Protectionism Had Nothing to Do with The Great Depression

February 13, 2009

Like other free trade shills, German Finance Minister Peer Steinbrueck, in advance of a G7 meeting in Rome, is raising the specter of The Great Depression, which he disingenuously blames on protectionism.  It’s time to set the record straight.  Protectionism had nothing to do with The Great Depression.

The free traders always begin their revisionist history of the cause and effect relationship between protectionism and the depression with the passage of the Smoot-Hawley Tariff Act, as though Smoot-Hawley represented some foolish turn away from free trade toward protectionism, triggering a global trade war that plunged the world into depression.  Nothing could be further from the truth.

First of all, at the time of passage, Smoot-Hawley was only the latest in a long history of tariff legislation successfully employed by the U.S. to maintain a balance of trade.  The previous Fordney-McCumber Tariff Act of 1922 had set the ad valorem tariff rate on a wide range of products at an average of about 38.5%.  “Ad valorem” basically means “percentage.”  Tariff rates were always set in terms of percentages.  This meant that the customs people tasked with enforcing the tariffs had to then translate these ad valorem rates into dollar amounts, starting a contentious process of determining the real value of the import so that the ad valorem rate could be translated into dollar terms.  They complained about all the hassle and pressed for legislation that would set the tariffs in dollar terms. 

This was the whole purpose of Smoot-Hawley, to merely streamline the way tariffs were set, aiming to keep the ad valorem rates about the same, but saving the customs people all of the hassle.  They did a pretty good job.  By the time that Smoot-Hawley was enacted, the average ad valorem rate on the same basket of commodities had risen to 41.1%, only 2.6% higher than under the previous Fordney-McCumber Tariff Act.  And since the dollar value was fixed, it was anticipated that inflation would slowly reduce the ad valorem rate.  What no one anticipated was the deflationary spiral of The Great Depression, something that had never before happened.  Then, since the rates were now set in fixed dollar terms, the effective ad valorem rates rose.  The main lesson to be learned from this is that tariffs should always be set in ad valorem terms. 

Free traders would also like for you to forget that Smoot-Hawley wasn’t even signed into law by Hoover until June of 1930, a full eight months after the October, ’29 stock market crash.  Now it doesn’t seem so likely that a turn toward protectionism is what caused The Great Depression, does it? 

Nor do free traders want you to know how little a decline in trade actually factored into the depression.  At the height of the depression in 1933, America’s trade balance had declined $0.67 billion, contributing only 2% to an overall decline in GDP of $33.1 billion (from its previous high of $101.4 billion in 1929).  The fact is that it was the depression that caused the decline in trade, not vice versa.  We’ve already seen this same thing in our current recession.  Our trade deficit has dropped precipitously – by a third – in the past few months, as has global trade in general.  Once again, it has been the recession that has caused a decline in trade. 

In fact, it could be argued that it was an over-reliance on free trade that has triggered this recession (depression?).  Thirty-three straight years of a trade deficit that totals $9.2 trillion has literally bankrupted America, and the downward pressure on incomes resulting from the destruction of our manufacturing sector is the real root cause of the explosion in foreclosures that triggered the global financial collapse. 

Of course, nations like Germany, Japan, China, Korea and others, all beneficiaries of huge trade surpluses with the U.S. and eager to sustain the parasitic relationship they enjoy with their host, the U.S., want you to forget all of this.  Don’t be fooled.  It’s the enormous imbalances of global trade that have gotten us into this mess and it is only a return to sensible trade policy designed to restore balance that will get us out of it.

The only thing we have to fear …

January 20, 2009
… is ignorance. Franklin D. Roosevelt may have believed that fear itself was the enemy, but he was wrong. What he really faced was ignorance of the forces that led to the Great Depression – the ignorance that allowed the forces of greed – corporate tycoons, buttressed by their well-meaning economists, armed with their primitive, 18th century theories about free trade and comparative advantage, to convince our nation’s leaders that an abandonment of successful trade policy would send exports soaring along with their self-interests. Only ignorance could have allowed that generation to believe that a $0.67 billion decline in trade volume could cause a $33 billion decline in their GDP, and that a tweaking of tariffs that had been so successful for over 150 years could have collapsed the global economy.

It’s the same ignorance we face today – an ignorance that settles for superficial explanations for the latest economic collapse – a housing bubble and sub-prime mortgage crisis – without ever questioning why we had to resort to the concept of sub-prime mortgages to make housing seem affordable in the first place. It’s the same ignorance that plagues our economists today, still adamant in their refusal to give consideration to how population growth may impact the macro-economy. It’s the same ignorance that fails to recognize the relationship between population density and per capita consumption, and what happens when nations grossly disparate in in these characteristics attempt to trade freely with each other.

It’s only ignorance that allows economists to believe that a global economy which is utterly dependent on the draining of resources of its wealthiest state can be sustained indefinitely. It’s ignorance that leads us to believe that that same state, now collapsing under the weight of its debt, can only be saved by force-feeding it more debt. It’s only ignorance that allows economists to believe that never-ending population growth is the only path to a healthy economy, or that it’s even possible.  It’s ignorance that places total trust in the World Trade Organization, loudly critical of protectionist forces in the United States while very quietly enforcing protectionism in favor of two thirds of its member countries – but not the U.S., of course.

Will Barack Obama carry on this tradition of ignorance by settling upon policy spoon-fed him by his staff and advisers, as his predecessors have done for decades? If policy is crafted by the most capable of ignorant advisers, is it any less ignorant? Or is Mr. Obama wise enough to recognize when policies recommended by his advisers are the same that have been tried before and ultimately led to where we stand now? Will he be courageous enough to trust his own instincts and reach far enough back in history to find policy -especially trade policy – that was a time-tested and proven success? For now, all we can do is hope.


Weekly Jobless Claims Soar Again

December 11, 2008

Weekly jobless claims have soared again to 573,000.  That’s an annual rate of almost 30 million workers, or 22% of the labor force, losing their jobs every year!  The pace of these layoffs is breathtaking and accelerating at the very time of year when job gains are usually their strongest. 

It’s worth noting that, at the peak of the Great Depression in 1933, unemployment reached 25%.  While our official unemployment rate is currently only 6.7%, the way that figure is calculated has been revised many times since  1933, making the data appear better than it is.  Many economists point out that, if we include everyone who is looking for work, has given up looking, or has taken part-time jobs for lack of anything better, unemployment is actually more like 12-13%.  And it’s climbing fast.

This data is a very bad sign that the economy is deteriorating rapidly and that the unthinkable – a depression – is becoming a stronger possibility with each passing day.