Tuesday, October 14, 2008

George Bush as Herbert Hoover--The Coming Depression

The experts in the Department of Treasury have changed their minds over the last few days about how to save the U.S. financial system. Now, the idea is to partially nationalize the biggest American banks. The front page story on this in the New York Times is about how this has a "basis in history." The clearest historical precedent for this is the Reconstruction Finance Corporation of the 1930s, which made loans to troubled banks and bought stock in thousands of banks. The Reconstruction Finance Corporation was chartered in 1932 during the administration of Herbert Hoover. As we know, this and other actions initiated by Hoover and continued by Franklin Roosevelt turned an economic crisis into a prolonged depression that lasted for 10 years or more. So, at least now, we know where we're headed.

The alternative--allowing free markets to adjust over a year or two with great pain for many of us--is politically unacceptable. Because of the federal government promoting artificially low interest rates and encouraging home mortgages for people who could not pay for them, housing prices were inflated into a bubble that had to burst. As a consequence of human imperfectibility--that human beings are imperfect in their knowledge and their virtue--one can predict that human beings are inclined to go deeply into debt to cover their luxuries with the hope that in the future they will be able to repay their debts. Free markets reflect these human imperfections, and that's why markets tend to produce cycles of boom and bust. In the bust, people are punished for their imperfections, and eventually readjustments are made, but only with great pain.

Another manifestation of human imperfection is that political leaders believe that people need not suffer the consequences of their mistakes, if only central planners take control to manage the economy. And so it is, in the present Presidential election, both of the two major candidates agree with Bush's bailout plans. Except for a few sentences in Sarah Palin's comments in her first debate with Joe Biden, no political leader is willing to say that the present economic crisis is the consequence of our human failing in taking on more debt that we can realistically handle, and that the only solution is for us to suffer the consequences of our bad financial decisions until the economy corrects itself. Most politicians cannot say that because that would require holding people morally responsible for their mistakes.

Instead, the government will intervene. But those in government are just as imperfect in knowledge and virtue as the rest of us. After all, no one really knows how to plan out a modern economy into the future. Yet the attempt to do this will prolong what otherwise would be a short period of painful adjustment.

Moreover, with Henry Paulson and others in the Treasury Department having almost unlimited discretion in the spending of almost a trillion dollars, we can assume that there will be massive corruption. Again, given the imperfect virtue of these people, it would be silly to think these people will not be corrupted by their power.

We can also expect that these people are intoxicated with their feelings of glory as they think of themselves exercising such extraordinary power in remaking the global financial system during a historic crisis. Even more than greed, their love of glory is dangerous in its corrupting effects.

If Bush, Obama, and McCain continue in supporting the bailout and following the path blazed by Herbert Hoover and Franklin Roosevelt, we can anticipate a very deep and very long depression.

Have a nice day, everybody!

No comments: