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:
- Tax Hikes
- Bank Failures
- 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.