New Agenda for America: Economic Lesson Unlearned

To mark the 80th Anniversary of the Great Crash of ‘29, we asked 15 progressive thinkers to write about lessons learned and what lies ahead. Together, their reflections constitute a New Agenda for America — a message of how the ideals of a fair society should apply to the economic and social policies of our time.

Milton Friedman thought the Fed could have prevented the Great Depression of the 1930s, if only it had engaged in monetary easing to counteract destructive market forces. Friedman’s counterfactual conjecture — though not provable — has been accepted by central bankers as monetary magic to rid capitalism of the curse of business cycles. Friedman held out the false hope that central bankers could negate debt-deflation instability with wholesale liquidity injections (the term “debt-deflation” was coined by Irving Fisher in 1933 to describe the way debt and deflation can destabilize each other).

The problem is that negating debt-deflation does not work. Unfortunately, Greenspan’s acceptance of the idea led to a series of increasingly-large debt bubbles. The final one burst in 2007.

The economist Hyman Minsky, famous for developing a psychological theory of financial crises, explained how debt-deflation really works by illuminating its effect on the asset market. He recognized that when panicked people start distress selling, asset prices drop. This causes losses to agents with maturing debts, which, in turn, reinforces more distress selling and reduces consumption and investment spending which deepens deflation. This spiral of debt came to be known as the “Minsky Moment.”

Alas, mainstream economists have largely ignored Minsky’s insight. Friedman’s counterfactual conclusions obscured the great lesson the world could have learned from the crash of 1929 and condemned the world to another disaster 80 years later.

It is time for a sea-change in economics in which the realities of instability and speculation are properly understood. Only then can we prevent another epic economic disaster.

Roosevelt Institute Braintruster Henry C.K. Liu is an independent commentator on culture, economics and politics.