Economics Doomsday Clocks: Are We Heading for Another Great Depression?

 

Posted on October 5, 2010 at 11:46am by Jonathon M. Seidl

Is America heading toward another Great Depression? The answer may not be a definite “yes” or “no,“ but rather an eerie ”maybe.”
In yesterday’s Wall Street Journal, Donald Luskin laid out an argument for why, should we continue on our path, America might be poised to repeat the mistakes it made that lead up to and perpetuated the Great Depression. In other words, if history is a great teacher, we could be its worst students.
What may allow the “history repeats itself” cliche to ring true, he says, is the expiration of the Bush-era tax cuts and a renewed aggression toward trade via a recent amendment to the Smoot-Hawley Act — a union favor: both “doomsday clocks” with a deafening tick-tock, tick-tock.
First, where we find ourselves. Explaining a chart showing the stock market in the early part of the century and now (seen above), Luskin paints a fork-in-the-road picture:

“This week corresponds on the chart to mid-August 1937, when the cumulative effects of massive hikes in personal and corporate tax rates, severe monetary tightening, and aggressive business-bashing by the Roosevelt administration tipped the economy into the ‘depression inside the Depression.’”

We are at that tipping point. And while “we’re not repeating all the mistakes of 1937,” Luskin says, the impending tax increases and trade act are bad enough.
So what about those tax cuts/tax increases? Why are they such a big deal? Simply put, letting the tax cuts expire means a 3.3% decrease in income for every American, Luskin says, citing the Tax Policy Center. Add all that up and “if the Bush tax cuts don’t get extended, that’s a 2.3% hit to 2011 GDP.” The result: “instant double-dip recession, starting at midnight, Dec. 31.”

 

But instead of stimulating the economy by not taking everyone’s money, “Democratic leaders and the Obama administration want to roll the dice for the sake of ideology,” and only give tax breaks to certain groups — even though they could “switch off the doomsday clock” by not being a respecter of tax brackets. But that doesn’t fit into the ideological bubble.
Still, that alone may not be cause to dust off the Hoover flags and prepare the generators for shanty towns. As it goes, “it takes two to tango,” and there’s a dance partner. That partner is trade protection.
Enter the Smoot-Hawley Act.
“Last week the House passed the Currency Reform for Fair Trade Act,” Luskin explains. “It’s an amendment that gives dangerous new protectionist powers to the notorious Smoot-Hawley Tariff Act, the proximate cause of the global Great Depression.”
That paragraph might have induced a yawn. And unfortunately, that’s what happened in the thirties. “This lack of concern resembles many Americans’ disregard for the effects of the Smoot-Hawley Tariff Act, signed into law by Hoover in June 1930,” says Amity Shlaes in an op-ed in July. Shlaes is the author of The Forgotten Man: A New History of the Great Depression. “Republicans told themselves that the tariff couldn’t hurt much since trade was a small part of the U.S. economy at that point.”
Not only did it hurt, it crippled. Citing experts in economics, Shlaes points out “the progress of the Smoot-Hawley legislation tracked declines in the stock market,“ and ”the tariff reduced investment all over the world and, therefore, produced deflation.”
Luskin picks up on this and expands on it by pointing out that the new amendment to the act amounts to a labor favor. How? It requires that the “Department of Commerce take a foreign country’s currency interventions into account in determining whether its trading practices are unfair.”
Translation: if a company wants to import a box of plastic widgets from China, the DoC must determine if China is selling them below cost and at how much below cost (a process called “dumping,” which is a tactic used to put competitors out of business by underselling a comparable good). Should DoC believe China is selling widgets too cheap, then it must step in and raise the price. The percentage that unions such as the AFL-CIO and UAW would like to see the price increased by is “as much as 40 percent.”
“Not a single Chinese export good could survive such a test,” Luskin writes,”virtually the entire volume of China’s exports to the U.S. suddenly would become subject to countervailing duties.” That means business costs will increase. And basic economics teaches us that when business costs increase, those costs must be dealing with in two ways: cutting costs or increasing revenues. Workers bear the brunt of the former, consumers the latter. The country all of it.
The bill then amounts to “a nuclear threat of mutual assured economic destruction. If carried out, it would crush trade between China and the United States, which are huge export markets for each other.”
That brings us back to where we started: are we headed toward another depression? We can’t know for sure. But if, as Luskin worries, “cooler heads do not prevail” after the election, “maybe” becomes more than just a scary thought. It could prophesy an impending reality.