Business IdeasV V: The Great Depression, 1929, and us
Read no history — nothing but biography, for that is life without theory
—Benjamin Disraeli
Jan cement sales in high double-digit
Because of the close parallels between the current global financial crisis and the Great Depression, 1929, it is no wonder that there is no end to books on what we need to do now — or what it really meant then and who was responsible for the meltdown. Liaquat Ahamed, a professional investment manager for 25 years who has also worked for the World Bank and now an adviser to several hedge fund groups in the US, has come with his own diagnosis of what happened to the West after World War I, of bubbles followed by busts and a cascading series of events that led to the Great Depression, in Lords of Finance: The Bankers who Broke the World (William Heinemann, Special Indian price, Rs 1,185). John Maynard Keynes had said in an essay, The Great Slump of 1930, “We have involved ourselves in a colossal muddle, having blundered ourselves in the control of a delicate machine, the working of which we do not understand.” The “delicate machine” was the global economy which Ahamed helps unravel and points his finger at the “lords” responsible for the mess. Is it any different now?
Ahamed’s narrative says it was the US Federal Reserve, the Bank of England, the German Reichsbank and the Banque de France that were the Big Four, the lords of finance or “the bankers who broke the world”. A combination of factors led to the crisis — post-war politics, the rise of Hitler’s Germany, a refusal to abandon economic orthodoxy — that led to the collapse of the capitalist economies in the West.
“Industrial production had fallen by 30 per cent in the US, 25 per cent in Germany, and 20 per cent in Britain,” Ahamed writes. “Over 5 million men were looking for work in the US, another 4.5 million in Germany and 2 million in Britain.”
In a blow-by-blow account, Ahamed tells the story of “the descent from the roaring boom of the 20s into the Great Depression” over five parts that read like a Greek tragedy where the end is clear to all except the dramatis personae. These parts tell all. Part One: The Unexpected Storm, August 1914; Part Two: After the Deluge, 1919-23; Part Three: Sowing a New Wind, 1923-29; Part Four: Reaping the Whirlwind, 1928-33; and Part Five: Aftermath, 1933-44. What becomes clear in these chapters is that while objective factors played a big role in the shaping of events, there were individuals who gave “a helping hand to history” (what Adam Smith called the “unseen hand”) — in this case, for all the wrong reasons or simply because they thought they knew the answers.
The Big Four were, in fact, the bosses of the four central banks: Benjamin Strong (US Fed), Montagu Norman (long-time head of the Bank of England), Émile Moreau of the Banque de France, and Hjalmar Schacht, who headed the German Reichsbank. These four bankers, often described as “the most exclusive club in the world”, had acquired a mystique and fame that couldn’t be questioned; and when they could have been, they had either pushed off elsewhere, or simply died.
But however great the role of the individual in history, there are objective factors over which the individual(s) have no control. In this case, the central bankers had no control over the insistence by Allies that Germany pay war reparations beyond their means. Norman, in particular, was opposed to the size of reparations the Allies were demanding and had warned that it would bring down the German economy which is what happened — and led to the rise of Hitler.
The “lords” might have read it wrong, but as the world spiralled into depression, what it revealed was the interconnectedness of the banking system, where a failure in one country led to problems in other countries — which brings us back to the economic crisis we are going through now.
But that isn’t the only lesson: adaptability (call it the survival instinct, if you like) is what matters, not loyalty to a principle that had long since served its purpose. The central bankers were prisoners of economic orthodoxy of their time: the powerful belief that sound monetary policy had to revolve around the gold standard. That is, each country’s reserve bank must have a certain amount of gold in its vaults to back up its currency — and indeed, as Ahamed says, “All paper money was legally obliged to be freely convertible into its gold equivalent”. But this didn’t leave much room for manoeuvre that was caught in a straitjacket: you couldn’t raise or lower interest rates because this would reflect on the gold reserves.
This is a disturbing book that raises many unsettling questions. Above all, it asks whether we really understand the working of that “delicate machine” or “the unseen hand”. Economists, it is said, are a funny lot who can’t understand why a thing that works in practice doesn’t do so in theory. Maybe Disraeli was right, after all.