In the 1983 paper cited as the basis for Bernanke\u2019s Nobel award, the first footnote states:\u00a0 \u201cI have received useful comments from too many people to list here by name, but I am grateful to each of them.\u201d\u00a0 One of those unnamed commenters was Charles P. Kindleberger, who taught at MIT full time until mandatory retirement in 1976 and then half-time for another five years.\u00a0 Bernanke himself earned his MIT PhD in 1979, whereupon he shifted to Stanford as Assistant Professor.\u00a0 Thus it was natural for him to send his paper to Kindleberger for comment, and perhaps also natural for Kindleberger to respond.<\/p>\n
As it happens, a carbon copy of that letter has been preserved in the Kindleberger Papers at MIT, and that copy is reproduced below as possibly of contemporary interest.\u00a0 All footnotes are mine, referencing specific passages of the published paper, a draft copy of which Kindleberger is apparently addressing, and filling in context that would have been familiar to both Bernanke and Kindleberger but maybe not to a modern reader.\u00a0 It will be apparent that the published paper, printed a year after the letter, largely disregards Kindleberger\u2019s comments.\u00a0 With these explanatory notes, the text speaks for itself, and requires no further commentary from me.<\/p>\n
<\/p>\n
\u201cMay 1, 1982<\/p>\n
<\/p>\n
Dr. Ben Bernanke<\/p>\n
Graduate School of Business<\/p>\n
Stanford University<\/p>\n
Stanford, CA 94305<\/p>\n
<\/p>\n
Dear Dr. Bernanke,<\/p>\n
Thank you for sending me your paper on the great depression.\u00a0 You ask for comments, and I assume this is not merely ceremonial.\u00a0 I am afraid you will not in fact welcome them.<\/p>\n
I think you have provided a most ingenious solution to a non-problem.[1]<\/span><\/a>\u00a0 The necessity to demonstrate that financial crisis can be deleterious to production arises only in the scholastic precincts of the Chicago school with what Reder called in the last JEL its tight priors, or TP.[2]<\/span><\/a>\u00a0 If one believes in rational expectations, a natural rate of unemployment, efficient markets, exchange rates continuously at purchasing power parities, there is not much that can be explained about business cycles or financial crises.\u00a0 For a Chicagoan, you are courageous to depart from the assumption of complete markets.[3]<\/span><\/a><\/p>\n You wave away Minsky and me for departing from rational assumptions.[4]<\/span><\/a>\u00a0 Would you not accept that it is possible for each participant in a market to be rational but for the market as a whole to be irrational because of the fallacy of composition?\u00a0 If not, how can you explain chain letters, betting on lotteries, panics in burning theatres, stock market and commodity bubbles as the Hunts in silver, the world in gold, etc…\u00a0 Assume that the bootblack, waiters, office boys etc of 1929 were rational and Paul Warburg who said the market was too high in February 1929 was not entitled to such an opinion.\u00a0 Each person hoping to get in an[d] out in time may be rational, but not all can accomplish it.<\/p>\n Your data are most interesting and useful.\u00a0 It was not Temin who pointed to the spread (your DIF) between governts [sic] and Baa bond yields, but Friedman and Schwartz.[5]<\/span><\/a>\u00a0 Column 4 also interests me for its behavior in 1929.\u00a0 It would be interesting to disaggregate between loans on securities on the one hand and loans and discounts on the other.<\/p>\n Your rejection of money illusion (on the ground of rationality) throws out any role for price changes.\u00a0 I think this is a mistake on account at least of lags and dynamics.\u00a0 No one of the Chicago stripe pays attention to the sharp drop in commodity prices in the last quarter of 1929, caused by the banks, in their concern over loans on securities, to finance commodities sold in New York on consignment (and auto loans).[6]<\/span><\/a>\u00a0\u00a0 This put the pressure on banks in areas with loans on commodities.\u00a0 The gainers from the price declines were slow in realizing their increases.\u00a0 The banks of the losers failed.\u00a0 Those of the ultimate winners did not expand.<\/p>\n Note, too, the increase in failures, the decrease in credit and the rise in DIF in the last four of five months of 1931.[7]<\/span><\/a>\u00a0 Much of this, after September 21, was the consequence of the appreciation of the dollar from $4.86 to $3.25.[8]<\/span><\/a>\u00a0 Your international section takes no account of this because prices don\u2019t count in your analysis.\u00a0 In The World in Depression, 1929-1939<\/u>, which you do not list,[9]<\/span><\/a> I make much of this structural deflation, the mirror analogue of structural inflation today from core inflation and the oil shock.\u00a0 But your priors do not permit you to think them of any importance.<\/p>\n Sincerely yours,<\/p>\n [Charles P. Kindleberger]\u201d<\/p>\n <\/p>\n References<\/strong><\/p>\n Bernanke, Ben S.\u00a0 1983.\u00a0 \u201cNonmonetary Effects of the Financial Crisis in the Propagation of the Great Depression.\u201d\u00a0 American Economic Review<\/u> 73 No. 3 (June):\u00a0 257-276.<\/p>\n Kindleberger, Charles P.\u00a0 1973.\u00a0 The World in Depression, 1929-1939<\/u>.\u00a0\u00a0 Berkeley CA:\u00a0 University of California Press.<\/p>\n Kindleberger, Charles P.\u00a0 1978.\u00a0 Manias, Panics and Crashes:\u00a0 A History of Financial Crises<\/u>.\u00a0 New York:\u00a0 Basic Books.<\/p>\n Kindleberger, Charles P.\u00a0 1985.\u00a0 Keynesianism vs. Monetarism and Other Essays in Financial History<\/u>.\u00a0 London:\u00a0 George Allen and Unwin.<\/p>\n Kindleberger. Charles P. and Jean-Pierre Laffargue, eds.\u00a0 1982.\u00a0 Financial crises:\u00a0 theory, history, and policy<\/u>.\u00a0 Cambridge:\u00a0 Cambridge University Press.<\/p>\n Mehrling, Perry.\u00a0 2022.\u00a0 Money and Empire:\u00a0 Charles P. Kindleberger and the Dollar System<\/u>.\u00a0 Cambridge:\u00a0 Cambridge University Press.<\/p>\n [1]<\/span><\/a> Bernanke (1983, 258):\u00a0 \u201creconciliation of the obvious inefficiency of the depression with the postulate of rational private behavior\u201d.\u00a0 And again at p. 275:\u00a0 \u201cthis theory has hope of achieving a reconciliation of the obvious suboptimality of this period with the postulate of reasonably rational, market-constrained agents.\u201d<\/p>\n [2]<\/span><\/a> Reder, Melvin W.\u00a0 \u201cChicago Economics:\u00a0 Permanence and Change.\u201d\u00a0 Journal of Economic Literature<\/u> 20 No. 1 (March 1982):\u00a0 1-38.\u00a0\u00a0 Bernanke (1983, 257) states explicitly, \u201cthe present paper builds on the Friedman-Schwartz work\u2026\u201d<\/p>\n [3]<\/span><\/a> Bernanke (1983, 257):\u00a0 \u201cThe basic premise is that, because markets for financial claims are incomplete, intermediation between some classes of borrowers and lenders requires nontrivial market-making and information-gathering services.\u201d\u00a0 And again at p. 263:\u00a0 \u201cWe shall clearly not be interested in economies of the sort described by Eugene Fama (1980), in which financial markets are complete and information\/transactions costs can be neglected.\u201d<\/p>\n [4]<\/span><\/a> Bernanke (1983, 258):\u00a0 \u201cHyman Minsky (1977) and Charles Kindleberger (1978) have in several places argued for the inherent instability of the financial system, but in doing so have had to depart from the assumption of rational economic behavior.\u201d\u00a0\u00a0 It is perhaps relevant to observe that elsewhere Kindleberger takes pains to point out the limitations of the Minsky model for explaining the great depression:\u00a0 \u201cit is limited to the United States; there are no capital movements, no exchange rates, no international commodity prices, nor even any impact of price changes on bank liquidity for domestic commodities; all assets are financial.\u201d\u00a0 (Kindleberger 1985, 302)\u00a0 This passage appears in Kindleberger\u2019s contribution to a 1981 conference sponsored by the Banca di Roma and MIT\u2019s Sloan School of Management, which followed on a 1979 Bad Homburg conference that also included both men, which proceedings were published as Financial Crises:\u00a0 Theory, History and Policy<\/u> (Cambridge 1982).<\/p>\n [5]<\/span><\/a> Bernanke (1983, 262):\u00a0 \u201cDIF = difference (in percentage points) between yields on Baa corporate bonds and long-term U.S. government bonds\u201d.<\/p>\n [6]<\/span><\/a> It is exactly the sharp drop in commodity prices that Kindleberger puts at the center of his explanation of why the depression was worldwide, since commodity prices are world prices.\u00a0 Kindleberger (1973, 104):\u00a0 \u201cThe view taken here is that symmetry may obtain in the scholar\u2019s study, but that it is hard to find in the real world.\u00a0 The reason is partly money illusion, which hides the fact of the gain in purchasing power from the consumer countries facing lower prices; and partly the dynamics of deflation, which produce an immediate response in the country of falling prices, and a slow one, often overtaken by spreading deflation, in the country with improved terms of trade, i.e. lower import prices.\u201d<\/p>\n [7]<\/span><\/a> Bernanke\u2019s Table 1 cites August-December DIF figures as follows:\u00a0 4.29, 4.82, 5.41, 5.30, 6.49.<\/p>\n