As we approach the centenary of the onset of the Great Depression,
a pivotal moment in global economic history that started with the infamous
stock market crash in October 1929 and stretched until the late 1930s, the debate
surrounding its causes remains rich and complex. The discourse of economists and
historians who, though concurring on foundational facts like the market crash
and subsequent bank failures, engage in the ongoing debate concerning the
specific catalysts and relative importance of different economic factors that
led to the Depression. The Monetarist and Keynesian theories dominate the literature,
but there is a lesser-known theory (at least amongst the general population)
that offers a distinctive interpretation of the causes of the Great Depression.
The Austrian School of Economics originated in the late 19th
century and its adherents argue that the only way to really understand the economy
is by examining the actions of individuals. They strongly oppose governmental
efforts to interfere with the market, believing that doing so leads to
problems. The two most prominent Austrian theorists of the twentieth century
were Ludwig von Mises and Friedrich August von Hayek, more commonly known as F.A.
Hayek. To best understand this economic theory, we need to understand their
views on the potential to control the economy. Hayek, in a speech he made when
he accepted the Nobel Prize for Economic Sciences in 1974 stressed that it was
foolish for social scientists, economists among them, to think they could
control society in the same way a physical scientist could control his subject.
The Austrian School posits that the Great Depression was not
a random event or a result of unregulated market forces. Rather, it was the
predictable outcome of rampant overinvestment fueled by the Federal Reserve
Bank’s artificially low-interest rates throughout the 1920s. Central to accepting
this concern is the Austrian Business Cycle Theory (ABCT) which argues that
when central banks lower interest rates, business firms are tempted to borrow
and invest in ways that they would not under different criteria. This, according
to the Austrian School, leads to malinvestment. Hayek wrote, "the past
instability of the market economy is the consequence of the exclusion of the
most important regulator of the market mechanism, money, from being regulated
by the market process."
In other words, interference with the money supply leads to instabilities
because individuals who make up the market are having to make economic
decisions in an environment that does not flow naturally.
The primary cause of the Great Depression according to Hayek
was the fact that central banks, to fix falling prices, which Hayek argued were
beneficial and in the case of the United States were due to technological advancements
making manufacturing cheaper, extended the boom by keeping access to money easy
and thus fueling malinvestment. He argued that if the central banks had not interfered
in 1927 then the boom would have ended two years early and not led to the disaster
that it did.
On the matter of economic revitalization from the Great
Depression, it is inevitable that the Austrian School diverges from many
mainstream economic theories, positing that the economic recovery was largely
enabled by market mechanisms rather than government interventions. Despite the
far-reaching implementation of New Deal policies, Hayek and his Austrian
contemporaries viewed these as obstacles to the market's natural recovery
process. Hayek cautioned, "the curious task of economics is to demonstrate
to men how little they really know about what they imagine they can design.”
Hayek's warning encapsulates the Austrian viewpoint that
these interventions potentially interfered with the natural corrective
processes of the market, and instead of fostering recovery, might have
exacerbated the situation and prolonged the depression. They argue that these
measures, while they might have provided temporary relief, did not contribute
to a lasting, sustainable recovery.
Hayek and the Austrian School have never influenced policymakers
to the extent Keynesian theory has and due to the ratchet effect and the fact
that through crises in the twentieth century that paved the way for bigger and
bigger government, we have become accustomed and even sought to have greater
economic control by the government means we are not able to study the merits or
lack thereof of the Austrian theory. Hayek even contributed insight into the
reason for the ratchet effect by arguing that the crises that brings about increased
government interference develops a bureaucracy that becomes entrenched and that
even when the crisis subsides the populace remains convinced of the need for
the bureaucracy because they believe it possesses technical expertise that
unless maintained may throw the system back into chaos.
The unfortunate consequences of the ratchet effect should inspire us to
consider the Austrian School as a more viable option for responding to economic
downturns.
In conclusion, through the lens of the Austrian School and
fortified by Hayek's insights, the Great Depression can be seen as both
precipitated and prolonged by monetary policy manipulation and government
intervention. This perspective underscores the importance of allowing markets
to self-regulate and adjust naturally, offering invaluable insights into one of
the most significant economic downturns in history.
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