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Sunday, August 12, 2012 - Page updated at 07:30 p.m.
Comparing this era to Great Depression has parallels, pitfalls
By Jon Talton
Special to The Seattle Times
As the aftermath of the Great Recession drags on with slow growth and high unemployment, comparisons with the Great Depression remain tempting.
Author Richard Duncan titles his book "The New Depression." Nobel laureate economist and New York Times columnist Paul Krugman flatly calls this a depression. Brad DeLong, the University of California, Berkeley economist, terms it the "lesser depression."
Both events involved the collapse of a speculative bubble and market failure. But the differences are striking, too.
Back then, at the 1933 peak, a quarter of the workforce was unemployed. Gross domestic product contracted by 30 percent, major industries such as railroads saw revenues cut in half, and 40 percent of the nation's banks collapsed, leaving depositors with nothing.
Today, unemployment is 8.2 percent; other measures place it higher but nothing like in 1933.
GDP has rebounded and is now higher than ever, nearly $14 trillion. Corporate profits as a percentage of GDP are at a record. Private investment in equipment and software has also recovered and is headed back to pre-crash levels.
The big banks, as all taxpayers should know, are bigger than ever. The bank failures of our era didn't wipe out depositors, thanks to the federal deposit insurance put in place during the New Deal.
Back then, there was no federal safety net. The Federal Reserve, following the orthodoxy of the day, shrunk the money supply, turning a severe contraction into the Great Depression.
Now, the safety net, although frayed, prevented destitution. The central bank did whatever it took to prevent depression-causing deflation.
Also now, we face the rising costs and instability from climate change.
Two Great Depression echoes do confront us.
First is debt deflation, where individuals and companies are saddled with so much debt that it causes them to cut spending and borrowing.
This leads to lower demand, slowing the economy and, perversely, makes it more difficult to pay off debt.
Classic debt deflation defined the Depression. People unloaded assets at fire-sale discounts to pay debt.
The supply of property, stocks and commodities soon outstripped demand, depressing prices. A destructive cycle shrank bank deposits and destroyed confidence.
Yet the purchasing power of money rose in the panic, actually increasing the real debt owed. People could never get ahead.
Our situation is not as severe, yet. Still, America faces a huge overhang of private debt. For example, consumer debt sits at a near-record $2.57 trillion. It was less than $400 billion in 1980.
The ratio of debt to personal disposable income rose from 55 percent in 1960 to 65 percent in the 1980s. But it reached a record 133 percent in 2007, and most of that debt remains.
To be sure, the Fed prevented catastrophic deflation. But the fall in housing prices ruined many families, leaving them owing more on mortgages than their homes are worth.
Many more can't earn enough to put a serious dent in their credit obligations.
No wonder consumer demand, which drives 70 percent of the economy, has grown since 2008 at a meager inflation-adjusted annualized rate of 0.7 percent. It grew by only 1.5 percent in the second quarter of 2011.
In the decade before the recession, it averaged 3.6 percent a year.
Consumers are important job creators. Without their demand, businesses won't expand and hire.
A second parallel to the Great Depression is called a liquidity trap. Even though the Fed has pushed interest rates to near zero, that isn't causing the hoped-for burst of economic growth.
Such a liquidity trap happened after the Fed loosened credit in the 1930s and also figured prominently in Japan's "lost decade." It seems to be happening again.
I risk oversimplifying some wonky economic concepts, but their consequences are real and chilling.
Absent a major technological breakthrough that ramps up the economy, we face a long slog where unemployment at once-unthinkable levels is the norm, poverty rises, opportunity shrinks and demand remains depressed.
Companies have little incentive to expand, hire and take risks. Tax revenues remain lower even as needs remain high for government (which is adding to the problem by cutting jobs, something Ronald Reagan didn't do in the early 1980s).
What to do?
With borrowing costs so low and the world hungry for long-term U.S. government debt, Washington could finally embark on major public infrastructure projects.
These would boost employment, productivity and competitiveness, more than paying back what they cost.
But neither presidential candidate is advocating it. An obsession with the federal deficit rules the day, even though austerity has been discredited by experience in Europe — and in America in the 1930s.
Improving exports could also help. We should produce and sell to the world more than we consume. Neither candidate has produced a credible strategy to make that a reality.
So it's not just the economy that's depressed. So is our ability to make intelligent responses to the emergency.
You may reach Jon Talton at email@example.com. On Twitter @jontalton.
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