The World in Depression, a Money View

Does this sound familiar?  Falling commodity prices, unsustainable official debts, crashing stock markets, pullback in global lending by dominant megabanks, misaligned currencies, plus a healthy dose of political dysfunction.

These are the ingredients, according to Charles Kindleberger, that made for world depression in 1929-1939.  “My contention is that the difficulty lay in considerable latent instability in the system and the absence of a stabilizer…In 1929, 1930, and 1931 Britain could not act as a stabilizer, and the United States would not.  When every country turned to protect its national private interest, the world public interest went down the drain, and with it the private interests of all.” (The World in Depression, 1986, p. 290-1).

First published in 1973, as the postwar Bretton Woods system lay in shambles, the book reads as Kindleberger’s attempt to sound the alarm before it was too late.  To him, the world’s embrace of floating exchange rates represented abandonment of efforts to rebuild the world economy after WWII, most irresponsibly by the United States itself.  The last time that happened, after WWI, world depression was the result; the stakes in 1973 could not have been higher.

Reissued in revised form in 1986, after Kindleberger’s surprise election as President of the American Economics Association gave him a platform, the revised book reads as Kindleberger’s attempt to sound a different alarm, this time about the state of economic science.  Notwithstanding his emeritus status at MIT, in 1986 Kindleberger found himself on the “fringes” (p. xxi) of a profession whose discourse had long been dominated by the war between the monetarists and the Keynesians.  His book constitutes a plea for a third way, an older way of doing economics, the way that his teachers at Columbia University and then the Federal Reserve Bank of New York had done economics in the 1930s.  All of the teachers who make an appearance in his official autobiography (The Life of an Economist 1991), make their appearance first in this quasi-autobiographical account of the Great Depression:  James Angell, Wesley Clair Mitchell, Henry P. Willis, John H. Williams, even Ralph Robey.

Kindleberger writes, he says, to establish “the general conclusion that the conventional wisdom of the period was not as wrong as most modern economists believe in its concern with the dangers of speculation, the necessity to raise prices, the desirability of lowering tariffs, and the need to stabilize exchange rates” (p. 11).    Not only were they substantially right on the substance, but also they were substantially right in the way they did monetary economics.

Three difficult monetary ideas permeate the book.

First, the idea of asymmetry.  When a price goes up, there is a redistribution from buyers to sellers, but it is not obvious in standard economics that this redistribution has aggregate effects.  If buyers now have less to spend, then sellers now have more to spend.  Kindleberger repeatedly questions the symmetry of this effect, and hence the lack of net effect, usually on dynamic grounds.  In the back of his mind, so it seems to me, he has what I have called the survival constraint, or reserve constraint, an inherent asymmetry in payments system between deficit and surplus agents.

Second, the idea of hierarchy.  Money, in his view, is inherently a hierarchical system.  Multiple monies make for instability.  The core problem in the switch of leadership from Britain to the United States was a switch from the pound to the dollar as the world reserve currency.  So-called “cooperation”, whether between finance ministers or central banks, is not enough.

Third, what he calls general equilibrium rather than partial equilibrium.  He is not thinking of equilibrium in the modern Arrow-Debreu sense, not a price vector that clears all markets.  Rather he is thinking of the economy as a set of interlinking balance sheets.  My liabilities are your assets; my income is your expenditure.  That means that my action changes the parameters of your choice set, making possible an action that changes the parameters of my choice set.

All three of these ideas are central to the intellectual tradition in which he was trained, at Columbia University 1933-1936 and then at the Federal Reserve Bank of New York.  By 1973, and a fortiori by 1986, all three had been crowded out by the monetarist/Keynesian controversy that squeezed Kindleberger to the fringes of the profession.

But that is just academic fashion.  For Kindleberger, the most important thing that had been squeezed out was the spirit of internationalism.  This he inherited not so much from his teachers at Columbia as from his upbringing–it is no accident that he dedicates the book to his father.  Significantly, he insists:  “Roosevelt came from an internationalist tradition.  As a candidate for vice-president in 1920, he had strongly back the League of Nations” (p. 197).  This is the Roosevelt, and the New Deal, that attracted the young CPK.  But Roosevelt’s staff was comprised of both internationalists (Baker, Daniels, House, and Hull) and nationalists (Tugwell and Moley), and “Tugwell and Moley won” (p. 198).

Here, in the staff battle for the heart and mind of Roosevelt, is the origin of the catastrophe, according to Kindleberger.  Roosevelt’s subsequent refusal to offer leadership for the World Economic Conference of 1933 guaranteed that the depression would last, and last.  The timid beginnings of international cooperation in the Tripartite Monetary Agreement of 1936 (p. 255-260) were too little too late, soon overwhelmed by the 1937 Recession and subsequent rearmament for a Second World War.

Who would deny that today, as in 1929, we face a system with “considerable latent instability”.  The question is whether we also suffer from the “absence of a stabilizer”.  The system of central bank swaps put in place in 2013 is a clear echo of the Tripartite Monetary Agreement of 1936.  Too little too late, or the first step toward rebuilding the world economy in the aftermath of global financial crisis?