Archive for the 'Anna Schwartz' Category

Monetarism v. Hawtrey and Cassel

The following is an updated and revised version of the penultimate section of my paper with Ron Batchelder “Pre-Keynesian Theories of the Great Depressison: What Ever Happened to Hawtrey and Cassel?” which I am now preparing for publication. The previous version is available on SSRN.

In the 1950s and early 1960s, empirical studies of the effects of money and monetary policy by Milton Friedman, his students and followers, rehabilitated the idea that monetary policy had significant macroeconomic effects. Most importantly, in research with Anna Schwartz Friedman advanced the seemingly remarkable claim that the chief cause of the Great Depression had been a series of policy mistakes by the Federal Reserve. Although Hawtrey and Cassel, had also implicated the Federal Reserve in their explanation of the Great Depression, they were unmentioned by Friedman and Schwartz or by other Monetarists.[1]

The chief difference between the Monetarist and the Hawtrey-Cassel explanations of the Great Depression is that Monetarists posited a monetary shock (bank failures) specific to the U.S. as the primary, if not sole, cause of the Depression, while Hawtrey and Cassel considered the Depression a global phenomenon reflecting a rapidly increasing international demand for gold, bank failures being merely an incidental and aggravating symptom, specific to the U.S., of a more general monetary disorder.

Arguing that the Great Depression originated in the United States following a typical business-cycle downturn, Friedman and Schwartz (1963) attributed the depth of the downturn not to the unexplained initial shock, but to the contraction of the U.S. money stock caused by the bank failures. Dismissing any causal role for the gold standard in the Depression, Friedman and Schwartz (359-60) acknowledged only its role in propagating, via PSFM, an exogenous, policy-driven, contraction of the U.S. money stock to other gold-standard countries. According to Friedman and Schwartz, the monetary contraction was the cause, and deflation the effect.

But the causation posited by Friedman and Schwartz is the exact opposite of the true causation. Under the gold standard, deflation (i.e., gold appreciation) was the cause and the decline in the quantity of money the effect. Deflation in an international gold standard is not a local phenomenon originating in any single country; it occurs simultaneously in all gold standard countries.

To be sure the banking collapse in the U.S. exacerbated the catastrophe. But the collapse was the localized effect of a more general cause: deflation. Without deflation, neither the unexplained 1929 downturn nor the subsequent banking collapse would have occurred. Nor was an investment boom in the most advanced and most productive economy in the world unsustainable as posited, with no evidence of unsustainability other than the subsequent economic collapse, by the Austrian malinvestment hypothesis.

Friedman and Schwartz based their assertion that the monetary disturbance that caused the Great Depression occurred in the U.S. on the observation that, from 1929 to 1931, gold flowed into, not out of, the U.S. Had the disturbance occurred elsewhere, they argued, gold would have flowed out of, not into, the U. S.

Table 1 shows the half-year changes in U.S., French, and world gold reserves starting in June 1928, when the French monetary law re-establishing the gold standard was enacted.

TABLE 1: Gold Reserves in US, France, and the World June 1928-December 1931 (measured in dollars)
Date World ReservesUS ReservesUS Share (percent)French ReservesFrench Share (percent)
June 19289,7493,73238.31,13611.7
Dec. 192810,0573,74637.21,25412.4
2nd half 1928 change31214-1.11180.7
June 192910,1263,95639.11,43614.2
1st half 1929 change692101.91821.8
Dec. 192910,3363,90037.71,63315.8
2nd half 1929 change210-56-1.41971.6
June 193010,6714,17839.21,72716.2
1st half 1930 change3352781.5940.4
Dec. 193010,9444,22538.72,10019.2
2nd half 1930 change 27347-0.53733.0
June 193111,264459340.82,21219.6
1st half 1931 change3203682.11120.4
Dec. 193111,3234,05135.82,69923.8
2nd half 1931 change59-542-5.04874.2
June 1928-Dec. 1931 change1,574319-2.51,56312.1
Source: H. C. Johnson, Gold, France and the Great Depression

In the three-and-a-half years from June 1928 (when gold convertibility of the franc was restored) to December 1931, gold inflows into France exceeded gold inflows into the United States. The total gold inflow into France during the June 1928 to December 1931 period was $1.563 billion compared to only $319 billion into the United States.

However, much of the difference in the totals stems from the gold outflow from the U.S. into France in the second half of 1931, reflecting fears of a possible U.S. devaluation or suspension of convertibility after Great Britain and other countries suspended the gold standard in September 1931 (Hamilton 2012). From June 1928 through June 1931, the total gold inflow into the U.S. was $861 billion and the total gold inflow into France was $1.076 billion, the U.S. share of total reserves increasing from 38.3 percent to 40.6 percent, while the total French share increased from 11.7 percent to 19.6 percent.[2]

In the first half of 1931, when the first two waves of U.S. bank failures occurred, the increase in U.S. gold reserves exceeded the increase in world gold reserves. The shift by the public from holding bank deposits to holding currency increased reserve requirements, an increase reflected in the gold reserves held by the U.S. The increased U.S. demand for gold likely exacerbated the deflationary pressures affecting all gold-standard countries, perhaps contributing to the failure of the Credit-Anstalt in May 1931 that intensified the European crisis that forced Britain off the gold standard in September.

The combined increase in U.S. and French gold reserves was $1.937 billion compared to an increase of only $1.515 billion in total world reserves, indicating that the U.S. and France were drawing reserves either from other central banks or from privately held gold stocks. Clearly, both the U.S. and France were exerting powerful deflationary pressure on the world economy, before and during the downward spiral of the Great Depression.[3]

Deflationary forces were operating directly on prices before the quantity of money adjusted to the decline in prices. In some countries the adjustment of the quantity of money was relatively smooth; in the U.S. it was exceptionally difficult, but, not even in the U.S., was it the source of the disturbance. Hawtrey and Cassel understood that; Friedman did not.

In explaining the sources of his interest in monetary theory and the role of monetary policy, Friedman (1970) pointedly distinguished between the monetary tradition from which his work emerged and the dominant tradition in London circa 1930, citing Robbins’s (1934) Austrian-deflationist book on the Great Depression, while ignoring Hawtrey and Cassel. Friedman linked his work to the Chicago oral tradition, citing a lecture by Jacob Viner (1933) as foreshadowing his own explanation of the Great Depression, attributing the loss of interest in monetary theory and policy by the wider profession to the deflationism of LSE monetary economists. Friedman went on to suggest that the anti-deflationism of the Chicago monetary tradition immunized it against the broader reaction against monetary theory and policy, that the Austro-London pro-deflation bias provoked against monetary theory and policy.

Though perhaps superficially plausible, Friedman’s argument ignores, as he did throughout a half-century of scholarship and research, the contributions of Hawtrey and Cassel and especially their explanation of the Great Depression. Unfortunately, Friedman’s outsized influence on economists trained after the Keynesian Revolution distracted their attention from contributions outside the crude Keynesian-Monetarist dichotomy that shaped his approach to monetary economics.

Eclectics like Hawtrey and Cassel were neither natural sources of authority, nor obvious ideological foils for Friedman to focus upon. Already forgotten, providing neither convenient targets, nor ideological support, Hawtrey and Cassel, could be easily and conveniently ignored.


[1] Meltzer (2001) did mention Hawtrey, but the reference was perfunctory and did not address the substance of his and Cassel’s explanation of the Great Depression.

[2] By far the largest six-month increase in U.S. gold reserves was in the June-December 1931 period coinciding with the two waves of bank failures at the end of 1930 and in March 1931 causing a substantial shift from deposits to currency which required an increase in gold reserves owing to the higher ratio of required gold reserves against currency than against bank deposits.

[3] Fremling (1985) noted that, even during the 1929-31 period, the U.S. share of world gold reserves actually declined. However, her calculation includes the extraordinary outflow of gold from the U.S. in the second half of 1931. The U.S. share of global gold reserves rose from June 1928 to June 1931.

A New Paper on the Short, But Sweet, 1933 Recovery Confirms that Hawtrey and Cassel Got it Right

In a recent post, the indispensable Marcus Nunes drew my attention to a working paper by Andrew Jalil of Occidental College and Gisela Rua of the Federal Reserve Board. The paper is called “Inflation Expectations and Recovery from the Depression in 1933: Evidence from the Narrative Record. “ Subsequently I noticed that Mark Thoma had also posted the abstract on his blog.

 Here’s the abstract:

This paper uses the historical narrative record to determine whether inflation expectations shifted during the second quarter of 1933, precisely as the recovery from the Great Depression took hold. First, by examining the historical news record and the forecasts of contemporary business analysts, we show that inflation expectations increased dramatically. Second, using an event-studies approach, we identify the impact on financial markets of the key events that shifted inflation expectations. Third, we gather new evidence—both quantitative and narrative—that indicates that the shift in inflation expectations played a causal role in stimulating the recovery.

There’s a lot of new and interesting stuff in this paper even though the basic narrative framework goes back almost 80 years to the discussion of the 1933 recovery in Hawtrey’s Trade Depression and The Way Out. The paper highlights the importance of rising inflation (or price-level) expectations in generating the recovery, which started within a few weeks of FDR’s inauguration in March 1933. In the absence of direct measures of inflation expectations, such as breakeven TIPS spreads, that are now available, or surveys of consumer and business expectations, Jalil and Rua document the sudden and sharp shift in expectations in three different ways.

First, they show document that there was a sharp spike in news coverage of inflation in April 1933. Second, they show an expectational shift toward inflation by a close analysis of the economic reporting and commentary in the Economist and in Business Week, providing a fascinating account of the evolution of FDR’s thinking and how his economic policy was assessed in the period between the election in November 1932 and April 1933 when the gold standard was suspended. Just before the election, the Economist observed

No well-informed man in Wall Street expects the outcome of the election to make much real difference in business prospects, the argument being that while politicians may do something to bring on a trade slump, they can do nothing to change a depression into prosperity (October 29, 1932)

 On April 22, 1933, just after FDR took the US of the gold standard, the Economist commented

As usual, Wall Street has interpreted the policy of the Washington Administration with uncanny accuracy. For a week or so before President Roosevelt announced his abandonment of the gold standard, Wall Street was “talking inflation.”

 A third indication of increasing inflation is drawn from the five independent economic forecasters which all began predicting inflation — some sooner than others  — during the April-May time frame.

Jalil and Rua extend the important work of Daniel Nelson whose 1991 paper “Was the Deflation of 1929-30 Anticipated? The Monetary Regime as Viewed by the Business Press” showed that the 1929-30 downturn coincided with a sharp drop in price level expectations, providing powerful support for the Hawtrey-Cassel interpretation of the onset of the Great Depression.

Besides persuasive evidence from multiple sources that inflation expectations shifted in the spring of 1933, Jalil and Rua identify 5 key events or news shocks that focused attention on a changing policy environment that would lead to rising prices.

1 Abandonment of the Gold Standard and a Pledge by FDR to Raise Prices (April 19)

2 Passage of the Thomas Inflation Amendment to the Farm Relief Bill by the Senate (April 28)

3 Announcement of Open Market Operations (May 24)

4 Announcement that the Gold Clause Would Be Repealed and a Reduction in the New York Fed’s Rediscount Rate (May 26)

5 FDR’s Message to the World Economic Conference Calling for Restoration of the 1926 Price Level (June 19)

Jalil and Rua perform an event study and find that stock prices rose significantly and the dollar depreciated against gold and pound sterling after each of these news shocks. They also discuss the macreconomic effects of shift in inflation expectations, showing that a standard macro model cannot account for the rapid 1933 recovery. Further, they scrutinize the claim by Friedman and Schwartz in their Monetary History of the United States that, based on the lack of evidence of any substantial increase in the quantity of money, “the economic recovery in the half-year after the panic owed nothing to monetary expansion.” Friedman and Schwartz note that, given the increase in prices and the more rapid increase in output, the velocity of circulation must have increased, without mentioning the role of rising inflation expectations in reducing that amount of cash (relative to income) that people wanted to hold.

Jalil and Rua also offer a very insightful explanation for the remarkably rapid recovery in the April-July period, suggesting that the commitment to raise prices back to their 1926 levels encouraged businesses to hasten their responses to the prospect of rising prices, because prices would stop rising after they reached their target level.

The literature on price-level targeting has shown that, relative to inflation targeting, this policy choice has the advantage of removing more uncertainty in terms of the future level of prices. Under price-level targeting, inflation depends on the relationship between the current price level and its target. Inflation expectations will be higher the lower is the current price level. Thus, Roosevelt’s commitment to a price-level target caused market participants to expect inflation until prices were back at that higher set target.

A few further comments before closing. Jalil and Rua have a brief discussion of whether other factors besides increasing inflation expectations could account for the rapid recovery. The only factor that they mention as an alternative is exit from the gold standard. This discussion is somewhat puzzling inasmuch as they already noted that exit from the gold standard was one of five news shocks (and by all odds the important one) in causing the increase in inflation expectations. They go on to point out that no other country that left the gold standard during the Great Depression experienced anywhere near as rapid a recovery as did the US. Because international trade accounted for a relatively small share of the US economy, they argue that the stimulus to production by US producers of tradable goods from a depreciating dollar would not have been all that great. But that just shows that the macroeconomic significance of abandoning the gold standard was not in shifting the real exchange rate, but in raising the price level. The fact that the US recovery after leaving the gold standard was so much more powerful than it was in other countries is because, at least for a short time, the US sought to use monetary policy aggressively to raise prices, while other countries were content merely to stop the deflation that the gold standard had inflicted on them, but made no attempt to reverse the deflation that had already occurred.

Jalil and Rua conclude with a discussion of possible explanations for why the April-July recovery seemed to peter out suddenly at the end of July. They offer two possible explanations. First passage of the National Industrial Recovery Act in July was a negative supply shock, and second the rapid recovery between April and July persuaded FDR that further inflation was no longer necessary, with actual inflation and expected inflation both subsiding as a result. These are obviously not competing explanations. Indeed the NIRA may have itself been another reason why FDR no longer felt inflation was necessary, as indicated by this news story in the New York Times

The government does not contemplate entering upon inflation of the currency at present and will issue cheaper money only as a last resort to stimulate trade, according to a close adviser of the President who discussed financial policies with him this week. This official asserted today that the President was well satisfied with the business improvement and the government’s ability to borrow money at cheap rates. These are interpreted as good signs, and if the conditions continue as the recovery program broadened, it was believed no real inflation of the currency would be necessary. (“Inflation Putt Off, Officials Suggest,” New York Times, August 4, 1933)

If only . . .

Anna Schwartz, RIP

Last Thursday night, I was in Niagra Falls en route to the History of Economics Society Conference at Brock University in St. Catharines, Ontario to present a paper on the Sraffa-Hayek debate (co-authored with my FTC colleague Paul Zimmerman) when I saw the news that Anna Schwartz had passed away a few hours earlier. The news brought back memories of how I first got to know Anna in 1985, thanks to our mutual friend Harvey Segal, formerly chief economist at Citibank, who had recently joined the Manhattan Institute where I was a Senior Fellow and had just started writing my book Free Banking and Monetary Reform. When Harvey suggested that it would be a good idea for me to meet and get to know Anna, I was not so sure that it was such a good idea, because I knew that I was going to be writing critically about Friedman and Monetarism, and about the explanation for the Great Depression given by Friedman and Schwartz in their Monetary History of the US. Nevertheless, Harvey was insistent, dismissing my misgivings and assuring me that Anna was not only a great scholar, but a wonderful and kind-hearted person, and that she would not take offense at a sincerely held difference of opinion. Taking Harvey’s word, I went to visit Anna at her office at the NBER on the NYU campus at Washington Square, but not without some residual trepidation at what was in store for me. But when I arrived at her office, I was immediately put at ease by her genuine warmth and interest in my work, based on what Harvey had told her about me and what I was doing. About a year later when my first draft was complete and submitted to Cambridge University Press, I was truly gratified when I received the report that Anna had written to the editors at Cambridge about my manuscript, praising the book as an important contribution to monetary economics even while registering her own disagreement with certain positions I had taken that were at odds with what she and Friedman had written.

Over the next couple of years Anna and I actually became even closer when, after finishing Free Banking and Monetary Reform, I accepted an offer to edit a proposed encyclopedia of business cycles and depressions, an assignment that I later bitterly regretted accepting when the enormity of the project that I had undertaken became all too clear to me.  After taking the assignment, I think that Anna was probably the first person that I contacted, and she agreed to serve as a consulting editor, and immediately put me in touch with two of her colleagues at the National Bureau, Victor Zarnowitz, and Geoffrey Moore. During my decade-long struggle to plan, execute, and see to conclusion this project, it was in no small part thanks to the generous and unstinting assistance of my three original consulting editors, Anna, Victor Zarnowitz, and Geof Moore. Over time, they were soon joined by other distinguished economists (Tom Cooley, Barry Eichengreen, Harald Hagemann, Phil Klein, Roger Kormendi, David Laidler, Phil Mirowski, Ed Nell, Lionello Punzo and Alesandro Vercelli) whose interest in and enthusiasm for the project kept me going when I wanted nothing more than to rid myself of this troublesome project. But without the help I received at the very start from Anna, and from Victor Zarnowitz and Geof Moore, the project would have never gotten off the ground. Sadly, with Anna gone, none of my original three consulting editors is still with us. Nor is another dear friend, Harvey Segal. I shall miss, but will not forget, them.

In a small tribute to Anna’s memory, I reproduce below (in part) the entry, written by Michael Bordo, on Anna Jacobsen Schwartz (1915 – 2012), from Business Cycles and Depressions: An Encyclopedia.

Anna Schwartz has contributed significantly to our understanding of the role of money in propagating and exacerbating business-cycle disturbances. Schwartz’s collaboration with Milton Friedman in the highly acclaimed money and business-cycle project of the National Bureau of Economic Research (NBER) helped establish the modern quantity theory of money (or Monetarism) as a dominant explanation for macroeconomic instability. Her contributions lie in the four related areas of monetary statistics, monetary history, monetary theory and policy, and international arrangements.

Born in New York City, she received a B. A. from Barnard College in 1934, an M.A. from Columbia in 1936, and a Ph.D. from Columbia in 1964. Most of Schwartz’s career has been spent in active research. After a year at the United States Department of Agriculture in 1936, she spent five years at Columbia University’s Social Science Research Council. She joined the NBER in 1941, where she has remained ever since. In 1981-82, Schwartz served as staff director of the United States Gold Commission and was responsible for writing the Gold Commission Report.

Schwartz’s early research was focused mainly on economic history and statistics. A collaboration with A. D. Gayer and W. W. Rostow from 1936 to 1941 produced a massive and important study of cycles and trends in the British economy during the Industrial Revolution, The Growth and Fluctuation of the British Economy, 1790-1850. The authors adopted NBER techniques to isolate cycles and trends in key time series of economic performance. Historical analysis was then interwoven with descriptive statistics to present an anatomy of the development of the British economy in this important period.

Schwartz collaborated with Milton Friedman on the NBER’s money and business-cycle project over a period of thirty years. This research resulted in three volumes: A Monetary History of the United States, 1867-1960, Monetary Statistics of the United States, and Monetary Trends in the United States and the United Kingdom, 1875-1975. . . .

The overwhelming historical evidence gathered by Schwartz linking economic instability to erratic monetary behavior, in turn a product of discretionary monetary policy, has convinced her of the desirability of stable money brought about through a constant money-growth rule. The evidence of particular interest to the student of cyclical phenomena is the banking panics in the United States between 1873 and 1933, especially from 1930 to 1933. Banking panics were a key ingredient in virtually every severe cyclical downturn and were critical in converting a serious, but not unusual, downturn beginning in 19329 into the “Great Contraction.” According to Schwartz’s research, each of the panics could have been allayed by timely and appropriate lender-of-last-resort intervention by the monetary authorities. Moreover, the likelihood of panics ever occurring would be remote in a stable monetary environment.


About Me

David Glasner
Washington, DC

I am an economist in the Washington DC area. My research and writing has been mostly on monetary economics and policy and the history of economics. In my book Free Banking and Monetary Reform, I argued for a non-Monetarist non-Keynesian approach to monetary policy, based on a theory of a competitive supply of money. Over the years, I have become increasingly impressed by the similarities between my approach and that of R. G. Hawtrey and hope to bring Hawtrey's unduly neglected contributions to the attention of a wider audience.

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