It is a good thing for us to remember at this critical time that The Great Depression continued on as long as it did (1929-1941) for only one reason: the Federal Government never spent enough money to eliminate unemployment until World War II began. Once that drama began, the government increased its expenditures dramatically (on weapons, the training of soldiers, etc.), unemployment dried up almost over night. Roosevelt's Congress did not authorize enough spending to end the Depression in the 1930's because too many members of the opposition and the banking community warned that the consequences of 'inflating' the economy would be disastrous. Too bad they listened. Millions of people suffered terribly for no good reason.
So let's go through this a step at a time... How would the Average American be hurt by a complete collapse of the financial sector of the economy? The answer is that he/she would only suffer IF aggregate demand were to drop as a consequence of banks lending less money and businesses spending less money. When aggregate spending levels drop, jobs are lost. (If everyone were to stop borrowing money and they started saving for their purchases, instead, the economy would immediately collapse into the Worst Economic Depression Ever). That is the kind of suffering that we must prevent, and there is a very simple way to keep that from happening that doesn’t involve throwing billions more dollars at rich people so that their businesses will not fail, even though they deserve to.
If Congress were to do nothing as the financial crisis unfolds, the turmoil in the banking sector of the economy could easily set off massive layoffs. Businesses that are too heavily leveraged would go out of business [if they could not get a bailout] and many people would lose their jobs. But if the federal government were to increase its spending enough (by taxing the rich and spending that money on infrastructure & human capital) aggregate demand could easily be maintained, and even increased if that is what we wanted to do. WW II showed us that this is true.
To maintain aggregate demand at the levels we desire---at the same time that troubled banks are lending less---it might be desirable for Congress to create taxpayer-owned banks that would buy up the assets of failed private banks at fire-sale prices, fully capitalize them with public funds, and then provide whatever loanable funds might be desired by borrowers. If loan demand were to remain weak, insufficient to maintain aggregate spending at the desired level, then Congress can simply spend more money on public investment.
What kind of public investment? How about more highways, modernized highways, state-of-the-art sewerage systems, a cleaned up environment, more teachers, more classrooms, smaller class sizes, an improved quality of education, more police officers, national health care, etc., etc., etc. Big increases in government spending on these INVESTMENTS would create millions of good paying jobs to replace the jobs temporarily lost while financial companies are going out of business.
With a little bit of advanced planning, this entire crisis would/could be over within 6 months and very few people would suffer anything other than short-term unemployment while competing firms are buying up the assets of failed firms. As long as demand is strong, everyone would be working and pumping money into the economy at the same time that the financial sector is experience its upheaval. Yes, there would be fear and gnashing of teeth on Wall Street, but the average American would be working and getting good wages if Congress were generous enough with this spending on infrastructure.
So I’m not saying there’s nothing to fear. If McCain gets elected and he actually does what he says he wants to do [cut government spending at a time of economic weakness], the economy would plunge into an economic abyss. If Obama gets elected---I believe he will---then we would only have to fear that his decisions will not be dramatic enough to save the American people, due to the advice of too many Wall Street economists.
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