If we are right, the massive effort by the feds will make things massively worse. That is the position taken by Arthur Laffer in a recent Wall Street Journal editorial:
“The damage caused by high taxation during the Great Depression is the real lesson we should learn. A government simply cannot tax a country into prosperity. If there were one warning I’d give to all who will listen, it is that U.S. federal and state tax policies are on an economic crash trajectory today just as they were in the 1930s.
“The Smoot-Hawley tariff of June 1930 was the catalyst that got the whole process going. It was the largest single increase in taxes on trade during peacetime and precipitated massive retaliation by foreign governments on U.S. products…beginning in 1932 the lowest personal income tax rate was raised to 4% from less than one-half of 1% while the highest rate was raised to 63% from 25%. (That’s not a misprint!)… By the end of January 1934 the price of gold, most of which had been confiscated by the government, was raised to $35 per ounce. In other words, in less than one year the government confiscated as much gold as it could at $20.67 an ounce and then devalued the dollar in terms of gold by almost 60%. That’s one helluva tax….
“Inflation can and did occur during a depression, and that inflation was strictly a monetary phenomenon…”
“The 1933-34 devaluation of the dollar caused the money supply to grow by over 60% from April 1933 to March 1937, and over that same period the monetary base grew by over 35% and adjusted reserves grew by about 100%. Monetary policy was about as easy as it could get. The consumer price index from early 1933 through mid-1937 rose by about 15% in spite of double-digit unemployment. And that’s the story.”
We had no doubt that inflation can occur during a depression; hey, we read the papers. Anyone who has followed the Zimbabwe story knows that you can have a deadly depression…and dizzying levels of inflation at the same time.
But there’s always more to the story. Devaluing the dollar in terms of gold had the immediate effect of increasing the money supply – it was like adding zeros to the currency.
In our wallet is a ten trillion dollar Zimbabwean bill, with a picture of stones on it. Those words – ‘ten trillion’ – did not get printed on that bill by accident. We assume they got printed on their by a printer in the employ of a government that figured that the cost of printing a ten trillion dollar bill was less than the cost of not printing it.
That is, by a desperate government that had so fouled-up the economy that a period of hyperinflation might seem like an improvement. Besides, hyperinflation might have a therapeutic, purgative effect.
But let us not get sidetracked by hyperinflation. It is nowhere in sight. Nor is its more civilized cousin – normal, polite inflation. The money supply in America – as measured by M2 – is contracting. The banks get money from the feds, but they don’t pass it along. The chain of reflation is broken – or at least temporarily stretched. Currently, it takes a long time for money to get from one end to the other. The cash tends to get waylaid -either by the bankers…or by consumers themselves. It stays in bank vaults…or in bank accounts. Money is not being multiplied by the speed by which it changes hands. Instead, it is divided by immobility. It sits. It shrinks. It waits for a real boom.
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