I think I have found one such video that Andrew could get behind, unfortunately for him, the man in the video is none other than Glenn Lee Beck. I can see Andrew now, gritting his teeth as he sits through this, swallowing his flagrant disgust of GLB. Sometimes, though, when you’re right, you’re just right. The Depression of 1920, and the government’s response, is something more people should be acutely aware of.

The truth is embarrassingly different however: Hoover did plenty of intervening and to my knowledge, very little fiddling. Given this, I was pleasantly surprised to see a piece in Harper’s magazine by Kevin Baker called “Barack Hoover Obama: The Best and the Brightest Blow it Again.” The piece is written from a liberal perspective, asserting that Obama, by attempting not to rock the boat too much, hasn’t done enough intervening. This echoes many liberal economists, such as Paul Krugman, who said of the original $787 billion stimulus package that, “to appease the centrists, a plan that was already too small and too focused on ineffective tax cuts has been made significantly smaller…” (1)

Baker states, “…that we are at one of those rare moments in history when the radical becomes pragmatic, when deliberation and compromise foster disaster.” Or in other words, Barack Obama has the opportunity to vastly remake American society and the American economy. Instead, he has chosen to play it safe. Baker elaborates:

“Much like Herbert Hoover, Barack Obama is a man attempting to realize a stirring new vision of his society without cutting himself free from the dogmas of the past–without accepting the inevitable conflict.  Like Hoover, his is bound to fail.” (2)

What’s nice to see is that liberals are finally starting to realize that Hoover did not adopt a laissez-faire approach; Herbert Hoover was a protectionist and supported Theodore Roosevelt’s short lived progressive party. When the stock market crashed, Hoover ignored the advice of his Treasury Secretary, Andrew Mellon, and decided to attempt unprecedented government intervention to stabilize the economy. He proclaimed, “no laissez-faire, no unchanneled and unimpeded course of nature, no invisible hand will do it for us.” (3) So as we might expect, Hoover did plenty, much more than any U.S. president before him:

- He increased taxes on top wage earners from 25% to 63%

- He increased government spending by 47%

- He ran a deficit of 4.5% of GDP

- Against the wishes of over 1000 economists, he signed the Smoot-Hawley Tariff, effectively shutting down international trade

- He established the Reconstruction Finance Corporation to make loans to the state governments

- He appropriated money for public works construction (think Hoover Dam)

- He met with major industry leaders and put significant pressure on them to maintain wages at current levels, despite the amount of money in the economy falling by one-third. This led, predictably, to massive unemployment. (4)

This misconception gets so absurd that during the 1932 campaign, Franklin Roosevelt’s first vice president, John Garner, accused Herbert Hoover of “leading the country down the path of socialism.” (5) Furthermore, FDR brain-truster, Rexford Tugwell admitted that, “most of what [Hoover] began would be taken over by Roosevelt and then called the New Deal.” (6)

FDR and Hoover; Much More Similar Than We Are Lead to Believe

Now that we can admit Hoover did more than any president before him in fighting off an economic recession, what should we conclude from this? In an interview with Stephen Colbert, Baker concludes that “Hoover was a great man, probably kept more people from starving to death than anyone in history… what he was trying to do was expand the role of government, he just couldn’t quite get himself to do it [enough].” (7) So let me get this straight: The first time the Federal Government significantly intervenes to stop an economic downturn just happens to be at the beginning of the worst depression in American history, thus proving the government didn’t do enough? Again, at least Baker is honest, but he is also, oh how can I put this kindly… incredibly dense. He simply assumes that the government helps the economy by spending money that it can only get from taxing the population, or running deficits (taxes in the future). This is the broken-window fallacy. As economist Henry Hazlitt explains:

“A young hoodlum, say, heaves a brick through the window of a baker’s shop… [however] this misfortune has its bright side. It will make business for some glazier… After all, if windows were never broken, what would happen to the glass business… The logical conclusion from all this would be… that the little hoodlum who threw the brick, far from being a public menace, was a public benefactor… But the shopkeeper will be out $250 that he was planning to spend on a new suit… They have forgotten the potential third party involved, the tailor… They will see the new window in the next day or two. They will never see the extra suit, precisely because it will never be made.” (8)

Simply put, the government can’t create anything; it can simply reshuffle the deck. So why should anyone assume that public spending “kept people from starving to death?”

Baker would have been well served to look just a little further into the past, to the not-so-great depression of 1920. Warren Harding, usually decried by historians, was, in fact, an incredible depression fighter. Jim Powell, of the Cato Institute, describes what he had to take on:

“Harding inherited [Woodrow] Wilson’s mess—in particular, a post–World War I depression that was almost as severe, from peak to trough, as the Great Contraction from 1929 to 1933 that FDR would later inherit. The estimated gross national product plunged 24 percent from $91.5 billion in 1920 to $69.6 billion in 1921. The number of unemployed people jumped from 2.1 million to 4.9 million.” (9)

So what did Harding do? He cut government spending from $6.3 billion in 1920, to $5 billion in 1921, to $3.2 billion in 1922. This would amount to a negative stimulus package! Income taxes were left as is and corporate taxes were cut. (10) There was no push for new regulations and the Federal Reserve did nothing (it didn’t begin open market operations until 1922). (11)

Warren Harding: Depression Fighter Extraordinaire

What was the result? By 1922 unemployment was down to 6.7% and the Roaring Twenties had begun. The economy set new production records year after year until the infamous Black Tuesday on October 29^th, 1929; a downturn, that was dealt with in a much different and obviously less effective way. (12)

A comparison of how Hoover and Harding dealt with these severe downturns and the results that came from the policies they pushed through is quite elucidating. It’s nice to see that liberals such as Kevin Baker have finally come to realize what Hoover actually did. Now it would be nice if they could simply draw the proper logical conclusions from their realizations.

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(1) Paul Krugman, “What Have the Centrists Wrought,” New York Times, 2/7/2009, http://krugman.blogs.nytimes.com/2009/02/07/what-the-centrists-have-wrought/?apage=2

(2) Kevin Baker, “Barack Hoover Obama: The best and the brightest blow it again,” Harper’s Magazine, July 2009, http://www.harpers.org/archive/2009/07/0082562

(3) Quoted from Tom Woods, 33 Questions About American History You’re Not Supposed to Ask, Pg. 182, Random House Inc., Copyright 2007

(4) See Ibid., Pg. 180-188, Amity Shlaes, The Forgotten Man, Pg. 85-104, and Murray Rothbard, America’s Great Depression

(5) Quoted in Otto Freidrich, Hays Gorey and Ruth Mehrten Galvin, “F.D.R.’s Disputed Legacy,” Time Magazine, 2/1/1982, http://www.time.com/time/magazine/article/0,9171,954983-4,00.html

(6) Quoted from Tom Woods, 33 Questions About American History You’re Not Supposed to Ask, Pg. 188, Random House Inc., Copyright 2007

(7) Kevin Baker, Interview with Stephen Colbert, Colbert Report, 7/29/2009, http://www.comedycentral.com/colbertreport/full-episodes/index.jhtml?episodeId=240118

(8) Henry Hazlitt, Economics in One Lesson, Pg. 11-12, Laissez Faire Books, Copyright 1996

(9) Jim Powell, “Not-So-Great Depression,” Cato Institute, 1/7/2009, http://www.cato.org/pub_display.php?pub_id=9880

(10) Ibid

(11) Malcom Mitchell, “The Dangers of Deflation,” Investment Policy Magazine, September 2003, http://www.investmentpolicy.com/dangers_deflation.html

(12) Jim Powell, “Not-So-Great Depression,” Cato Institute, 1/7/2009, http://www.cato.org/pub_display.php?pub_id=9880

“Back in April, there was a huge fuss over an internal report by the Department of Homeland Security warning… [of] an upsurge of right-wing extremism… Conservatives were outraged. The chairman of the Republican National Committee denounced the report as an attempt to “segment out conservatives in this country who have a different philosophy or view from this administration” and label them as terrorists. But with the murder of Dr. George Tiller by an anti-abortion fanatic, closely followed by a shooting by a white supremacist at the United States Holocaust Memorial Museum, the analysis looks prescient…[and this] right-wing extremism is being systematically fed by the conservative media and political establishment.” (1)

Krugman’s argument is interesting insofar that it is hyperbolic, hypocritical and paints with way too big of a brush, all at the same time. Sure, conservatives have been up in arms over Barack Obama’s policies and have said a multitude of vitriolic things, highlighted by the daily rants of Sean Hannity and Rush Limbaugh types. However, the same thing happened to George Bush during his presidency (most of which, Bush deserved, in my opinion). And Krugman was at the front of the line in that barrage of vitriol.

or something like that...

What this whole mess elucidates is, as far as politics (and subsequently, economic policy) are concerned, actual positions are of little importance. All that matters is that you root for your team, be they Democrats or Republicans. Thus, we see Fox News begin to attack every push for increased state power, while MSNBC defends such policies. Under Bush, it was the opposite. The truth is, political terms can mean just about anything and political parties have shifted their positions radically throughout history. Individual policy positions are important and Krugman certainly has firm beliefs on a myriad of issues. However, in this instance, Krugman is just rooting for his team: the Democrats. Much the way Rush Limbaugh roots for his team: the Republicans.

The key question we have to ask is what are the “extreme” right-wing groups that Krugman and his ilk are referring to? Certainly the murderers Krugman refers to are terrible individuals with terrible ideologies. However, on the larger question, is he referring to fascists, radical free-marketers, religious zealots or the racist, Confederate types? Or is he talking about all of these groups? For its part, the Department of Homeland Security report Krugman mentions, describes right-wing extremism as follows:

“Rightwing extremism in the United States can be broadly divided into those groups, movements, and adherents that are primarily hate-oriented (based on hatred of particular religious, racial or ethnic groups), and those that are mainly antigovernment, rejecting federal authority in favor of state or local authority, or rejecting government authority entirely. It may include groups and individuals that are dedicated to a single issue, such as opposition to abortion or immigration.” (2)

This covers an awful lot of ground. Under this definition, every group mentioned above could be considered part of the extreme right, yet they are, in many cases, the polar opposites of each other. Several even have fairly “liberal” beliefs.

Fascists, at least the fascists of the 1930’s, favored a massive welfare state, state control of industry and strict gun laws. Adolf Hitler and the Nazi’s even launched large campaigns to stop smoking. To list just a few of the Nazi’s 25 campaign points:

13. We demand the nationalization of all trusts.

14. We demand profit-sharing in large industries.

15. We demand a generous increase in old-age pensions.

16. We demand the creation and maintenance of a sound middle-class, the immediate communalization of large stores [think Wal-Mart] which will be rented cheaply to small tradespeople, and the strongest consideration must be given to ensure that small traders shall deliver the supplies needed by the State, the provinces and municipalities.

17. We demand an agrarian reform in accordance with our national requirements, and the enactment of a law to expropriate the owners without compensation of any land needed for the common purpose. The abolition of ground rents, and the prohibition of all speculation in land.

[And my favorite…] 18. We demand that ruthless war be waged against those who work to the injury of the common welfare. Traitors, usurers, profiteers, etc., are to be punished with death, regardless of creed or race. [ Well at least they weren't racist, oh wait...] (3)

Maybe the “socialist” part in National Socialists actually meant something. After all, even the BNP (British National Party) is usually decried as far right for being racist and anti-immigration. They are also in support protectionism, higher taxes and “[giving] workers a stake in the success and prosperity of the enterprises whose profits their labour creates by encouraging worker shareholder and co-operative schemes.” (4) Hardly right wing.

Extremists, sure. Stupid, of course. But does right-wing really define them?

Radical free marketers, typically libertarians (who are very much anti-government and pro-local control), on the other hand, tend to favor drug legalization, gay marriage and a very dovish foreign policy; positions usually seen as being on the left. And given that, how can both of these ideologies be on the “extreme” right-wing? Anyone who really thinks fascists and libertarians are even remotely similar should strongly consider visiting their friendly, local neurologist.

The left can be seen in many of the same ways. The best example is that both communists (total state) and anarchists (no state) are seen as movements of the left. It is true that Karl Marx believed the state would magically “wither away” after capital was eliminated (a ridiculous proposition, given that those in power would have to voluntarily give up their power, preceded by an impossible task, since capital is anything of value and can’t be eliminated). Still, to advocate for eliminating the state (as anarchists would do) and having the state take over everything (as communists would do), would require the exact opposite policies. Yet, both groups are on the “extreme” left.

Furthermore, these terms also change over time, or by geographic region, or simply by which group of people you’re hanging out with. Take the term centrist. A centrist is a centrist only by modern and geographical definitions. For example, one of those white, nationalist crackpots who believe slavery was probably bad, but who also believe a “superior” and “inferior” race can’t coexist, would have been a centrist position 200 years ago in the United States, perhaps even progressive (forgive my use of such a vague phrase, to be discussed later). Thomas Jefferson, as enlightened as he was, unfortunately, was of this persuasion. Racism is a relic that comes to us from prehistoric tribalism. Our brains instinctually see different, as dangerous. This mental trait is to our advantage when say, that different thing is a hungry tiger. With race though, to put it mildly, this view is a bit outdated. Yet 200 years ago, it would have been a centrist position.

The same could be said for radicalism. By who’s definition is one a radical? By standard political dogma, of course. To be fair, radical is often used as a compliment: the founders of the United States were radical. Martin Luther King Jr. was radical. However, the term is often used in a derogatory fashion, especially when used in the present tense.

I define radicalism differently. I don’t think a Marxist or an anarcho-capitalist is a radical. They just have a different opinion than me. Radicalism isn’t bad, extremism is. Extremism, in my view, is the belief you are right, with such conviction, that nothing can change your mind and furthermore, that the ends justify the means. Blowing up abortion clinics or medical labs where research on animals is going on is extremist. Aside from being blatantly immoral, it is destructive to your cause. How much of the peace process in Israel has been stymied by terrorism? Even when in response to some justified grievance, it does more harm than good. This is the kind of radicalism that should be condemned, not just being radically outside the mainstream. After all, as Mark Twain said, “The radical of one century is the conservative of the next. The radical invents the views. When he has worn them out, the conservative adopts them.”

While time changes things drastically, geography presents similar problems for political terminology. I believe in the separation of church and state. In the United States, this is a fairly centrist position. Religion is personal; politics is public, and quite dirty for that matter. However, do you think this position is centrist in say, oh I don’t know, Iran?

When time and geography come into play, these things can get real messy. The term “libertarian” is a great example of this. The famous, leftist, intellectual Noam Chomsky considers himself a libertarian socialist. When a student asked him how he could be both, given that it’s a contradiction in terms, he responded as follows:

“You’re right, the terms I’m using are contradictory in the United States, but that’s a sign of the perversity of American culture. Here the term libertarian means the opposite of what it meant to everyone else all through history.” (5)

Professor Chomsky is right. I’ll leave out his diatribe about how “American” libertarians are “extreme advocates of total tyranny” and how the United States is responsible for every evil in the history of the world. However, his main point, that most of the world thinks libertarian is synonymous with anarcho-syndicalism or libertarian socialism, is correct. What Chomsky leaves out is why American libertarians are called what they are (other than our perverse culture). I mean, we have to have a name for these extreme advocates of total tyranny, don’t we?

Since “tyrannyians” would be a poor rallying cry, Americans of this political persuasion were forced to a look for a more appealing term. So how did they come up with libertarian? Well it’s not that complicated, though it requires a quick history lesson. Libertarians advocate a political ideology that is similar to classical liberalism; a philosophy popularized by the likes of John Locke and Adam Smith, and was very prevalent in the 19^th century. The popular saying, “your right to swing your fist ends where my nose begins” sums it up quite succinctly. In more specific terms, both philosophies advocate free markets, social freedom, and limited government. Libertarians tend to emphasize freedom, whereas classical liberals emphasized utilitarianism; however, they each hold both in high regard. The main reason classical liberals in the United States are now known as libertarians is that the term “liberal” was no longer available.

Why, you ask? Well, politics in the United States started to change around the beginning of the 20^th century with the famous progressive movement. Government had been a “necessary evil” in the U.S. for almost its entire history. However, with an industrial revolution and mounting poverty (or at least, more visible poverty), many people thought the government could be used as a tool for social improvement. The idea that “the government which governs least, governs best,” was replaced with an interventionist government appropriated with the tools to help the oppressed and down-on-their-luck types.

In sticking with our current theme, the progressives of the early 20^th century bare little resemblance to the progressives of today. Both groups favor an activist government, but progressives of the early 20^th century favored prohibition, were often infatuated with eugenics and many of them supported the United States’ entry into World War I. None of this resembles the drug legalizing, racism hating (albeit, identity politics loving), peaceniks of self-described progressives today.

Interestingly enough, this sheds light on what is the opposite of a progressive; labeled and derided as reactionary. Some things are obviously reactionary, say human sacrifice, although other terms, such as “bad,” would work better. However, to label many policies as reactionary, just because they’re old or passe, usually winds up in a contradiction. Take drugs, which progressives tend to want to legalize (a position I support). This is seen as progressive, perhaps because it is “enlightened,” perhaps because it is a better policy, or perhaps because it is new. Unfortunately, for consistency’s sake, legalizing drugs is in fact very old, thus not “progressive.” Not only is this position the opposite of what progressives of the early 20th century favored. After all, many helped pushed through the Harrison Narcotics Tax Act of 1914, the first major federal drug law, under progressive president Woodrow Wilson. What’s key to note is that the first significant federal drug law came in 1914! Drugs had been legal in the United States for most of its history. Thus, couldn’t drug legalization be seen as a reactionary position? Or do these terms even matter in the first place?

But I digress. Returning to our discussion on libertarianism, during the Great Depression, advocates of the free market, namely classical liberals, became harder and harder to find. Who could support free markets when unemployment was over 20%? It’s certainly difficult to advocate freedom when that freedom is the freedom to starve to death. Thus, the term liberalism shifted from advocates of a free market economy to a mixed economy. When Franklin Roosevelt, implemented the New Deal, the meaning of “liberal” had all but finished its transition. Those who wanted to reduce the size of the welfare state (or eliminate it entirely), took up the role of conservatives. However, conservatives maintained the belief that government had a role in monitoring moral values and have famously laxed on their free market ideology. So while libertarians tend to favor conservatives over liberals, they have significant differences with each.

What’s interesting to note here, is that while a similar cultural shift happened in Europe, the terminology did not follow suit. In Europe, liberal political parties called themselves the labor party or for people further to the left, social democrats. It’s hard to say exactly why the shift in terminology happened here but not across the pond (well, I think it’s hard to say, I really just don’t feel like researching it), but ideologically, liberal Democrats and the labor party are quite similar. So the word “liberal” in Europe still, for the most part, represents what it did in the 19^th century: free markets, small government and individual liberty. This, if you remember, is basically what “American” libertarianism stands for.

So to counterpoint Chomsky on this matter, one could say, if Chomsky ever called himself a liberal socialist, that would be a contradiction in terms; it’s only not considered a contradiction because of the perversity of American culture. However good Chomsky’s political arguments are, he’s simply demagoguing here.* There’s no real perversion, or conspiracy, or anything like that. This is just how the world works. Libertarians broke with the traditional right as it became more and more obsessed with fighting the Cold War and decided to use the term “libertarian” primarily because it simply put an “ian” on the word liberty. And if you’ve ever met a libertarian, you know they love the word liberty. Anyways, libertarian sounds a lot less hokey than their second choice: freedomian (tyrannyian came in third).

This muddling of terms is by no means a lone case. These types of political terminology shifts are quite common and can make history lessons even more confusing for socially awkward, self-esteem lacking, unquenchably horny, ADHD-inflicted adolescents to understand. Good thing they gave up trying to understand many years ago.

Just go back to the word liberal. Today, you may hear neo-liberalism tossed around, usually with a negative connotation regarding free trade. Neo-liberalism is often used synonymously with classical liberalism, though not to be confused with regular liberalism, which tends to oppose both. That is unless we are referring to “liberalizing” some part of the economy; say trade, which would reduce trade barriers. Then you can drop the neo/classical and just say “we are liberalizing trade,” despite the fact that most self-described liberals would like to “de-liberalize” trade.

Or how about neo-conservativism, which is neither neo (new) nor conservative. Neo-conservatism is fine with the welfare state (not conservative), dislikes federalism (very not conservative), is fine with policing morality (not particularly conservative, unless we’re talking about the religious right) and has an extraordinarily hawkish foreign policy (not conservative in the “old right” sort of way, at least). Neo-conservative founders, Irving Kristol and Leo Strauss, even drew much of their inspiration from Leon Trotsky (the concept of a world wide “permanent revolution” especially, except they replaced socialism with democracy). So neo-conservatives are not conservative, neo-liberals are not liberal, classical liberals are neo-liberals, but not regular liberals, libertarians are classical liberals in the United States but anarcho-socialists in Europe, reductio ad-absurdum.

Each term itself is filled with many subgroups to make things even more confusing and less relevant. What becomes obvious is that blanket terms such as the “extreme right-wing,” that the likes of Paul Krugman like to throw around, are simply used as cudgels to denigrate multiple groups that are not even remotely associated with each other. The only thing these groups tend to have in common is that they oppose Krugman’s team.

Continued in Part 2.

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*On a side note related to this discussion, I should mention that Osama Bin Laden, a radical “right-wing” Islamist, promoted one of Noam Chomsky’s, a leftist, pseudo-cult leader, books in one of his recorded messages to the West. It should also be noted that these “right-wing” Islamic countries have very controlled economies (i.e. not free market economies), as you can see here.

(1) Paul Krugman, “The Big Hate,” New York Times, June 12, 2009, http://www.nytimes.com/2009/06/12/opinion/12krugman.html
(2) Department of Homeland Security Report, Rightwing Extremism: Current Economic and Political Climate Fueling Resurgence in Radicalization and Recruitment, Pg. 3n, April 7, 2009, a copy can be found here: http://video1.washingtontimes.com/video/extremismreport.pdf
(3) “The 25 Points of Hitler’s Nazi Party,” The History Place, retrieved June 25, 2009, http://www.historyplace.com/worldwar2/riseofhitler/25points.htm
(4) See Daniel Hannan, “There’s Nothing Right Wing About the BNP,” The Telegraph, February 22, 2009, http://blogs.telegraph.co.uk/news/danielhannan/8679468/Theres_nothing_Rightwing_about_the_BNP/
(5) “Noam Chomsky – Libertarian Socialism: Contradicting terms?,” retrieved June 25, 2009, http://www.youtube.com/watch?v=ugq86q9KyPE

We’ll start with the question: “Why housing?” It starts with a redefinition of the American Dream. Whereas in years past, the American dream was best defined as prosperity can be found in liberty, it has become, in modern times, that home ownership is the key ingredient to achieving such a dream. As George Bush’s Secretary of Housing and Urban Development, Alphonso Jackson put bluntly, “The American dream is to own a home.”

This paradigm dates back to the New Deal. Before the New Deal, owning a home was not as important as it is today, because housing prices were relatively stable and even declined over the years. However, during the Great Depression, political radicalism became common place. In 1928, the Communist and Socialist parties garnered a combined 300,000 votes. In 1932, they received almost a million. (1) In an effort to stabilize the mortgage industry, and hedge off political radicalism, FDR and his brain trust decided to push for home ownership in the United States. They believed a property-owning citizenry would have a greater stake in the Republic and be less prone to revolutionary ideas. This culminated in the creation of Fannie Mae (and later Freddie Mac and Ginnie Mae). Fannie Mae works by buying mortgages directly from banks, thus freeing up capital for banks to make more home loans, thus creating more homeowners and fewer renters. And as a result, as economic historian Niall Ferguson puts it, the “property-owning democracy” was born.

However, as nice as owning your home sounds, it is a poor, long term investment financially speaking, unless one has other assets with which to compliment it. In general, buying real estate to use as rental properties is a good investment. On the other hand though, piling a large percentage of one’s income into a home that provides no return outside of appreciation, puts all of one’s proverbial eggs in one proverbial basket. If the local housing market depreciates, a major portion of one’s wealth is affected. Every finance professor stresses the importance of diversification. The idea is to hedge the risk of certain companies and industries against as many other companies and industries as possible. By spreading one’s nest egg so thinly, if one company fails or a particular industry has a rough year, the overall portfolio is relatively unaffected. This is why most unseasoned investors put their money in mutual funds, 401K’s and IRA’s. These instruments are designed specifically to hedge clients against risk by investing in a large number of stable companies across a vast array of industries.

This concept was, unfortunately, completely forgotten with regards to housing. And as the trumpeters for home ownership grew louder and louder, Fannie Mae, Freddie Mac and Ginnie Mae jumped on every opportunity they could to increase the availability of credit to homeowners. Their primary method was a process called securitization. In short, these government supported entities (GSE’s) could slice and dice a whole array of mortgages into mortgage backed securities and sell them off in little chunks to other investors (these investors are all over the world, which is one of the main reasons this crisis, which originated in the United States, is being felt worldwide).

A few attempts were made to regulate Fannie Mae and Freddie Mac, but Congressional Democrats, lead by Barney Frank and Chris Dodd (who received more campaign funds from Fannie Mae than any other politician), would have none of it. As Democratic Congresswoman Maxine Waters, last seen on this blog trying to establish a Soviet Commissar to nationalize the entire oil industry, put it in a 2004 congressional hearing:

“[We've been] through nearly a dozen hearings, where frankly, we were trying to fix something that wasn’t broke. Mr. Chairman, we do not have a crisis at Freddie Mac, and particularly at Fannie Mae, under the outstanding leadership of Mr. Frank Raines.” (2)

Four years later the government had to nationalize both Freddie and Fannie. Good call Maxine. Regardless, as these GSE’s began slicing, dicing and selling mortgages off unimpeded, Wall Street decided to get their dirty hands in on the mess. With home prices rapidly increasing and an enormous influx of capital (to be discussed later), banks wanted to capitalize on this new financial instrument (the mortgage backed security). Fannie Mae and Freddie Mac started securitizing sub-prime and Alt-A mortgages in 1999, and major banks were particularly interested in going after this market as well. These borrowers usually had bad credit and little if anything to put down on a property. So Wall Street firms followed in Fannie Mae’s footsteps by piling large collections of these risky mortgages together and selling little pieces of them off to the general public. They thereby created a high yield investment vehicle that supposedly reduced risk by dividing the many mortgages up so thinly. Unfortunately, this only hedged against individual defaults or local downturns. It completely ignored the possibility that there was a systemic problem within the real estate market as a whole.

In the words of Peter Schiff, who saw the crisis coming as early as 2002: “By creating a conflict of interest between the real estate market and mortgage market, securitization has corrupted an industry in which the availability and cost of credit are of central economic importance.” (3) Furthermore, the incredible complexity of these instruments made them almost impossible to value properly. To paraphrase Niall Ferguson, “instead of risk being transferred to those best able to bare it, risk was transferred to those least able to understand it.”

Fannie, Freddie and Ginnie were not the only culprits, though. In the late 1990′s, the Clinton Administration put an extreme emphasis on increasing home ownership. Aside from giving the previously mentioned GSE’s more leeway, they also started vigorously enforcing everything they could find, or create, to increase home ownership. One of the most prominent was the Community Reinvestment Act, originally passed during the Carter Administration. The Community Reinvestment Act was originally passed with the intent to increase lending to minorities and end the discriminatory practice known as redlining (basically, banks wouldn’t lend to neighborhoods with large minority populations). Unfortunately, as these things often go, it went from one extreme to another, and the opposite of one crazy is still crazy. Instead of blacklisting minority applicants, in the 1990′s and 2000′s, banks were scared to death of lawsuits from declining mortgages to minorities or low-income folks, even if those particular people weren’t financially capable of meeting their mortgage obligations.

Far left groups like ACORN were particularly active in finding cases of alleged discrimination that they could turn into extraordinarily expensive lawsuits. In one particular case, a bank was forced to make $2.1 billion dollars available to low income borrowers who would not have otherwise qualified. Andrew Cuomo, Bill Clinton’s Secretary of Housing and Development, even admitted, “…[it] will be a higher risk. And I’m sure there will be a higher default rate on those mortgages than on the rest of the portfolio.” (4) Wow, how compassionate of Mr. Cuomo. To paraphrase, in my own, sarcastic words, “We’re going to set poor people, who should be trying to save, up to fail by forcing other people to lend them money.”

In the end, the common, “blame deregulation,” chants are rather ridiculous since just about every new policy enacted was to prop up housing, and almost explicitly NOT reign in the excesses throughout the industry. As economist, Tom Woods puts it:

“We are supposed to place our hopes in regulators who would have to be courageous enough to stand up to against the entire political, academic and media establishments? What regulator would have done anything differently, or dared to tell the regime something other than what it obviously wanted to hear?” (5)

So nearly every factor imaginable was pushing capital into the housing market. But where did all this money to put into real estate come from? Many haven’t even asked this question. The main reason, I believe, is that people do not properly understand real estate appreciation. Realtors and bankers often said during the run-up, “real estate prices always go up” and “think of your home as an investment.” In other words, think of a house like you would a stock. If the company becomes more profitable, the stock goes up in value. Real wealth has been created. No one will admit it, but the implied assumption was that when housing prices went up, wealth was being created. Somehow just about everyone, including myself, actually thought houses were becoming more “profitable” just by their mere existence.

Houses do not become more “profitable” just by sitting there, though. They may become more valuable because of factors relating to supply and demand, but as houses get older and more worn down, they should actually depreciate. Real estate appreciation is accurately defined as anything that increases the value of a house. This could be adding an addition, remodeling the bathroom, putting in a swimming pool, etc. These types of activities add real wealth. When housing prices started to dart up around the turn of the century, no new wealth was being created. No, what we saw was nothing more than plain, old inflation.

Inflation was thus misinterpreted as wealth, leading American consumers to borrow more and more, especially against their overvalued homes. Total mortgage debt in the United States is now around 12.5 trillion, up from $1.5 trillion in 1980! Total household debt was around 50% of GDP in 1980 and is over 100% today. (6) And the personal saving rate was around negative 1%, for most of the last decade. (7) Add this to the federal government’s enormous 10 trillion dollar debt and we discover that the United States was basically relying solely on debt to sustain its consumption; debt that could only be maintained through the equity American’s thought their homes had. U.S. citizens were literally refinancing their homes to buy consumer products. When those homes began to depreciate, the stage was set for a significant economic contraction.

Source: PrudentBear.com

Source: PrudentBear.com

So where did this inflation come from? Well, it came from the extremely foolish policy of Alan Greenspan and the Federal Reserve. Tom Woods explains their missteps as follows:

“The Fed… started the boom by increasing the money supply through the banking system with the aim and the effect of lowering interest rates in the wake of September 11, which came just over a year after the dot-com bust, then Fed chairman Alan Greenspan sought to re-ignitethe economy through a series of rate cuts, culminating in the extraordinary decision to lower the target federal funds rate (the rate at which banks lend to one another overnight, and which usually drives other interest rates) to 1 percent for a full year, from June 2003 until June 2004. In order to bring about this result, the supply of money was increased dramatically during those years, with more dollars being created between 2000 and 2007 than in the rest of the republic’s history.” (8)

The Fed does not directly control interest rates or the supply of money, but through what are called open market operations, the Fed can have a substantial effect on these things. The most common method it uses is to buy up bonds with money it simply create out of thin air. This adds money into the economy which, through a process called fractional reserve banking, the Fed’s initial capital injection will increase 10 fold.* The Fed can also lower the discount rate (rate at which they loan directly to banks), or decrease bank’s reserve requirements to increase the money supply.

Regardless of the methods the Fed used, what is clear is that the quantity of money rapidly increased throughout the ’90′s and into this decade. The Fed uses several indicators to track the total amount of money in the economy. One of these, known as M1, increased over 100% from 1990 to 2008. M3, a more accurate depiction of the money supply, which was discontinued in 2006 because of the difficulty measuring it, increased 150% from 1995 to 2005! (9)

Source: Federal Reserve Bank of St. Louis

Source: Federal Reserve Bank of St. Louis

The Federal Reserve went way overboard in an attempt to stave off a severe recession in 2001. We still had one, but it was brief and mild. In essence, they delayed much of the pain we should have faced then until now. It should also be noted, that the 2001 recession was the only recession on record in which housing starts did not decline. This should have been a sure fire sign that something was amiss in the housing market. As Peter Schiff so fittingly put it, “George Bush, in one of his speeches, said that Wall Street got drunk… But what he doesn’t point out is where did they get the alcohol? Obviously, Greenspan poured the alcohol…” (10)

To summarize, the Federal Reserve dramatically lowered interest rates, thereby increasing the quantity of money in the economy. That money had to go somewhere and due to a host of government policies and political pressure, this money primarily found its way into housing. The dangerous combination of loosened regulation and the moral hazard of deposit insurance, as well as an implicit bailout guarantee, made banks feel more and more comfortable making loans to less and less credit-worthy borrowers. With securitization, Fannie Mae, other GSE’s and banks were able to sell off their overvalued debt to unsuspecting investors, thereby infecting the entire economy. When adjustable rate mortgages began adjusting, the least credit-worthy borrowers began defaulting on their mortgages, causing home prices to fall. As home prices fell, homeowners lost their equity and could no longer refinance, thereby causing more foreclosures. As foreclosures spiked, investors and banks holding these mortgage backed securities, as well as insurance companies such as AIG who backed them, began taking massive losses. Massive losses on Wall Street meant firms had to lay-off workers. And without the ability to refinance, homeowners had less money to spend causing firms outside of finance to become less profitable and either go out of business or downsize. Thus, a mortgage meltdown turned into a financial crisis and culminated in a severe recession. Hopefully, we’ll learn the right lessons from the whole mess. Unfortunately, I kinda doubt it.

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*Fractional reserve banking is when a bank only has to keep a certain percentage of their deposits on hand and can loan out the rest. Typically, banks only have to keep 10% of deposits on hand and can lend out the other 90%. That 90% is then deposited in another bank, which loans out 90% of the original 90% and so on. Eventually, assuming a 10% reserve requirement, the initial deposit will increase by a multiple of 10. Mathematically it looks like this:

X = Initial Deposit
Y = Reserve Requirement

X/Y = Total Amount of money added to the economy

So for example, if you deposit $100 at a bank that has a 10% reserve requirement:
$100/0.1 = $1000 will be the total amount of money eventually created.
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(1) “United States presidential election 1928″ and “United States presidential elcction 1932,” Wikipeda.org, http://en.wikipedia.org/wiki/United_States_presidential_election,_1928 and http://en.wikipedia.org/wiki/United_States_presidential_election,_1932
(2) “Shocking Video Unearthed Democrats in their own words Covering up the Fannie Mae, Freddie Mac Scam that caused our Economic Crisis,” Retrieved May 31, 2008, http://www.youtube.com/watch?v=_MGT_cSi7Rs
(3) Peter Schiff, Crash Proof, Pg. 126, John Wiley & Sons, Inc., Copyright 2007
(4) “EVIDENCE FOUND!!! Clinton administration’s “BANK AFFIRMATIVE ACTION” They forced banks to make BAD LOANS and ACORN and OBama’s tie to all of it!!!,” Retrieved May 31, 2008, http://www.youtube.com/watch?v=ivmL-lXNy64
(5) Thomas Woods, Meltdown, Pg. 29, Regnery Publishing, Inc., Copyright 2009
(6) “Consumer Debt Outstanding” and “Household Debt% of GDP,” PrudentBear.com, both uploaded 2/28/2009, http://www.prudentbear.com/index.php/consumer-debt and http://www.prudentbear.com/index.php/household-sector-debt-of-gdp
(7) “Our Savings Rate Is (Still) Negative: Should We Worry,” My Money Blog, 2/4/07, http://www.mymoneyblog.com/archives/2007/02/our-savings-rate-is-negative-should-we-worry.html
(8) Thomas Woods, Meltdown, Pg. 26, Regnery Publishing, Inc., Copyright 2009
(9) “Series: M1, M1 Money Stock” and “Series: M3, M3 Money Stock (DISCONTINUED SERIES),” Federal Reserve Bank of St. Louis, http://research.stlouisfed.org/fred2/series/M1 and http://research.stlouisfed.org/fred2/series/M3
(10) Peter Schiff, “Why the Meltdown Should Have Surprised No One,” The 2009 Henry Hazlitt Memorial Lecture, Retrieved May 31, 2008, http://www.youtube.com/watch?v=EgMclXX5msc

In 1759, Voltaire wrote his satirical, Magnum Opus, Candide, eponymously named after the main character, who after leading a sheltered life for many years, comes to the realization that all is not right in the world, and we must do our best to improve it. This is in direct contradiction to his mentor, Pangloss, whose mantra is “all is for the best in the best of all possible worlds.” In other words, we are already living in a utopia, it simply cannot get any better, which he humorously (albeit darkly) explains to someone who just lost his whole family after an earthquake. The idea that war has a good side effect reminds me of the Leibnizian optimism (everything happens for the best) that Voltaire so thoroughly refuted. Some things, such as war, may be necessary, but they are in no way good, and have no silver lining.

War is horrible… but it’s good for the economy. I cannot, for the life of me, think of a more dangerous myth than that. This facade has become so prevalent in the national conscience that it’s simply taken for granted. The reasoning for this myth comes from an offshoot of Keynesian economics, in summary it says war stimulates aggregate demand and thereby gets the wheels of the economy turning again (or turning faster). The key piece of evidence used for this assertion is World War II, which is arrogantly claimed, over and over again, to have ended the Great Depression. As MSN Encarta so helpfully informs us, “the depression ended in the United States only when massive spending for World War II began.” Seriously though, why would anyone actually believe this without at least a little skepticism? Wars are enormously destructive and shift resources from human needs, to human destruction.

The key problem with the theory itself, is that such stimulus, military or otherwise, relies on government spending. The government doesn’t have anything except what it takes, it can do little more than shuffle the deck. Government can tax the population, inflate the currency (another tax) or borrow the money (a deferred tax). Deficits are usually the prescribed course of action, but if you borrow from your own citizens then you’ve simply used up capital that could have been borrowed by private citizens and companies anyways. This is especially true for domestic borrowing, but is also the case with borrowing from abroad. Regardless, as the government borrows more, the reduced supply of available capital will raise interest rates for everyone else. Admittedly, this may provide short-term growth, if investor confidence is low, but such a prescription has long-term consequences, as the debt has to be repaid with interest. And as with the United States, we’re already up to our eyeballs in debt. Furthermore, these benefits are only accrued if that money is spent on projects of economic value. Wars do not provide any economic value.

Keynesian economics can be discussed at further length another time; I’ll instead focus the rest of this article on the conspicuously lonely example proving the splendors of “military-Keynesianism.”

So let’s get to World War II. First of all, it’s obvious that conquest can help an economy in some cases. When the Soviet Union colonized Eastern Europe after World War II, their population, and supply of capital, vastly grew, which is obviously good for an economy. However, that’s simply saying that theft makes one richer. Not really the most provocative insight there. But what we’re discussing here is does the act of war itself stimulate an economy? Let’s for a moment assume that the popular fable behind World War II is correct. War is what got the United States out of the Depression. Okay, who cares? There’s one example of war stimulating an economy…Check that, there’s one example inside of a larger example that illustrates the exact opposite. Everything else points toward war having dire economic consequence. After World War II, Britain was basically bankrupt and had to liquidate their empire. Same goes for France. Germany, Japan and Italy were burnt to the ground. China was a train wreck before and an even bigger train wreck afterward. World War II only “worked” for the United States.

Furthermore look at the rest of the wars our species has, unfortunately, had to endure. The United States went into a severe recession in 1920, just after World War I. Germany’s currency hyperinflated while the Austrian, Ottoman and Russian Empires simply collapsed. In the American Civil War, the South was reduced to rubble and the North suffered runaway inflation. After the Revolutionary War, the American currency hyperinflated (thus the saying “not worth a Continental”). Rome’s collapse was mostly due to corruption at home and military over extension abroad. Napoleon was so strapped for money after the early stages of the Napoleonic War, he had to sell the Louisiana territories to the United States for pennies on the dollar.  The Franco-Prussian War was almost immediately followed by a speculative housing bust, which created the panic of 1873 and a global depression. Spain was more or less left to the ash bin of history, after the Spanish Armada was destroyed (shouldn’t there have been an enormous economic stimulus to rebuild?). The combination of spending on the Vietnam War and the Great Society lead to the stagflation of the 1970′s. In addition, the United States suffered recessions immediately following the Korean War, Gulf War and Serbian War. The Soviet Union collapsed after a long war in Afghanistan. Honestly, have the many sub-Saharan wars in Africa stimulated their economies? Has this economic strategy worked for Middle Eastern countries bogged down in decades of conflict? And really, if war is so good for an economy, why is our own economy collapsing all around us, while we are engaged in outrageously expensive boondoggles in Iraq and Afghanistan?

Perhaps this would prop up real estate prices?

Now correlation does not equal causation; not all the previously mentioned wars were completely, or even mostly responsible, for the corresponding economic upheavals. Regardless, it’s worth noting that I have about a thousand data points to make a trend, and the standard “wisdom” has but one outlier. Well one outlier proves absolutely nothing, so the burden of proof lies not with me, but with the standard “wisdom.” I should be able to end this article victoriously right here, but I feel it’s important to note, that upon closer analysis, even this one outlier is nothing of the sort.

Economic historian Robert Higgs’ work on this subject is simply unparalleled; if you are interested in a more detailed analysis of this issue, see his book Depression, War and Cold War or an overview here. Simply put, the case for World War II getting the United States out of the Depression, primarily lies with two statistics: 1) unemployment went from around 10% to almost nothing and 2) GDP skyrocketed upwards. We’ll start with unemployment, according to Robert Higgs:

“What actually happened was no mystery. In 1940, before the mobilization [for war], the unemployment rate … was 9.5 percent. During the war, the government pulled the equivalent of 22 percent of the prewar labor force into the armed forces. Voilà – the unemployment rate dropped to a very low level.” (1)

Yes, unemployment went down, but that’s because we shipped millions of young men overseas. We could have kept them in the United States and reduced unemployment by having them dig holes in the ground. Or we could have put them in prison, or just shot them. All these things would reduce the supply of labor, and thereby bring the number of jobs and workers back into equilibrium.

This sort of strategy has consequences though. What really happened during the war was the way the Depression affected the American people changed. The main problem during the Depression was deflation; between 1929 and 1932 one third of the money in circulation disappeared. Yet the government, (both Hoover and Roosevelt) tried to prop up wages and prices. This, predictably, caused massive unemployment, since there wasn’t enough money available to pay people their previous wages.  Back in the 1930′s there was a saying that “the Depression was not so bad if you had a job” which makes perfect sense, since wages were kept artificially high. (2)

During the war, the situation reversed itself. Just about everyone had a job, but the standard of living was drastically reduced. Price controls, rationing and shortages became commonplace. Housing starts stopped. Entire lines of products, such as steel, were off limits to the public. Now, instead of the unemployed feeling a lot of pain, everyone felt some pain.

As far as GDP goes, the statistics say the United States grew a total of almost 35% between 1941 and 1945. However, the United States had what could best be described as a command economy during the war. In other words, economic decisions for the whole country were made from the White House. The government set the prices for most goods (and rapidly inflated the money supply) so these GDP figures are all but useless. According to GDP statistics, if the government pays $100 for a hammer instead of $10, the economy gains $90. But that really doesn’t tell us anything about overall economic health. All it would tell us is the government wasted $90. As far as private production goes, things were not good at all. Turning again to Robert Higgs:

“…from 1941 to 1943, real gross private domestic investment plunged by 64 percent; during the four years of the war, it never rose above 55 percent of its 1941 level [and] only in 1946 did it reach a new high.” (3)

To further prove this point, we simply have to look at the end of the war, when the United States started to demobilize. The GDP decreased 20.6% in 1946 alone! This should be recorded as one of the worst years in economic history. However, 1946 saw extraordinary gains in the private sector that have never been repeated since. (4)

Notice the significant dip in 1946 - Source: Bradford Delong, Slouching Toward Utopia, UC Berkeley

So what ended the depression? Well, the fact that the United States was, more or less, the only country left standing after the war may have helped by putting our exports in high demand. However, this has nothing to do with war itself and trying to repeat this strategy to fix our current crisis seems to me just a bit, well a bit unethical. According to Robert Higgs, the actual key was the end to what he called “regime uncertainty.” In the later parts of the New Deal, the Roosevelt administration’s behavior had become unpredictable and many businesspeople were scared to invest. This was amplified during World War II, when much of the economy was simply taken over by the government. However, after the war ended, there was, to borrow a phrase from Warren Harding, a return to normalcy. The uncertainty was more or less over and people could, once again, pursue their personal interests in relative peace. This was what likely got the gears of the economy moving again and finally ended the Great Depression.

But again, even if professor Higgs and laymen, like myself, are wrong, we are only wrong about one example within an example. The rest of the trend points safely in our direction.

It’s also important to note that the burdens of war go on for many years after a war has ended. Completely ignoring the tragic human cost, the overall economy suffers as many soldiers are left wounded and can no longer work or work as productively as they could, before their service. A significant amount of money has to be spent to take care of injured soldiers as well. The Department of Veterans Affairs requested $93.7 billion dollars for 2009. These costs continue year after year. Even today, we see the heart-wrenching scene of disabled Vietnam veterans begging for money on street corners. Decades from now, we may, unfortunately, see the same from veterans of the war in Iraq, who could have lead quite productive lives, if they hadn’t been scarred by war.

Even the simple act of diverting resources away from the productive sector of the economy, into the military is costly. While being a soldier is a very honorable profession, it doesn’t produce much of economic worth. When the military becomes bogged down in a war, we transfer many resources from the production of consumer goods, to a war that is usually thousands of miles from our shores. And this doesn’t only happen in wartime, as the United States currently has about 700 military bases in 130 countries; all of which cost money without providing any sort of economic stimulus.

So war may improve artificially inflated GDP figures, temporarily reduce unemployment and even provide a short-term economic boost, it does not, however, stimulate the economy in any meaningful long-term sense. Quite to the contrary, Voltaire was right, Pangloss was wrong, and war often leads to economic disaster. In addition, the negative effects of wars, both economic and social, linger for years. Perhaps they linger just until we forget about them, so we can then repeat the same mistakes all over again. After all, the only thing we seem to learn from history, is that we don’t learn from history.

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(1) Quoted in Anthony Gregory, The Myth of War Prosperity, LewRockwell.com, April 3, 2007, Future of Freedom Foundation, Copyright 2007, http://www.lewrockwell.com/gregory/gregory132.html
(2) See Amity Shlaes, The Forgotten Man, Pg. 9, HarperCollins Publishers, Copyright 2007
(3) Quoted in Anthony Gregory, The Myth of War Prosperity, LewRockwell.com, April 3, 2007, Future of Freedom Foundation, Copyright 2007, http://www.lewrockwell.com/gregory/gregory132.html
(4) Ibid