Thursday, March 12, 2009

Why Did the Great Depression Last So Long?

Why did the Great Depression last as long as it did? This has been a subject of media discussion this month, with some well-funded efforts to try to pin the blame on one policy or another of the Roosevelt administration.

There is just one flaw with that line of thinking. The premise of the question, that the Great Depression was an economic decline that lasted a terribly long time, is not really true. The profile of the Great Depression can be seen in stark, bold lines if you look at the employment numbers. Starting with the Great Crash in 1929, employment fell sharply, rather like it is doing now, but for four consecutive years. This contraction was caused by the stock market crash, the associated problems in banking, and the resulting general loss of confidence and was extended by unfortunate policy decisions that focused on trying to hold the economy together rather than moving forward. The policy approach was generally like the strategy coming from the White House these past seven months. Imagine that kind of approach continuing for four years, and it is easy to see how much economic harm it could do.

Then, with a change in government policy starting in 1933, employment began to grow again, and it grew robustly, year after year. The reason the growth seemed slow at the time, and might seem slow when you look back at it, was that it took about eight years just to expand the economy to the level it had reached before its four-year slide. But really, the economy was probably expanding as fast as could reasonably be expected.

You would hope that, after a precipitous decline, an economy could quickly return to the degree of activity it enjoyed before the decline, but there does not seem to be any basis for that hope. Aside from the snap-back recovery that follows a more mild recession, which I wrote about two days ago, there seems to be a hard limit on how fast a free-market economy can expand. The U.S. economy has never expanded as fast as it is currently contracting. Employers are not reserving empty desks in order to rehire the employees who have just been laid off, so there is no reason to hope for the economy to bounce back next year. But if the best we can hope for next year and in the years following is a normal expansion, it will take at least two years just to recover from the economic decline of the last seven months — and perhaps two years more to recover from the additional decline that may occur in the remainder of this year. With the population expanding, it will take two or three additional years to add enough jobs for unemployment to fall to the levels of two years ago.

And that, I am afraid, is the best case history has to offer for our current situation. Perhaps there are ways to make the economy grow faster, but the usual Washington gimmicks, such as investment tax credits and special tax rates and incentives for business corporations and the billionaire-investor class, have been tried in the past to little good effect, so there is no reason to hope they will help now. It will take a new kind of thinking and a new kind of action to make the economy grow faster. I am not sure what that might look like, but considering what is at stake right now, it is worth taking some time to try to imagine what might be done to make the coming economic expansion happen a little faster and start a little sooner.