I was reading the Wikipedia page on the Great Depression and came across a large passage from the memoirs of Marriner S. Eccles, who served as Chairman of the Federal Reserve from 1934 to 1948. I was curious to see what parallels existed between the start of the Great Depression and the events that existed today. It turns out that the role of credit and income inequality in causing the Great Depression greatly mirrors recent economic conditions. I considered how the $700 billion bailout as proposed by the Bush administration might help things and concluded that, if Mr. Eccles' assessment of the causes of the depression are correct, that giving money away to banks would only delay the crisis for a while.
As mass production has to be accompanied by mass consumption, mass consumption, in turn, implies a distribution of wealth -- not of existing wealth, but of wealth as it is currently produced -- to provide men with buying power equal to the amount of goods and services offered by the nation's economic machinery. [Emphasis in original.] Instead of achieving that kind of distribution, a giant suction pump had by 1929-30 drawn into a few hands an increasing portion of currently produced wealth. This served them as capital accumulations. But by taking purchasing power out of the hands of mass consumers, the savers denied to themselves the kind of effective demand for their products that would justify a reinvestment of their capital accumulations in new plants. In consequence, as in a poker game where the chips were concentrated in fewer and fewer hands, the other fellows could stay in the game only by borrowing. When their credit ran out, the game stopped. That is what happened to us in the twenties. We sustained high levels of employment in that period with the aid of an exceptional expansion of debt outside of the banking system. This debt was provided by the large growth of business savings as well as savings by individuals, particularly in the upper-income groups where taxes were relatively low. Private debt outside of the banking system increased about fifty per cent. This debt, which was at high interest rates, largely took the form of mortgage debt on housing, office, and hotel structures, consumer installment debt, brokers' loans, and foreign debt. The stimulation to spending by debt-creation of this sort was short-lived and could not be counted on to sustain high levels of employment for long periods of time. Had there been a better distribution of the current income from the national product -- in other words, had there been less savings by business and the higher-income groups and more income in the lower groups -- we should have had far greater stability in our economy. Had the six billion dollars, for instance, that were loaned by corporations and wealthy individuals for stock-market speculation been distributed to the public as lower prices or higher wages and with less profits to the corporations and the well-to-do, it would have prevented or greatly moderated the economic collapse that began at the end of 1929. The time came when there were no more poker chips to be loaned on credit. Debtors thereupon were forced to curtail their consumption in an effort to create a margin that could be applied to the reduction of outstanding debts. This naturally reduced the demand for goods of all kinds and brought on what seemed to be overproduction, but was in reality underconsumption when judged in terms of the real world instead of the money world. This, in turn, brought about a fall in prices and employment. Unemployment further decreased the consumption of goods, which further increased unemployment, thus closing the circle in a continuing decline of prices. Earnings began to disappear, requiring economies of all kinds in the wages, salaries, and time of those employed. And thus again the vicious circle of deflation was closed until one third of the entire working population was unemployed, with our national income reduced by fifty per cent, and with the aggregate debt burden greater than ever before, not in dollars, but measured by current values and income that represented the ability to pay. Fixed charges, such as taxes, railroad and other utility rates, insurance and interest charges, clung close to the 1929 level and required such a portion of the national income to meet them that the amount left for consumption of goods was not sufficient to support the population. This then, was my reading of what brought on the depression.
Let's look at some key quotes.
But by taking purchasing power out of the hands of mass consumers, the savers denied to themselves the kind of effective demand for their products that would justify a reinvestment of their capital accumulations in new plants. In consequence, as in a poker game where the chips were concentrated in fewer and fewer hands, the other fellows could stay in the game only by borrowing.
This is exactly was has been happening for the last several years. Wages have been flat or even declining, yet prices, productivity and corporate earnings keep going up. These trends combine to transfer wealth from the workers/consumers to the producers, effectively reducing the buying power of the average person. Normally, this would result in an immediate drop in demand, which would necessitate a drop in prices, however, readily available credit has masked the wage/price imbalances for years. Many people today are in debt up to their eyeballs from trying to maintain what was once for them a sustainable standard of living. This readily available credit masks minor imbalances which would normally be corrected quickly. Instead they become major economic catastrophes.
Basic Supply and Demand Economics:
1. Suppliers raises prices but not wages.
2. Consumers buys less product.
3. Suppliers lower prices.
4. Consumers buys more product.
5. Go to step 1.
Supply and Demand Economics with Credit:
1. Suppliers raise prices but not wages.
2. Consumers borrow to buy product.
3. Demand is sustained. Suppliers increase production, but don't lower prices.
4. Consumers run out of credit and default.
5. Banks fail.
6. The Joad family moves to California.
7. Hitler rises to power on a platform of economic reform.
8. War is fought.
9. Millions die.
As you can see, the ready availability of credit breaks the natural supply and demand cycle.
This debt was provided by the large growth of business savings as well as savings by individuals, particularly in the upper-income groups ... This debt, which was at high interest rates, largely took the form of mortgage debt on housing, office, and hotel structures, consumer installment debt, brokers' loans, and foreign debt
Translation: Instead of paying people more money, the corporations and the rich kept the money for themselves and lent it to the working class at high interest rates.
Debtors thereupon were forced to curtail their consumption in an effort to create a margin that could be applied to the reduction of outstanding debts.
Essentially, the economy slowed down because people were paying on their debts rather than buying things. With current high levels of consumer debt, we seem to be in the same situation today. Now, as I see it, the $700 billion bailout merely provides capital to prolong this cycle of debt without addressing the underlying problem, which is that many people have too much debt in the first place. I believe the goal is to keep things going so that the big crash happens on Obama's watch. This way, the Republicans can retake power by blaming him for the inevitable meltdown. If they do the bailout and keep the creditors solvent for a while longer, the bailout money will be lent out and many consumers, borrowing to make ends meet, are going to find themselves further into debt. This will mean more and higher interest payments for many people, and less money spent on actual goods, and a continued slowing of the economy. A better solution would be to bail those who are in debt, thus increasing their purchasing power, rather than to continue to loan money to people who can no longer afford to repay it.
Debtors thereupon were forced to curtail their consumption in an effort to create a margin that could be applied to the reduction of outstanding debts. ... Unemployment further decreased the consumption of goods, which further increased unemployment, thus closing the circle in a continuing decline of prices.
The price declines haven't happened yet in the broader economy. However, home prices are certainly declining due to a lack of available credit. Currently, the prices of many goods are rising due to investors looking to park their cash in hard assets such as commodities. Of course, if demand for those commodities fails to materialize, which is the likely case when the credit finally runs out, we can look for those prices to fall as well. This started to happen when the price of oil dropped to $90 a barrel briefly on weaker demand before the sudden exodus from the stock markets to commodities drove it back up again.
So to summarize, the Great Depression was largely caused by the concentration of the bulk of the wealth in the hands of a few. This meant that more goods were being produced than people could reasonably afford, an imbalance that was masked for many years by consumer borrowing from those same few. Eventually, people couldn't borrow any more and the economy ground to a halt. This is the same situation we are seeing today with ever increasing consumer debt and banks being unable to continue supplying loans. The $700 billion bailout is merely a stopgap measure to keep this system of unsustainable consumer borrowing going until Bush leaves office so that the crash can be attributed to Obama, thus making him unpopular and allowing the Republicans to return to power.
Of course, we can avoid that scenario by using the bailout money to help the debtors, rather than the creditors, but you know THAT isn't going to happen.