Feature Article of Sunday, 2 August 2015
Columnist: Baidoo, Philip Kobina
Franklin Delano Roosevelt does not need introduction. He is seen by many ‘progressive’ Americans as a beacon of hope. Many are those who thought he was a shining light on the dark night of the worst period in American economic history. A lot of historians see him as the saviour of American capitalism, and, perhaps its democracy. Of course, in a small talk he had during his first inauguration he said that he will be the last if he failed. He is ranked with Washington and Lincoln at the top as the best American presidents in so many polls. It is, therefore, very difficult to put a dent in this lofty credentials. I must say, I was a great admirer until I applied my mind to the discipline of economics, then all the glittering facade came off like taking away the tinsels of a Christmas tree. If you approach FDR without the knowledge of economics, as a historian, you will portray him as the greatest American that ever lived. However, through the eyes of economics, I personally will give him 4 out of 10 marks. What FDR did was to manage the life support machine until the American economy was saved by WWII. There are those who will condemn me outright, and use all sorts of language, but in this article and the next few series, I will let the evidence be my advocate.
To understand the monumental issue we are dealing with, it will be very appropriate to have some historical perspective to guide the discussion. During the First World War England went off the gold standard in order to inflate her currency to finance her war effort by printing money. After the war she wanted to go back on the gold standard on the same exchange rate before the war, which was not possible, because the law of causality cannot be fooled. To stem the flow of gold from Britain to America, which was damaging the British pound, a meeting was held between Benjamin Strong Jr. of the New York Federal Reserve, Montagu Norman of the Bank of England, Emile Moreau of the Banque de France and Hjalmar Schacht of the Reichsbank. In that meeting, Benjamin Strong decided to cut the discount rate that the Federal Reserve Bank of New York lends to Federal Reserve member banks from 4% to 3%. Though he had concerns about the rising stock market, he did it anyway, and went further to sell gold to Britain to the tune of £12 million. The unintended consequence was that government bonds became unattractive and all the cheap money engendered by the cut in interest rate flowed to the stock market further aggravating the already dangerously high stock market value. Strong again, prodded the Federal Reserve open market investment committee to purchase government securities from banks, which also injected $200 million into the American financial arteries. Much of all these money found its way to the stock market, artificially pushing up the value of stock prices. However, when the Federal Reserve members realised the danger of the now out of control speculation at the stock market they decided to put breaks in the system by increasing the interest rate from 3% to 5% and later to 6%. The idea was to stop the unhealthy activities on the stock market, which it failed, however, the unintended consequence was the reduction of money in the economy triggering the sturdy deflationary pressure on the general economy. When eventually the 1929 stock market came to a fatal crash, they could have reduced the interest rate to increase the money supply, but they didn’t. It was, therefore, a failure of the Federal Reserve System to do its job that led to the depression. Despite all these failures the economy could have recovered, but the madness continued with the Smoot–Hawley Tariff.
Secondly, farm income which a lot of historians have blamed for contributing to the American Depression also has its roots from the First World War. During the war, due to disruptions in Europe farm lands were abandoned. As a result, American farmers took advantage and increased their acreage. Of course, this does not happen out of the blue. Investment decisions will have to be taken. To prepare the land, a farmer may need extra hands, tractors, fertiliser etc. Besides, new farmers who saw an opportunity to make a decent living took loans from banks to start new farms. These are all investments, which will be redirected in the economy in terms of labour and capital. There is no such thing as infinite capital in any economy. Every economy has finite capital, and once it is used in one sector of the economy it will not be available for other areas of the economy. And in a capitalist economy there is always time for reallocation of resources and the law of causality cannot be conned. Once you have too much investment in a particular industry when the dynamics of demand changes on the negative side people are seriously going to be hurt. Therefore, after the war when the European farmers resumed the cultivation of their lands American farm produce were no longer needed. And once the new acreage that came under cultivation due to the European war was still being cultivated there were bound to be a glut of farm produce.
Well, the simplest solution is to reduce the acreage under cultivation, or revert back to the levels before the war, but it is not as easy as I am writing. Who tells which of the new farms that came under cultivation to abandon their farms, or those who increased their acreage to reduce it? It is a free market so nobody can make that decision. So you let the market forces to determine it. And of course the inefficient farmers will suffer. Those who are producing products, which are no longer needed, will have to diversify or go out of business. All these create disruptions in the capitalist economy, most of the time it leads to recession. And some ignorant economist right up to Nobel Prize winners think that the government should be able to prevent that from happening. This scenario I have painted is what recycles in all industries in the capitalist economy, and a densely ignorant Marx, a political economy tract writer who passed himself off as an economist think that it is the Achilles’ heel that will destroy capitalism. However, recession is way for the capitalist economy to purge itself of malinvestment. In other word, it is a way for the economy to cure itself.
Also, during the participation of the United States in the actual war, there were also a shifting of resource in terms of labour into military men and capital diverted from civilian production into war production. The decommissioning of military men after the war meant a rapid rise in the number people on the civilian labour market without purchasing power, which led to the deflationary recession of the 1920-21. This downturn lasted for almost a year and half and ushered in what the Americans refer to as the roaring twenties. However, the underlying problem of overproduction in the agric sector had still not been solved.
The above mentioned Smoot-Hawley tariff was the six inch nail that finally secured the coffin of capitalism after the Federal Reserve System acted like the AIDS virus to destroy all the immune system of capitalism to defend itself. The Smoot-Hawley tariff was an abomination that any thinking person with a decent knowledge of economics will reject without any reservation. The Smoot-Hawley tariff which was signed into law by President Hoover on 17th June, 1930, raised import duties to 59% on more than 25,000 items. They ranged from agricultural products to manufactured goods. The roll call of countries that retaliated will scare and destroy your imagination. Even Great Britain, the then leader of free trade, imposed import duties. The act that brought this was signed in 1932, the first for something she had never done for over hundred years. Britain imposed 100% tariff on goods coming from the United States. It is worth mentioning some specific countries. Spain retaliated with 150% tariff on American cars. Italy did increase tariffs on American radios by 500% and subsequently American cars sales in Italy dropped by 90%. France even imposed quotas on the number of American goods that can be imported. Switzerland was more dramatic because most of her exports to America were affected and she retaliated with the power of a pneumatic sledgehammer.
The results were shocking. The farmers who had lobbied hard for the tariff were the most affected. Their export in 1929 before the Smoot-Hawley tariff stood at $1.8 billion and it plummeted to $590 million within three years of the law. This tariff was suicidal, because at the time U.S. was the largest creditor and due to the hard times was recalling loans that the tariffs have made difficult for the debtors to pay. This pushed up unemployment in Britain and the rest of Europe. This according to some very respectable historians made it possible for Hitler to adopt his autarchic economic policies, which led to the mother of all wars.
Now, tell me if this is the making of capitalism or the ignorance of the bureaucrats who signed the tariff into law. Adam Smith had warned in his 950 page book ‘The Wealth of Nations’ not to allow any business man ten blocks close to the citadel of capitalism. If Mr Kwarteng had seriously read, and I don’t mean just reading, but studying it, he would have found out that there is nowhere that the savvy Scotsman says anything good about business men. Yet he concluded that though the business man operates his business for his own personal interest, the unintended consequence benefits society. It is when the lawmaker tries to help the business man that that unholy alliance helps to open the Pandora box. Thank you and look forward to the all important second part.
Philip Kobina Baidoo Jnr