www.freebanking.org/author/selgin/

George Selgin
http://www.terry.uga.edu/~selgin/

Selected Works of Mario Rizzo
http://works.bepress.com/mario_rizzo/

Guido Hülsmann
http://guidohulsmann.com/

Free Association, Sheldon Richman
http://sheldonfreeassociation.blogspot.com/

Marginalrevolution.com
http://www.marginalrevolution.com/marginalrevolution/

Catallaxyfiles.com, Australia’s leading libertarian and centre-right blog
http://catallaxyfiles.com/

The Cobden Centre
http://www.cobdencentre.org/

Adamsmith.org Blog
http://www.adamsmith.org/blog/

Adamsmith.org
http://www.adamsmith.org/

Quarterly Journal of Austrian Economics
http://mises.org/periodical.aspx?Id=4/

Stefan Karlsson Blog
http://stefanmikarlsson.blogspot.com/

Soundmoneyproject.org
http://www.soundmoneyproject.org/

Ideas Matter
http://ideasmatter.typepad.com/ideas-matter/

Charles Rowley’s Blog
http://charlesrowley.wordpress.com

Other Libertarian/Free Market Resources
Cato Institute
http://www.cato.org/

Miscellaneous
Crash Landing, blog of Gene Callahan
http://gene-callahan.blogspot.com/

Marshall Auerback on the Eurozone

Marshall Auerback talks about the Eurozone crisis here, in a debate on RT.

One of the other persons interviewed also raises the possibility of Greece leaving the Eurozone in the near future, and of wider-scale bank runs in the peripheral nations, if action is not taken to stop this ongoing disaster.

William Black on Wall Street Fraud

An interview here with William Black on regulation and Wall Street.

This Takes the Cake...

I asked Robert P. Murphy these three simple questions in a previous post:

(1) Do you dispute that Sweden implemented a stimulus, with expansionary fiscal policy in 2009 and 2010?

(2) Do you dispute that the Swedish recession ended about the middle of 2009 after this stimulus was implemented, and real output growth resumed? If “yes,” then what in your view caused the end of the recession and real output growth that Sweden has had subsequently? Magic?

(3) Do you dispute that the Swedish recovery led to rising tax revenues? That the budget deficit fell?

His response is here, and demonstrates the intellectual bankrupcy of his position:

“LK, do you really not see the problem in your argument? You might be right, but I could use your same approach to “demonstrate” that the Obama stimulus package caused the US economy to suddenly become much worse than people thought (a la Romer unemployment forecasts).

Look, do you dispute that there was a thunder storm in Sweden in 2008 and also in 2009? Do you dispute that there was an ensuing recovery? Surely you can’t deny, then, that the thunderstorms caused the recovery. Only someone versed in magic would deny this obvious causality.

The reason you think your argument is better than mine, is that you believe on antecedent grounds that stimulus spending causes economies to recover. Yet that is precisely what we are debating. If someone genuinely believed that thunderstorms caused economic growth (maybe by breaking windows?) then he’d find my own argument compelling.”
http://consultingbyrpm.com/blog/2012/05/lord-keynes-beautifully-illustrates-why-we-get-nowhere-in-the-stimulus-debate.html#comment-38326

I see that Murphy:

(1) refuses to answer the questions. This is very telling.

(2) Murphy asserts that the relationship of cause and effect running from fiscal expansion to real output growth is in doubt, yet refuses to explain how Sweden had real output growth after its stimulus.

(3) Murphy resorts to a absurd example. No one has ever argued that thunderstorms cause economic recovery. But the empirical evidence that expansionary fiscal policy, whether through tax cuts and/or increases in government spending, causes rises in private investment and consumption is overwhelming.

For example, if the government held its level of current spending stable, and implemented a large tax cut (making up for the shortfall by borrowing), would Murphy deny that this would stimulate the private sector?

(4) In fact, the very logic of the Austrian business cycle theory requires that monetary expansion (and presumably when accompanied by fiscal stimulus) causes booms that drive demand for capital goods over and above the scarce resources available for this investment. Murphy has now taken a position that destroys even the logic of his own Austrian business cycle theory, for, if both monetary and fiscal stimulus do not cause increases in private sector investment and consumption, how could an Austrian business cycle even occur?

Not even Hayek was so stupid as to deny that higher government expenditure can increase employment:

“… a ‘secondary depression’ caused by an induced deflation should of course be prevented by appropriate monetary counter-measures. .... I no longer think ... [sc. deflation] is a politically possible method and we shall have to find other means to restore the flexibility of the wage structure than the present method of raising all wages except those which must fall relatively to all others. Nor did I ever doubt that in most situations employment could be temporarily increased by increasing money expenditure. There was one classical occasion when I even admitted that this might be politically necessary, whatever the long run economic harm it did.” (Hayek 1978: 210–211).

(5) Finally, if we turn to a recent example, Steve Keen provides a careful sectoral breakdown of Australian national accounts showing exactly how Australia’s economic growth after 2008 was the result of the federal government stimulus:

Steve Keen, “Giving the Bird to the Stimulus?,” DebtWatch, August 18th, 2010.

BIBLIOGRAPHY
Hayek, F. A. von. 1978. New Studies in Philosophy, Politics, Economics, and the History of Ideas, Routledge & Kegan Paul, London.

Average Annual GDP in Japan 1980-2009

A quick post on Japan. Japan had what many called a “lost decade” from about 1992 to 2003. The trouble is that there is debate about when the lost decade ended and to what extent this lost decade showed up in average GDP figures. It seems that positive credit growth did not return until 2006, when deleveraging in Japan’s private sector ended (especially by corporations).

Here is the data:

Japanese Annualised Average GDP, 1980-2009
Year | GDP
1980 | 2.82%
1981 | 2.93%
1982 | 2.76%
1983 | 1.61%
1984 | 3.12%
1985 | 5.08%
1986 | 2.96%
1987 | 3.79%
1988 | 6.76%
1989 | 5.29%
1990 | 5.20%
1991 | 3.32%
1992 | 0.82%
1993 | 0.17%
1994 | 0.86%
1995 | 1.88%
1996 | 2.64%
1997 | 1.56%
1998 | -2.05%
1999 | -0.14%
2000 | 2.86%
2001 | 0.18%
2002 | 0.26%
2003 | 1.41%
2004 | 2.74%
2005 | 1.93%
2006 | 2.04%
2007 | 2.36%
2008 | -1.17%
2009 | -6.29%
2010 | 4.00%

Average GDP growth rate, 1981–1990: 3.95%
Average GDP growth rate, 1991–2000: 1.19%
Average GDP growth rate, 2001–2010: 0.75%
Average GDP growth rate, 1992–2003: 0.87%

http://wikiposit.org/am?WB.JPN.NY.GDP.MKTP.KD.ZG=101

The average of just 1.19% for 1991–2000 (down from 3.95% from 1981–1990) suggests something did indeed go wrong with the economy in the 1990s. The average for the whole period 1992–2003 was 0.87%.

But the average for 2001-2010 is just 0.75%, which is surprising. However, a careful look at the data shows the average was brought down by the extremely bad GDP contraction of 2009, owing to the global recession and slump in demand for Japan’s exports. Without it, average GDP for the decade from 2001-2010 would be 1.53%. If we remove the disaster of the global recession of 2008-2009, then Japan’s average GDP from 2001-2007 was 1.56%.

The GDP data for the period 2003 to 2007 (before the crisis hit) show an average of 2.10%, and suggest that Japan’s economy had returned to roughly the OECD average in these years. This confirms that Japan had come out of the lost decade after 2003.

Robert P. Murphy Gets it Wrong on Stimulus in Sweden and the US

Robert P. Murphy has a post here criticising a comment of mine on fiscal policy in Sweden (as compared with the US):

Robert P. Murphy, “Lord Keynes Beautifully Illustrates Why We Get Nowhere in the Stimulus Debate,” Free Advice, 21 May.

Unfortunately, his response is flawed:

(1) the links I cited were to demonstrate that Sweden implemented a stimulus from 2008, not what Murphy says.

The first remarks of Murphy’s post are therefore of no value: it is only Murphy’s erroneous assumption that is at fault here. Murphy assumed, falsely, that my links were meant to prove this idea: “that Sweden is running a budget surplus now is a demonstration that their stimulus worked.” In fact, they were there to prove my assertion that Sweden “passed a large stimulus package in 2008, which continued in 2009 and 2010.” Does Murphy deny this?

Nor did I deny that “the US under any plausible metric ran a bigger Keynesian stimulus than Sweden” – of course it did. That is not the point.

The inference that Sweden’s stimulus worked is my inference, easily confirmed by the fact that

(i) the Swedish stimulus has resulted in real output growth in 2009, 2010, and most of 2011 (which, of course, the links confirm; see here as well) and
(ii) rising tax revenues.

Does Murphy deny either of these two facts?

(2) The whole assumption underlying Murphy’s comparison of the size of the stimulus in Sweden and the US is flawed for the following simple reason: what kind of naive or ignorant person believes that the global recession of 2008-2009 was exactly of the same scale, depth and magnitude in all nations?

What kind of naive person believes that the financial crisis and resulting debt deflationary effects were exactly the same in all countries? Or that the asset bubbles and private debt levels (and resulting private sector deleveraging effects and knock-on effects on the real economy) were all the same?

This is a nonsensical assumption: different countries had different economic conditions, and different crises; consequently, there is no reason why different levels of stimulus will have worked in some nations and not in others. Or why a stimulus of a certain level in Sweden was appropriate there, but not in America. Or why America’s stimulus, even though it was larger than Sweden’s, had different effects too (e.g., not as great an affect on employment).

America had a financial crisis and credit contraction of much greater severity than Sweden. America’s housing bubble and private debt levels are much higher than Sweden’s.

(3) Murphy shows himself incompetent in even understanding basic elements of Keynesian economics. He asserts:

“First let’s consider the deficit as a % of GDP, which is how Keynesians typically evaluate stimulus in the 1930s.”

Um, no, they don’t, Murphy – at least not serious Keynesian economists. How Keynesians “evaluate stimulus in the 1930s” will be find in E. Cary Brown, 1956. “Fiscal Policy in the ’Thirties: A Reappraisal” (American Economic Review 46.5: 857–879): it does not evaluate stimulus in terms of some crude citation of deficits. There is a reason why. It is not the size of a budget deficit per se that will show you if a budget is expansionary or contractionary in terms of fiscal effects. It is perfectly possible to have a budget deficit and have contractionary fiscal policy (as in Ireland and Greece today).

In order to stimulate an economy back to its growth path and potential GDP, one has to do the following:

(i) calculate potential GDP and estimate how severely GDP is likely to collapse by,
(ii) estimate the Keynesian multiplier and
(iii) then design fiscal policy to expand demand by tax cuts and/or appropriate level of discretionary spending increases to hit potential GDP via the multiplier.

A great deal of any budget deficit during a recession is merely the result of maintaining spending because of tax revenue collapse.

In both theory and practice, you could have a budget deficit, yet impart zero stimulus to an economy. You can even contract an economy and run a deficit. It beggars belief that a person like Murphy, who sets himself up as some great critic of Keynesianism, appears ignorant of this.

One will need to look at the overall expansionary effect of a budget in terms of its addition to aggregate demand, the most important part of which is how high increases in discretionary spending were.

Sweden and the US both had different recessions. The US had a severe financial crisis. Sweden had no serious financial crisis (see under the heading “Do we have a financial crisis in Sweden?”). America had a huge housing bubble; in Sweden there has been a much smaller real estate bubble and it has not yet burst. Develeraging and debt deflationary effects in America and Sweden have been different. The state of the private sector in both countries is different.

Comparing the size of budget deficits in Sweden and the US does not even show us comparable data for the size of the stimulus in each nation. As a matter of fact, the US stimulus was about 2% of GDP in both 2009 and in 2010. Sweden was much smaller: additional fiscal spending was about 0.38% of GDP (David Saha and Jakob von Weizsäcker, “Estimating the size of the European stimulus packages for 2009,” 20th, February 2009, p. 17).

But then Sweden’s financial sector was not crippled, nor was its private sector in such a bad state as America’s in 2008, 2009 and 2010. It is not surprising that a differently-sized stimulus to that in America worked well in Sweden’s case.

(4) Murphy then cites the overall size of government spending in the economies of Sweden and US, and comes to conclusions so bizarre it so difficult to take him seriously. Here are his data:

Swedish Gov’t Spending as % of GDP
2007: 51.0%
2008: 51.7%
2009: 55.2%
2010: 53.0%

US Federal Gov’t Spending as % of GDP
2007: 19.7%
2008: 20.8%
2009: 25.2%
2010: 24.1%

The fact that Sweden has government spending of over 50% means that its economy was already cushioned from private sector shocks and falls in real output in the 2000s long before the great recession, and certainly to a far greater extent than an economy where it is on the order of 20-25% (like the US).

Sweden’s recovery is thus partly a function of the high degree of government spending (G) in its GDP already in 2008 when its recession struck.

Nor is the particular degree to which government spending rose in each country relevant here: for the US and Sweden experienced different types of recession and thus the degree of stimulus necessary was different in each case (horses for courses, so to speak).

(5) And what is this?:

“Since Sweden handled the crisis much better than the US did, I would say the case of Sweden is prima facie evidence for the Austrian / austerian camp. As always in these matters, these particular data don’t prove anything; maybe there are confounding factors.”

What!? A nation that got out of recession after implementing a stimulus, and where government spending was 51.7% of its GDP in 2008, which then increased to 55.2% in 2009, is “prima facie evidence for the Austrian ... camp.”

Then the whole thing collapses with the words “these particular data don’t prove anything.” What? So what was the point of citing them?

Finally, some questions for Murphy:

(1) Do you dispute that Sweden implemented a stimulus, with expansionary fiscal policy in 2009 and 2010?

(2) Do you dispute that the Swedish recession ended about the middle of 2009 after this stimulus was implemented, and real output growth resumed? If “yes,” then what in your view caused the end of the recession and real output growth that Sweden has had subsequently? Magic?

(3) Do you dispute that the Swedish recovery led to rising tax revenues? That the budget deficit fell?

BIBLIOGRAPHY

Cary Brown, E. 1956. “Fiscal Policy in the 'Thirties: A Reappraisal,” American Economic Review 46.5: 857–879.

Fascism and Keynesianism?

There is a tired and ignorant rhetorical trick of libertarians: to conflate Keynesianism with fascism, or the economics of fascism. There are two responses to this.

(1) First, the sleight of hand involved invoking fascism as a general system in this way is that (1) fascism is simply not the same thing as (2) a government with macroeconomic interventions. Fascism in general had these common characteristics, though not all regimes at all times:

(1) Authoritarianism and abolition of democracy;
(2) Use of violence and terror against perceived enemies in ways violating the rule of law;
(3) Extreme nationalism;
(4) Racism and racist oppression of certain minorities;
(5) Militarism.
(6) Sometimes (though not always) a higher degree of economic intervention than the regimes that preceded them.

The mixed economies after WWII have had “a higher degree of economic intervention than the regimes that preceded them,” but the belief that mixed economies are therefore “fascist” is lazy, unsound fallacious reasoning.

Libertarians rob the word “fascism” of meaning, insulting its victims, and failing to take account of the authoritarian, violent, militaristic nature of fascism and its history of war crimes and mass murder.

Calling for macroeconomic interventions to stabilise an economy is in no sense calling for fascism, nor can one claim that a modern Keynesian state is “fascist” merely on account of one trait: some degree of state intervention in the economy.

The fallacy involved here is arguably an insidious form of the fallacy of composition and hasty generalization, and it is easily illustrated. Augusto Pinochet would have called himself a supporter of the “free market” – and indeed he implemented a Friedmanite neoliberal program. Yet he ran Chile as a right wing military dictatorship. By using the same general type of contemptibly stupid libertarian illogic, we can now declare the following

(1) A communist state has nationalised industry;
(2) Augusto Pinochet’s Chile (1973–1990) had a nationalised industry called CODELCO (National Copper Corporation of Chile);
(3) Therefore Augusto Pinochet’s dictatorship was communist.

The error here is that something that is true of a part is not necessarily true of the whole: there is similarity between communism and Augusto Pinochet’s dictatorship in that both had at least one nationalized industry; but just because Augusto Pinochet’s regime had a nationalised copper company does not mean it was communist.

The charge that Keynesianism must be fascist, merely because both a Keynesian system and fascism have some degree of government economic intervention is just as illogical and unsound.

(2) Moreover, it is not even true that fascism had one, consistent universal economic system. There was diversity within fascist economics and at least two fascist states were essentially laissez faire on economics, as follows:

(1) Mussolini originally pursued standard neoclassical laissez faire policies:

“From 1922 to 1925, Mussolini’s regime pursued a laissez-faire economic policy under the liberal finance minister Alberto De Stefani. De Stefani reduced taxes, regulations, and trade restrictions and allowed businesses to compete with one another. But his opposition to protectionism and business subsidies alienated some industrial leaders, and De Stefani was eventually forced to resign.”
Sheldon Richman, “Fascism,” Concise Encyclopedia of Economics
http://www.econlib.org/library/Enc1/Fascism.html

(2) The Austro-fascism party of the Dollfuss and Schuschnigg regime in Austria pursued deflationary, neoclassical policies to a considerable extent:

“In tackling the economic crisis the Dollfuss-Schuschnigg dictatorship pursued harsh deflationary policies designed to balance the budget and stabilize the currency. The government’s program featured severe spending cuts, high interest rates, and frozen wages. ... In a sense the Christian Corporative regime demonstrated the viability of the Austrian state, but it did so at the cost of alienating a majority of the Austrian people. On the eve of Anschluss a third of the population was still out of work, while those fortunate enough to have jobs were bringing home paychecks considerably smaller than before the Great War.” (Bukey 2000: 17).

The laissez faire traits of Austro-fascism should came as no surprise when we realise that none other than Ludwig von Mises was an economic adviser of the Austro-fascist dictators.

Engelbert Dollfuss had been a member of the Austrian Christian Social Party, and became Chancellor of Austrian in 1932. In March 1933, Dollfuss took advantage of the political turmoil in the Austrian parliament, effectively abolished democracy, and established an authoritarian regime. While Dollfuss was an opponent of the Austrian branch of the Nazi party (the Austrian National Socialists or DNSAP), he banned other political parties and established his own peculiar fascist political alliance called the “Patriotic Front” (Vaterländische Front), which included the Christian Social Party and other nationalists and conservatives. Dollfuss was assassinated in July 25, 1934 by Austrian Nazis, but was succeeded by Kurt Schuschnigg, who was Chancellor from July 1934 to the Anschluss in March 1938.

Around March 1934, Mises moved to Geneva, Switzerland, where he taught at the Graduate Institute of International Studies. However, he continued to visit Austria in subsequent years, and still worked part time for the Vienna Chamber of Commerce (Hülsmann 2007: 684). Before 1934 Mises had become an adviser to Dollfuss (see Hans-Hermann Hoppe, “The Meaning of the Mises Papers,” Mises.org, April 1997).

Even as late as autumn 1937 Mises considered returning to Austria to work for the Austrian Chamber of Commerce full time (Hülsmann 2007: 723), and only finally fled Austria permanently on one of his regular visits in March 1938 before the Nazi takeover. Hans-Hermann Hoppe, one of the Austrian apologists for Mises, tells us, quite shamelessly, that Mises was a close adviser of Dollfuss:

“Engelbert Dollfuss, the Austrian Chancellor who tried to prevent the Nazis from taking over Austria. During this period Mises was chief economist for the Austrian Chamber of Commerce. Before Dollfuss was murdered for his politics, Mises was one of his closest advisers.”
Hans-Hermann Hoppe, “The Meaning of the Mises Papers,” Mises.org, April 1997
http://mises.org/freemarket_detail.aspx?control=137

Can you imagine what Austrians would say if Keynes had been “one of [the] ... closest advisers” of some fascist dictator?

But I will leave open the question of to what extent Mises was advising Dolfuss to undertake the actual polices he implemented.

But we can also quote from J. G. Hülsmann’s biography of Mises:

“Mises later said that it was the growing power of the Nazi party in Austria that prompted him to leave the country. With this remark, he did not refer to the government of Engelbert Dollfuss, which had reintroduced authoritarian corporatism into Austrian politics to resist the socialism of both the Marxist and the Nazi variety. Mises meant the Austrian branch of the National Socialist German Workers Party, which enjoyed strong backing from Berlin and fought a daily battle to conquer the streets of Vienna. Dollfuss’s authoritarian policies were in his view only a quick fix to safeguard Austria’s independence—unsuitable in the long run, especially if the general political mentality did not change” (Hülsmann 2007: 683–684).

Now if you think that fascism is a “quick fix” for your country, despite opposing it on other occasions and later in life, it is clear your attitude is ambiguous, at say the least.

If correct, then Mises saw Dollfuss’s fascism in much the same way as Mussolini’s fascism: as an “emergency makeshift.” This is completely consistent with Mises’s praise of Mussolini’s fascist regime in 1927 and fascism as a general movement in
Liberalism: A Socio-Economic Exposition (2nd edn; 1978 [1927] trans. R. Raico):

“So much for the domestic policy of Fascism. That its foreign policy, based as it is on the avowed principle of force in international relations, cannot fail to give rise to an endless series of wars that must destroy all of modern civilization requires no further discussion. To maintain and further raise our present level of economic development, peace among nations must be assured. But they cannot live together in peace if the basic tenet of the ideology by which they are governed is the belief that one's own nation can secure its place in the community of nations by force alone.

It cannot be denied that Fascism and similar movements aiming at the establishment of dictatorships are full of the best intentions and that their intervention has, for the moment, saved European civilization. The merit that Fascism has thereby won for itself will live on eternally in history. But though its policy has brought salvation for the moment, it is not of the kind which could promise continued success. Fascism was an emergency makeshift. To view it as something more would be a fatal error” (Mises 1978: 51).

A final point: there is absolutely no contradiction in saying that

(1) Mises in other places and later in life opposed fascism and
(2) here in Liberalism: A Socio-Economic Exposition (2nd edn; 1978 [1927] trans. R. Raico) heaped the most vile praise on Mussolini’s fascism.

And Mises wrote this in 1927, years after Mussolini took power in 1922, when the dictator had been using violence and coercion to maintain his rule, long after any threat from communism (real or imagined) had been dealt with.


MY POSTS ON MISES AND FASCISM

For further reading, see here:

“Mises on Fascism in 1927: An Embarrassment,” October 27, 2010.

“Keynes’s Opinion of Communism and Marxism,” August 22, 2011.

“Mises the Hypocrite: When Reality Trumps Praxeology,” March 8, 2011.

“Keynes’s Remarks in the German Edition of the General Theory,” June 7, 2011.

APPENDIX: FASCISM IN EUROPE
These are the major fascist regimes in Europe in the 1920s and 1930s:

(1) Italy under Mussolini from 1922.

(2) Austria under Dollfuss (who began ruling by decree in 1933).

(3) Spain under the Falange (formed in 1933), began fighting in 1936;

(4) Portugal under Antonio Salazar from 1933.

(5) Germany under the Nazi party. Hitler became Chancellor in 1933.

(6) Hungary under the Scythe Cross (formed 1931): in 1932 Gyula Gombos, a fascist, became Prime minister.

A full understanding of the economics of fascism would require a careful examination of the economics of all these fascist nations. As we have seen, at least two of them pursued laissez faire: Austria and Italy (at least in the early part of the regime).

BIBLIOGRAPHY

Bukey, Evan Burr. 2000. Hitler’s Austria: Popular Sentiment in the Nazi Era, 1938-1945, University of North Carolina Press.

Hoppe, Hans Hermann. 1997. “The Meaning of the Mises Papers,” Mises.org, April.
http://mises.org/freemarket_detail.aspx?control=137

Hülsmann, J. G. 2007. Mises: The Last Knight of Liberalism, Ludwig von Mises Institute, Auburn, Ala.

Mises, L. von, 1927. Liberalismus, G. Fischer, Jena.

Mises, L. von, 1978. Liberalism: A Socio-Economic Exposition (2nd edn; trans. R. Raico), Sheed Andrews and McMeel, Mission, Kansas.

Catalán on the Wicksellian Natural Rate of Interest

I direct readers again to the ever interesting Jonathan Finegold Catalán, and his new post on the Wicksellian natural rate of interest and how Mises abandoned it:

Jonathan Finegold Catalán, “Malinvestment and Interest,” Economic Thought, 18 May, 2012.

Two points:

(1) At the end of his post, Catalán asserts:

“This does not mean that rate of interest is unimportant; just that Austrian capital theory does not hinge on the concept of a “natural rate of interest.”

Well, Austrian capital theory might not, but what about the Austrian business cycle theory (ABCT)? For Roger Garrison, the leading modern exponent of ABCT, uses the concept called a “market-clearing or equilibrium rate,” and he appears to mean by it the natural rate of Hayek:

“The supply and demand for loanable funds … identify a market-clearing, or equilibrium, rate of interest ..., at which saving (S) and investment (I) are brought into equality.” (Garrison 2000: 39).

On that same page in Time and Money: The Macroeconomics of Capital Structure (2000), Garrison makes it clear that this rate is essentially the Wicksellian rate causing intertemporal equilibrium or dis-equilibrium.

One can also read Garrison’s “Natural and Neutral Rates of Interest in Theory and Policy Formulation”:

“So named by Swedish economist Knut Wicksell, the natural rate of interest is the rate that reflects the underlying real factors. .... the natural rate guides the economy along a sustainable growth path. That is, governed by the natural rate, unconsumed current output (real saving) is used for augmenting the economy’s productive capacity in ways that are consistent with people’s willingness to postpone consumption. In the hands of the Austrian economists, the natural rate became the rate that reflects the time preferences of market participants and allocates resources among the temporally defined stages of production. The output of one stage serves as input to the next in this logical and broadly descriptive representation of the economy’s production process. The temporal dimension of the economy’s capital structure is a key macroeconomic variable in Austrian theory. .... In summary terms, the natural rate is seen as an equilibrating rate. It is the rate that tells the truth about the availability of resources for meeting present and future consumer demands, allowing production plans to be kept in line with the preferred pattern of consumption. By implication, an unnatural, or artificial, rate of interest is a rate that reflects some extra-market influence and that creates a disconnection between intertemporal consumption preferences and intertemporal production plans” (Garrison 2006: 58–59).

What are we to make of an Austrian theory whose leading theorist still embraces a non-existent, Wicksellian natural rate?

(2) Catalán asserts:

“... the crucial aspect of Austrian capital theory is not the derivation of the rate of interest but, in Sraffian terms, the inducement of severe intertemporal resource misallocation. The underlining requirement for Austrian business cycle — and this is clear even in Hayek’s Prices and Production — is an increase in the stock of money representing savings and the distribution of this money to entrepreneurs. This is why, in Human Action, Mises gives more weight to fiduciary expansion than the rate of interest.”

But what happens when the economy is in a state of idle capital goods, mass unemployment and idle resources? But then the following logically follows:

“In the British situation of 1932, Hayek and his friends rejected the proposals of Keynes and some non-Keynesian British economists – that at the bottom of the depression the government should take certain steps, and so on. Hayek has now realised that that was wrong. That is to say, I think Austrians today would not reject all measures to relieve unemployment and increase employment, in a situation in which nothing really is scarce. And in this respect I think Austrians … would have … have ... learned.”

Click on the link to see what horrible enemy of freedom said this, or go here or here and read more (hint: it wasn’t Paul Krugman!).

When Catalán states that “Mises gives more weight to fiduciary expansion than the rate of interest,” then presumably fiduciary expansion is also a more important cause of an Austrian business cycle (ABC) than the interest rate. Clearly, this requires that fiduciary expansion is a sufficient cause for an ABC.

Does this not contradict Catalán’s earlier post? We are supposed to believe that a free banking system would avoid over-expansion of credit, but, as I have shown here, a real world case that approximates the free bankers’ utopia – Australia in the 19th century – does not support their idea at all.

BIBLIOGRAPHY

Garrison, R. W. 2000. Time and Money: The Macroeconomics of Capital Structure, Routledge, London and New York.

Garrison, R. W. 2006. “Natural and Neutral Rates of Interest in Theory and Policy Formulation,” Quarterly Journal of Austrian Economics 9.4: 57–68.

A Tale of Two Depressions: 1930s and 1890s Australia

This is a quick follow up to my post on free banking in Australia.

According to the GDP estimates of Noel G. Butlin, Australia in the early 1890s suffered a depression in the aftermath of the collapse of its huge property and financial asset bubble:

Angus Maddison’s Estimates of Australian Real GDP from Butlin (millions of 1990 international Geary-Khamis dollars)
Year | GDP | Growth Rate
1888 | $14,685
1889 | $15,953 | 8.64%
1890 | $15,402 | -3.45%
1891 | $16,586 | 7.69%
1892 | $14,547 | -12.29%
1893 | $13,748 | -5.49%
1894 | $14,217 | 3.41%
1895 | $13,418 | -5.62%
1896 | $14,437 | 7.59%
1897 | $13,638 | -5.53%
1898 | $15,760 | 15.56%
1899 | $15,760 | 0%
1900 | $16,697 | 5.95%
(Maddison 2006: 452).

The moderate recession began in 1890, there was a brief recovery in 1891, but a full-blown depression from 1892 (that is, a period of real GNP/GDP contraction of 10% or more), which continued into 1893. From 1891 to 1893, GDP fell by a shocking 17.11%. From its height in 1889, it plunged by 13.82% by 1893.

How does this compare with Australia’s experience of the Great Depression in the 1930s?

Let’s see:

Angus Maddison’s Estimates of Australian Real GDP from Butlin (millions of 1990 international Geary-Khamis dollars)
Year | GDP | Growth Rate
1927 | $34,716
1928 | $34,164 | -1.59%
1929 | $33,834 | -0.96%
1930 | $32,181 | -4.88%
1931 | $32,720 | 1.67%
1932 | $31,878 | -2.57%
1933 | $33,696 | 5.70%
1934 | $34,991 | 3.84%
1935 | $36,424 | 4.09%
1936 | $38,160 | 4.76%
1937 | $40,336 | 5.70%
1938 | $40,639 | 0.75%
(Maddison 2006: 452).

It appears that a recession already began in Australia in 1928 (this was bad timing), and then the Australian economy was hit by the effects of global Great Depression in 1929. From 1928 to 1930, the Australian economy contracted by 7.30%. There was a brief recovery in 1931, but a further recession in 1932.

These data can be compared:

(1) from 1891 to 1893, under a free banking system, Australian GDP fell by 17.11%. From 1889, it plunged by 13.82% by 1893 (despite the recovery in 1891).

(2) from 1928 to 1930 the Australian economy contracted by 7.30%. Even if one looks at the overall fall from 1927 GDP to 1932 GDP, that fall was 8.17%. Therefore the title of my post is a bit misleading: for the real output contraction of the 1930s did not technically qualify as a depression, just a very severe recession (see here for formal definitions of the terms “recession” and “depression”).

The conclusion is clear as can be: the Australian debt deflationary depression in the early 1890s under a free banking system was worse than its Great Depression of the 1930s!

So much for the superiority of free banking.


APPENDIX: WHY SHOULD BUTLIN’S ESTIMATES BE PREFERRED?

Let me repeat Angus Maddison’s assessment of Bryan Haig’s (2001) revised figures of Australian GDP for 1860–1911, and why Butlin’s are very probably better. Angus Maddison points out the following:

(1) for 1860–1911 Haig has no quantitative measure of 70% of GDP (Maddison 2006: 453);

(2) Haig described the estimating procedure he used in but five pages, but Butlin provided his in 200 pages (Maddison 2006: 453);

(3) Butlin provided data for more states than Haig did: Haig used data from Victoria and New South Wales to fill in gaps for overall Australian estimates (Maddison 2006: 453).

(4) one of Haig’s fundamental objections to Butlin’s estimates was that they conflicted with traditional interpretations of Australian economic history: but this is just an unreasonable a priori objection. As Maddison says in reply to this, “it is up to those who disagree with Butlin to prove him wrong” (Maddison 2006: 451).

All in all, I do not see any reason to think Haig’s estimates are to be preferred.

BIBLIOGRAPHY

Butlin, Noel G. 1962. Australian Domestic Product, Investment and Foreign Borrowing 1861–1938/39, Cambridge University Press, Cambridge.

Haig, Bryan. 2001. “New Estimates of Australian GDP: 1861-1948/49,” Australian Economic History Review 41.1 (March): 1-34.

Maddison, Angus. 2006. The World Economy: Volume 1: A Millennial Perspective and Volume 2: Historical Statistics, OECD Publishing, Paris.

Free Banking in Australia

This post is partly by way of response to Jonathan Finegold Catalán here (“Fiduciary Cycles,” Economic Thought, 14 May, 2012), though it will not be my only response.

The issue I want to raise here is this: what is the empirical evidence about systems that approximate the free banking ideal? I use the word “approximate” because obviously there is no real world example of a system that is a perfect example of the free bankers’ utopia. There are some approximations, and Australia in the late 19th century is one of them.

Although Australian banking supervision was originally done by the British Treasury, from 1846 all the Australian colonies (except Western Australia) received banking autonomy, and then from 1862 the British Treasury no longer exercised this responsibility, which passed to each colonial government. These colonial governments (or state governments as they are called in Australia) did very little to regulate banks. Under the Colonial Bank Regulations of 1840, Australian banks already had limited liability. But, unless one wants to argue that limited liability is anti-market, this was no anti-market measure.

And even the basic earlier regulations were not even followed to any great degree: the restriction on banks with regard to advances on real estate was circumvented by the 1850s by legal tricks, and in Victoria the regulation was abolished in 1888 (Hickson and Turner 2002: 154).

By the 1860s, the Australian banking system had these characteristics:

(1) a gold standard (usually dated from 1852 [Bordo 1999: 327] with a branch of the British mint established in Sydney in 1855);
(2) no central bank;
(3) no capital controls;
(4) few legal barriers to entry;
(5) no branching restrictions;
(6) no credible restrictions on assets, liabilities or bank capital;
(7) no legally established price controls;
(8) no government-provided deposit guarantees.

What happened?

One obvious factor that a free banking system will never control is the speculative inflows and outflows of capital that any country experiences: by this factor alone there will always be the possibility of rapid inflation of the commodity money base, which will allow a surge in credit. This happened in Australia’s case: there was a surge of capital inflows in 1881–1885 and a flood in 1886–1890 (Hickson and Turner 2002: 149).

There is a real paradox here: the free bankers, much like the Austrians, make a fetish of free markets. For them only unrestricted capital movements are consistent with economic freedom, but it is this very trait that means that any free banking system will be subject to exogenous factors that cause its capital inflows and outflows to fluctuate. This is the Achilles’s heel, so to speak.

There is no reason in theory why a free banking system overflowing with foreign capital could not experience a credit boom.

Secondly, with no prudential regulation there is nothing to stop banks from

(1) lowering lending standards (leaving the bank with loans that default), and
(2) buying the latest trendy, poor quality assets which will be held on their books, only to collapse in value later.

And why would a free banking system not get caught up in the speculative frenzies when people and banks think they can make money quickly on rising asset prices?

This is precisely what happened in the case of Australia: banks started directing credit to property speculators and to those purchasing what were called “pastoral securities” (Hickson and Turner 2002: 159). A new class of companies appeared that specialised in property and stock market speculation, as well as building societies and land development companies, and they obtained credit from the banks for this purpose (Hickson and Turner 2002: 159).

The speculative boom in the prices of real estate and stocks of land, land finance and mining companies reached its apogee in 1888, but terminated in October of that year (Hickson and Turner 2002: 148).

From 1891 to March 1892, 41 deposit-taking building or land finance companies failed in Melbourne and Sydney (Hickson and Turner 2002: 148). The full force of the banking crisis did not hit until after 30 January 1893 when the Federal Bank failed. From April, when the Commercial Bank of Australia was hit by the crisis, there was a major panic, and by 17 May some 11 commercial banks had been suspended, with runs on many others (Hickson and Turner 2002: 149).

There existed an organisation of private banks called “The Associated Banks of Victoria” that supposedly existed partly to co-ordinate the activities of banks. Free bankers think such associations will engage in self-regulation and provide a lender of last resort function in times of panic.

This is not what happened in the Australian case: in January 1893 the Federal Bank failed and it was a member of the Associated Banks association, and then the Commercial Bank of Australia failed without any help forthcoming.

What is ridiculous here are the excuses offered by free market apologists: they contend that the Victorian Treasurer’s attempts to force the Associated Banks to provide assistance to smaller bankers and the bank holiday introduced by the Victorian government in early 1893 exacerbated the crisis. Yet the full scale panic had already begun in April 1893, before these actions. None of these actions had anything to do with the creation of the asset bubbles in the first place, which had occurred in the previous decade of the 1880s. There had already been a credit boom in the decade before 1893.

From April 1893, there were a number of limited interventions some colonial governments undertook: some banks that suspended were allowed to engage in reconstruction (conversion of deposits into preference shares, changing short-term deposits into long-term fixed deposits and the issuing of new shares to obtain capital).

In Victoria, the state government declared a 5 day bank holiday on Monday, 1 May 1893, which is adduced by some as a move that made matters worse. However, what is not said is that history ran an experiment for us in 1893: the Victorian government did very little to stop the crisis in the way of interventions to save the financial system in addition to its bank holiday. In contrast, the New South Wales government took quite different action.

In New South Wales, the government made the bank notes of the major banks – the Bank of Australasia, Bank of New South Wales, City Bank of Sydney and Union Bank – legal tender, and announced that it was willing to act as a lender of last resort (on 21 April 1893). This restored confidence to the financial sector in New South Wales to such an extent that the crisis ended in a couple of days here (Hickson and Turner 2002: 165).

The government of Victoria failed to intervene in the way the New South Wales government did, and the result was clear: in Victoria there was a deep crisis and in New South Wales the crisis was largely avoided.

Victoria was a large part of the Australian economy, so it was only natural that the financial crisis exacerbated a recession in these years. In fact, the familiar pattern of debt deflationary disaster had already hit the Australian economy in 1890, after the asset bubble collapse and deleveraging of the over-indebted private sector:

“In Australia, GDP fell for four years running, from 1890 through 1893 ... Unemployment rose sharply. Immigration slowed and tentatively reversed direction. Social disorder spread, led by protesting sheep shearers, dock workers, and miners. Post-1893 recovery, if it may be called that, was slow and uneven” (Adalet and Eichengreen 2007: 233).

As always, when we are dealing with 19th century GDP, we can only ever have estimates.

One estimate is that real GDP fell by around 10% in 1892 (Kent 2011), and by 7% in 1893, and deflation occurred from 1891 to 1897. Angus Maddison has made the following estimates:

Year | GDP
1888 | $14,685
1889 | $15,953 | 8.64%
1890 | $15,402 | -3.45%
1891 | $16,586 | 7.69%
1892 | $14,547 | -12.29%
1893 | $13,748 | -5.49%
(Maddison 2006: 452).

On these figures, a moderate recession began in 1890, a recovery occurred in 1891, but this did not last and a real, technical depression (that is, a period of real GNP/GDP contraction of 10% or more) hit Australia in 1892, which continued into 1893.

After 1893, there was uneven growth, with actual recessions in 1895 and 1897, and the economy was mired in what we can call a chronic underemployment disequilibrium, just as many countries were in the 1930s.


APPENDIX: ESTIMATES OF AUSTRALIAN GDP IN THE 1890s

There exist three modern estimates of Australian GDP in the 19th century, as follows:

(1) The figures of Noel G. Butlin, Australian Domestic Product, Investment and Foreign Borrowing 1861–1938/39 (Cambridge University Press, Cambridge, 1962), p. 460ff., with some amendments in Noel G. Butlin, Investment in Australian Economic Development, 1861–1900 (Cambridge University Press, Cambridge, 1964), p. 453.

(2) the revised lower estimates of Bryan Haig, “New Estimates of Australian GDP: 1861-1948/49,” Australian Economic History Review 41.1 (March, 2001): 1–34.

(3) adjusted figures for both (1) and (2) by Angus Maddison, The World Economy, Volumes 1–2 (OECD, 2006), p. 452, but using the estimates of Butlin (1962) and Haig (2001).

The data from Angus Maddison are below:

I. Angus Maddison’s Estimates of Australian Real GDP from Butlin (millions of 1990 international Geary-Khamis dollars)

Year | GDP | Growth Rate
1888 | $14,685
1889 | $15,953 | 8.64%
1890 | $15,402 | -3.45%
1891 | $16,586 | 7.69%
1892 | $14,547 | -12.29%
1893 | $13,748 | -5.49%
1894 | $14,217 | 3.41%
1895 | $13,418 | -5.62%
1896 | $14,437 | 7.59%
1897 | $13,638 | -5.53%
1898 | $15,760 | 15.56%
1899 | $15,760 | 0%
1900 | $16,697 | 5.95%
(Maddison 2006: 452).

It is interesting how these show further moderately bad recessions in 1895 and 1897 with stagnation (no growth) in 1899.

II. Angus Maddison’s Estimates of Australian Real GDP from Haig (millions of 1990 international Geary-Khamis dollars)

Year | GDP | Growth Rate
1888 | $12,546
1889 | $13,702 | 9.21%
1890 | $13,772 | 0.511%
1891 | $13,890 | 0.857%
1892 | $13,640 | -1.8%
1893 | $13,663 | 0.17%
1894 | $13,819 | 1.14%
1895 | $14,015 | 1.42%
1896 | $14,288 | 1.95%
1897 | $15,147 | 6.01%
1898 | $15,749 | 3.97%
1899 | $16,592 | 5.35%
1900 | $17,186 | 3.58%
(Maddison 2006: 452).

For comparison, here are the figures directly from Haig (2001) in millions of pounds in 1891 prices:

Year | GDP | Growth Rate
1889 | 175.4
1890 | 176.3 | 0.51%
1891 | 177.8 | 0.85%
1892 | 174.6 | -1.79%
1893 | 174.9 | 0.17%
(Haig 2001: 29).

We have agreement here on the growth rates calculated from Angus Maddison’s adjusted citation of them.

On Bryan Haig’s revised figures, there was

(1) very low growth in 1890–1891,
(2) a mild recession in 1892, and
(3) essentially stagnation in 1893 (with a growth rate of 0.17%).

Even these figures confirm that something had gone wrong in the Australian economy in these years, even if they are quite different from Butlin (1962).

Moreover, there are problems with Haig’s estimates. Angus Maddison’s assessment of Bryan Haig’s revised figures for 1860–1911 demonstrates to me that they are not necessarily better than those of Butlin at all. Angus Maddison points out the following:

(1) for 1860–1911 Haig has no quantitative measure of 70% of GDP (Maddison 2006: 453);

(2) Haig described the estimating procedure he used in but five pages, but Butlin provided his in 200 pages (Maddison 2006: 453);

(3) Butlin provided data for more states than Haig did: Haig used data from Victoria and New South Wales to fill in gaps for overall Australian estimates (Maddison 2006: 453).

(4) one of Haig’s fundamental objections to Butlin’s estimates was that they conflicted with traditional interpretations of Australian economic history: but this is just an unreasonable a priori objection. As Maddison says in reply to this, “it is up to those who disagree with Butlin to prove him wrong” (Maddison 2006: 451).

All in all, I do not see any reason to think Haig’s estimates are to be preferred.


BIBLIOGRAPHY

Adalet, M. and B. Eichengreen. 2007. “Current Account Reversals: Always a Problem?,” in R. H. Clarida (ed.), G7 Current Account Imbalances: Sustainability and Adjustment, University of Chicago Press, Chicago. 205–246.

Bordo, Michael D. 1999. The Gold Standard and Related Regimes, Cambridge University Press, Cambridge.

Butlin, Noel G. 1962. Australian Domestic Product, Investment and Foreign Borrowing 1861–1938/39, Cambridge University Press, Cambridge.

Butlin, Noel G. 1964. Investment in Australian Economic Development, 1861-1900, Cambridge University Press, Cambridge.

Dowd, Kevin. 1992. “Free Banking in Australia,” in K. Dowd (ed.), The Experience of Free Banking, Routledge, London.

Haig, Bryan. 2001. “New Estimates of Australian GDP: 1861-1948/49,” Australian Economic History Review 41.1 (March): 1-34.

Hickson, C. R. and J. D. Turner. 2002. “Free Banking Gone Awry: The Australian Banking Crisis of 1893,” Financial History Review 9: 147–167.

Kent, C. J. 2011. “Two Depressions, One Banking Collapse: Lessons from Australia,” Journal of Financial Stability 7.3: 126–137.

Maddison, Angus. 2006. The World Economy: Volume 1: A Millennial Perspective and Volume 2: Historical Statistics, OECD Publishing, Paris.

Merrett, David T. 1989. “Australian Banking Practice and the Crisis of 1893,” Australian Economic History Review 29.1: 60–85.

Merrett, David T. 1993. “Preventing Bank Failure: Could the Commercial Bank of Australia have been saved by its Peers in 1893?,” Victorian Historical Journal 64.2: 122–142.

Pope, D. 1989. “Free Banking in Australia Before World War I,” Australian National University, Working Papers in Economic History, Working Paper No. 129.