Ambrose Evans-Pritchard, writing in The Telegraph, argues that it is starting to look like 1932 all over again. The Great Depression commenced with the market crash of 1929. After the initial shock--layoffs, unemployment, shut downs, stalled economic growth, and so forth--signs of economic recovery in the US and around the developed world, started to re-emerge. Then, due to bad central government policies put in place to "cope" with the effects of the Depression several years later, the real Depression hit in 1932.
We are not at all sure that the parallels between 1932 and 2010 run that close together--but the outcome may be the same.
Here are the arguments advanced by Evans-Pritchard:
"The economy is still in the gravitational pull of the Great Recession," said Robert Reich, former US labour secretary. "All the booster rockets for getting us beyond it are failing. Home sales are down. Retail sales are down. Factory orders in May suffered their biggest tumble since March of last year. So what are we doing about it? Less than nothing," he said.
California is tightening faster than Greece. State workers have seen a 14pc fall in earnings this year due to forced furloughs. Governor Arnold Schwarzenegger is cutting pay for 200,000 state workers to the minimum wage of $7.25 an hour to cover his $19bn (£15bn) deficit.
Can Illinois be far behind? The state has a deficit of $12bn and is $5bn in arrears to schools, nursing homes, child care centres, and prisons. "It is getting worse every single day," said state comptroller Daniel Hynes. "We are not paying bills for absolutely essential services. That is obscene."
Roughly a million Americans have dropped out of the jobs market altogether over the past two months. That is the only reason why the headline unemployment rate is not exploding to a post-war high. . . .
The share of the US working-age population with jobs in June actually fell from 58.7pc to 58.5pc. This is the real stress indicator. The ratio was 63pc three years ago. Eight million jobs have been lost. . . .
Washington's fiscal stimulus is draining away. It peaked in the first quarter, yet even then the economy eked out a growth rate of just 2.7pc. This compares with 5.1pc, 9.3pc, 8.1pc and 8.5pc in the four quarters coming off recession in the early 1980s.
The housing market is already crumbling as government props are pulled away. The expiry of homebuyers' tax credit led to a 30pc fall in the number of buyers signing contracts in May. "It is cataclysmic," said David Bloom from HSBC.
Federal tax rises are automatically baked into the pie. The Congressional Budget Office said fiscal policy will swing from a net +2pc of GDP to -2pc by late 2011. The states and counties may have to cut as much as $180bn.
Investors are starting to chew over the awful possibility that America's recovery will stall just as Asia hits the buffers. China's manufacturing index has been falling since January, with a downward lurch in June to 50.4, just above the break-even line of 50. Momentum seems to be flagging everywhere, whether in Australian building permits, Turkish exports, or Japanese industrial output.
On Friday, Jacques Cailloux from RBS put out a "double-dip alert" for Europe. "The risk is rising fast. Absent an effective policy intervention to tackle the debt crisis on the periphery over coming months, the European economy will double dip in 2011," he said.
It is obvious what that policy should be for Europe, America, and Japan. If budgets are to shrink in an orderly fashion over several years – as they must, to avoid sovereign debt spirals – then central banks will have to cushion the blow keeping monetary policy ultra-loose for as long it takes.
The Fed is already eyeing the printing press again. "It's appropriate to think about what we would do under a deflationary scenario," said Dennis Lockhart for the Atlanta Fed. His colleague Kevin Warsh said the pros and cons of purchasing more bonds should be subject to "strict scrutiny", a comment I took as confirmation that the Fed Board is arguing internally about QE2.
Perhaps naively, I still think central banks have the tools to head off disaster. The question is whether they will do so fast enough, or even whether they wish to resist the chorus of 1930s liquidation taking charge of the debate. Last week the Bank for International Settlements called for combined fiscal and monetary tightening, lending its great authority to the forces of debt-deflation and mass unemployment. If even the BIS has lost the plot, God help us.
The great mythology that has been passed down to us from the Great Depression era was that governments saved the day. In our case, however, it is government which has caused the problem. Government spending has increased across the Western world recklessly during the "good times". More government spending to stimulate economies under such conditions is useless, to say the least. Governments are now so large, and their deficits so big that additional government spending only serves to garrotte the private sector, not stimulate it.
If there is to be recovery, it will have to come from the private sector--as firms start to expand and hire again. In order to assist this, government will have to shrink (which will lead to much, much higher unemployment). But equally important is government withdrawal from rules, regulations, restrictions, and road-blocks to investment of private capital into business. Thirdly, and as important, government tax rates must drop like a stone.
The UK is doing it wrong. The new government appears to be resolute in cutting government spending and shrinking the size of government overall by starving the monster of fiscal food. It also has embarked on a campaign to cut government regulation and red tape. However, at the same time it is raising taxes--so it is also killing off the private sector. We endorse the view that in the midst of this crisis we should not worry about the fiscal deficit, provided we are running the right policy mix to expand the economy through private sector investment, enterprise, and energy. The pegging back of the deficit will take time to do, and can only be done upon the shoulders of economic growth coming from an expanding private sector. The UK government is merrily killing off both government and private sectors.
Thus, at the recent G20 meeting, Obama was half right, albeit terribly wrong. Now is not the time to worry about deficits--but Obama was arguing for continued government expansion to stimulate the economy. This is like advocating an addict take more and more heroin to solve his problem. Now is the time to focus upon economic growth in the private sector--which means getting the enormous gorilla of bloated government and its insatiable taxes off the backs of the private sector.
The US is far from achieving this optimal policy setting. Rather, the Federal Government is expanding like a virulent cancer. State governments, however, are shrinking drastically and rapidly. However, taxes are slated to rise in January. What now becomes most critical is the outcome of the Congressional elections in November. It is possible that small-government conservatives will win control in both houses of Congress. If so, it is likely that the tax increases will be stopped, and a meat-cleaver will be taken to the Federal government monster.
Only then will we be likely to see the US economy begin to turn the corner. We need to be very clear that a substantial Republican victory in November will not be sufficient, for the Republican party has led the charge over the past decade for a vastly expanded government apparatus. It will require an electoral victory of small-government republicans and small-government democrats. While there are encouraging signs, at present the jury remains out.
The November US elections are probably going to be the most significant for the US, one way or the other, in nearly a century.
And what about New Zealand. Alas, we too are intent upon slashing our wrists. The New Zealand government refuses to shrink the state sector, content with merely slowing down its rate of expansion. It is borrowing recklessly, expanding the deficit weekly. It cut taxes, only to ratchet them up again indirectly with higher government charges, asinine carbon taxes, and higher GST. Our national leaders are a long, long way from realising that they are the problem, not the solution, to our lingering malaise. And so is the majority of our population.
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