Why the Economy Cannot Heal Itself

The author says that the financial meltdown in 2008 mirrored the stock market crash of 1929 and could have been avoided if the Glass-Steagall Act had not been repealed.

The financial meltdown of 2008 had the same negative impact on today’s economy as the 1929 stock market crash had on the economy of the 1930s.  For the first three years of the Great Depression, President Herbert Hoover twiddled his thumbs, waiting for prosperity to return on its own, and the current government has been following a similar policy since the meltdown.  “Prosperity is just around the corner,” Hoover said over and over as the suffering of millions became worse by the day.  “The economy will heal itself,” he insisted.

The crash of 1929 wounded the American economy so severely that it could not possibly heal itself.  The public works projects and other programs of President Franklin D. Roosevelt helped to improve the economy and relieve the suffering, but they were not sufficient to stimulate the economy back to full employment.  It was not until the attack on Pearl Harbor, and the nation’s entry into World War II, that the Great Depression came to an end.  Some historians have falsely concluded that the war brought us out of the Great Depression, but that is not true.  It was the spending on the war–not the war itself–that created such a strong demand for goods and services that unemployment disappeared.  If the government had spent as much money on schools, libraries and basic infrastructure as it spent on the war, the United States would have experienced the same degree of prosperity without having to fire a single shot.

Most Americans don’t realize just how close the world economy came to a total collapse in 2008. As a result, the American economy almost fell off a cliff, and, despite the fact that we avoided the worst-case scenario, our economy was severely wounded by the meltdown.  With the crash in the markets and the bursting of the housing bubble, millions of Americans found their net worth suddenly reduced by a staggering amount, and millions lost both their jobs and their homes.  A state of panic set in around the world, which caused even those with money to become very reluctant to spend.  The American economy remains in critical condition today, and, just as was the case in the 1930s, our economy is not capable of healing itself in the short run.

Today, a full three years after the financial meltdown, 14 million Americans are officially classified as unemployed by the U.S. Labor Department.  Another 8.8 million have been reduced to involuntary part-time employment, and an additional 1.6 million “discouraged workers,” are no longer officially counted as unemployed, despite the fact that they desperately want and need jobs.  Thus, a total of 19.5 million American workers, who want to work full time are partially or fully unemployed.

The housing crisis makes the economic outlook even more dismal.  One million homes were foreclosed on in 2010, and an estimated 1.2 million more homes will be foreclosed on in 2011.   But this is just the tip of the housing-crisis iceberg.  Of all homes with mortgages in the United States, 25 percent of them are under water, which means that more money is owed on the home than it is worth.  In Las Vegas, 85 percent of all homes with mortgages are worth less in today’s market than the amount that is owed on them.

Tens of millions of Americans are suffering needlessly today because of the 2008 man-made catastrophe, known as the financial meltdown, which could never have happened without the 1999 repeal of the Glass-Steagall Act.  Glass-Steagall, which had been enacted during the Great Depression, in order to prevent a repeat of the 1930s banking crisis had been an effective deterrent to the kind of Wall Street behavior that followed the repeal and doomed the American economy.  At the time of the vote to repeal the Glass-Steagall Act, North Dakota Senator Byron Dorgan warned, “I think we will look back in 10 years’ time and say we should not have done this, but we did because we forgot the lessons of the past.” It didn’t even take a full 10 years for Senator Dorgan’s prophecy to come true.

Many Americans feel betrayed by their government for repealing the law that Wall Street had been trying to repeal since it was first passed in the 1930s.  Billions of dollars had been spent on lobbying efforts to repeal Glass-Steagall, over the decades, without success.  But finally, in November 1999, both President Clinton and Congress caved in to the demands of Wall Street bankers and removed the regulations.  The Wall Street cat, that had kept the Wall Street mice at bay for decades, was removed so the mice could play at will.   And play they did!  Wall Street, with the government as the enabler, is responsible for the financial meltdown, which has led to so much needless suffering in America and around the world. 

So what have we, as a nation, learned from the terrible mistake of repealing the Glass-Steagall Act?  Apparently, not very much.  Conservatives are today calling for still more  deregulation.  They try to convince the public that government regulations are an impediment to full employment, but the evidence overwhelmingly contradicts their claims.

During the presidency of Bill Clinton, 20.4 million new jobs were created.  The unemployment rate fell for seven years in a row, and for 1999 the unemployment rate was 4.2 percent, the lowest level in 30 years.  All the government regulations that the conservatives want to get rid of today were in force during that period, and the economy boomed.

Editor’s note: The opinions expressed herein are those of the author do not necessarily reflect the views of FedSmith.com

About the Author

Allen W. Smith was a professor of economics at Eastern Illinois University for 30 years.