Garet Garrett’s Invaluable Lesson

With much of Western Europe and the United States buried in public debt, many have been left wondering as to how world governments will solve the problem.  Keynesian economists, such as Paul Krugman, argue that the growing debt will not be a problem, given that large government debts are not unprecedented.  For example, Krugman argues that the United States ran large debts during the Second World War, and was able to pay it off after the war ended.  The Harvard professor, and Nobel laureate, also argues that the United States is not the only country piling up debt, and so therefore public debt is justifiable and should be accepted as tenable.

Paul Krugman conveniently leaves out some key details, or fails to apply them to today’s situation.  Regarding the Second World War, he notes that the debt was paid off largely because of a cut in government spending.  He fails to account for the fact that the most dangerous factors behind the current debt are “unfunded liabilities” or the cost of our welfare and social insurance programs in the years to come.  As for those “other countries” also building debt, they are also on the verge of economic collapse.

Most onlookers have been able to see past these elementary flaws, and realize the potential danger of growing public debt.  Yet, this has eliminated the only major mainstream prediction of what is to come.  For most, the biggest threat is an increase in taxes, or a high tax rate for a prolonged period of time.  High taxes should be the least of worries.

The current fiscal situation is not unprecedented.  High public and private debt has been the bane of large governments for the entirety of written history.  It is what Ludwig von Mises described as the “crisis of interventionism”, in Human Action:

Intervention aims at confiscating the “surplus” of one part of the population and at giving it to the other part.  Once this surplus is exhausted by total confiscation, a further continuation of this policy is impossible.[1]

Put in simpler terms, the crisis of interventionism is summed up by the adage, “the problem with socialism is that eventually you run out of other people’s money.”[2]

While Mises laid down the theoretical foundations for the argument against big government and socialism, it was Garet Garrett who provided the empirical evidence for the lesson.  In 1931, amidst a global economic crisis, Garrett published a book by the name of The Bubble That Broke the World.  This relatively short book, largely forgotten today, provides one of the best and clearest arguments against the accumulation of public debt, and applies Mises’ “crisis of interventionism” theory to the crisis in Central Europe during the Great Depression.

Garet Garrett’s Lesson Restated

Garet Garrett remains an unsung hero of liberalism.[3] Although he is probably best known for his novels,[4] he was also a great economist.  He put forth much effort to discredit the New Deal,[5] Franklin Roosevelt[6] and to crusade for small government.[7] One of his most important works on economics and the Great Depression remains The Bubble That Broke the World.  In it, Garet Garrett places the blame for the worldwide economic collapse of the 1930s on the United States’ program of helping several European countries borrow their way out of debt.  He terms the entire process a Ponzi scheme, and discredits credit extension for the charade that it is.

Garrett described the bubble as a product of three factors:

1. [The] idea that the panacea for debt is credit. …The burden of Europe’s private debt to [the United States] is greater than the burden of her war debt; and the war debt, with arrears of interest, is greater than it was the day the peace was signed.[8]

2. [A] social and political doctrine, now widely accepted, beginning with the premise that people are entitled to certain betterments of life.  If they cannot immediately afford them, that is, if out of their own resources these betterments cannot be provided, nevertheless people are entitled to them, and credit must provide them.

3.  [The] argument that prosperity is a product of credit, whereas from the beginning of economic thought it had been supposed that prosperity was from the increase and exchange of wealth, and credit was its product.[9]

The late 1920s and early 1930s was a period of much fear throughout Europe.  Currencies were losing value, governments were building debt, and animosity was quickly spreading through the respective governments once again.  European central banks were having issues remaining solvent, while still providing liquidity to their governments, meaning that they often looked to the Federal Reserve Bank of New York, and a host of private bankers in the United States, for credit to provide this liquidity.  Ultimately, the solvency of the Bank of England and the Reichsbank depended entirely on the solvency of the United States Federal Reserve system.  The latter could only remain solvent as long as the Europeans repaid their debt, and by 1930 it was becoming obvious that these countries were borrowing far more than they could afford to repay.

Germany was the weakest link.  Her government, scrambling for funds to pay war reparations and their social programs, borrowed from English and American creditors at far faster rates than they repaid.  Unsurprisingly, the Germans began to borrow from creditors to pay for debts owed to these same creditors.  Garet Garret described this as a method by which Americans were repaying themselves for debts owed by others.  The long-run consequence was even greater German debt.  The principal losers were the American creditors who had put all their eggs in one basket, so to speak—they had lent far too much credit to the Europeans.

The overall consequences were easy to predict.  As European central banks became insolvent, they began to default on their debt, catalyzing the collapse of the giant pyramid of credit funded largely through the Federal Reserve Bank of New York.

The lesson of The Bubble That Broke the World is not the eventual collapse, per sé.  Although Garrett does argue that an accumulation of debt will end in insolvency, the reader should focus on what allowed the accumulation of debt to take place.  Garet Garrett provides the reasons in the first ten pages of the book.  He points to the addiction of European governments to credit, as a means to pay for debt forged out of government social insurance programs and growing war debt, and the fallacious belief that linked credit as the source of wealth.[10]

Credit “as a panacea for debt” only remains as such as long as there is credit available to borrow.  When the source of credit has been depleted, and governments find it impossible to repay their bloated accounts, the house of cards collapses in the form of public bankruptcy—by part of the government—and private insolvency—by part of the banks which extended credit to these governments.

The Lesson Re-Applied

Although the “crisis of interventionism” did not disappear between the 1930s and present day—it has consistently reoccurred throughout the Third World, including in Argentina and Zimbabwe—the majority of the existing generations of First World citizens remain distant from the concept.  Apart from those few veterans of the Great Depression, the majority of people have lived through an era of abundant resources and unparalleled wealth.  Despite the reoccurring boom and busts, there have been few serious periods of poverty in the United States and most of Western Europe.

Garet Garrett’s The Bubble That Broke the World was soon forgotten.  Even Murray Rothbard’s America’s Great Depression, which in many ways brought Garet Garrett’s insights out from obscurity, remains unheeded.

But, the era of growing bureaucracy, the welfare and warfare state, and illusionary wealth cannot last forever.  Today, we are witnessing the symptoms of an impending “crisis of interventionism”.  Garet Garrett’s lesson is as relevant and valuable as ever.

The West has undermined its own security by allowing its governments to quickly grow beyond the fiscal means of the people they claim to rule over.  The United States and Western Europe have built up a mountain of debt.  Deficit spending as a countercyclical fiscal policy is the least of worries when regarding future debt.  The economic parasites promising to collapse today’s credit-based Ponzi scheme are mainly composed of the multitude of social insurance programs which are becoming far too costly to sustain.

Given the political unpopularity of cutting these programs, it is unlikely that governments will purposefully reverse their growth over the short-run.  There is a fast-growing addiction to credit.  The West’s governments can be compared to a cocaine addict.  While a cocaine addict can overdose, however, the government can remained fixed as long as credit continues to be supplied at a continuously and exponentially expanded rate.  But, like a cocaine addict, the day which the supply of the drug cuts short is the day which marks the beginning of a severe depression.  Unlike the cocaine addict, a world-wide depression affects millions of individuals, not just one.

There is only one long-term solution, and that is reduction of government.  It does not take an anarchist to see and accept this conclusion.  Large government is unsustainable.  For better or for worse, as Garet Garrett beautifully exposes in The Bubble That Broke the World, the market corrects itself, and this includes fixing the discoordination created by government intervention.  The length of the period of increasing interventionism only affects the pain of the inevitable reallocation of resources.

The world already had the Great Depression as a warning.  The new crisis of interventionism is fast-approaching, and the market will not wait for governments to realize the errors of their way.

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[1] Mises, Ludwig von, Human Action: A Treatise on Economics (The Scholar’s Edition). Ludwig von Mises Institute, Auburn, Alabama: 1998; pp. 854–855.

[2] Commonly attributed to Margaret Thatcher, the actual quote is, “…and Socialist governments traditionally do make a financial mess. They [socialists] always run out of other people’s money. It’s quite a characteristic of them.”  The ex-Prime Minister of the United Kingdom said this during a television interview for Thames TV This Week.

[3] For a biography of Garet Garret, see: Tucker, Jeffrey, “Who is Garet Garrett?”, Mises Daily: 25 October, 2007.

[4] Ramsey, Bruce, “The Capitalist Fiction of Garet Garrett”, Mises Daily: 26 December 2008.

[5] Garrett, Garet, Salvos Against the New Deal.  Caxton Press: March 2002.

[6] Garrett, Garet, “The Myth that is FDR”, Mises Daily: 19 January 2010.

[7] Ramsey, Bruce, “Garet Garrett: Far Forward of the Trenches”, Mises Daily: 27 March 2008.

[8] The war being referred to is World War I, and the peace referred to is the Treaty of Versailles.

[9] Garrett, Garet, “The Bubble That Broke the World”.  Ludwig von Mises Institute, Auburn, Alabama: 2007; pp. 3–7.

[10] This belief was not dispelled, and it continues to form part of Keynesian and Monetarist theory; see: Shostak, Frank, “Does Loose Monetary Policy Create Economic Growth?”, Mises Daily: 1 September 2009.