Uncomfortable Parallels

The first “new era” of the twentieth century took place during the 1920s. World War I had ravaged the developed world, central banks had been established across the globe, and the U.S. had become an economic and military power. The Progressive Era had reinvented America, giving women the right to vote, establishing a federal income tax, and prohibiting alcohol across the nation. With the world at peace and a series of tax cuts, the U.S. had a prosperous economy during the 1920s. [1]

The decade also experienced a technological revolution as important as the world has ever experienced. This was the decade when the airplane and automobile went into mass production. In communication, it was the onset of mass availability of the telephone and radio. Motion pictures were invented, along with household appliances such as the dishwasher, electric toaster, and refrigerator. The use of petroleum products and electricity increased dramatically while the use of manual power decreased. Assembly-line production became ubiquitous and was seen as the key to industrial progress.

The period of economic boom and stock market bubble during the 1920s is often referred to as the Roaring Twenties. It was far from a utopian time given all the crime, corruption, and violence created by alcohol prohibition, and there were clearly imbalances and instability in the economy. None of this, however, could discourage or dissuade the optimists of this “new era.” Edward Angly (1931) [2] compiled from newspapers and public records a chronicle of quotations of new era thinking during the bubble and its aftermath. A prime example was this “new era” thinking came from Herbert Hoover in his speech accepting the Republican Party nomination for President where he proclaimed (8/11/1928):

Not surprisingly Hoover rested the booming prosperity of the 1920s on the economic policies of his Republican Party.

Industrialists also saw a new era. Magnus Alexander, the President of the National Industrial Conference Board, said in 1927: “there is no reason why there should be any more panics.” The President of the Pierce Arrow Motors Car Company, Myron Forbes, believed (1/1/1928) that there “will be no interruption of our present prosperity,” while Irving Bush, the President of the Bush Terminal Company proclaimed (11/15/1928) that “we are at the beginning of a period that will go down in history as the golden age.”

Charles Schwab, the chairman of Bethlehem Steel, noted on March 5^th, 1929 that “I do not feel there is any danger to the public in the present situation” and on October 25^th, 1929 in a speech to the American Iron and Steel Institute reassured members that “in my long association with the steel industry I have never known it to enjoy a greater stability or more promising outlook than it does today.” As is typical of new era “philosophy,” in October of 1931 he blamed the depression on psychological factors: “the overliquidated prices of many securities are a sign of too short perspective and too excitable temperament.”

The financial press was similarly intoxicated, with the Wall Street Journal reporting: (10/26/1929) “Conditions do not seem to foreshadow anything more formidable than an arrest of stock activity and business prosperity like that in 1923. Suggestions that the wiping out of paper profits will reduce the country’s real purchasing power seem far-fetched.” Syndicated columnist Arthur Brisbane reported that “those that foolishly talk about a national panic, will please remember that the income of this nation is one hundred billion dollars per year” (10/30/29); that “business is good, money is cheap” (11/9/29); and that “it ought to be a good year” (11/20/29).

Later he encouraged his readers by reporting that “all the really important millionaires are planning to continue prosperity” (11/26/29) and that “if every man would learn to talk about the country’s progress and future as a young mother talks about her new baby, there would be no danger of hard times” (12/3/29). By the end of 1929 he declared the economic crisis over noting: “now that the ‘big wind’ that swept through Wall Street, blowing away paper profits, has died down, there are sad hearts, but no real losses” (1/1/30) and that “it is safe to say that the peak of idleness has about been reached, with better conditions coming” (1/8/30). As the economy worsened and unemployment continued to mount, Brisbane’s assurances became increasingly bizarre:

Politicians were big promoters and defenders of the new era. Secretary of the Treasury, Andrew Mellon, told the American people at the peak of the boom (September 1928) that there “is no cause for worry. The high tide of prosperity will continue.”  As unemployment continued to mount after the stock market crash, he reassured Americans on New Year’s Day of 1930: “I see nothing, however, in the present situation that is either menacing or warrants pessimism. During the winter months there may be some slackness or unemployment, but hardly more that at this season each year. I have every confidence that there will be a revival of activity in the spring and that during the coming year the country will make steady progress.” Republican officials continued to report throughout 1930 that the economy was fine, that conditions were satisfactory, that the worst was already over, that things will improve in a couple of weeks and that signs of recovery are everywhere. However, by the end of 1930 some panic and confusion had broken into Republican ranks. Simeon Fess, the Chairman of the Republican National Committee, complained (10/15/1930):

This statement admits of both alarm and paranoia and, if true, indicates that the “market” had finally entered a phase of disbelief in the pronouncements from the White House, based largely on their past inaccuracies.

Irving Fisher was one of the most prominent economists of the period and is still consider by mainstream economists to be one of the greatest American economist of all time. He was an enthusiastic supporter of Herbert Hoover and believed that the great economic prosperity of the 1920s was attributable to alcohol prohibition and, most importantly, the “scientific” stabilization of the dollar that had been undertaken by the Federal Reserve. Naturally with both policies firmly in place, Fisher was completely blindsided by the Great Depression. On the eve of the Great Stock Market Crash of 1929 (9/5/29) Fisher reassured investors that he foresaw no problem in the stock market:

Unfortunately, while Fisher continued to preach that stocks had reached a “permanently high plateau” throughout October of 1929, stocks lost one-third of their value. Diversification via investment trusts (like the mutual funds of today) might have encouraged people to invest in stocks, but it did little to protect their wealth. The market value of investment trusts fell 95% over the two years following his prediction and the Dow lost nearly 90% of its peak value. 

Well after the fact, Irving Fisher identified most precisely and perceptively what he meant by a “New Era.” In trying to identify the cause of the stock market crash and depression he found most explanations lacking. What he did find was that new eras occurred when technology allowed for higher productivity, lower costs, more profits, and higher stock prices:

The key development of the 1920s was that monetary inflation did not show up in price inflation as measured by price indexes. As Fisher noted: “One warning, however, failed to put in an appearance – the commodity price level did not rise.” He suggested that price inflation would have normally kept economic excesses in check, but that price indexes have “theoretical imperfections.” [4]  

Fisher had stumbled near a correct understanding of the problem of new-era thinking. Technology can drive down costs and increase profits, creating periods of economic euphoria, where economic signals would otherwise inject greater caution and clearer thinking. However, he never lost his faith in scientific management of the economy, or his devotion to idea of a stable dollar. Fisher’s detailed analysis and painstaking investigations of the crash also did little to improve his economic forecasting.

He attributed this “success” to reflationary measures that were of deliberate “human effort more than a mere pendulum reaction.” [7] Unfortunately, not only was his prediction wrong – the world was only at the end of the beginning of the Great Depression – the “human effort” that he thought was the tonic of recovery was actually the toxin of lingering depression. He scoffed at the “mere pendulum reaction” of the market economy that can correct for the excesses in the economy by liquidating capital and credit, a concept that he clearly opposed.

Was the Great Depression Predictable? Was it preventable? The failure of the market economy to “right itself” in the wake of the Great Crash is the most pivotal development in modern economic history and its impact has continued to shape mass ideology and to determine public institutions and policy. Unfortunately, few saw the development of the stock market bubble, its cause, or predicted the bust and the resulting depression.

In Austria, economist Ludwig von Mises apparently saw the problem developing in its early stages and forecast to colleagues the crash of the large Austrian bank, Credit Anstalt, as early as 1924. More importantly, he wrote a full analysis of Irving Fisher’s monetary reforms, published in 1928, where he targeted Fisher’s reliance on the price index as a key vulnerability that would bring about Great Depression, concluding: “because of the imperfection of the index number, these calculations would necessarily lead in time to errors of very considerable proportions.”

Mises found that Fisher’s attempt to stabilize purchasing power was riddled with inherent technical difficulties and was incapable of achieving its goals. “In regard to the role of money as a standard of deferred payments, the verdict must be that, for long-term contracts, Fisher’s scheme is inadequate. For short-term commitments, it is both inadequate and superfluous.” He then demonstrated how Fisher-type monetary reforms cause booms and that these booms inevitably result in crisis and stagnation, and he attributes the popularity of his reforms and the resulting cycle to political influence and bad ideology:

In addition to demonstrating the inevitability of the crisis, he clearly identified its cause, where most others could not:

He showed that the central bank’s attempt to keep interest rates low and to maintain the boom only makes the crisis worse. Despite the tremendous odds against the adoption of his solution, he ends his analysis with a prescription for preventing future cycles.

In addition to von Mises, his student F. A. Hayek published several articles in early 1929 in which he predicted the collapse of the American boom. Felix Somary, who like Mises was a student at the University of Vienna, issued several dire warning in the late 1920s, and in America economists Benjamin Anderson and E.C. Harwood also warned that the Federal Reserve policies would cause a crisis, but like Somary, they were largely ignored. [9]