The Monetary Crisis (51)

Review of Murray Rothbard's America's Great Depression

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Why I invested so much time to read this book

Up to the Lehman bankruptcy I always had avoided to read economic literature and I must admit this has been an error. As soon as I started analyzing the economic crisis I learned only few economists could be considered as scientists in the strict sense of the wordings. I did read a number of works such as The Federal Reserve System Purposes and Functions (19541), but I understood most of the leading economists, the Economic Noble Prize winners and the members of the current system would not be able to explain the current crisis and I started to investigate the Austrian theory. The Austrian theory states that2 governmental expansion of the supply of money and credit: causes inflation, dislocating the economy and bringing impoverishment to those people whose incomes fall behind in the inflationary race. distorts the structure of investment and production, causing excessive investment in unsound projects in the capital goods industries.

This could easily be identified in the Euro-zone, where unsound projects have been started in overwhelming amounts, most of which are based on political motivated subsidies. According to Austrian theory sound political decisions involve measures to abolish the Federal Reserve System and a return to a gold standardto a money based on a commodity produced, not by government printing presses, but by the market itself. In the view of the current crisis, which (in contrast to the Wall Street collapse of September October 1929) had not been caused by restrictions of the gold standard, seemed to make sense. Murray N. Rothbard's America's Great Depression is a great historical record of the depression, but for me the most striking impact of the book (written 1963 and in details probably updated 2008) are to be found in the parallels between events and mechanisms of the years 1929-1931 and 20072012. The author managed to create a suspense story, in which the president's anger and despair can be felt in the recorded actions. These actions evidently follow the same pattern we recognize in the political decisions we might read and follow in today's newspapers. I decided to synchronize Rothbard's recorded events with what had been happening since the last publication of his work (2008). The suspense may be found in the prophetic forecast of the last phase of the crisis, which may be read in details. I decided to list some samples of the recent key events that reminded me of the parallel events of Murray Rothbard's description. The parallels are so striking that I find it hard to consider another screenplay for the coming months than the one we may read in America's Great Depression. And although the Euro-zone does not rely on a Federal Reserve the fundamentals have been chosen to be similar and in fact the - and the $-systems may be considered as Siamese Twins.

1 published by the Board of Governors of the FED 2 America's Great Depression, by Murray Rothbard, page xxvii (31)

Indeed Rothbard also identified the prophetic impact of the Austrian Cycle Theory and his work America's Great Depression: The guilt for the Great Depression must, at long last, be lifted from the shoulders of the freemarket economy, and placed where it properly belongs: at the doors of politicians, bureaucrats, and the mass of enlightened economists. And in any other depression, past or future, the story will be the same3. And of course every economical crisis belongs to a battle. In the end economical crises are battles in economic wars, which in fact are quite similar to the military wars: The battle to set our economic machine in motion in this emergency takes new forms and requires new tactics from time to time. We used such emergency powers to win the war; we can use them to fight the depression.4 Rothbard clearly illustrates each step of the depression. Each of these steps also may be identified in the current crisis. These parallel events needed to be listed for further analysis and I commented my remarks for further analysis and my own plannings for the future years. This way Murray Rothbard's America's Great Depression allowed me to derive a realistic and helpful screenplay for the current monetary crisis, which although it has not been published explicitly in Rothbard's work might be checked by other readers. The list is contained in Appendix I. My review is based on the following individual notes which seemed important to me to understand business cycle theory and the parallels between the current and a previous crisis. I am grateful to The Ludwig von Mises Institute for publishing this fascinating work, helping me in understanding a complicated theory.

3 America's Great Depression, by Murray Rothbard, page ccclxxix (383) 4 America's Great Depression, by Murray Rothbard, page ccclxv (369)

Review of America's Great Depression

The Wall Street collapse of SeptemberOctober 1929 and the Great Depression which followed it were among the most important events of the twentieth century. Murray N. Rothbard's America's Great Depression (initially published 1963), in the fifth edition published by The Ludwig von Mises Institute5, is a voluminous manuscript with an overwhelming amount of numbers to describe the collapse en the Great Depression.

Time Schedule
To an average reader the exact numbers will hardly be informative, although they must be given in a scientific work. Important however are dates, which may be needed to synchronize today's crisis with the Great Depression. Murray N. Rothbard dates the end of the inflationary boom of the 1920s at the end of 1928, in which the money intended for commercial use had been flowing into stock-market purposes. Once the credit system had become infected with cheap money, it was impossible to cut down particular outlets of this credit without cutting down all credit, because it is impossible to keep different kinds of money separated in water-tight compartments. It was impossible to make money scarce for stock-market purposes, while simultaneously keeping it cheap for commercial use. . . . When Reserve credit was created, there was no possible way that its employment could be directed into specific uses, once it had flowed through the commercial banks into the general credit stream. And so ended the great inflationary boom of the 1920s. It should be clear that the responsibility for the inflation rests upon the federal governmentupon the Federal Reserve authorities primarily, and upon the Treasury and the Administrationsecondarily. The United States government had sowed the wind and the American people reaped the whirlwind: the great depression6. A great economy does not react instantaneously to change. Time had to elapse before the end of inflation could reveal the widespread malinvestments in the economy, before the capital goods industries showed themselves to be overextended, etc. The turning point occurred about July, and it was in July that the great depression began7. Production and business activity began to decline in July, 1929, although the famous stock market crash came in October of that year 8. Since few Americans were familiar with the Austrian theory of the trade cycle, few realized what was going to happen.

5 6 7 8

ISBN No.: 978-0945466-05-8, 418 pages America's Great Depression, by Murray Rothbard, page ccix (213) America's Great Depression, by Murray Rothbard, page cciv (208) America's Great Depression, by Murray Rothbard, page cxxxiii (137)

Manipulating Inflation Numbers

The first striking suggestion hit me in Part II, chapter 6, titled Theory and Inflation: Economists and the Lure of a Stable Price Level: One of the reasons that most economists of the 1920s did not recognize the existence of an inflationary problem was the widespread adoption of a stable price level as the goal and criterion for monetary policy9. I already knew the inflation numbers had been manipulated, but I didn't understand how. The maximal allowable standard inflation rate in the Euro-zone had been set to 2.0%. Rothbard however described the additional factors, which traditionally have been excluded from the inflation numbers: the special raise of costs for expensive real estate properties. The trouble did not lie with particular credit on particular markets (such as stock or real estate); the boom in the stock and real estate markets reflected Misess trade cycle: a disproportionate boom in the prices of titles to capital goods, caused by the increase in money supply attendant upon bank credit expansion. The price level, in short, rose slightly until 1925 and fell slightly thereafter. Consumer price indices also behaved in a similar manner. On the other hand, the Snyder Index of the General Price Level, which includes all types of prices (real estate, stocks, rents, and wage rates, as well as wholesale prices) rose considerably during the period, from 158 in 1922 (1913 = 100) to 179 in 1929, a rise of 13 percent. Stability was therefore achieved only in consumer and wholesale prices, but these were and still are the fields considered especially important by most economic writers. That the boom was largely felt in the capital goods industries can be seen by (a) the quadrupling of stock prices over the period, and by (b) the fact that durable goods and iron and steel production each increased by about 160 percent, while the production of nondurable goods (largely consumer goods) increased by only 60 percent10. Federal Reserve credit expansion, then, whether so intended or not, managed to keep the price level stable in the face of an increased productivity that would, in a free and unhampered market, have led to falling prices and a spread of increased living standards to everyone in the population. The inflation distorted the production structure and led to the ensuing depressionadjustment period. It also prevented the whole populace from enjoying the fruits of progress in lower prices and insured that only those enjoying higher monetary wages and incomes could benefit from the increased productivity. In an act unprecedented in its history, the Federal Reserve moved in during the week of the crashthe final week of Octoberand in that brief period added almost $300 million to the reserves of the nations banks. During that week, the Federal Reserve doubled its holdings of government securities, adding over $150 million to reserves, and it discounted about $200 million more for member banks.

9 America's Great Depression, by Murray Rothbard, page ccxi (215) 10 America's Great Depression, by Murray Rothbard, page ccxiii (217)

Cheap Money
The next striking remark was Rothbard's description of experiments with cheap money, which today is found in a global context all around the world. Cheap money is a significant indicator for crises: In a time of depression and financial crisis, banks will be reluctant to lend or invest, (a) to avoid endangering the confidence of their customers; and (b) to avoid the risk of lending to or investing in ventures that might default. The artificial cheap money policy in 1932 greatly lowered interest rates all-around, and therefore further discouraged the banks from making loans or investments. Just when risk was increasing, the incentive to bear riskthe prospective interest-returnwas being lowered by governmental manipulation11. Cheap money as an experiment has been tried out in 1929 and it certainly did not restore confidence and make capital more abundant for the working classes. Instead it burdened them, their children and neighbors with a heavy load for the future. And it still remains to be proven that shaky banks have really been saved. Skipping the unknown factor X12 the following statement might have as valid in 2009 as in 1929 and initially we probably have no idea of the real name for president X in the following statement: President X was proud of his experiment in cheap money, and in his speech to the business conference on December 5, he hailed the nations good fortune in possessing the splendid Federal Reserve System, which had succeeded in saving shaky banks, had restored confidence, and had made capital more abundant by reducing interest rates13.

Barter economy as a last Resort

The economy of the last resort is barter economy, which already is practiced in Iran, who trades oil for gold. In the end however barter will be outperformed by the depression. This is what history tells us. Now, on May 3, a convention of 3000 Iowa farmers led by Reno voted to call a strike on July 4. Their slogan: Stay at HomeBuy Nothing, Sell Nothing, and their song: Lets call a Farmers Holiday A Holiday lets hold Well eat our wheat and ham and eggs And let them eat their gold. This self-destructive threat to return to a barter economy was originally supposed to last a month as a warning to the rest of society. But, by the fall of 1932, the movement had become a continuing mob. All this agitation however failed to raise prices; in fact, more goods flowed in from non-striking (largely non-Iowa) sources, and prices continued to fall rapidly.

11 America's Great Depression, by Murray Rothbard, page cccxlvi (349-350) 12 And wouldn't we be surprised to identify X as president Hoover? 13 America's Great Depression, by Murray Rothbard, page cclviii (262)

Increasing fiscal Burdens

There are rumors the financial cliff may only be escaped by higher taxes and it would be interesting which experiences had been documented in 1929. It might be a prophetic vision of what will happen in the coming weeks. In 1929 the fiscal burden of government had substantially increased when it should have been lowered: In a depression, it is particularly important that the governments fiscal burden on the economy be reduced. In the first place, it is especially important at such a time to free the economy from the heavy load of governments acquiring resources, and second, a lowering of the burden will tend to shift total spending so as to increase investment and lower consumption, thus providing a double impetus toward curing a depression14. What is going to happen if the taxes are to be raised to overcome the fiscal cliff. Just think of what happened in the Great Depression: Despite the drastic increase in tax rates, total Federal revenue for 1932 declined because of the deepened depressionitself partly caused by the increase in tax rates15.

Too big to Fail as a common strategy

Too big to fail-formatted banks are rather new inventions. Indeed it is cheaper to avoid assurances and make any institution so big that it must be supported at any cost. I was astonished this had happened in Austria and known in 1931, but nobody seems the have learned from history. Over-expansion still is a typical banking problem, especially in a market of suspicion - similar to the situation in 1931. The typical blind and terrified political action is being observed in today's crisis as well: The foreign crisis began (1931) in the BodenKredit Anstalt, the most important bank in Austria and indeed in Eastern Europe, which, like its fellows, had overexpanded. It had suffered serious financial trouble in 1929, but various governmental and other sources had leaped to its aid, driven by the blind expediency of the moment telling them that such a large bank must not be permitted to fail16.

Confidence & confidential information

How trustworthy is a (central) banker's information? In a monetary war any information may as well be considered true in its reversed version. If a governor is assuring A, it may often (or always?) be safer to believe not-A, which may be illustrated by the following fact: It is a final measure of the character of Governor Montagu Norman 17 that only two days before the repudiation, he gave Doctor Vissering, head of the Netherlands Bank, unqualified assurance that Britain would remain on the gold standard and that therefore it was safe for the Netherlands to keep its accounts in sterling. If the Netherlands was tricked, it is possible that Montagu Normans fast friends in the United States were informed in advance18.

14 15 16 17 18

America's Great Depression, by Murray Rothbard, page ccxcvi (300) America's Great Depression, by Murray Rothbard, page cccxxx (334) America's Great Depression, by Murray Rothbard, page ccxcix (303) Lord Montagu Norman was Governor of the Bank of England from 1916 to 1944 America's Great Depression, by Murray Rothbard, page ccci (305)

The only wise decisions can be made in secrecy - in the absence of voters, congressmen and senators. Most of the secrets are intended to hide the truth until the catastrophic result becomes public anyway. The official standpoint hasn't changed ever since democracy has been invented: Furthermore, since the taxpayers pay for government and are supposed to be its owners, there is no excuse for governmental representatives to keep secrets from their own principals. In a democracy, secrecy is particularly culpable: for how can the people possibly make intelligent decisions if the facts are withheld from them by the government?19

Forget Free Markets

A good example of destructive power of free markets is found in the case of Texan oil in 1931, in which large amounts of oil have been sold for a very low price: In 1931, new oil discoveries in East Texas drove the price of crude down from one dollar a barrel to 22 cents a barrel, and cartelists and conservationists set up a hue and cry. The lead was taken by Oklahoma's Governor Alfalfa Bill Murray, who ordered a general shutdown of the crude oil industry until the price of oil should rise to the minimum fair price of one dollar a barrel20.

From Inflation to Deflation

Sometimes it seems unclear why inflationary activity might end up in deflation, but it may become clear from Rothbard's historical description: Foreigners who lost confidence in the dollar, partly as a result of the program, and drew out gold; American citizens who lost confidence in the banks and changed their deposits into Federal Reserve notes; and finally, bankers who refused to endanger themselves any further, and either used the increased resources to repay debt to the Federal Reserve or allowed them to pile up in the vaults. And so, fortunately21, inflation by the government was turned into deflation by the policies of the public and the banks, and the money supply dropped by $3.5 billion22. And, from the previous Cheap Money-chapter, Atlee Pomerene might have understood why banks are refusing to make loans. The anger of the inflationist authorities at the caution of the banks was typified by the arrogant statement of RFC chairman, Atlee Pomerene: Now . . . and I measure my words, the bank that is 75 percent liquid or more and refuses to make loans when proper security is offered, under present circumstances, is a parasite on the community.

Hoarding
Hoarding may be understood as not obeying the prescribed political line: A hoarder is unpatriotic; he restricts and destroys credit (i.e., he is exposing the unsound nature of the credit which was granted against his interests and in destruction of his property).

19 20 21 22

America's Great Depression, by Murray Rothbard, page cccxxxviii (342) America's Great Depression, by Murray Rothbard, page cccxxv (329) What is so fortunate at all? And for whom? And how long? America's Great Depression, by Murray Rothbard, page cccxlvi (350)

Seeing money-in-circulation increase by $800 million in 1931, Hoover engineered a coordinated hue-and-cry against traitorous hoarding. Hoarding, of course, meant that individuals were choosing to redeem their own property, to ask banks to transform their deposits into the cash which the banks had promised to have on hand for redemption23.

Bank Runs
It is characteristic of depressions that, because of the inherently fraudulent nature of the commercial banking system, any real attempt by the public to redeem its own property from the banks must cause panic among banks and government alike24.

Suggested Solutions Compensating the dollar

The Fed was to be given power to raise or lower the gold weight of the dollar when it deemed necessary, a harking back to Irving Fishers old The Hoover New Deal of 1932 scheme of the compensated dollar.25. I thought of another, uncommon, solution to the problem of compensating for the lost values by increasing the paper weight of fiat money. And any time I read this suggestion the idea ends up in hilarious laughter.

Separate barter systems

Undoubtedly the wildest of all the monetary schemes were those that envisioned Federal support for some sort of separate barter system among the unemployed. Here, at last, the absurd schemes of statists and inflationists reached an apogee: a virtually conscious withdrawal from the civilized monetary economy, and a step toward return to the primitive realm of barter.

An Outflow of Gold
In crises the outflow of gold is similar in gold-standard based and in fiat-based monetary systems. Professor H. Parker Willis proved prophetic in attacking the Federal Reserves past and projected future inflationary policy during the depression. Willis pointed out that the cheap money policy in late 1929 and in 1931 caused a dangerous outflow of gold, and led therefore to loss of confidence in the dollar and to bank failures, which accentuated the loss of confidence. In short, wasteful malinvestments would only be aggravated. The gold standard would also be gravely endangered. In short, inflation and cheap money retard progress toward the reestablishment of a solid . . . system of prices and values. Willis called courageously for a hands-off policy by the Federal Reserve26.

23 24 25 26

America's Great Depression, by Murray Rothbard, page cccxlviii (352) America's Great Depression, by Murray Rothbard, page cccxlviii (352) America's Great Depression, by Murray Rothbard, page ccclii (356) America's Great Depression, by Murray Rothbard, page ccclvi (360)

Two Choices
In a democratic system a president cannot reduce expenditures, which is overwhelming much more difficult than raising taxes. In fact if you are a president X, you might as well vote for plan B: (raising taxes). If he wanted to balance the budget, president X had two choices open to him: to reduce expenditures, and thereby relieve the economy of some of the aggravated burden of government, or to increase that burden further by raising taxes. He chose the latter course27. I didn't take the trouble to fill in the president's name in this quotation. In fact the name is a variable mask, which is exchangeable.

Weakening the bankruptcy laws

Just the other day German life insurances announced they will refuse to pay the full amount of money a customer expects. This has been noticed in the Great Depression as well: As in most depressions, the property rights of creditors in debts and claims were subjected to frequent attack, in favor of debtors who wished to refuse payment of their obligations with impunity. We have noted the Federal drive to weaken the bankruptcy laws. States also joined in the attack on creditors28.

Loss of confidence
I felt interested how long it took to lose confidence in a currency at a critical crisis. This had been investigated and documented by Rothbard as follows: For the first time in the depression, American citizens were beginning to lose confidence in the dollar itself. The loss of confidence reached its apogee in February, 1933, the month before the Roosevelt inaugural. In that one month, the monetary gold stock fell by $173 million, and money in circulation increased by the phenomenal amount of $900 million, the reflection of domestic loss of confidence29. The event coincided with the summit in the number of failing banks: The number of commercial bank failures increased from 1,453 in 1932 to 4,000 in 1933 (most of which took place in the first quarter), with deposits of failed banks increasing from $706 million to $3.6 billion in the same period. Thus, despite the gigantic efforts of the Fed, during early 1933, to inflate the money supply, the people took matters into their own hands, and insisted upon a rigorous deflation (gauged by the increase of money in circulation) and a rigorous testing of the countrys banking system in which they had placed their trust.

27 America's Great Depression, by Murray Rothbard, page cccxxviii (332) 28 America's Great Depression, by Murray Rothbard, page ccclxv (369) 29 America's Great Depression, by Murray Rothbard, page ccclxvi (370)

Bank Holidays
Some banks which had kept themselves clean and healthy were to be forced to join the bad banks in their bank holidays. Therefore none of the banks seemed be really safe30. One by one, states imposed bank holidays by fiat, thus permitting the banks to stay in business while refusing to pay virtually all of the just claims of their depositors31. On the request of bankers for government to save them from the consequences of their own mistakes, state after state, beginning with Indiana, declared moratoria and bank holidays. The holiday laws either (a) forbade banks to redeem the funds of depositors, or (b) permitted the banks to choose the proportion of claims that they would pay, or (c) designated the proportion of claims the depositors might redeem32.

Laws being rammed through

To avoid panics it is observed that especially in the current Euro-zone laws are being rammed through, which in Rothbard's description has been described for 1929-1933 as follows: The states adopted this procedure quickly and virtually without debate, the laws being rammed through on the old political excuse that the taxpaying and voting public must be kept in ignorance of the situation in order to prevent panic. In such a manner do the peoples representatives characteristically treat their supposed principals33.

Bank deposits are money-substitutes

At times like these, also, it becomes clear that bank deposits are not really moneyeven on a paper, let alone a gold standardbut mere money-substitutes, which serve as money ordinarily, but reveal their true identity when nationwide confidence begins to collapse. By March 4, every state in the Union had declared a bank holiday, and the stage was set for President Roosevelts dramatic and illegal closing of all the banks. Restrictions against so-called hoarding were continued afterward, and much hoarded gold returned to the banks following a Federal Reserve threat to publish a list, for full public scorn, of the leading gold hoarders. It soon became clear that, with the advent of the Roosevelt administration, the American gold standard was doomed. Something had to be done. Essentially, there were two possible routes. One was the course taken by Roosevelt; the destruction of the property rights of bank depositors, the confiscation of gold, the taking away of the peoples monetary rights, and the placing of the Federal Government in control of a vast, managed, engine of inflation. The other route would have been to seize the opportunity to awaken the American people to the true nature of their banking system, and thereby return, at one swoop, to a truly hard and sound money. At Hoover's goodbye in March, 1933 the US-production had dropped by more than 50%. Unemployement reached the 25%-level34. Real wage rates, for the workers still remaining employed, however actually increased.

30 quotation of H. Parker Willis - A Crisis in American Banking, America's Great Depression, by Murray Rothbard, page ccclxix (373) 31 America's Great Depression, by Murray Rothbard, page ccclxvii (371) 32 quotation of H. Parker Willis - A Crisis in American Banking, America's Great Depression, by Murray Rothbard, page ccclxix (373) 33 America's Great Depression, by Murray Rothbard, page ccclxix (373) 34 America's Great Depression, by Murray Rothbard, page ccclxxii (376)

What was the trouble? Economic theory demonstrates that only governmental inflation can generate a boom-and-bust cycle, and that the depression will be prolonged and aggravated by inflationist and other interventionary measures35. These factors of governmental inflation, inflationist and other interventionary measures haven't been avoided, but seem to have been intensified since 1933.

35 America's Great Depression, by Murray Rothbard, page ccclxxviii (382)

Appendix 1: Screenplay for a crisis

The following list is a standard screenplay for a crisis, which I derived from Murray Rothbard's America's Great Depression.

Events from the Past (of the current crisis)

The screenplay seems to follow a list of events, which more or less may follow a standard path: concentration on keeping certain components of inflation stable (and ignore the others)36 the survival of bankrupt too big to fail-formatted banks (dated 1929-1931)37 the initiation of deflation initiation of hoarding and the fear for bank runs38 initiation of cheap money policy (dated 1929 and 1931 in Murray Rothbard's America's Great Depression) to be followed by an outflow of gold raising taxes instead of cutting governmental costs (dated 1929 ) weakening the bankruptcy laws (e.g. for insurances)39 gigantic effort to inflate the money supply (dated early 1933 in Murray Rothbard's America's Great Depression)

Events for the Future (of the current crisis)

The preceding events already have been observed. The following events still belong to the future of the current crisis: loss of confidence in the currency (dated 1933 in Murray Rothbard's America's Great Depression) a summit in the number of failing banks (first quarter of 1933)40 the starting phase of bank holidays41 ramming through the required laws42 closing all banks (dated March 4,1933) publish a list, for full public scorn, of the leading gold hoarders43 (dated 6-12 March 193344) the destruction of the property rights of bank depositors45 the confiscation of gold46 (dated 9. March 1933)47 the taking away of the peoples monetary rights48 placing of the Federal Government in control of a vast, managed, engine of inflation49

36 37 38 39 40 41 42 43 44 45 46 47 48 49

America's Great Depression, by Murray Rothbard, page ccxiii (217) America's Great Depression, by Murray Rothbard, page ccxcix (303) America's Great Depression, by Murray Rothbard, page cccxlviii (352) America's Great Depression, by Murray Rothbard, page ccclxv (369) America's Great Depression, by Murray Rothbard, page ccclxvi (370) quotation of H. Parker Willis - A Crisis in American Banking, America's Great Depression, by Murray Rothbard, page ccclxix (373) America's Great Depression, by Murray Rothbard, page ccclxix (373) America's Great Depression, by Murray Rothbard, page ccclxx (374) Great Depression - Mises Wiki America's Great Depression, by Murray Rothbard, page ccclxxi (375) America's Great Depression, by Murray Rothbard, page ccclxxi (375) Gold confiscation: Why U.S. gov`t did it in 1933 America's Great Depression, by Murray Rothbard, page ccclxxi (375) America's Great Depression, by Murray Rothbard, page ccclxxi (375)