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<font face="Verdana" size="1" color="#002864">http://www.mises.org/fullstory.asp?control=1361</font>
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<font size="2"><font face="Verdana" color="#002864" size="5"><strong>How Recessions Become Depressions</strong></font>
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<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana" size="4">by
Sean Corrigan</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">[Posted
November 4, 2003]</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana"><img alt src="http://www.mises.org/images3/symphony.gif" align="right" border="0" width="191" height="240">As
all Austrians should be aware, recessions themselves only come about as a
reaction to the unsustainable tempo of the preceding Boom. They also know that,
at root, the Boom itself always has its genesis in an unwarranted expansion of
the means of payment.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">When the
central bank proactively encourages--or retroactively endorses--a credit
expansion, the subtle interconnections between supply and demand; investment
and saving; consumption and production; and impatience and postponement--that
is to say, demands today and requirements tomorrow--all become disrupted.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">In the end,
after a seeming period of extraordinary vitality, the economy is seen to be
suffering from a cancer, or perhaps an auto-immune disease: one where the
costs of resources no longer correspond to the prices realized from their use
in a manner which sufficiently rewards entrepreneurs and their backers, so
that they will--or even can--maintain and extend their stock of useful
capital equipment, and continue to support an equal or greater payroll outlay
(whether in numerical or remunerative terms) and so perform their vital role
of driving the community onward up the slopes of advancing material progress.</font></span>
<font face="Verdana">In short, though in a truly free market, even the
largest business concerns would be like Kipling's Cities and Thrones and
Powers, which 'Stand in Time's eye, Almost as long as flowers, Which daily
die', others would constantly be rising to take their place. In a
progressive, increasingly capitalistic, classically liberal society, the
profits made by the foresighted and the fortunate would, on balance, outweigh
the losses made by the foolish and foredoomed, and would thus provide the
seedcorn for future progress.</font>
<font face="Verdana">The music of commerce would thus be harmonious and
evenly paced, its dynamics restrained; there would be no swelling crescendo of
the Boom, no cacophonous accelerando to the climax and no minor key diminuendo
thereafter into the Bust. But, once the government takes over from the free
market as musical director--and certainly after it appoints the central bank
to conduct the orchestra--things are never quite so euphonious.</font>
<font face="Verdana">Too many brass players are hired, while there are
empty seats left in the woodwind section. The timpani play too fast, the
strings too slowly. The piano fails to arrive in time for the performance,
since the instrument maker has been too busy churning out penny whistles, and
ultimately, what the band plays, the public no longer wants to hear--certainly
not at the ticket prices being charged.</font>
<font face="Verdana">At last, then, the reaction sets in. Investment
projects are revealed as hopelessly optimistic, or plain wrongly conceived.
Wages turn out to be too high for the ultimate value the workers can generate.
Certain vital inputs become too scarce and hence too costly to use to complete
entrained production processes and to bring goods profitably to market.</font>
<font face="Verdana">Denied those current or prospective profits, capital
investment dries up, unemployment rises and general business expenditures are
reduced, intensifying the squeeze on the sub-marginal and the
overstretched--as well as revealing many of the deceits and defalcations which
have been hidden during the Boom's suspension of critical faculties, and which
have been cultivated amid that erosion of personal morality and professional
integrity which always accompanies the fever of the seemingly instant
prosperity of inflation.</font>
<font face="Verdana">At this point, the clamour goes up for a cure--a cry
all the more plaintive because so many have been rudely disabused of the
mirage to which they have all succumbed. Fearing for their jobs, seeing their
pensions and college funds slashed in value as inflated asset prices come into
closer coincidence with the much lesser real wealth to which these ultimately
lay claim; feeling at first rueful, then vengeful, that they have been
gullible enough to participate in the madness, people everywhere awaken to the
shocking truth--even if they do not consciously articulate it this way--that
the Boom has not enriched them, but impoverished them instead, as Mises
himself pointed out.</font>
<font face="Verdana">So, having imbibed too much at the previous night's
wild Bacchanalia, what is the prescription which should now be followed in
order to relieve the distress of this thunderous hangover most swiftly?
Actually, we need do nothing more than to follow the advice of the tactful,
but mildly skeptical doctor who tells us to 'Take two aspirin and call me in
the morning'. We need no deficit spending, no unfinanced tax cuts, no
protectionism, no lowered interest rates or expanded credit, no vendettas
against short sellers or 'speculators', no extra unemployment benefits or
increased minimum wages. Nothing. Nil. Nada.</font>
<font face="Verdana">True, if an earthquake in the unsound credit structure
threatens to topple too many of our intrinsically insolvent banks at once--and
so risks burying more innocents in the rubble than is necessary--emergency
finance might, in extremis, be temporarily provided to the most urgent
supplicants, but only at such a swinging cost that it makes this particular
avenue unattractive to all but the truly desperate, as the eminent British
Victorian Bagehot famously prescribed.</font>
<font face="Verdana">Moreover, once this liquidity crisis abates, this
recourse must categorically not be perpetuated as a support mechanism
for the living dead, no matter how illustrious their pedigree, or how many
presidents, prime ministers, princes and pontiffs they have owned in the past.
Rather, we must hold unflinchingly to the practice of financial triage,
realizing that if the monetary value of our liabilities has grown
disproportionately large in relation to the income and real assets which
should underpin it, it is much better, far more equitable, and vastly less
threatening to liberty, to bring the debts down to the assets through
bankruptcy and write-downs, than to engineer the converse upward matching
of assets to the debt through the insidious mechanism of inflation.</font>
<font face="Verdana">Further, if, as might well happen in the throes of the
Boom, the nation has become drastically uncompetitive on the world
stage, a one-off devaluation might just be seen as a more politically certain
address than a protracted domestic deflation, but any resort made to this
lesser evil should be sternly reinforced with credit restriction at home, so
that the need for it will not shortly recur, to the disruption of world trade
and to the detriment of that international division of labour which so
enriches us all.</font>
<font face="Verdana">Above all, recognizing that much capital has been lost
and that our wealth has been greatly diminished, all sectors of
society--householders, corporations and, above all, governments, should
tighten their belts and attempt to live within their sadly reduced
circumstances. Saving--not newly elevated spending--will be what ultimately
rebuilds peoples' fortunes in such a pass. The sooner it is grasped that there
are no shortcuts by which the penitents may recover the grace from which they
have fallen, the more readily the right course of action will be followed.</font>
<font face="Verdana">After all, if Robinson Crusoe loses the roof off his
hut and sees his maize crop flattened, his goat herds scattered, by a passing
hurricane, the last thing he should do is to pour all his remaining food
stocks into his cooking pot, to use what's left of his thatch and his
stockades to set a fire under it and to sit back and smoke a pipe while this
last great feast is simmering.</font>
<font face="Verdana">For though this is exactly the equivalent of what the
powers-that-be are recommending to us today--in the vain hope that, once
Crusoe has consumed his goods and chattels and has expressed a wish to have
some more, the necessary replacements will magically reappear at his
whim--such a course will clearly serve only to jeopardize his chances of
further survival.</font>
<font face="Verdana">No, if Crusoe doesn't want to starve, he needs to
ration his residual provisions as closely as possible to see him through while
he sets to work, with redoubled effort, in order to make repairs and to
replenish what has been lost, paying particular attention to the timeliest
possible replacement of his capital assets. Nor is there any fallacy of
composition at play here: what works for Crusoe on his island will also work
for us out in the big, scary global economy.</font>
<font face="Verdana">But all this common sense and sound reasoning, so
painstakingly laid out upon the foundations of the Classical economists by
four generations of Austrian masters, has still to penetrate through the
mental miasma that is the Keynesian-fixated mainstream. What we need, they cry,
is for 'purchasing power' to be maintained--as if this comes about by the
issue of paper shopping coupons in isolation from the corresponding production
of value. We need to stimulate 'effective demand', they contend--rather than
accepting the price adjustments required to bring about appropriate supply:
appropriate, that is, in terms of both its composition, as well as its price
(and as if 'demand'--in other words, the sum of human wants--ever truly
wanes, in any case).</font>
<font face="Verdana">If no one is buying because prices are too high,
rather than sellers yielding in their (now outdated) estimations of
value to the worthy buyers, who should be sovereign in all economic
transactions, both the Keynesians' and the Monetarists' central bank must be
induced to ensure that enough new credit floods in so that even the most
undesirable goods gain in attractiveness relative to the now more abundant
money.</font>
<font face="Verdana">In other words, the thrifty must be assailed, and the
improvident deluded, through the trickery of inflation If those who don't earn
the right to buy through first selling their own wares, and thus cannot
otherwise maintain a lifestyle which requires an income clearly beyond their
productive capacities; well, the reserve bank must enable them to consume
capital instead, through borrowing for the purpose--if need be, against the
collateral of their homes; something which can be more than adequately
inflated for the purpose by the very same credit infusions at work elsewhere
in the system.</font>
<font face="Verdana">If companies will not invest, the government must
borrow to squander people's savings--and ideally be financed in good part by
the banks, in order to help push up prices even more-- as if replacing
entrepreneurs' inhibiting fears of a low return on a project by the
state's actual delivery of one is the route to renewed well-being. If
companies will not hire, the government must commandeer private property in
order to pay the masses to undertake such tasks as it deems
fit--building bridges to nowhere, or--worse--bombing bridges nowhere it
should be interfering. If there are more jobseekers than jobs--which implies,
as with all uncleared markets, that those offering the good (in this instance
their labour) are pricing it too high--the state must otherwise subsidize this
withholding of services by increasing the dole for unemployment: all the while
helping enforce it through minimum wages, mandatory benefits, and
maximum hours rules.</font>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">If capital is
emigrating to hire cheaper and more marginally productive workers abroad,
rather than at home, vote-hungry Congressmen must not make the local environment
more conducive to retaining and nurturing that capital, but must rather seek
an Outgroup to vilify as an excuse for the inability of their constituents to
make a living.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">If businesses
complain all manner of costs are too high to justify maintaining production in
the homeland, those costs must never be cut--for that would imply a shrinkage
of the role and patronage of the state--but instead the costs must be
equalized upwards across the whole economy, through the application of tariffs
on imports and subsidies on exports.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">If
entrepreneurialism is in decline at home, the state's central planners must
renew their homage to the dictatorial Collectivists of the 1930s to compensate
for the supposed 'market failures'--in truth, market encumbrances--which
are deemed to be in operation.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">Never must the Nomenklatura
stop to wonder at the plethora of bureaucratic and highly unconstitutional
rules and regulations, of licenses and quotas, combined with obligatory social
insurance charges, unbridled legal vulturism and environmental, gender-related,
and ethnic irrationalism, or the rapidly declining educational standards
prevalent today. </font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">No. Never must
they pause to wonder, might these impediments--all of them ills which these
very same Corporatists have done so much to inflict upon us--perhaps have so
shackled the country's traders and industrialists that they are no longer able
to run in the same race as those less hobbled abroad?</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">If, as it does,
the US trade gap for goods amounts to a whopping 28% of its total cross-border
traffic--most graphically represented by the nearly 4 million-a-year,
3:1 inbound-to-outbound container imbalance stacking up at the vast West Coast
ports of Long Beach and LA--we must, naturally, hold it to be the fault of the
exporting nation's monetary policy, for the beam in our eye does not
prevent us from seeing the mote in theirs.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">No one must ask
just how it comes to be that Americans (as well as Britons and their
kin) can continue to buy so much from foreigners, with so little to
offer in return, unless credit is too cheap and too plentiful at home;
unless it is our criminally lax monetary policy which is culpable: a
policy of which the loudest Congressional complainers are also likely to be
the most fervent advocates?</font></span>
<font face="Verdana">If Asian workers have sweated long hard hours to make
us goods-earning barely $700 a year in urban China, for example-and if
they have also been inveigled into holding onto, rather than spending or
selling, the paper promises of goods tomorrow which we gave them in return,
and if those pledges, in all their $4 trillion glory, are now too much to
contemplate redeeming in full, we must fulminate against these fiendish
Orientals for their 'unfair' trade practices and try to force them to accept
less than their due recompense by devaluing our currency--and hence the scale
of our obligations--while all our other excesses remain unchecked.</font>
<font face="Verdana">Finally, if-as is most probable-none of this
succeeds in promoting, rather than preventing, a recovery and so regaining,
for whichever jack-in-office it is with whom we happen to be beset, the
popularity needed for him and his crew to retain power, we must not be allowed
to throw the fellow out summarily and to enjoin his replacement to do it our way
henceforward. No, our leader will first be expected to appeal to the darker
side of politics and to sublimate our widespread angst, projecting it onto
conveniently identified 'monsters abroad'.</font>
<font face="Verdana">It will be of little comfort to note that the declared
national emergency never more seems to call forth a Cincinnatus to return
straightaway to his plough after the immediate occasion for his dictatorial
powers has passed. Rather what we get is a Caesar, or a Duce, whose hands have
to be forcibly prised from the staff of office, once they have first grasped
it so tightly.</font>
<font face="Verdana">Sadly, it is also a lesson still to be unlearned by
the elite and their court intellectuals that the Second World War did not,
in fact, end the Great Depression, and so this is a myth of economic salvation
through the Clausewitzian 'continuation of policy by other means': a myth
which exerts an ever more dangerous and compelling fascination for the
powerful, the longer the recession is protracted by all their other policy
misadventures.</font>
<font face="Verdana">So, to sum up: what is the answer to the question
implicit in the title of this address? <span lang="EN-GB">Pursue inflationism,
frustrate the market, extend socialism, adopt protectionism, embrace
militarism, extirpate thrift, expropriate the Middle Classes, consume
capital--and ignore the Austrians!--that is the way to turn a recession
into a depression.</span></font>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">Unfortunately,
it is the only way the vast majority of our leaders-of whatever outward
political stripe—know how to act.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">Thus the
avoidance of its effects will entail a hard-headed and rational redisposition
of our assets and undertakings --with the preservation of as much valuable
capital as we can secure from the tempest an over-riding objective.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">Avoiding
Depression altogether will require of us Herculean efforts of political
activism and economic proselytizing, in the attempt to avoid reaping the
whirlwind we have already sown.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">If this last
seems beyond our means, or if time proves too short, we should still endeavour
to reason as clearly as possible about our predicament--fully utilizing the
insights of the Austrians; we should seek to explain our thoughts to others,
where possible; and to act as consistently and courageously as we are able in
implementing the conclusions derived from these thoughts ourselves.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">That way, we
might emerge from the ordeal we face, the one of restoring a consonance
between prices and costs, between earned demand and economically sustainable
supply-whether this takes the form of a firestorm of inflation, or a deep
tough of deflationary depression-with our capital of the financial variety
relatively intact, and that of the intellectual variety significantly enhanced.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">Thence, if
people were subsequently to look to the successful example we had set, perhaps
we might then be able to undo the errors of the Thirties and to further
discredit the poisonous legacy of Keynes and the Collectivists, such that the
title of this essay might--one glorious day in the not-so-remote
future--become nothing more than an historical curiosity.</font></span>
<p class="MsoBodyText"><span lang="EN-GB"><font face="Verdana">That would,
indeed, be a triumph worthy of our aim.</font></span>
<p class="MsoBodyText"><span class="202361914-04112003" lang="EN-GB"><font face="Verdana">______________________________</font></span>
<p class="MsoBodyText"><font face="Verdana">Sean Corrigan is a principal of
</font><font face="Verdana">www.capital-insight.com</font><font face="Verdana">,
a London-based economic consultancy. He is also co-manager of the
Bermuda-based </font><font face="Verdana">Edelweiss
Fund</font><font face="Verdana">. See his Mises.org </font><font face="Verdana" color="#000080">Articles
Archive</font><font face="Verdana">, or send him </font><font face="Verdana" color="blue">MAIL</font><font face="Verdana">.
See also the </font><font face="Verdana">Study
Guide on Business Cycles.</font><font face="Verdana"> This talk was
given at the 2003 Supporters Summit.
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