P15. The boom and the slump
[ Manchester Guardian . Part I: 27 July 1937, pp. 11-12. Part II: 28 July 1937, pp. 9-10. © Guardian]
27 July 1937
By R. F. Harrod, University Lecturer in Economics at Oxford
On July 8 Mr. Neville Chamberlain, addressing a meeting in the Albert Hall, spoke in an optimistic vein of the next slump.  Certain dismal people, he pointed out, like to harp upon this theme. Trade, we all knew, was subject to ups and downs; but there was no reason to fear the occurrence of a major catastrophe comparable to that of 1931, which was in some sense the legacy of war dislocation and the destruction of capital which took place then. The Government would resolutely consider what public works might be undertaken to assist matters in a depression; but in any event their volume could only be small by comparison with the loss of work involved in a general recession of trade if that occurred. Reliance must rather be placed on private initiative discovering new markets, especially abroad, to fill in any gap which might occur.
From an official point of view, two merits might be claimed for a statement in this vein. On the one hand, the nation's leaders may feel it their duty to instil a spirit of optimism, since confidence is essential to continued prosperity. On the other, responsibility is disclaimed in advance for any untoward events that may occur, on the ground that with the best will in the world the Government can do little to assist matters. The responsibility is thrown back on to private shoulders.
It is open to doubt whether the spirit of cheery optimism has the merits claimed for it. Some authorities have held the main causes of trade fluctuation to be alternate waves of optimism and pessimism in the business world.  On that view the Coué method of holding back the pessimistic wave might suffice to avert depression.  The greater number of authorities believe that the depression has more material and objective causes, the operation of which cannot be checked by a process of auto-suggestion. The Stock Exchange may be highly susceptible to psychological treatment. These methods are not likely to succeed in preventing a recession in the flow of production and trade when that is due.
On balance the Prime Minister's statement gives ground for grave misgiving. His words, which we must take to be honestly spoken, indicate a frame of mind which augurs ill. In making light of possible setbacks he is at variance with the majority of experts. In waiving responsibility on the ground that the limited stock of recipes which he has in mind would be ineffective, he may receive the support of public opinion so long as prosperity continues. But if the depression comes upon us, if unemployment figures mount to unprecedented heights, if widespread classes experience a great loss of income, and leaders of business once more find themselves placed in a position in which their best powers are of no avail to save their firms, public opinion will rapidly assume a different tone.
Such a situation may set in jeopardy our most cherished institutions. There must be something wrong with a mode of government, people of Right and Left wing sympathies in politics will alike say, under which such a disastrous situation can arise. The bitter experiences of dire economic distress put out of their minds for the moment the finer qualities of our free institutions. A man sufficiently hard put to it for present means of life will dispose of an age-old inheritance however precious.
These words would be, perhaps, too strong if the depression to be expected consisted merely of a minor setback. We have, as Mr. Chamberlain remarked, our umbrellas. He does not suppose that we have to face another reverse equal to or severer than that of 1931. This is the crucial point. Is he right in thinking that the events of that time were the legacy of the war and need not be expected to recur?
2. From that depression a recovery was made proceeding at various rates in the different countries. World output reached record levels. It is proper to speak in world terms in this connection, since the depression which followed was world-wide.
3. Mr. Chamberlain speaks of the destruction of capital during the war. But this was subsequently made good many times over. It would be erroneous to think of the period from 1922 to 1929 as one in which people were living on their capital. The creation of capital embodied in equipment for production of goods was proceeding at an unprecedented rate. In 1929 the people of the world possessed, as a result of surpluses realised and turned into capital in the preceding period, a far richer equipment for production than they had in 1914. Indeed, many people think that the volume of saving turned over for the construction of capital equipment had become excessively high, particularly in the United States.
4. It must be noticed that the country which experienced the most severe ravages of depression in the period 1929-32 was the United States of America. Yet of the great countries this one suffered least from the war itself. If the war was the true cause of the world depression, how can this be accounted for?
On the other hand, the United States is the country in which the modern organisation of production and distribution has reached its highest pitch of development. If we connect the recession of 1929-32 not with the war but with a defect in the working of our mechanism of exchange and finance, the severity of depression in the United States is precisely what we should expect.
5. The one serious trouble outstanding in 1929, which resulted from the war, was the arrangement by which Germany had to pay reparations of approximately £100,000,000 per annum, which ultimately reached France and the United States. This was no doubt a severe burden upon Germany and might be expected to produce disturbance in that country.
But it is necessary to keep a sense of proportion. This payment only amounted to a small fraction of 1 per cent of the total annual income of the world. Why should the difficulties of a debtor of this order of magnitude lead to events which culminated in a loss of world annual income of some 30 per cent?
The sums involved in the German payments are not greater than those which might be put in jeopardy by the serious decline of an industry of substantial importance in the world economy. If this can produce the havoc ascribed to Reparations, then, in view of the constant chop and change in demand and productive technique, we may confidently expect such havoc to occur repeatedly.
To sum up, the ascription of the recent slump to war losses shows a grievous lack of statistical sense of proportion. We shall proceed to explore the alternative view connecting it with the causes normally operating to produce a trade cycle and consider the prospects for us which it entails.
28 July 1937 The trade cycle is by now a phenomenon of quite considerable antiquity, and its characteristic features have been well catalogued. In each phase we expect to find certain well-established collocations of conditions connected with the price level, the rate of interest, the circulation of money, the production of various categories of goods, and so on. Though it is necessary to admit that there are substantial differences from one cycle to another, yet, on the whole, it is fair to say that the movements proceed in accordance with a pattern of behaviour which we have learnt from experience to expect.
It must be noticed in particular that in the depression certain mutually aggravating forces are set up, so that the evil consequences far exceed in magnitude any forces to which the original impetus towards a downward movement can be attributed.
The depression of 1929-32 exhibited the characteristic pattern of behaviour, including the self-aggravating process. From this it seems fair to infer that it belonged to the class of phenomena which we call cyclical depressions. If this inference is correct, the question of the initiating impetus becomes a matter of minor importance from the point of view of further prognostication, since a large variety of different types of initiating factors have been found to operate in the past. What is common to depressions is the sequence of events then set up, and what is important in order to secure a remedy is to understand what are the features in our system that, given the initiating cause, set in motion the vicious downward spiral. The lesson of 1929-32 is that, whatever those features of our system may be, they are still present in the post-war world, and therefore still liable to blast our fair prosperity.
The boom has also been exhibiting the characteristic pattern in many respects, so that it would be a foolish man who would argue that since 1932 we have put all the troubles connected with the trade cycle behind us.
It is of interest to consider when the next depression is due to set in. Prediction is hardly possible. Past experience has not exhibited any great regularity of timing. Furthermore, reference to the trade cycle may be an oversimplification. A threefold distinction may be drawn.
American investigators have been interested in a shorter cycle than that to which we usually direct our attention--namely, one lasting for three or four years. By that reckoning the setbacks there experienced in 1924 and 1927 count as depressions. For them Mr. Chamberlain's umbrellas may serve. We have been in the habit of attending more to a cycle of greater length and amplitude, which may well run alongside the smaller cycles. In the pre-war century this usually lasted between seven and ten years. The years 1920 and 1929 were peak years; so how do we stand now?
Thirdly, the last century has also been marked by phases of prosperity and depression running for still longer periods. A period of some thirty years of great expansion culminating in 1873 was followed by a prolonged depression in the last quarter of the century, which in turn gave place to a further period of expansion lasting until the war. The depressions of the 7/10-year cycle tend to be longer and more severe when it lies within one of these larger phases of depression, and conversely.
Mr. Colin Clark has recently made some interesting calculations which appear in the June number of the "Economic Journal."  Taking his statistical findings in conjunction with a trade cycle formula which he has devised, he reaches the conclusion that recession is likely to set in at the close of the current year. His formula is a reasonable one, but it is not possible to place implicit reliance upon it. However, his conclusion does no violence to one's general sense of what is probable; one would be inclined to believe [a] that the beginning of the end is now fairly near but for two complicating factors. 
1. Rearmament.--A boom is usually marked by a high level of investment in capital goods, and its termination is accompanied by a decline in profitable openings for that activity. Government expenditure may fulfil the same function in the cyclical pattern as the production of capital goods by private enterprise. If it serves to fill the gap when private opportunities decline, expansion may be prolonged.
An exaggerated importance is sometimes attached to rearmament expenditure; the present advance, which has been proceeding more or less regularly since 1932, can certainly not be in the main attributed to it. It is not impossible that a recession will set in while that expenditure is still proceeding. But if it can be made to accelerate sufficiently sharply, not at once, but as and when the decline in private investment makes itself felt, a recession is unlikely so long as the acceleration is maintained.
2. Foreign Trade.--Recovery came later in certain other important countries than here. In the United States it did not get well under way until 1935, and the persistently low level of constructional activity there suggests that the boom is in a comparatively early phase. In the gold-block countries their special currency position retarded recovery. There are thus important parts of the world in which it would be surprising if expansion did not continue for several more years.
It is possible that the next world depression may not be so well synchronised as the last, but we may hope that forces making for continued revival in other countries may keep us afloat by enlarging the demand for our exports.
House-building has played a very special part in the present upward movement. The approach of the effective demand for new houses towards satiety may be a decisive factor. At the same time the existence of a great ineffective working-class demand may give the Government its greatest opportunity for taking anti-slump measures. The artificial encouragement of working-class house-building as a method for combating the next depression may be recommended not only on purely trade cycle grounds but by the following consideration. Houses are built to last a number of decades. We may be assured that their occupants will be able to afford something better over the average of the next fifty years than they can afford now. But unaided private enterprise is bound to cater for more or less current needs only. This consideration is further reinforced by the national interest that houses should be built on an adequate scale, to give accommodation for sufficiently large families to enable the population to replace itself.
The indicators with regard to the time and severity of the next slump are inconclusive. We do not know whether this cycle lies within a larger era of expansion or stagnation. If the argument with regard to the slump of 1929-32 is correct--namely, that its severity was connected not with the initiating cause but with the intensification in the modern world of those forces which always have made for cyclical depression,--there is good ground for alarm about the severity of the next slump, come when it may. There is sufficiently good ground to justify a policy of most active preparedness. The issues at stake are immense. The cost of preparing anti-slump measures, unlike the cost of preparation for war, is negligible. It is a question of how much energy, initiative, and far-sightedness our rulers are capable of showing.
Of course, we know that the trade must have its ups and downs, and no doubt as our rearmament begins to slack off we shall want something to take its place. But I can think of quite a number of reasons why it is extremely unlikely that we shall ever find ourselves again in such a depression as we suffered from in 1931.
At that time we had not recovered from the tremendous destruction of capital which took place during the Great War, and our unprotected market was then a dumping-ground for the surplus of the countries who found themselves unable to sell their goods in their own markets.
2. Harrod refers to A. C. Pigou's psychological theory of the trade cycle (Industrial Fluctuations, 1927), which he criticized in "Doctrines of Imperfect Competition" for attributing the cause of depression to the prevalence of errors and miscalculations while assuming the equilibrium is essentially stable. Harrod suggested instead that the fundamental cause of the cycle lies instead in the instability of equilibrium (Harrod 1934:3 , pp. 465-70).
5. Clark concluded his article by suggesting that the economy was approaching "the period which Mr. Harrod describes as the `breathing-space,' which continues for a little while before uncontrollable slump begins" (p. 320).
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