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Obama is Correct But for the Wrong Reason

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In a recent interview with 60 Minutes’ Steve Kroft, President Obama was asked if he felt he overpromised during the last presidential campaign when it came to fixing the economy. The president responded:

I didn’t overpromise. And I didn’t underestimate how tough this was gonna be…Reversing structural problems in our economy that have been building up for two decades, that was gonna take time. It was gonna take more than a year. It was gonna take more than two years. It was gonna take more than one term. Probably takes more than one president.

It is uncommon, but I must admit that I totally agree with Obama. However, my agreement with him is for a reason that he did not intend with his remark. He was espousing the view that it would take many more years of Keynesian economic policies to dig ourselves out of the economic ditch. I am saying his position is precisely why it will take many years to recover from the great recession. Essentially history proves that Keynesian economic theory does not work. In fact, it has been proven to make things worse.

An often forgotten (either intentionally or not) economic depression took place in 1920. It was in 1920 that the spending of Congress and the inflation of the dollar by the Federal Reserve in order to fight World War I finally caught up with the U.S. economy. After the artificial boom brought on by government policy busted, unemployment increased from 4 percent to 12 percent. At the same time, GNP contracted by 17 percent. Relatively speaking, the depression of 1920 was as severe as any in U.S. history.

In those days, America still believed in free market capitalism. President Harding’s response was to slash the federal budget almost in half between 1920 and 1922. He also reduced tax rates for all income groups and decreased the national debt by one-third. Additionally, the Federal Reserve did not use its powers to increase the money supply to fight the contraction.

No, the federal government and the central bank’s response were to let the economy liquidate the bad investments that had built up during the spending and inflating of the war years. It wasn’t to try to stimulate the economy back to growth and the Federal Reserve did not attempt to reinflate the economic bubble.

By 1922, unemployment was back down to 6.7 percent and it was only 2.4 percent by 1923. Recovery occurred within two years of the onset of depression and opened the gate for a decade of enormous economic growth.

Now fast forward to the Great Depression of 1929-1946. The common myth is that Franklin Roosevelt brought us out of the Great Depression with his New Deal policies. The New Deal represented the first time in our country’s history that the federal government attempted, in a robust way, to remedy an economic downturn with stimulus spending and other bureaucratic interventions. Roosevelt’s program included make-work schemes, industrial codes of fair competition, guaranteed trade union rights, the regulation of working standards, minimum price fixes on agriculture, petroleum and other products, and a variety of assorted welfare programs. Essentially Roosevelt had taken over the U.S. economy and then over time he found it necessary to raise excise taxes on business to pay for his schemes.

The result was a prolonged depression. The New Deal did not allow the bad investments of the previous boom to liquidate. It discouraged entrepreneurs from investing and the artificially high prices it imposed squelched consumer demand. It was such a failure that in 1939 Henry Morgenthau, Roosevelt’s confidant and Secretary of the Treasury, proclaimed:

We have tried spending money. We are spending more than we have ever spent before and it does not work…We have never made good on our promises. … I say after eight years of this administration we have just as much unemployment as when we started.…and an enormous debt to boot.

And this is why Barack Obama was correct in his statement that it will take many more years to turn the economy around. History proves that government intervention in an economic downtown only worsens the situation. Since taking office in 2009, Obama has spent trillions through make-work projects, Cash for Clunkers, First Time Homebuyers’ credits, extensions to unemployment benefits, and other schemes. He reappointed Ben Bernanke to chairman of the Federal Reserve precisely because he favors the Fed’s long term quantitative easing program which has pumped trillions more new cash into the economy.

What do we have to show for it?  An economy still in shambles four years after the downturn with real unemployment north of 16 percent, a lackluster GDP, 46 million Americans on food stamps, and $4.3 trillion more in debt. Obama is right, it will take years to undo the damage caused by his policies. The question is, why doesn’t Timothy Geithner have the same honesty that Henry Morgenthau Jr. did?

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About Kenn Jacobine

  • http://www.roblogpolitics.blogspot.com RJ

    Good article. I’m surprised there aren’t more (any?) comments.

    – RJ

  • troll

    here’s an alternative view of the 1920 recession with plenty of references for those who are interested in chasing them down

  • http://takeitorleaveit.typepad.com/ roger nowosielski

    Take it easy, RJ. The article just barely saw the day of light. Patience, please.

    Kenn, the main problem with your analysis, it’s static.

    You’re comparing the events of the twenties with today.

    Do you really think any such comparison is valid?

    I happen to think you’re beholden to your cherished view and simply run with it.

    At the very least, and I’m being as uncritical as I possibly can be, your thinking is static, arcane, way too indebted to the past.

  • Kenn Jacobine

    Roger,

    I understand that the U.S., the economy, and technology are a lot different today than they werein the 1920s, but the fact remains that government involvement in recessions does further damage to the econony.

    Japan used stimulus in the 1990s while Chile did not and Japan is far below Chile in economic performance since then (even before the Tsunami). Trillions have been spent in this crisis and the economy is still in shambles.

  • Igor

    Thanks for the citation, Troll. Anyone should be able to read and understand it; the technical complexity is kept low while providing citations to greater depth, plus vigorous pro-con argumentation.

    In particular, it explores the 1920-21 recession, which is often used by the Friedman (Austrian, Chicago, supply-side, etc.) school as a counter example to Keynesian counter-cyclical policies.

  • Igor

    4-Kenn: Not at all. One of the prominent reasons that governments get involved in recessions is because history shows that recessions can go on for a very long time, even decades. Markets do NOT “clear out bad debt” as the Friedmanites wish. Debtors double down on their bad debts, just like desperate gamblers at the casino, and re-enforce the downward trend. This just makes more positive feedback and instability in the system, which is why economists for 200 years have observed that the recessionary cycle in capital systems is systemic, i.e., a property of the system itself. Capital systems are unstable by design, not because of externalities such as famine and war.

    Instability in a system ALWAYS means too much positive feedback, which is why the negative feedback of Keynes’ counter-cyclical policies works. And really, counter-cyclical is just what your mother told you: when the sun is shining put away something for a rainy day.

    By contrast, Friedmanite/Austrian/Chicago/supply-side policies provide NO policy at all for a recession, and THAT is why they freeze and tell everyone else to freeze. They just want to wait for the problem to blow over. Leave our fortunes to fate. As if the recession cycle was a mystery of some sort, imposed on us by the gods.

    Friedmanite policies are obviously bankrupt in a recession because they depend on ever-increasing demand, and efficient markets, and neither applies during a recession. Just look at the current recession: we have a demand drought (simply because the spenders in our society, the lower half of wage-earners and poor) are broke, so they create NO demand. No amount of handouts to business can change that (and so we see money going dormant in excess retained earnings of $3trillion, and excess bank savings of $2trillion).

    Also, the efficient markets demanded by the Austrian school are thoroughly undermined by the monopoly circumstances that their laisse faire inclinations have created.

    So without any useful premise to power a policy the Austrians simply say “do nothing” and hope that the gods relent.

    Kenn said: “…the fact remains that government involvement in recessions does further damage to the econony.”

  • Kenn Jacobine

    Igor,

    Friedmanites, Supply-siders, and Austrians are not the same.

    Friedmanites and Supply-siders are Keynesian Lite. They believe in some stimulus (especially in the area of monetary policy). Austrians (myself included) beleve it doesn’t make sense to do exactly what got you into the crisis. I mean if you have a gasoline fire raging out of control are you going to continue to pour more gasoline on it?

    Our current crisis is not because we lack consumer demand, it is so bad because everyone is still massively broke from the last spending spree (housing bubble). The economy will stay down as long as the government tries to reinflate the bubble – get people to spend again.

    Look there is a shortage of captal right now. If the market were allowed to determine interest rates, they would be higher than they are under Fed policy because when a good (in this case dollars) is short its cost is higher. Thus higher interest rates are an inducement for people to save. While people are saving the mal-investments (bad debts) get liquidated. Eventually the savings provide capital for expansion. Good economies are built on savings not debt. I am afraid we have reached the end of the line for the fiat dollar. And BTW-as long as the Fed fixes the price of the dollar and Washington micromanages our economy you can hardly call it a free market capitalst system. The reason our current system is inherently “unstable” is because of what Hayek called the “Fatal Conceit”, the belief by mortal men that they know what an economy that is based on the wants and needs of millions need.

  • http://takeitorleaveit.typepad.com/ roger nowosielski

    @3, 4

    OK, Kenn, you took a bait, somewhat, so perhaps we can get somewhere, a meeting of minds, if you know what I mean. Let’s start with the common ground — we’re both anti-statist and anti-imperialsm; that’s more than you can say for your many liberal foes.

    So here’s my first leading question: what’s your account of the increased role of finance in matters economic?

  • http://takeitorleaveit.typepad.com/ roger nowosielski

    The challenge still stands, Kenn..

    Since I got you, I won’t let you escape.

  • Zingzing

    name an imperialist around here, Roger. Fuck, name a person other than cheney who would own up to the title in America. “anti-imperialism…” gimme a break. Might as well declare yourself anti-rape and declare everyone else for it while you’re at it.

    Good grief.

  • Igor

    7-Kenn: Just flies in the face of the evidence.

    “Our current crisis is not because we lack consumer demand, …”

    What are you claiming, that demand is NOT lacking, or that poor demand doesn’t cause recessions?

    Of course it’s because of lack of consumer demand. A demand drought reduces sales and it is sales that businessmen look to for hiring. Nobody’s going to hire workers when their sales are falling.

    Demand and sales are the lifeblood of business. Not debt, not capital.

    Good economies are built on sales (demand), not savings, not capital.

    Kenn claims: “Look there is a shortage of captal right now.”

    How stupid! Business and banks are choked with excess capital. there’s at least $5trillion of capital that banks and business are sitting on simply because they have NO sales (demand) on which to deploy capital!

    That is the problem with “supply side” econ, it depends utterly on maximum demand so they can ‘guide’ the supply system properly (i.e., for maximum efficiency and profit). When demand slacks off supply-siders simply have nothing to say, except “wait! Don’t do anything. We have to wait until the gods restore demand.”

  • http://takeitorleaveit.typepad.com/ roger nowosielski

    Glenn, for one, if only by acquiescence. But hell, zing, don’t try to get in the middle of conversation I initiated with Kenn. You’re only acting like a spoil sport. Hold your horses and see what obtains.

    Isn’t it a better strategy, buddy, rather than getting all riled up?

  • http://takeitorleaveit.typepad.com/ roger nowosielski

    I don’t mean to be pulling your strings, but it seems that no matter what I do, the effect is always the same.

  • Kenn Jacobine

    Igor,

    Your argument is pure Keynes. Banks have capital now because the Fed has loaned them triilions of it. They won’t loan because Americans are bad credit risks – they are broke and they can make money in the next Fed induced bubble – the stock market
    Consumers are broke-how can you expect them to spend more? What they have to do is deleverage. They are trying to do that but then the government gives them Cash for Clunkers, housing credits, and the like
    to spend more money they do not have. Afterall, real unemployment (all those without work and underemployed) is over 16 percent of the population. Where is the money to spend? We must let this madness collapse and start over. It is going to collapse under its own weight eventually so the sooner the better.

  • Kenn Jacobine

    Roger,

    I agree with you. I don’t see many liberal foes on here arguing like Ralph Nader and Dennis Kucinich about how Obama was imperialstic to invade Libya for instance. In fact, Glenn publicly condoned the action. I suspect it is because their liberal champion is the one that did the action. But, I digress.

    As to your question, economics and finance are interwoven. You can’t have one without the other. If you control a country’s money you control its destiny. And that is why i believe the Fed is at the root of our
    problems. It benefits the rich at the expense of everyone else. That is why Wall Street continues to prosper in this crisis and everyone else hurts. The big boys have a ready line of credit if they need. They have former colleagues working as their advocates in the government. Everything they do is supposedly to prevent collapse which would kill the rest of us. Thus they are doing us a favor.

    They are only propping up a corrupt system that they have made for themselves. And the system will be called capitalism because when it collapses the same people who gave us the original crisis in 2008 and made the crisis worse today will also be the ones to pick up the pieces and they will need to blame it on an abstract entity to deflect the attention away from themselves and legitimize their positions.

    Our system is not capitalist. Capitalism did not cause this crisis because government and Fed policy did, and capitalsm is not being allowed to fix the problems because if it were the culprits would be on food stamps right now.

  • Igor

    Kenn expresses the hopelessness of the rightists economic principles:

    “Where is the money to spend? We must let this madness collapse and start over. It is going to collapse under its own weight eventually so the sooner the better.”

    So the council of the Friedmanites, the Austrians, the Chicago school is hopelessness! Don’t struggle you are helpless against winds of fate created by the gods which make mere men tremble!

    Are you satisfied with that?!

  • Glenn Contrarian

    Yet again Kenn ignores the fact that there are ZERO first-world democracies but there are MANY third-world nations that work on the economic principles he espouses.

    He flatly ignores the obvious evidence and pretends it doesn’t mean anything…all because he refuses to accept that wow, he might actually be wrong about something.

  • troll

    …in the interest of balance here are a couple of pieces clarifying the Austrians’ political proposal: The Microeconomic Foundations of Macroeconomic Disorder and Higgs’ Regime Uncertainty both pdfs

  • http://takeitorleaveit.typepad.com/ roger nowosielski

    @15

    You’re correct, of course, on one level, and the unfolding crisis in Europe bears your narrative out. I want to dig deeper, however, beyond the conventional wisdom.

    You say that economics and finance are interwoven. If I were to agree, I would replace the first term with “capitalism,” to make a stronger case (for you).

    But let’s consider. Can you think of (ideal) conditions under which this supposedly inherent relationship would prosper? And under what conditions, if any, it might become dysfunctional?

    (b)

  • Zingzing

    “But hell, zing, don’t try to get in the middle of conversation I initiated with Kenn.”

    Who says I can’t? Certainly, you don’t claim that power, do you? You stuck some mindless bullshit and a cheap shot in there. Dunno why you did. Maybe you can’t help yourself. Maybe you wanted to illicit just such a response. Maybe you’re sitting behind your computer rubbing your sweaty palms together and grinning “my evil plan is coming to fruition,” while proclaiming your innocence. Anti-imperialism… Good job, Roger… You’ve joined the 20th century. Now hop in your jalopy and get your ass down to the train station! The future’s waiting!

  • Zingzing

    “I don’t see many liberal foes on here arguing like Ralph Nader and Dennis Kucinich about how Obama was imperialstic to invade Libya for instance.”

    Because that would be a massive stretch. How are you defining imperialism? Our national interests (as far as you or I can tell) are not particularly served by this action. The US leaves behind no gov’t of it’s own and is probable none-too-thrilled with the one emerging. In fact, Obama was quick to give up control to NATO, something always always always ignored when pursuing this line of accusation.

  • http://takeitorleaveit.typepad.com/ roger nowosielski

    Sure you can, zing, and I do hope you’ll contribute to the substance.

  • http://takeitorleaveit.typepad.com/ roger nowosielski

    As to why I stuck some mindless — you fill in the blanks — it ought to be obvious: to establish common ground with Kenn. Didn’t mean to upset you or anyone else.

  • Zingzing

    Well, I hope kenn won’t take offense to the fact that you find mindless bullshit to be the best way to do that.

    As for kenn’s article, I find his generally hackery hard to deal with, and his simplistic nonsense on this article too much to respond to. He ignores facts whenever he pleases.

  • http://takeitorleaveit.typepad.com/ roger nowosielski

    I don’t think he has so far. Anyway, it’s worth a try having a conversation with Kenn.