Sunday, December 28, 2014

Rothbard on the Recovery from the US Recession of 1920–1921

Rothbard’s comments are interesting because what he said seems to have been forgotten by modern Austrians:
“As early as 1915 and 1916, various Board Governors had urged banks to discount from the Federal Reserve and extend credit, and Comptroller John Skelton Williams urged farmers to borrow and hold their crops for a higher price. This policy was continued in full force after the war. The inflation of the 1920s began, in fact, with an announcement by the Federal Reserve Board (FRB) in July, 1921, that it would extend further credits for harvesting and marketing in whatever amounts were legitimately required. And, beginning in 1921, Secretary of Treasury Andrew Mellon was privately urging the Fed that business be stimulated, and discount rates reduced; the records indicate that his advice was heeded to the full.” (Rothbard 2008: 121).
Rothbard refers here to Federal Reserve discount rate policy. At the beginning of 1921 the discount rates of the Federal Reserve banks were either 6% or 7% (data in Discount Rates of the Federal Reserve Banks 1914–1921, 1922). In May, a number of regional Federal Reserve banks began lowering discount rates from 7% to 6.5%. Then in July a number of rates were cut from 6% to 5.5%, and to 4.5% to 5% by the end of the year. The recovery from the recession is usually dated to July 1921, so that first discount rate cuts did indeed precede the recovery.

The libertarians claim that these rate cuts did not necessarily create loose monetary policy or easy money, but most probably the rate cuts beginning in May 1921 had a great influence on the economy by way of expectations and business confidence: first, by signalling that the punishingly high discount rate policy had come to an end, and secondly by helping to create confidence and expectations of continuing rate cuts and looser monetary policy in the future, as indeed did happen.

Then Rothbard refers to the open market operations of late 1921 to 1922:
“Member bank reserves increased during the 1920s largely in three great surges—one in 1922, one in 1924, and the third in the latter half of 1927. In each of these surges, Federal Reserve purchases of government securities played a leading role. ‘Open-market’ purchases and sales of government securities only emerged as a crucial factor in Federal Reserve monetary control during the 1920s. The process began when the Federal Reserve tripled its stock of government securities from November, 1921, to June, 1922 (its holdings totaling $193 million at the end of October, and $603 million at the end of the following May). It did so not to make money easier and inflate the money supply, these relationships being little understood at the time, but simply in order to add to Federal Reserve earnings. The inflationary result of these purchases came as an unexpected consequence. It was a lesson that was appreciatively learned and used from then on.

If the Reserve authorities had been innocent of the consequences of their inflationary polity in 1922, they were not innocent of intent. For there is every evidence that the inflationary result was most welcome to the Federal Reserve. Inflation seemed justified as a means of promoting recovery from the 1920–1921 slump, to increase production and relieve unemployment.
Governor Adolph Miller, of the Federal Reserve Board, who staunchly opposed the later inflationary policies, defended the 1922 inflation in Congressional hearings. Typical of Federal Reserve opinion at this time was the subsequent apologia of Professor Reed, who complacently wrote that bank credit ‘was being productively employed and that goods were being prepared for the consumer at least as rapidly as his money income was expanding.’” (Rothbard 2008: 133–134).
Yet the modern libertarian spin on the recovery of 1921 is now that the monetary policy had no significant role in inducing a recovery. How times change.

Discount Rates of the Federal Reserve Banks 1914–1921, Government Printing Office, 1922.

Rothbard, Murray Newton. 2008. America’s Great Depression (5th edn.). Ludwig von Mises Institute, Auburn, Ala.

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