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Daniel Knowles argues that we could be witnessing the transition from recession to global depression that last occurred two years after the 1929 market collapse, and eight years before Germany invaded Poland, triggering the Second World War.
This really is beginning to look like 1931
By Daniel Knowles - August 4th, 2011
The comparison is often made, but a fascinating aspect of the crisis in Europe is how closely it really does resemble the Great Depression. In the popular impression of the Depression, it began with the Wall Street Crash – bubbly stock markets blew up, bankers leapt out of windows and the world entered a decade long period of economic stagnation.
However, too many forget that it took two years for America’s recession to became a global Great Depression. In the immediate aftermath of 1929, America ratcheted up interest rates to “purge the system”. Other European countries were forced to follow, raising interest rates to force down wages and so maintain competitiveness. The entire Western world entered a downward spiral, as economies each contracted in turn under the pressure of vice like monetary policy.
But this only turned into a depression when it caused a sovereign debt crisis, in a small country in late 1931. Credit-Anstalt, an Austro-Hungarian bank that had once managed the fortunes of that entire empire, revealed enormous losses on non-performing loans. The Austrian government backed the bank, hoping to stem a flood of capital out of the country, but that only led the speculators to question the Austrian government. As the French and Germans wrangled over the deal, a bailout for Austria couldn’t be agreed – and so it defaulted.
The crisis then spread – German banks were widely exposed to Austrian debt, and Germany quickly implemented a capital freeze to prevent bank runs. However, Britain’s balance of payments depended on money flowing from Germany – and so Britain was attacked by speculators. In August 1931, the second Labour government split and was forced out of office after failing to agree on how to cut public spending and defend the gold peg. By the autumn, despite the election of a National Government, Britain was forced off the gold standard – the event, it turned out, that began Britain’s recovery. In the rest of Europe, the crisis continued, as countries put up tariff barriers and interest rates to protect their currencies. France stayed on gold until 1936 – and it also experienced one of the worst depressions.
Now, how familiar does all this sound? The difference today is that so far, the chain reaction of a default has been avoided by bailouts. Countries are not closing down their borders or arming their soldiers – they can agree on some solution, if not a good solution. But the fundamental problem – the spiral downwards caused by confidence crises and ever rising interest rates – is exactly the same now as it was in 1931. And as Italy and Spain come under attack, we are reaching the limit of how much that sticking plaster can heal. Tensions between European countries unseen in decades are emerging.
I’m not sure what the solution is. In the 1930s, politicians were determined to stick to the gold standard – now they have little choice but to stick to the euro. But I wonder if the European Central Bank’s obsession with inflation isn’t the modern day equivalent of the gold standard. Either way, the longer this lasts, the closer it resembles 1931. It does not surprise me in the slightest that cranks, conspiracy theorists and the European Far Right are flourishing.
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By Daniel Knowles - August 4th, 2011
The comparison is often made, but a fascinating aspect of the crisis in Europe is how closely it really does resemble the Great Depression. In the popular impression of the Depression, it began with the Wall Street Crash – bubbly stock markets blew up, bankers leapt out of windows and the world entered a decade long period of economic stagnation.
However, too many forget that it took two years for America’s recession to became a global Great Depression. In the immediate aftermath of 1929, America ratcheted up interest rates to “purge the system”. Other European countries were forced to follow, raising interest rates to force down wages and so maintain competitiveness. The entire Western world entered a downward spiral, as economies each contracted in turn under the pressure of vice like monetary policy.
But this only turned into a depression when it caused a sovereign debt crisis, in a small country in late 1931. Credit-Anstalt, an Austro-Hungarian bank that had once managed the fortunes of that entire empire, revealed enormous losses on non-performing loans. The Austrian government backed the bank, hoping to stem a flood of capital out of the country, but that only led the speculators to question the Austrian government. As the French and Germans wrangled over the deal, a bailout for Austria couldn’t be agreed – and so it defaulted.
The crisis then spread – German banks were widely exposed to Austrian debt, and Germany quickly implemented a capital freeze to prevent bank runs. However, Britain’s balance of payments depended on money flowing from Germany – and so Britain was attacked by speculators. In August 1931, the second Labour government split and was forced out of office after failing to agree on how to cut public spending and defend the gold peg. By the autumn, despite the election of a National Government, Britain was forced off the gold standard – the event, it turned out, that began Britain’s recovery. In the rest of Europe, the crisis continued, as countries put up tariff barriers and interest rates to protect their currencies. France stayed on gold until 1936 – and it also experienced one of the worst depressions.
Now, how familiar does all this sound? The difference today is that so far, the chain reaction of a default has been avoided by bailouts. Countries are not closing down their borders or arming their soldiers – they can agree on some solution, if not a good solution. But the fundamental problem – the spiral downwards caused by confidence crises and ever rising interest rates – is exactly the same now as it was in 1931. And as Italy and Spain come under attack, we are reaching the limit of how much that sticking plaster can heal. Tensions between European countries unseen in decades are emerging.
I’m not sure what the solution is. In the 1930s, politicians were determined to stick to the gold standard – now they have little choice but to stick to the euro. But I wonder if the European Central Bank’s obsession with inflation isn’t the modern day equivalent of the gold standard. Either way, the longer this lasts, the closer it resembles 1931. It does not surprise me in the slightest that cranks, conspiracy theorists and the European Far Right are flourishing.
