Looking Back on the Greatest Depression

On average, world trade fell 31 percent in January 2009. To varying degrees, recession and depression gripped globally.

“The outlook for global consumption remains bleak. Exports are likely to remain lackluster until global consumers regain their appetite for consumption,” wrote Jing Ulrich, managing director at JPMorgan in Hong Kong, in response to the dire data.

To track and make practical use of trends requires critical analysis of not only the data but also of the interpretations arising from the data. This becomes particularly essential when interpretations express a virtual media consensus. “Whenever you find that you are on the side of the majority, it is time to pause and reflect,” advised Mark Twain.

A case in point: On the surface, Ms. Ulrich’s assessment above does not seem unreasonable. It is a theme expressed, with minor variations, by a majority of economic analysts reported by the media. But that assessment rests upon a set of false or questionable assumptions.

The first assumption was that all consumers need to do is “regain their appetites” for exports. But it has nothing to do with “appetites.” Consumers were broke. They were no less hungry for products – they just didn’t have the money to buy them.

The second assumption was that once consumers started consuming again exports would regain luster. Implicit in this statement was that as exports grew, economies would rebound and everything would go back to normal. This “normal” refrain was endlessly repeated, not only by economic analysts, but by politicians and business leaders.

Unquestioned was not only the inevitability, but also the virtue and desirability of a return to “normal.” What was normal?

Normal, prior to “The Greatest Depression,” meant unchecked over-consumption and over-development made possible by the availability of cheap money and easy credit.

On the consumer end, “normal” was a death wish, “shop ’til you drop” – an obsessive compulsion by the profligate many to spend money they didn’t have but had to borrow. The spending spree extended to buying expensive new cars rather than affordable used ones. It had people building extensions and making home improvements when neither were necessary. It meant buying a McMansion when a Cape Cod would do. Splurging on expensive vacations, elaborate weddings and extravagant bar-mitzvahs to impress family and friends.

Borrowed money financed a major lifestyle upgrade that otherwise could not have ever been imagined, but that corresponded to what most people considered the “American Dream.” Borrow to the limit now, and pay sooner or later was “normal.”

On the commercial/financial end, “normal” was also the obsessive compulsion to endlessly acquire, not merely upgrade. Borrowed billions, lots of leverage and little collateral provided financiers and developers with the power to acquire ever more money, assets and prestige – through mergers and acquisitions, building developments, equity market speculation and predatory business practices that gobbled up or drove out the competition.

Give or take a bit of regulation and self-restraint, this was the “normal” the popular new President promised to return to.

Which brings us to the third assumption, and arguably the most important, which was that the crisis – inability of banks to lend and businesses to borrow – was mainly responsible for the economic disaster. As President Obama put it, “Our goal is to quicken the day when we restart lending to the American people and American business, and end this crisis once and for all.”

He said, “You see, the flow of credit is the lifeblood of our economy. The ability to get a loan is how you finance the purchase of everything from a home to a car to a college education; how stores stock their shelves, farms buy equipment, and businesses make payroll.”

Sounds positive, doesn’t it? Ease the “flow of credit.” Make it easier “to get a loan.”

But what the President meant and did not say was … take on more debt, borrow more money.

Sound familiar? Turn back the clock. Remember the advertisements at the start of the decade encouraging Americans to take out home equity loans, to buy new cars, to move up from a starter home into the dream house? With interest rates at 46-year lows and credit flowing, the public were suckered into betting on their futures with borrowed money they could only pay back as long as they had jobs, could make payments and the economy didn’t collapse.

But when they lost their jobs, they couldn’t make payments and the economy began to collapse. Total unemployment (including discouraged workers and those with part time jobs looking for full time) was nearing 15 percent. In the fourth quarter of 2008, the net worth of American households fell by the largest amount in more than a half-century of record keeping. By February 2009, the foreclosure rate was up 30 percent from February 2008.

What Mr. Obama promised as the solution was, and had been, the problem. The country was already overwhelmed with debt … debt that it couldn’t pay back. In what way could incurring more debt “end this crisis once and for all”?

It was a plain fact; the flow of easy credit produced a torrent of debt. In 2009, private sector credit market debt was 174 percent of GDP. Household debt-service ratio was at an all-time high. US households had 39 percent more debt than income. (In 1962, consumers had 37 percent less debt than income.) To promote policies encouraging people to take out more loans and sink still deeper into debt was abnormal, not “normal.” The abnormal had been renamed the normal.

Instead of encouraging people to live within their means, cut back, save money, and distinguish between “wants” and real needs, the official policy was to turn on the credit tap and flood the world with more debt.

The sanity of the policy was never in question. Arguments raged only over the quickest and most effective way to turn on the money spigot.

Everyone was looking for someone, somewhere, for rescue, and most eyes were turned to the United States. Even though the US was blamed for the flagrant economic abuses that brought on the crisis, given its economic clout and Superpower status, America was still looked to for the leadership needed to pave the way to recovery.

With its globally popular new president, hopes ran high that American know-how would know how to fix the problem … as though it were an intellectual exercise that could be solved by applying the correct economic formula.

No such formula existed. Yet so desperate was the world that it placed its hopes on the very people responsible for the deregulation of the financial industry largely blamed for the crisis. The deregulators now occupied key positions within the cabinet of that globally popular new President.

Billionaire investor Warren Buffett added a military dimension, dubbing the meltdown an “economic Pearl Harbor.” Buffett called on Congress to unite behind President Barack Obama, comparing the economic crisis to a military conflict that needed a commander-in-chief. “Patriotic Americans will realize this is a war,” he said.

If it was an economic Pearl Harbor, the enemies were Fannie Mae, Freddie Mac, A.I.G., Countrywide, Bank of America, Merrill Lynch, Citigroup, Bear Stearns, and all the other banks, brokerages, speculators, insurance companies, hedge funds and leverage buyout specialists that had launched the sneak attack on the American economy.

It had nothing to do with patriotism, unless being a “Patriotic American” meant appeasing and rewarding the enemy with trillions of dollars of taxpayer money and not being allowed to know where the money went.

The public had been cozened into believing:

Many financial analysts no less “expert” than those pushing through the bailouts were convinced that allowing the credit markets to seize up would, in the long run, prove far less costly than endlessly printing money and pouring it down a plush-lined sink hole. Buffett was wrong. It wasn’t a “war” at all. It was a criminal case, or should have been, but the accused took a financial Fifth Amendment – the right to remain silent, since any statement made could be used as evidence against them – and got away with it.

When, at a hearing before the Senate Budget Committee, Fed Chairman Ben Bernanke was asked, “Will you tell the American people to whom you lent $2.2 trillion of their dollars?” He answered, “No.”