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  • How to Cause Another Depression? Anyone? Anyone?

    An ugly financial bubble bursts. A misguided U.S. Congress responds by blaming foreigners and passes a trade bill that prompts widespread retaliation and exacerbates the initial popping of the bubble. That was 1930 and the Great Depression.

    Fast forward 80 years. An ugly financial bubble has burst and the U.S. Congress—having already failed with trillions in deficit spending—is now blaming foreigners. A bill in front of the House Ways and Means Committee (and scheduled to be sent to the House floor next week) blames Chinese exchange rate policies for the loss of American jobs. In retaliation, it goes back to the start of the Great Depression and adds yet more protectionist measures to the Tariff Act of 1930, because the first one didn’t do enough harm.

    In 1930, Congress thought it could solve America’s economic problems by punishing foreigners and was tragically wrong. The same misguided logic is being applied to China now. Proponents of the current bill claim we’re losing jobs due to the overall trade deficit, that the overall trade deficit is driven by our trade deficit with China, and that our trade deficit with China is driven far higher by the exchange rate. Each part of this is analysis is wrong.

    At least one aspect of trade is simple: what the bigger partner does matters more. The American economy is three times larger than the Chinese economy—our policies drive the trade deficit much more than theirs do. Even on the Chinese side, the Chinese government intervenes in the economy in many unfortunate ways, not just through the exchange rate. Changing the exchange rate alone will do almost nothing to change U.S.-China trade.

    If this bill did shrink the U.S.-China trade deficit, it wouldn’t shrink the overall American trade deficit. Countervailing duties or other actions can make China-based production more expensive but they can’t move the production here. Production of clothes, of furniture, and toys can be forced out of China, but will go to India, Vietnam, and other low-cost areas. So will final assembly of advanced items such as computers. The trade deficit with China would shrink but the trade deficit with a dozen other countries would grow.

    Finally, the connection between the trade deficit and jobs is not what many Members of Congress seem to think. The overall U.S. trade deficit was at its highest in 2006, and unemployment was 4.6 percent. In 2009, the deficit was half its former size but unemployment had doubled. The American economy runs on consumers. Consumer spending creates jobs and increases imports, as well as the trade deficit. The trade deficit comes with high employment, not lost jobs.

    The final form of the bill is unclear. It could give the Department of Commerce discretion to be selective or be closer to mandatory, across-the-board tariffs. What it will not do is create American jobs. Congress is heading down the wrong path. Again.

    Posted in International [slideshow_deploy]

    3 Responses to How to Cause Another Depression? Anyone? Anyone?

    1. and2therepublic, ill says:

      "The American economy runs on consumers." Succinctly put. I completely agree.

    2. Ana says:

      Economists date the onset of the Great Depression to the cyclical peak of August 1929, although the stock market crash of October 1929 is the more traditional beginning. By the spring of 1930 it was already clear that the downturn would be severe. The impact of the Depression helped to secure the final few votes necessary to put together a slim majority in the Senate in favor of passage of the bill. Final passage in the Senate took place on June 13, 1930 by a vote of 44 to 42. Final passage took place in the House the following day by a vote of 245 to 177. The vote was largely on party lines. Republicans in the House voted 230 to 27 in favor of final passage.

      The usual story of the Great Depression is that some combination of falling consumption spending and falling investment spending had resulted in the equilibrium level of GDP being far below its full employment level. By raising tariffs on imports, Smoot-Hawley would have reduced the level of imports, but would not have had any direct effect on exports. This simple analysis seems to lead to a surprising conclusion: by reducing imports, Smoot-Hawley would have raised the level of aggregate expenditures in the economy (by increasing net exports or (EX – IM)) and, therefore, increased the level of GDP relative to what it would otherwise have been.

      The Republican tariff strategy worked, although it could not offset the disastrous policies put in place FDR by that much.

    3. Ray Speicher Ligonie says:

      Isn't it true that the "easy credit" that fueled the Wall St. bubble during the late 1920's was a holding down of U.S. interest rates in an attempt by the first Fed Chairman Ben Strong to prop up the British pound by having the excess of American gold flow to England because of the higher interst rates there?

      Is there currently misguided Fed policy leading us down the road to financial ruin? The politicians will always react with populous, knee-jerk legislation but it's the deliberate actions of the mighty central bankers that seemed to cause most of the problems leading to the Great Depression. Does anyone agree or have insight into how Fed policy and international currency manipulation are effecting our trade deficits and economy?

      Trade barrriers don't seem to be the primary cause of the Great Depression. In recent decades our basic U.S. manufacturing capacity admittedly has been diminished by companies that fled the regulatory and wage demands that created a hostile, domestic, business climate. This led to the flow of capital to Mexico and then China.

      Should China be permitted to use currency manipulation to take our remaining jobs, as well as our money? I'm generally a conservative and free trader but I suspect foul play when it comes to China. They are at heart clever Communist at war with our way of life, form of government and individual Liberty.

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