Depressionomics

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The only other event in our nation’s history to which policymakers and pundits have found it appropriate to compare the current economic crisis is the Great Depression. Many wonder whether or not the lessons we learned from the crisis of the 1930s can be applied to today’s situation. Christina Romer, sworn in on January 29th as Chair of the Council of Economic Advisors, has spent much of her career studying the causes and outcomes of the Great Depression. Now, as one of the leaders shaping President Obama’s recovery plan, she argues that several key lessons from the 1930s should guide us through the crisis.

Romer began her address at the Brookings Institution on March 9th by commenting, “In the last few months, I have found myself uttering the words ‘worst since the Great Depression’ far too often: the worst twelve-month job loss since the Great Depression; the worst financial crisis since the Great Depression; the worst rise in home foreclosures since the Great Depression.” Clearly, the nation survived that crisis. What can we do to survive, and to thrive, following this one?

One fundamental point for citizens to understand in order to put our situation in perspective is that while “the current recession is unquestionably severe, it pales in comparison with what our parents and grandparents experienced in the 1930s.” Specifically, she compared unemployment rates, which recently reached 8.1 percent, to unemployment in the 1930s which reached 25 percent. She also noted that real GDP has declined almost 2 percent, while between 1929 and 1933, real GDP dropped a staggering 25 percent.

According to Romer, there are five key lessons that policymakers should have learned from the Great Depression. As Chair of the Council of Economic Advisors, we should expect Romer to shape upcoming recovery plans around these lessons.

The first crucial lesson is that “a small fiscal expansion has only small effects.” She referred to fiscal policy under Roosevelt during the Great Depression which did not generate recovery because the policies were “small relative to the problem.” Romer added in a blunt understatement, “This is a lesson the Administration has taken to heart.”

The second lesson that we should have taken to heart is that “monetary expansion can help to heal an economy even when interest rates are near zero.” She noted that “monetary policy can continue to have an important role to play…by affecting expectations, and in particular, by preventing expectations of deflation.”

Third: “beware of cutting back on stimulus too soon.” Romer referred to government monetary policy in 1937 which doubled reserve requirements for banks in order to tighten control over moneylenders. Adding to the problem was the ending of veterans’ bonuses and the collecting of Social Security taxes. In this volatile environment, policymakers “soon reversed course and the strong recovery resumed, but taking the wrong turn in 1937 effectively added two years to the depression,” she asserted.

She went on, “At some point, recovery will take on a life of its own, as rising output generates rising investment and inventory demand through accelerator effects, and confidence and optimism replace caution and pessimism. But, we will need to monitor the economy closely to be sure that the private sector is back in the saddle before government takes away its crucial lifeline.”

The fourth lesson Romer gleaned from her study of the Great Depresson is that “financial recovery and real recovery go together.” In other words, it is not enough to simply pinpoint the problem and return stock prices to previous levels. A comprehensive recovery plan is needed that encompasses the various aspects of today’s problems, including industries and housing. In the 1930s, “it was only after real recovery was well established that the financial recovery took firm hold.”

A final lesson is that “worldwide expansionary policy shares the burdens and the benefits of recovery.” “The more that countries throughout the world can move toward monetary and fiscal expansion, the better off we all will be,” Romer said, pointing out that going off the gold standard and increasing the domestic money supply in the 1930s was the key to “generating recovery across a wide range of countries.”

Romer finished her remarks in the Obama administration style—with an emphasis on hope. “A key feature of the Great Depression is that it did eventually end,” she emphasized. “If we continue to heed the lessons of the Great Depression, there is every reason to believe that we will weather this trial and come through to the other side even stronger than before.” It remains to be seen just how similar this crisis is to the Great Depression, and whether President Obama has assembled a team able to keep this recession from becoming Great.

Daniel Allen is an intern at the American Journalism Center, a training program run by Accuracy in Media and Accuracy in Academia.