Much pain for little gain

Watching two eminent economists in conversation I was struck by how much current economic debates lean on a one-sided interpretation of the Great Depression.

Paul Krugman and Joseph Stiglitz were speaking at the Fashion Institute of Technology in New York. The two have a lot in common: Nobel prizes, Ivy League professorships, immensely high public profiles, liberal views and an exceptionally high opinion of themselves. Stiglitz has held senior roles in government, including as chief economic adviser to President Bill Clinton, while Krugman is a regular columnist on the New York Times.

Their discussion covered a lot of ground including inequality, health care and what should constitute new economic thinking. But in some respects their discussion of the Great Depression of the 1930s and its aftermath in the early 1940s was most telling. Their one-sided discussion of the economic prelude to the war and the impact of the war itself reviewed much about the narrowness of their perspectives.

Krugman, for instance, argued that America’s experience of the 1930s shows that it is possible, to quote the title of his latest book, to End This Depression Now!“I think that what we’re seeing is recognisably the same kind of animal as the Great Depression”, he said.

Krugman pointed to 1939-41 when the war had begun in Europe and America started a military build-up in anticipation of becoming embroiled. Employment levels increased by 20 per cent as a result of the stimulus. Krugman takes this as an indication that “the only problem [until 1939] was that there was not enough spending in the economy”.

But this ignores the fact that huge changes had already occurred in the economy in the decade leading up to the stimulus. The existence of mass unemployment and the huge public works programmes of the New Deal are widely recognised. But there is also a strong argument that a lot of economic restructuring was under way.

Alexander Field, an economist at Santa Clara University, argued in his book A Great Leap Forward that the 1930s saw a huge increase in productivity. In 1941 the American economy produced 40 per cent more than it had in 1929 with virtually no increase in labour hours or private sector capital input.

Field attributes this jump to a combination of “big increases in R&D, investment, new products and processes, spillovers from the build-out of the surface road network, and in some sectors, creative responses to adversity.” The decade saw numerous innovations including the DC-3 commercial airliner, huge improvements in automobiles, far better highway design and advances in the organisation of the railroads.

He does not dismiss the role of government. For Field federal spending helped to boost private sector initiatives to help expand output. But he puts it in a far broader context than Krugman.

Stiglitz focused more on developments during the war itself including a government-backed economic restructuring. Developments during this period included a large shift from agriculture to industry, substantial government investment in research & development, and forced savings.

Stiglitz’s points are reasonable but they happened in a particular context of total war and intense nationalism. Whether it would be possible or even desirable to try to replicate such conditions today is open to substantial doubt.

The differences between the current experience and that of the 1930s are as important as the similarities. In particular a great deal more restructuring was under way back then than is happening today.

The downturn may not be as deep but in an important respect today’s conditions are worse than the 1930s. There is a lot of pain but little apparent gain.

This post first appeared on the Fundweb site today.