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Ask the Expert

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Heading into another Great Depression?

Posted: October 1, 2008 6:42 p.m.
Updated: December 3, 2008 5:00 a.m.
 

The answer: Not likely if government doesn't overreact.

The circumstances and economic environment that we find ourselves in are very different today than they were back in 1933.

During the Great Depression, unemployment exceeded 25 percent and crop prices fell by 40 to 60 percent. Banks failed with no FDIC insurance to safeguard deposits, thereby completely eradicating people's savings. Today, our economy is relatively strong. Unemployment stands at just over 6 percent, median household income is up and corporate profits have shown some improvement.

During the Depression, people lost their homes because they lost their jobs and savings and could not feed their families. This was no fault of their own.

Today, people losing their homes need to shoulder at least some of the blame for this calamity. The majority of this surge in defaults is the result of people making bad choices. They chose to buy a home at a price and under terms that they knew might be unaffordable in a few years, gambling that their incomes would rise, rates would stay low and/or the value of their home would continue to go up.

Additionally, the people with no-down-payment loans who are "losing their homes" to foreclosure are actually losing very little. They have no significant investment in their property. Perhaps they are renting before and now they'll have to go back to renting again, disappointing to be sure, but hardly a financial hardship that can in any way be likened to the problems of the Depression.

So, given the above, we should avoid any outright depression right? The answer is a qualified "YES."

We have to put into perspective what really occurred back in the 1920s and the 1930s. For one, "The stock market crash of 1929 and the Great Depression is not the same thing," according to a Sept. 20 article written by Amity Shlaes in the Wall Street Journal. "What made the depression great was not the magnitude but duration - the fact that unemployment was still 20 percent 10 years later."

What caused this 10-year calamity was not the stock market crash, but was big government initiating policies which attacked the rich and the free market system that was in place. The "fat cats" on Wall Street were vilified. Witch-hunts were carried out crucifying any that dare oppose these witch-hunts.

We are now hearing similar cries, as reported by Shlaes: "Police short sales and block them says Securities and Exchange Commission Chairman Christopher Cox. Fire the SEC chairman, say John McCain. Investigate those short sellers, say state attorneys general. Hold hearings to grill Wall Streeters says Nancy Pelosi."

"In 1933 there was a moment when the U.S. really did seem poised for recovery - the moment of Franklin D. Roosevelt's inauguration. Confronting the banking crisis, President Roosevelt did what President Bush, Congress, and the Treasury are likely to do in coming days: Create a mechanism to sort out banks and their holdings, to separate good assets from bad."

Such an office can shorten a crisis - the Resolution Trust Corporation, created to deal with the 1980s savings and loan debacle, did. The establishment of the SEC in 1934 likewise set the country up for recovery.

But like today's politicians, Roosevelt also used the downturn as a weapon to trash markets generally.

The New Dealers even used the same mocking phrases we hear today. The rich might think that wealth trickled down, Roosevelt's speechwriter Sam Rosenman would later note, but Roosevelt believed that prosperity did not "trickle" that way. Didn't we just hear Obama saying, "Fire the whole trickle-down, on-your-own, looking-the-other-way crowd" and "get rid of this whole do-nothing approach to our economic problems."

The fear that I have is that we may be on the verge of seeing similar government action take place today in the aftermath of this financial meltdown.

To be sure, clean up is necessary. It can even help the market - some. But let us not throw out the baby with the bath water.

D. Frank Norton CPA, MBA, CFP, is a money manager and financial planner in Santa Clarita. His column represents his own views, and not necessarily those of The Signal.

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