The cyclical patterns of economic expansions and depressions have long been accepted as natural of the capitalist business system. There is no boom without bust, and vice versa. Seen in history, identified by Marx as inherent of capitalism, and debated ad nauseam by various sects of economics, periodic depressions seem as inevitable as the cycle of life. Before the 1930s, the Conservative argument for ramification was generally accepted: the market left to itself corrects over time. The Great Depression, however, challenged this economic thought. If markets are truly self-correcting, why was the 25% unemployment rate so enduring?
Keynes and Government Intervention
With an unemployment rate of 25% that affected 65% of the labor force, corporate profits that declined by 89% (from $11 billion to $1.2 billion), and industrial production lowered by 45%, the Great Depression lives up to its name. In 1936, John Maynard Keynes published the General Theory of Employment, Interest, and Money, arguing that economies tend towards chronic stagnation, need active fiscal and monetary policy, and proposed a “New Economics” that rapidly became very popular. Keynes challenged the traditional laissez faire conservatism. He argued that government spending is necessary to create jobs through stimulus packages that raise aggregate demand. The idea of government intervention in economics has since become a topic of heated debate and the primary distinction between Liberalism and Conservatism. Suitably, Liberals and Conservatives differ in their understanding of the Great Depression.
Keynesian liberals see the Great Depression as proof of their ideas. The depression ended with Franklin D. Roosevelt’s “ABC” government agencies and massive federal spending for World War II. It was the stimulation of aggregate demand that pulled the economy back to its feet. In coherence with Marxist ideas, Keynesians believe that underconsumption leads to depressions. Capitalists seek to make profits, or surplus value, by combining highest possible prices with lowest possible costs of production and wages paid to workers. But as production efficiency increases and labor is exploited further, Capitalists produce more goods than can possibly be sold, settling off periodic depressions. Conflicting with Marxist beliefs, however, Keynesian liberals believe that period depressions are not inevitable, as we have the ability to rectify economic ills with governmental stimulus packages.
Under this liberal argument, Orthodox ideas were challenged. Pre-1930 conservatism hold four premises: 1) Say’s law, postulating that “Supply creates its own demand” in the long run, is correct, so overproduction and underproduction do not exist, 2) wages and prices adjust so that involuntary unemployment can be avoided, 3) interest rates adjust to allow businesses to obtain investments from private savings, and 4) the growth of the money supply determines price levels. Keynes, however, proposed an alternative analysis. Say’s law, he argued, is not automatic. If money is held rather than saved, businesses would not be able to obtain necessary investments, rendering overconsumption and underconsumption possible. Furthermore wages are not truly flexible and involuntary unemployment is possible because while waiting for business inventories to sell, businesses can keep prices up and lay off people. Finally, when businesses have overproduced, no difference in interest rates can stimulate them to produce more. Keynes argued that short-run business fluctuations are not self-adjusting as conservatives argue they are; unregulated business systems are volatile to permanent depressions like that of the 1930s.
A Conservative Interpretation
Conservatives, however, have an entirely different conclusion for the Great Depression. Rather than see the depression as verification of Keynes’ necessary governmental interference, Conservatives see the depression as evidence of dangerous government tampering. The Great Depression, which they believe would otherwise fix itself over time, was fixated by three regulatory mistakes: a tight money policy instituted by the Fed, the closing of the Bank of the United States in New York City, and the institution of the Smoot-Hawley Tariff Act.
In 1929, a business downturn was evident; a speculative bull market was getting out of control. Rather than deal with the crisis constructively, however, the Fed issued a tight monetary policy, raising the interest rates and discouraging business investments that would otherwise remedy the stock market crash. Some even go so far as to argue that the tight money policy initiated the crash. Moreover, in 1930, the Bank of the United States in New York City was closed. Panic set in and Americans rushed to cash out their savings. A liquidity crisis was formed and banks began to crash. Following the crashes, foreign countries started withdrawing their dollars for gold, and the Fed raised the interest rates again. Unable to borrow the cash needed to satisfy consumer demands, the higher interest rates closed even more banks. By then, the money supply had already decreased by 12% and a financial crisis was evident, yet the Smoot-Hawley Tariff Act deepened it further. Although the tariff protected American businesses from competition overseas, duties on imported goods made it nearly impossible to export American goods. All this, Conservatives argue, contributed to the endurance of the Great Depression, leading to the conclusion that government interference is dangerous and harmful.
The 1970s seem to be further proof of the Conservative mindset. Easy monetary policy, the Vietnam war, and LBJ’s Great Society spending programs continued to raise aggregate demand through the belief in governmental stimulus packages, and by the 1970s, stagflation (slow economic growth, inflation, and high unemployment rates) had ensued. Conservatives like to argue that the 70s’ stagflation is proof of Keynes’ errors, but the mistake is more political than it is academic. Keynesians believe in fine-tuning the economy, but expansionary economic policies were quickly grasped by politicians to be politically profitable. In 1946, Harry S. Truman signed into law the Public Law 340, which committed the government to stimulate economic growth, to lower unemployment rates, and to maintain stable price levels. “New Economics” was continued by John F. Kennedy and Lyndon B. Johnson. For years, aggregate demand was artificially stimulated, and short-run advantageous took hold over long-term unsustainability. Expansionary policies were continued indefinitely and fine-tuning took on new definitions. No boom can be achieved without a bust, but a contractionary policy is suicide for any politician (note Paul Volcker). Despite the inevitability of a larger and longer bust, expansionary policies continued to build until the stagflation of LBJ’s term. The cumulation of an expansionary policy lasting almost half a century that resulted in the downward spiral of the 70s has perhaps the political exploitation of, and not Keynes’ ideas themselves, to blame.
Although Conservatives like to credit Reaganomics for the recovery of the economy in the 80s, the restoration was likely achieved by the application of Liberal principles. Inflation was curbed by the Federal Reserve’s raising of interest rates, the economic boom was achieved through the tax cut of 1981 and enormous defense spending, and government stimulus packages can be seen in the tripling of the national debt to $3 trillion by 1990. An application of Keynesian principles had been applied without due credit nor adequate understanding from the Conservatives, and hailing the Reagan administration as the paradigm of Conservatism, George W. Bush issued the Economic Growth and Tax Relief Reconciliation Act of 2001 with tax cuts that primarily benefitted the wealthy. Since the 1990s, the wealth gap between the rich and poor has been increasing, with an increase of the national wealth going to the top 20% of households. Coupled with the 2001 attacks on the World Trade Center and the Pentagon, the economy spiraled downwards until Keynesian economics returned to remedy with expansionary fiscal and monetary policies.
Are Depressions Inevitable?
Conservatives believe depressions are self-rectifying, and Liberals think we can fine-tune them, but are depressions inevitable, and if so, why? Radicals like Karl Marx argued that the fluctuating economic cycles of expansion and depression are not natural law, but inherent of capitalism; the cycle of economic crises will only deepen and increase in frequency over time. The fundamental problem of capitalism and its fluctuating business cycles lies in overproduction and underconsumption, made inevitable by the drive to create profits and more efficient methods of labor. Furthermore, the gap between the rich and the poor is deepening with the increase in productivity adding not to the wages of the workers or reducing their work hours, but instead solely benefitting already wealthy capitalists. A Marxist interpretation of the modern state of affairs is that the government has become the stabilizing force through fiscal and monetary policy to realize surplus value; the government has become the mitigating force to our, perhaps inevitable, economic ills. Having popularized Keynes’ bigger government “New Economics,” the Great Depression left a legacy on economic thought. The Great Depression highlighted the nature of business cycles and led us to question the inevitability of depressions. It challenged the Conservatives’ mindset that government interference is not only helpful, but necessary to prevent the stagnant depression Marx has long warned us against.