Welcome to the Greater Depression

greater depression

There are a lot of questions people are asking themselves today. Among them: How serious is this economic downturn likely to be? How long will it last? How can it be ended? Whose fault is it?

The answers to these questions being given by pundits, economists, money honeys, and politicians are, almost without exception, totally incorrect. This is most unfortunate because it means the actions taken by the US (and, it appears, every other government in the world) are not only going to be ineffective but counterproductive.

For years, I’ve predicted something I’ve called the Greater Depression. I’ve seen its arrival as being completely inevitable. Only its exact timing was in doubt. So let me be as clear as I can be about what’s going on in the world right now.

I believe this is it.

We’ve entered a downturn that is going to be longer, deeper, and different than the unpleasantness of 1929-1946.

I sincerely hate to stick my neck out by saying that. Clearly, the longest trend in existence is the Ascent of Man, and it’s usually a mistake to buck any trend; the trend is your friend. But no trend rises like a straight line. That said, it seems to me this is going to be a really, really serious correction – I suspect, the worst since the start of the Industrial Revolution.

You’re going to be bombarded by a barrage of misinformation, misinterpretations, wishful thinking, and snake-oil economics over the next few years. It’s critical that you rationally decide exactly what is happening and why.

My answer, in brief, is that the Greater Depression is almost entirely due to the intervention of government into the economy. The current hysteria over CoronaVirus is simply the pin that broke the bubble. In any event, State intervention takes three forms – taxation, regulation, and currency inflation – all of which are disastrous.

But of these, inflation is likely the worst, since it’s not only an indirect form of taxation, but it causes the business cycle, and that results in huge distortions in the ways people produce and consume, and causes huge misallocations of capital.

The best general definition of depression is: a period of time when most people’s standard of living drops significantly.

What you’re looking at is the Greater Depression. This isn’t a drill or an academic exercise woven out of airy fabrics.

Why the Depression is Happening

The physical world is unlikely to be changed much by the Greater Depression, but the way people relate to the world will change a great deal.

A real-estate collapse doesn’t mean buildings will tumble – but their prices will, and their owners may change.

A corporation’s bankruptcy doesn’t mean that the factories or technology it owned will vanish; they will become the property of a different corporation.

A government default on its bonds doesn’t mean the country (which is not at all the same thing as the government) is bankrupt. It just means that those who held the bonds are poorer and those who otherwise would have been taxed to pay the bonds are richer.

In other words, all the real wealth will still be there, but its ownership will change. And some commodities will become more (or less) valuable relative to other commodities.

The people who wind up wealthy as the Greater Depression unfolds will, predictably, be those who understand what’s going on. A grasp of the business cycle is essential to that understanding.

The business cycle is the phenomenon of boom and bust caused by inflation. It has been labeled as one of capitalism’s “internal contradictions” since the time of Karl Marx, but it is in fact the work of government. In a pure laissez-faire economy, the business cycle would not exist because there could be no politically driven inflation.

How does inflation cause the business cycle and, in turn, a depression? Let’s perform an autopsy.

Stage One: Inflation and Boom

Suppose that the city of Santa Monica, California, is an independent nation.

People are producing and trading to get what they want and need out of life. With no welfare, everyone is forced to work to support himself. The government concerns itself with maintaining the police and the courts and pretending that its little army keeps the rest of the world at bay.

Life is mellow, and the weather is good.

Let’s further suppose that the re-election campaign strategist for some local politician persuades some of the government’s economic advisors that Santa Monica is not as prosperous as it ought to be.

The economists opine that because there is a pool of “unemployed” (recent graduates, bored retirees, fire-ees, and recent job quitters), the economy suffers from a lack of consumer demand.

Creating demand seems like a good idea, so the government credits the bank account of every Santa Monican with $10,000.

The picture changes rapidly. Although there is no more wealth, there is a lot more money, say 20 percent more.

Everyone feels, and starts acting, much richer. They spend more. The economy is “stimulated.”

We’ll follow the fortunes of the swimming-pool industry, although every business in Santa Monica would have a similar tale.

The first business to prosper because of the government’s new monetary policy might be the telephone company, because all the phone lines are jammed with citizens trying to call the local swimming-pool company to place an order.

Believing that their ancient “reach out and touch someone” marketing campaign is finally catching on, phone company executives make plans to put in more lines and hire more operators.

But the telephone company’s expansion isn’t nearly as dramatic as that of the swimming-pool company, which is soon swamped with orders. Its owner is gratified that the market is finally rewarding his skills. It never occurs to him that the government’s actions might be causing a temporary upsurge in demand.

In any event, he raises prices to take advantage of the increased demand and then runs down to his bank to borrow some money for expansion.

The suppliers of swimming-pool materials, such as concrete, copper pipe, and earthmoving equipment, also go out and borrow money to expand.

Because the banks have just taken in billions of dollars, courtesy of the government, they have plenty of money to lend, and at very low rates.

“Interest” is the rental price of money, and with money in such ample supply, the price drops. Like any other businessmen with excess inventory, the bankers have a “special” on money.

All the expanded companies need new workers but have trouble getting them, since everyone willing to be is already employed.

To induce workers to change jobs, the pool suppliers offer higher wages. Late-night television is filled with ads for schools who will train people to drive heavy equipment, pour cement, and lay pipe to take advantage of those great new jobs.

Meanwhile, all this activity hasn’t escaped the notice of budding entrepreneurs. Soon the family leisure vans and custom surfboards are put up as collateral for loans to start new swimming pool companies.

Bankers are eager to oblige, since they now have so much money on deposit and can only make profits by lending it out.

Stockbrokers, seeing a new growth industry, raise millions from eager investors with an unexpected $10,000, and float new issues.

Business is excellent, and many millionaires are made overnight.

A new class of swimming-pool construction millionaires emerges. They and their highly paid employees drive Ferraris and wear Armani suits, gold chains, and silk shirts.

Merchants draw down their cash reserves to stock up on inventory to cater to them.

Many people liquidate their savings to move into bigger houses (the banks have loads of money for mortgages), and the real-estate market moves up. So does the stock market, since companies everywhere are expanding.

With wages and profits up and stocks and real estate adding value daily, most people tend to work less and play more.

A “new era” appears to have arrived, with universal prosperity and a higher standard of living for all. It looks like the economists were right, and a little inflation is a good thing.

So far, it’s a pretty picture.

But this is a game, like the “What’s wrong with this picture?” puzzles we used to have in grade school. This is where it pays to have the skills of an economist. The immediate and direct effects of the government’s inflation certainly seem good, but what are the delayed and indirect effects?

The folks in the government have little concern for delayed effects, even assuming some spoilsport points them out. The problems are in the future – after the next election. And since long-term effects are indirect, they are easy to blame on something or someone else.

The perceived benefits of inflation, however, are not only very clear, they’re in the here and now. Moreover, the “economists” say “fine tuning” may extend the boom indefinitely.

So the government will probably fail the “What’s wrong with this picture?” test that a six-year-old would pass. But let’s find out.

Stage Two: A Slowdown

After a while, everyone who wants a swimming pool has placed an order, and sales taper off.

Furthermore, people have started to notice a disturbing trend: prices around town have been moving up. The “economists” have neglected to mention that prices always rise when the supply of money increases without a corresponding increase in the supply of goods and services.

But what about all the new pools and other items? Aren’t they the goods and services that the inflation made possible?

Yes, but no new wealth has been created, just different – and more visible – types of wealth.

Everyone who got into the swimming-pool business was doing something else before, something that he’s not doing now. Even though everyone’s standard of living has gone up in some obvious ways, it’s already started dropping in other ways. All those new heavy-equipment drivers used to be parking cars, pumping gas, and washing dishes. Their ex-employers have found out that no one wants to work at menial jobs. Good help has become hard to find. Perhaps they can import a lot of Mexican labor.

If the government’s inflationary gift to the people has increased the money supply by 20 percent, then prices in general have increased by 20 percent.

The price inflation will be uneven, however; not all prices will increase by the same amount. The prices of some particularly desirable goods – like swimming pools, the water to fill them, and the big houses new millionaires can suddenly afford – now cost much more.

A few things may actually drop in price, like the rice and beans that only poor people eat. The demand for them has decreased, since poor people are trading up to chicken and beef, which hit new highs.

It is impossible to get a plumber to fix a leak in a home, perhaps because his time is much more valuable subcontracting to a pool-piping entrepreneur.

The rare doctor who once made house calls no longer will; he has made millions investing in newly floated swimming-pool company stock.

Babysitters now start at $25 an hour, for a minimum of four hours. And interest rates are starting to head up, since people have exhausted their savings and will not save more unless they get an “inflation premium” – higher interest rates to compensate for the debasement of the currency – on their capital.

In fact, lots of subtle distortions are filtering through the economy.

Some people who spent their $10,000 to buy a swimming pool are finding that demand has driven the price of water way up and they cannot afford to fill their pools; nor can they afford to maintain them with higher-priced labor.

And since most people are consuming more and producing less, as people do when they feel wealthier, there is less wealth than there was before the magic of monetary policy transformed the way their world worked.

Santa Monicans acted in ways they wouldn’t have if the government had not created all the new money. Inflation has encouraged them to produce things they would not have (like swimming pools) and not to consume things they would have before (like rice and beans).

The inflation also has encouraged an over-allocation of capital to inventories of luxury goods. Even though a lot of people have fine new pools, the standard of living has gone down in subtle ways.

Stage Three: Full Recession

Soon there is a rapid decline in new orders to the many pool companies now in business.

Bankers and brokers had not realized that an economy that could support only one pool company before the boom might have trouble supporting twenty a short time later.

In fact, less demand exists now than before, when only one company operated, since many sales have been stolen from the future.

The companies have to start laying off employees; many have trouble repaying their bank loans.

The telephone, copper, and cement companies feel the ripple effect, as do the Ferrari and gold-chain dealers, and the stock market collapses. Doctors fret as their swimming-pool stocks plummet.

The Santa Monica economy is experiencing a recession. A recession follows an inflationary boom when the market tries to readjust to normal patterns of supply and demand.

It’s a painful period when the free market corrects the misallocation of resources encouraged by government inflation.

People have more of some consumer products than ever, and there is more plant capacity to produce those products, but few people are as well off as they were before the inflation. They’re actually less well off than if the government had only taxed them.

Taxes alone would not have led people to think they were richer than they really were; there would be much less need for bankruptcy lawyers.

It is a paradox that even though the artificial boom caused many problems (however much fun it was at the time), the recession actually has many positive aspects.

Consumers cut back on spending, so they are again building up savings.

Businesses lower prices to induce consumers to buy.

Workers, afraid of losing their jobs, work harder (that is, increase productivity).

Companies (and workers) that cannot give consumers what they want at prices they can afford are forced to improve the way they do business.

And citizens who were prudent during the boom have numerous bargains to choose among.

Whether the recession becomes a depression is largely up to the government, which should admit that its effort to stimulate the economy was a stupid idea; the government hasn’t raised the general standard of living, just changed people’s patterns of production and consumption. It actually reduced the overall level of prosperity.

At this point the government should exit the scene, let the swimming-pool companies go bankrupt, allow the banks’ shareholders to eat their loan losses, and permit the would-be tycoons to go back to parking cars and pumping gas.

But doing this would make politicians immensely unpopular, and they would have to find a new line of work after the next election.

Besides, if they play it right, the crisis can be turned into an opportunity to increase their power and prestige. And of course, their economic advisors have plenty of “new ideas” for “change.”