A lesson learnt? Preventing the economy from slipping into a depression

Admit it! This is a recession!

The economy is no perfect system, and this statement is no surprise. Like prices that rise and fall over time, the economy expands and shrinks over time too. As we are all well aware, currently the economy is shrinking – and it is doing so more than it would in its ‘normal’ cycles. This abnormal shrinking of the economy is what we call an economic slowdown or a recession. The concept is neither new, nor rare. Recessions have occurred several times in the US economy, the last one taking place in the year 2001. However, deep recessions are less frequent, and are beast to be feared.

The optimists today say that the current recession is not comparable to the Great Depression, while the pessimists argue that we are headed for something much worse! In this brief article, I will attempt to look at the mistakes that were made in the handling of the Great Depression and compare them to the actions of the current administration in handling this recession to date.

According to SmartMoney.com the four most causal mistakes that caused the Great Depression are not being repeated today. These are:

  1. Tax Hikes
  2. Protectionism
  3. Bank Failures
  4. Tight Money

It is interesting to note that one of Obama’s election promises was to abolish the tax cuts being given to the rich. However, the administration has wisely held back on the fulfilment of that promise as it could make the situation worse, as was the case with tax hikes that preceded the Great Depression. Instead, the current administration will let the tax breaks in place until their expiration in 2011.

Another move has been the conscious decision to not implement protectionist strategies. In a world as connected as today’s, the use of protectionism could backfire worse than it did in the past. The current recession has had effects across the globe, and any move toward protectionism by the US would be matched by similar moves from other countries which will further stifle the global economy and hinder the healing process.

The federal bailouts have widely critized by parts of the public as well as by analysts. Some say that the bailouts may prevent the economy from recovering on its own, and could very well stretch this recession beyond its natural life. However, the bailouts have indeed prevented complete bank failures. The Government has actively bought/backed/guaranteed toxic assets held by banks in order to keep their balance sheets in shape prevent failures.

Much like the generous bailout programs, the money supply has been very generous too. The money supply is being increased rapidly by the Federal Reserve, (more than 700% annual increase) which is quite the opposite of the shrinking of the money supply that occurred before the Great Depression.

So it would seem that some important lessons have been learnt by those in charge of the nation, and that a repeat of the Great Depression is unlikely. However, I must remind the reader that even though this recession is unlikely to turn into a great depression, or even a depression for that matter, it is nevertheless one of the deepest recessions that the nation has witnessed. The figure below illustrates how the current recession compares to those from the past (the averages do no include the Great Depression). It is clear from this figure that the recession much worse than the averages of the last six recessions, but considering the factors discussed above, it is still unlikely that we are headed for a depression.

Recession Figures

Sources:

SmartMoney

Chicago Booth News

Federal Reserve Bank of St. Louis

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7 Responses

  1. It’s nice to see that someone in Washington has actually learned from the past. Hopefully some of the new tactics they are pursuing heavily (mostly the large amounts of corporate bail outs) work out for them.

    My concern with the bailouts is that there are better places that our money could be going. Looking at the charts above, the retail sales number has plummeted. This gets to the real problem. Consumers do not have any money to spend. This is the real reason that businesses are in trouble (yea…some of them just made bad decisions), they have no sales. I believe that some of the money being doled out should go to the people. By giving the money to the people, they will invest in the businesses by purchasing their goods. This way everyone is happy. The American people get the goods and services that they need and the businesses that deserve to stick around get the money that they need.

  2. Yes – that is one of the most common criticisms of the bailout. The only reason that I can think of why the Government is not giving the money to the people is because it may want to limit the culture of consumerism. By letting people realize how bad spending money that they don’t have can be, the Government may very well be avoiding a repeat of the current situation – just a possible explanation.

  3. […] A lesson learnt? Preventing the economy from slipping into a depression […]

  4. The chart is such a great resource-good find!! Regarding changes in policies…It’s also interesting that during the campaigns, the topic of withdrawing from NAFTA came up…yet nothing (thanfully yet) has been mentioned since about it. If anything, we need to continue to bolster our trade relationships in order to help the economy. And I also agree that this will not be as severe as the Great Depression…just the worst recession we’ve withstood since then. But, I firmly believe that we have the resources and capabilities as a country to begin to turn things around soon.

  5. Even though a lot of people criticizes the bail out, I agree with Nadir…if the gov’t had given the money to the people a consumerism would take place and vital industries would have gone bankrupt. I just hope that in the end these same industries will come up with something so us (the taxpayers) don’t get stuck with the entire bill

  6. The chart is from a report from the Federal Reserve Bank. I included the link above, it is a nice comparison to have, you should check out the report itself, it is quite informative too.

    I am not too sure about what NAFTA entails. So I cannot really say one way or the other, but in general I like that this administration is not standing by campaign promises just because they made them, there is actual consideration behind implementing them and they are not just being put into practice without reviewing the situation.

    I just notice – learnt is a British spelling… so I wonder if I should fix the title… A lesson learned? 🙂

  7. Learnt. Love it.

    The head of the Fed, Ben Bernanke, is a historian specializing in the history of the Depression.

    Hoover and Congress in 1930-31 raised taxes across the board, including a 400% increase for the lowest rate (from 1 to 4%!). Obama’s non renewal of a previous tax cut (Bush’s) which is called a tax hike (that is politics for you) is only on top earners.
    Reich’s view: http://robertreich.blogspot.com/2009/02/finally-progressive-budget.html

    See marginal rates: http://www.taxpolicycenter.org/numbers/displayatab.cfm?DocID=2235

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