The Bear’s Lair: Decade of Economic Denial

The 0.9% decline in U.S. second quarter GDP Thursday brought an immediate denial from the Biden administration that the United States was in a recession, following similar denials that inflation was persistent and that high oil prices were due to restrictions on U.S. pumping. As this column has frequently forecast, the 2020s will be a difficult decade. It is now clear that it will be a decade of economic denial, in which administrations of whichever party attempt to obfuscate the economically obvious. We have seen this pattern before; it is one of the reasons economics is a truly dismal science.

The pattern of economic denial began before there was any economics. The later Roman Emperors took to Christianity to disguise from their people the disintegration of the Empire they nominally led. Even as living standards collapsed and the barbarians sacked one provincial town after another, in 410 reaching Rome, the Emperors found a religion that told its acolytes that, while starvation and destruction was inevitable in this world, salvation was possible in the next. No PR consultancy could have done better!

This trend of economic denial and blame-shifting continued with the Elizabethans. Suffering as they did from rampant inflation due to Spanish silver imports from the New World and population growth unaccompanied by greater productivity, they blamed the resulting excess of “vagabonds” on the fecklessness and tendency to criminality of the lower orders. Fortunately, with the Poor Law of 1601, better instincts prevailed, and they began providing a minimum subsistence to those unable to afford life, without herding them into “workhouses.” That was a Whig/Benthamite policy by the 1834 Poor Law Amendment Act. That Act also involved a considerable element of denial; it was sold to the public as a rational solution that would reduce welfare costs; in the long term it increased dependency since the poor caught in its tentacles lost the ability to lift themselves up.

150 years later, the Whigs in their 46-year Supremacy again blamed the working classes for the adverse effect of their own repressive policies and passed no fewer than six “Gin Acts” seeking to suppress blue collar drunkenness. The epidemic of hard liquor destruction of human lives, so brilliantly illustrated by William Hogarth, was ended only when the Tories returned to power after 1760. Excised spirits consumption peaked at 7,955,000 gallons in 1742 and declined to 2,639,000 gallons in 1780, after 10 years of Lord North’s benign rule. Meanwhile brewery output soared, as Whitbread’s and other breweries popularized their new product of “porter” peaking around 7% of GDP in 1770 and declining as a percentage of GDP only slowly thereafter as the Industrial Revolution produced new forms of output.

Further denial was involved in the belief incessantly expressed by the late Victorians that unilateral free trade was a smashing success, and that Britain was more powerful than it had ever been. In reality, Britain’s per capita economic growth halved in 1870-1914 compared with its level in 1830-70, from 1.56% per annum to 0.72% per annum. By the Edwardian period, statesmen such as Joseph Chamberlain were openly campaigning on installing an Imperial Preference tariff that would level the playing field between Britain and its aggressive trading partners. Britain’s position would have been much stronger if the true position had been assessed correctly in the 1870s, perhaps by Benjamin Disraeli, who had started his career as a protectionist but in the final analysis had no principles beyond his own self-glorification.

In the U.S. 1930s, terrible statist policies by Presidents of both parties pushed up the size of the government while the economy as a whole stagnated. Economists, almost all of whom supported those policies, came up with a wizard wheeze to make the situation look better than it was. The new statistic of Gross Domestic Product, invented by Keynesian economist Simon Kuznets, took government expenditure at full value, as if it produced something useful, so the more overgrown and bloated government become, the more GDP would swell.

By this means, the government’s conversion of a sharp but short depression into a ten-year nightmare was gilded, so that output at the bottom of the 1937-38 secondary downturn was spuriously shown to be considerably higher than at the bottom in 1932-33. Had the statisticians used a more appropriate measure, Gross Private Product, in which only the genuinely valuable output of the private sector was counted, the truth would have been revealed: of a decade-long downturn, grossly prolonged and exacerbated by lousy policies, that was alleviated only after the November 1938 midterm elections deprived the socialist government-bloating New Dealers of a majority in Congress.

Today the need for obfuscation is clear, as it was in the 1930s, and the phony economic policies and calculations needed to make the obfuscation work are even more available, with few classical economists (believers in a Gold Standard and a balanced budget) available to counter the propaganda flow. We have already seen how an entirely new economic paradigm “Modern Monetary Theory” was invented to justify the grotesque budget deficits and GOSPLAN monetary policies of the 2010s; we can expect further such inventions to disguise the misery in store for the American and global public.

The ”recession” debate is a classic example. For decades, recessions have been defined as two successive quarters of GDP contraction, a condition that was satisfied last Thursday. The Biden administration and its supporters are now going to great lengths to deny this definition, which has the virtue of simplicity and comprehensibility (virtues not often found in economic arguments). In this case, I have a certain amount of sympathy with the administration; both declines in GDP are small, and unemployment is not rising, which it generally does in a recession. As this column has noted, however, a decline in GDP accompanied by an increase in employment is not good news; it must mean that productivity growth is sharply negative, a statistic to be released for the second quarter on August 9. Moreover, the entire debate may be rendered nugatory in October when the third quarter GDP figures are released, which are likely to show a much more pronounced decline.

A similar process of denial is taking place with respect to inflation and the interest rates needed to quell it. Fed chairman Jerome Powell has stated that the latest interest rate rise to a Federal Funds rate of 2-2.25%, now makes monetary policy neutral at the Fed’s target inflation rate of 2%. That statement is both untrue and irrelevant; if inflation is 2%, the neutral level of interest rates should be around 4%, to provide a modestly positive real interest rate, to give an appropriate time value of money (in a properly functioning economy, a benefit received next year should cost less than a benefit received today, otherwise there is no incentive to set aside capital for investment). As to its relevance, inflation is currently 9.2%; a 2% interest rate is therefore far from neutral and is still encouraging inflation to increase rather than decline.

At some point, probably around the end of this year, the Biden administration will tell us there is still no recession, while telling the Fed that the recession is so severe that they must reduce interest rates again – denial in both directions. Naturally, the reversal in Fed policy this will cause will eventually produce a further acceleration in inflation.

Denial will also occur when the costs of climate change mitigation and “net zero” policies become more apparent, as we approach the target dates by which the authorities have promised to stop selling petrol automobiles or emitting carbon dioxide. Such denial is already occurring in Germany, where their twin policies of relying on Russian gas and closing their nuclear power stations are about to produce spiraling and very painful economic costs. It is now clear that in this as in many areas, Angela Merkel was ahead of her time, in practicing contradictory and economically suicidal policies; President Trump was correct to call her out in 2018.

Denial is not just a river in Africa; it is an approach universally pursued by policymakers when their policies prove truly damaging.

(The Bear’s Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that the proportion of “sell” recommendations put out by Wall Street houses remains far below that of “buy” recommendations. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)