Rhyme of a Recent Marriner

            Marriner Stoddard Eccles was born in 1890, one of twenty-one children.  His father, David Eccles, was a Mormon immigrant from Scotland who settled in Utah, married two women, became a businessman, and made a fortune.
            At the age of twenty, Marriner went to Scotland as a missionary; but he returned to Utah two years later after his father’s death.  He became a bank president when he was twenty-four, and a multi-millionaire tycoon by the time he was forty.  He was a director of railroad, hotel, and insurance companies, head of a bank holding company with twenty-six banks, and president of four other companies when the stock market crashed in 1929.
            Thanks to his diversification, he survived the Great Crash, but the experience changed his mind.  Decades later, in his memoirs, he wrote:

            Men I respected assured me that the economic crisis was only temporary and that soon all the things that had pulled the country out of previous depressions would operate to that same end once again.  But weeks turned to months.  The months turned to a year or more.  Instead of easing, the economic crisis worsened.

            To preserve his banks, Eccles called in loans and reduced credit, but he began to suspect that by tightening their belts, banks were saving themselves at the expense of the larger society, that:

            in seeking individual salvation, we were contributing to collective ruin.

            Eccles was an economist from the general equilibrium school, yet he rejected the prevailing notion that the crisis was somehow the result of “natural economic laws.”  He saw it as the work of men:

            with great economic power [who] had an undue influence in making the rules of the economic game, in shaping the actions of government that enforced those rules, and in conditioning the attitude taken by people as a whole toward those rules.  After I lost faith in my business heroes, I concluded that I and everyone else had an equal right to share in the process by which economic rules are made and changed.

            In 1933, he testified before a Senate committee investigating the crash.  He disputed the view that the downturn was the result of previous extravagant spending, pointing instead to leveraged debt:

            The debt structure has obtained its present astronomical proportions due to an unbalanced distribution of wealth production as measured in buying power during our years of prosperity.  Too much of the product of labor was diverted into capital goods, and as a result what seemed to be our prosperity was maintained on a basis of abnormal credit both at home and abroad.  (Emphasis added.)

            With so much money flowing into financial products, there was not enough left among the middle and lower classes to sustain spending:

            This naturally reduced the demand for goods of all kinds, bringing about what appeared to be overproduction, but what in reality was underconsumption measured in terms of the real world and not the money world.  This naturally brought about a falling in prices and unemployment.  Unemployment further decreased the consumption of goods, which further increased unemployment, thus bringing about a continuing decline in prices.  Earnings began to disappear, requiring economies of all kinds — decreases in wages, salaries, and time of those employed.

            And thus the vicious cycle of deflation was continued until after nearly four years we find one-third of our entire working population unemployed, with prices of everything greatly reduced, raw products of all kinds selling at an unprecedentedly low level; our national income reduced by 50 per cent with the aggregate debt burden greater than ever before, not in dollars but measured by present values which represents the ability to pay; fixed charges, such as taxes, railroad and utility rates, insurance and interest charges close to the 1929 level and requiring such a portion of the national income to meet them that the amount left for consumption goods is not sufficient to support the population.

            Eccles understood that demand drives the real economy.  He argued that when business fails, it is the responsibility of government to protect the citizens by giving them the means to earn money.  Unemployment means money is not being circulated:

            Of course we are losing $2,000,000,000 per month in unemployment.  I can conceive of no greater waste than the waste of reducing our national income about half of what it was.  I can not conceive of any waste as great as that.  Labor, after all, is our only source of wealth.
            I repeat there is plenty of money today to bring about a restoration of prices, but the chief trouble is that it is in the wrong place; it is concentrated in the larger financial centers of the country, the creditor sections, leaving a great portion of the back country, or the debtor sections, drained dry…During the period of the depression the creditor sections have acted on our system like a great suction pump, drawing a large portion of the available income and deposits in payment of interest, debts, insurance and dividends as well as in the transfer of balances by the larger corporations normally carried throughout the country.

            Eccles presented five main points to repair the economy — federal spending to assist the destitute and the unemployed, works projects, regulations on business, refinancing mortgages, and canceling the debts of our World War I allies.  Our allies could not buy our products if all their money went to debt service.  He also recommended federal bank insurance, tax reforms, a minimum wage, unemployment insurance, and regulation of the stock market: 

            Such measures as I have proposed may frighten those of our people who possess wealth.  However, they should feel reassured in reflecting upon the following quotation from one of our leading economists:

            It is utterly impossible, as this country has demonstrated again and again, for the rich to save as much as they have been trying to save, and save anything that is worth saving.  They can save idle factories and useless railroad coaches; they can save empty office buildings and closed banks; they can save paper evidences of foreign loans; but as a class they can not save anything that is worth saving, above and beyond the amount that is made profitable by the increase of consumer buying.  It is for the interests of the well to do — to protect them from the results of their own folly — that we should take from them a sufficient amount of their surplus to enable consumers to consume and business to operate at a profit.

            Eccles was nominated to chair the Federal Reserve in 1934, where he served for fourteen years.  After he retired, he wrote in his memoirs: 

            A policy of adequate governmental outlays at a time when private enterprise is curtailing its expenditures does not reflect a preference for an unbalanced budget.  It merely reflects a desire and the need to put idle men, money and material to work.  As they are put to work, and as private enterprise is stimulated to absorb the unemployed, the budget can and should be brought into balance, to offset the danger of a boom on the upswing, just as an unbalanced budget could help counteract a depression on a downswing.

            Eccles concluded that the Great Depression was not caused by excessive spending in the 1920s but by the great inequality of wealth distribution:

            As mass production has to be accompanied by mass consumption, mass consumption, in turn, implies a distribution of wealth — not of existing wealth, but of wealth as it is currently produced — to provide men with buying power equal to the amount of goods and services offered by the nation’s economic machinery.  Instead of achieving that kind of distribution, a giant suction pump had by 1929-1930 drawn into a few hands an increasing portion of currently produced wealth.  This served them as capital accumulations.  But by taking purchasing power out of the hands of mass consumers, the savers denied to themselves the kind of effective demand for their products that would justify a reinvestment of their capital accumulations in new plants.  In consequence, as in a poker game where the chips were concentrated in fewer and fewer hands, the other fellows could stay in the game only by borrowing.  When their credit ran out, the game stopped.

            The policies developed to cope with the Great Depression served us well for years, so of course they were opposed by the political right.  Claiming that government is the problem, not the solution, they fought successfully to eliminate the very regulations which had saved them decades before.  The Crash of 2008 was followed by the usual right-wing demand for government austerity to further cripple the economy.  They wanted to save the banks at the expense of the larger society, and they got their way.  Since then, they have opposed anything and everything that would actually help ordinary citizens.  It’s 1930 all over again.

            History, Mark Twain quipped, doesn’t repeat itself, but it does sometimes rhyme.  We’ve already had another crash, so we could use another Marriner Eccles — and sooner rather than later.

Aristotelian Economics

            The Italian scientist Galileo Galilei supposedly dropped two metal balls of different weights from the Leaning Tower of Pisa and thus experimentally confirmed the existence of a gravitational constant. 
            Such is the legend, anyway.  An experiment of that sort was actually carried out in 1586 by a Flemish scientist named Simon Stevin who dropped two lead weights from a 10-meter tower.  His results were published, and Galileo may have heard of them; but he had already used other means to determine that different weights fall at the same speed. 
            The famous event at the Tower of Pisa was the work of an Aristotelian professor in 1612 attempting to refute Galileo.  As it happened, the two balls hit almost, but not quite, at the same time, doubtless as a consequence of imprecision in executing the drop.  Nevertheless, the result was touted as proof that Galileo was wrong.  His response was sharp enough to leave a mark:

Aristotle says that a hundred-pound ball falling from a height of one hundred cubits[1] hits the ground before a one-pound ball has fallen one cubit.  I say they arrive at the same time.  You find, on making the test, that the larger ball beats the smaller one by two inches.  Now, behind those two inches you want to hide Aristotle’s ninety-nine cubits and, speaking only of my tiny error, remain silent about his enormous mistake.[2]

            Economics is called the dismal science, and it has more than its fair share of Aristotelian professors.  In the face of repeated failures, they cling to a faulty model — the general equilibrium theory — and ignore the evidence piling up around them.  Every time they are proven wrong, they tweak the numbers and nudge the assumptions and proceed to the next goof.  This wouldn’t be a problem except for the fact that they dominate the policy-making process in Washington, D.C. 

            The general equilibrium theory was proposed by the French economist Leon Walras in 1874.  Kenneth Arrow and Gerard Debreu updated the theory in 1951 and proved mathematically that it was correct if:

            1)  The markets are perfect

                        everyone has the same information
            2)  There is a full set of insurance markets
                        insurance is available against every conceivable risk
            3)  Capital markets are perfect
                        loans are always available at appropriate rates
            4)  And there are no externalities or public goods

             Those are some pretty big ifs.  They are so restrictive that they render meaningless the notion of efficient markets.  For example, pollution is a huge and costly externality that can’t be “assumed away.”  Insurance markets are not complete, loans do dry up, and we have public utilities and roads.  If everyone has the same information, no one can ever gain advantage through innovation or insider trading.  According to the general theory, there can never be any stock market bubbles because prices convey all the relevant information.  If the labor market always clears, there can be no unemployment; or unemployment must be of such short duration that no intervention is needed.

 Conservative economists responded to criticisms of the general model by:

a)  treating them as theoretical niceties — hey, markets are almost perfect                                                                                OR
b)  conceding that markets are inefficient but insisting government is worse

            In other words, they dismissed the contradictions and soldiered on. 
            Subsequent efforts to prop up the theory simply added more questionable arguments.  Milton Friedman of the so-called Chicago school of economists, introduced “monetarism” — the idea that the proper role of the Federal Reserve was to increase monetary aggregates at a fixed rate (the rate of growth of output) and let the market do the rest.  He suggested the Federal Reserve turned the recession of 1930 into the Great Depression by reducing the money supply, which led to currency hoarding, which cut spending, which killed jobs, etc. 
            However, bank failures, not the Federal Reserve, led to currency hoarding and the resulting downward spiral.[3]  There was no federal deposit insurance, and the rate of output was falling.  The Federal Reserve didn’t reduce the money supply; but the Fed didn’t increase it, either.  In a sense, the Fed anticipated the young Friedman’s future theory!  And it didn’t work out very well.  Since then, increasing the money supply has become a standard tool for fighting recessions.[4]
            Friedman’s notion of “free” (as in unregulated) banking was imposed by force in Chile after President Allende was assassinated in 1973: 

Free banking did lead to a burst of economic activity as new banks were opened and credit flowed freely.  But just as it didn’t take long for America’s unregulated banking to bring the American economy to its knees, Chile, too, experienced its deepest downturn in 1982.  It would take Chile more than a quarter of a century to pay back the debts incurred… (Joseph Stiglitz, The Price of Inequality)

            To be sure, other improvements appeared as the general theory became the “classical” theory and then the “neo-classical” theory.  Joseph Schumpeter muscled innovation into the mix with the notion of creative destruction, characterizing markets as dominated by monopolists who are displaced by innovators who become the new monopolists.  In short, he described competition for markets rather than within markets.  But monopolists wouldn’t sit around meekly waiting for innovators to take over.  They would use their clout, especially in the absence of regulations, to deter innovation or steal ideas outright.  The process Schumpeter detailed was anything but efficient.

            One school of thought held that wage structures are too rigid.  From that perspective, unions, minimum wage laws, unemployment compensation, and policies to maintain wage stability are bad because they interfere with “market efficiency.”  That’s why so many on the right blame workers for unemployment.  Teachers are greedy, don’t you know; policemen and firemen are greedy.  Similarly, mortgage scammers blame homebuyers for the mortgage crisis, and throw in an insult to boot — “You should have known better than to trust us.”

            Aristotle is sometimes called the Father of Natural Science; however, he was nothing of the sort.  He claimed women have fewer teeth than men; but although he was married twice, he never asked either Mrs. Aristotle to open her mouth so he could count her teeth.  He used the powers of his mind and reasoned it out.  He held that mice arise spontaneously from damp hay, but he didn’t test that theory.  He reasoned it out. 

            Aristotle died 2335 years ago, and scientists no longer appeal to his authority.  The classical model of equilibrium is slowly being supplanted by a new paradigm of how information affects markets, but adherents of the old theory are very much alive and kicking.  In response to the Crash of 2008, Aristotelian economists pushed the policies of Herbert Hoover!  They extol free markets as long as the markets are rigged in their behalf.  They oppose government intervention until they need to be bailed out.  They reject regulations for the very same reason that muggers don’t like policemen. 

             They’ve reasoned it out.  They’re wrong, but they don’t care because the argument isn’t really about economics anyway.  It’s about who rules.

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[1]  Cubit — orig. the length of the arm from the end of the middle finger to the elbow, roughly 20 inches.

[2]  John Gribbin, The Scientists, Random House, New York, 2002, pp. 76-77

[3]  In fact, in 1933, soon-to-be Fed chairman Marriner Eccles told the Senate there was plenty of money to support prices, but it was in the wrong place.  It was concentrated in the financial sector, not dispersed in the hands of consumers.

[4]  Which tells us a great deal about efforts to curtail government spending after the Crash of 2008.  Republicans are actively undermining a recovery — and not because of high-minded adherence to economic verities.  In the spirit of Friedmanism, they see the current crisis as an opportunity to strong-arm the nation into still more ruinous forms of the general equilibrium theory.