Let Trump, Cuomo Learn the Lessons Of 1920 Depression

The question of the hour is whether America can spring back to the kind of robust economy that marked the Trump era before the pandemic struck. One guide to the answer would be the depression that struck between 1920 and 1921. It was one of the most sudden and deepest in history — and the one most quickly defeated.Not only that, but the downturn came as the country was dealing with the ghastly toll of the Spanish Flu, which, between 1918 and 1919, claimed the lives of as many as 675,000 Americans, the equivalent of 2 million lives today.The parallels aren’t exact. They rarely are with history. While social distancing was employed, unevenly, against the Spanish Flu in communities across the country, policy makers did not force the 1918 wartime economy into the induced coma such as is in effect today. Both Presidents Wilson and Harding had a different approach.Indeed, a study done in 2007 by the St. Louis Federal Reserve Bank reckons “that the economic effects” of the Spanish flu pandemic “were short term.” Another survey of mortality tables and employment data has concluded that, in a Darwinian twist, workers in states with higher influenza mortality rates exhibited higher levels of per capita income growth during the 1920’s.One contemporary source, the January 1919 Monthly Bulletin of the Federal Reserve System notes another surprising feature. It turns out that in November, 1918, as we were approaching the war’s end and the pandemic’s height, the number of commercial bankruptcies nationwide was actually the fewest recorded since 1894.The economic shock — the depression — that America and the world would experience did not occur for another two years. Plus, when it came it would result not from the “Spanish Flu” but from an effort to reverse the effects of the loose money policy brought on by the Great War, an effort that was signaled by the Fed in January 1919.“The war,” the Fed’s bulletin said, “has inevitably left a condition of credit expansion, not only in the United States but throughout the world, and the gradual and orderly contraction of that expansion will require the continued exercise of good judgment by the Treasury and the intelligence and far-sighted cooperation of the Federal Reserve Board.”“A condition of credit expansion” was an understatement. The national debt, financed by Liberty Bonds, soared to $23 billion in 1919 from $1 billion in 1916. Undertaking an “orderly contraction” of the credit explosion brought about by the war would be asking a lot of the “intelligence” of a Federal Reserve that was then only 5 years old.James Grant, author of a book on the period called “The Forgotten Depression,” has pointed out that the 1913 Federal Reserve Act did not charge its regional banks with moderating the business cycle, promoting full employment, buying and selling Treasury obligations, or even stabilizing the price level.No, the Fed’s crucial role was to act as a backstop to the banking system, not in every downturn, but during panics caused by extreme liquidity crises. Any chance the Fed could incrementally establish a circumscribed role for itself, though, was dashed by the financing priorities of what was then the deadliest war in the history of the world.President Wilson, in a remarkable aside in his April 2, 1917, request for a declaration of war on Imperial Germany, stressed the need for “well conceived taxation” to help finance the war and “protect our people so far as we may against the very serious hardships and evils which would be likely to arise out of the inflation which would be produced by vast loans.”The sentiments were noble, but in the end, the loans were indeed vast. More than $20 billion in Liberty Bonds were issued between 1917 and 1919, purchased by millions of private citizens. The Fed and the Treasury oversaw a substantial increase in bank credit and monetary expansion that financed a substantial amount of this borrowing.Both the Secretary of the Treasury and Comptroller of the Currency were ex-officio members of the Federal Reserve’s seven person Board. In Fed deliberations, wartime Treasury fiscal priorities carried the day; it was the first in a long history of incursions by the government into Fed independence.So, in the words of Columbia historian Adam Tooze, “the war was paid for with an inflation tax.” By October of 1919, the U.S. cost of living had rocketed up 80%. As Treasury struggled to rollover short term government debt and support outstanding Liberty Bonds, it resisted recommendations from Governor Benjamin Strong’s New York Fed to raise interest rates.The dollar fell against gold, and New York banks saw their reserves fall to crisis levels. The Fed, “behind the curve” in today’s parlance, then undertook the most extreme series of interest rate increases in its history. In November, the New York Fed raised its discount rate to 4.75% from 4%. In January of 1920 that rate took another extraordinary leap to 6% and by June it was 7%.The effect on prices was immediate and dramatic. Inflation had reached an annual rate of 25% in the first half of 1920; in the second half of that year, prices were falling at an annual rate of 15%. And one of the most painful downturns in American history. Adam Tooze termed it “perhaps the most underrated event in the history of the twentieth century.”Between January 1920 and July 1921, industrial production may have plunged by as much as 30%, and unemployment may have hit 15%. Prices plummeted at the steepest rate ever recorded. The recovery that followed, as Mr. Grant records, was the last in American history to occur without widespread Federal government intervention.This is something for President Trump and the governors with which he is dickering to mark. In the recovery that began in the summer of 1921, laissez faire policies permitted both prices and real wages to fall to a level where a market induced economic rebound took place, with the economy returning to full employment by 1923.Instead of “fiscal stimulus” — such as sending out borrowed money to Americans — the newly installed Harding administration cut the government’s budget nearly in half between 1920 and 1922. Tax rates were slashed for all income groups. The national debt was reduced by one-third. The Fed cut its discount rate to 4.5% by January of 1922 and 4% by January of 1923.It stopped there, which was the rate prevailing before its tightening cycle. In reversing wartime credit expansion, the 1919 Fed, held hostage by Treasury, acted too late and when it did, acted precipitously. It’s all part of the lessons of the era that are likely to prove so relevant in the midst of the struggle with the coronavirus.That plague has impacted an economy suddenly burdened by a corporate credit boom that has driven debt held by non-financial companies to record levels — an expansion fueled by more than a decade of quantitative easing and other expansions by Fed policy. To contain the fallout, the Fed is accumulating financial assets of every stripe.Driven by the crisis, it has taken on yet another new role, that of commercial banker of last resort to companies large and small. In the realm of public health, policy makers today are employing social distancing and enforced quarantines first employed widely in 1918. Yet no one wants to try the laissez faire policies that won the day in 1920 and 1921._______Mr. Atkinson, a contributing editor of the Sun, covers the 20th Century.

Let Trump, Cuomo Learn the Lessons Of 1920 Depression

Let Trump, Cuomo Learn the Lessons Of 1920 Depression

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