Tuesday, November 20, 2012

Robert Murphy’s Politically Incorrect Guide to the Great Depression, Chapter 1: A Critique

I have recently bought a copy of Robert Murphy’s The Politically Incorrect Guide to the Great Depression and the New Deal (Washington, DC, 2009), an Austrian interpretation of the greatest crisis in modern capitalist history.

The book is an object lesson in why most analysis of this period by Austrians is fundamentally unsound.

Let us review the problems with “Chapter 1: The Crisis,” in a number of points as follows:
(1) From the beginning, we find quite brazen, questionable statements.

Murphy tells us that Franklin Roosevelt’s New Deal “failed to lift America out of the worst economic times in our history” (Murphy 2009: 5).

When Roosevelt was inaugurated and after he turned to moderately expansionary fiscal policy (Murphy’s [2009: 21] claim that Roosevelt engaged in “massive deficit spending” is not even true), both real US GDP and real per capita GDP grew and expanded at quite high rates historically, as we can see here:
Year | GDP* | Growth Rate
1929 | $977,000
1930 | $892,800 | -8.61%
1931 | $834,900 | -6.48%
1932 | $725,800 | -13.06%
1933 | $716,400 | -1.29%
1934 | $794,400 | 10.88%
1935 | $865,000 | 8.88%
1936 | $977,900 | 13.05%
1937 | $1,028,000 | 5.12%

1938 | $992,600 | -3.44%
1939 | $1,072,800 | 8.07%
1940 | $1,166,900 | 8.77%
* Millions of 2005 dollars
Next, real per capita GDP:
Real US Per Capita GDP 1870–2001
(in 1990 international Geary-Khamis dollars)
Year | GDP | Growth rate

1929 | 6899 | 5.02%
1930 | 6213 | -9.94%
1931 | 5691 | -8.40%
1932 | 4908 | -13.75%
1933 | 4777 | -2.66%
1934 | 5114 | 7.05%
1935 | 5467 | 6.90%
1936 | 6204 | 13.48%
1937 | 6430 | 3.64%

1938 | 6126 | -4.72%
1939 | 6561 | 7.10%
1940 | 7010 | 6.84%
(Maddison 2003: 88).
So how exactly does Murphy explain the actual real output data? Murphy asserts that the “recovery was sluggish” (Murphy 2009: 12), but the GDP figures do not support him: the years of recovery under Roosevelt, when fiscal expansion occurred, saw some of the highest real GDP growth rates ever seen in American history, with rates of about 8% in three years, and one year with a 13% growth rate.

By 1936, real GDP had surpassed its 1929 level, and in 1937 real per capita GDP was close to reaching its 1929 level as well – until Roosevelt listened to advocates of fiscal austerity and the economy plunged back into recession.

Furthermore, Murphy has clearly never read M. R. Darby’s “Three-and-a-Half Million U.S. Employees Have Been Mislaid: Or, an Explanation of Unemployment, 1934–1941” (Journal of Political Economy 84.1 [1976]: 1–16). If he did, he would know that official unemployment statistics badly overestimate unemployment under Roosevelt, because of nothing more than ridiculous bias on the part of Lebergott, who compiled the figures. Lebergott failed to include employment provided by emergency and relief work in US federal government programs in his figures (Darby 1976).

When employment provided by relief work is included in the employment figures, unemployment under Roosevelt came down from 25% in 1933 to just under 10% by 1937, on the eve of his turn to austerity. This is a much better record on unemployment than the official statistics reveal. Before austerity hit the US economy in 1937, unemployment was no longer at double digit figures. The unemployment rate soared again when Roosevelt cut government spending from 1937, but the adjusted figures show it rising from under 10% to about 12.5% in 1938, and not to around 19% as in the old figures.

What is particularly amusing is that later in Chapter 1 Murphy contradicts himself on whether Roosevelt’s stimulus helped the economy: he asserts that “the economy seemed to respond to FDR’s bold measures, at least for a while” and it “looked as if the New Deal was working” (Murphy 2009: 12). Then by p. 21, Murphy backtracks, and claims that “massive deficit spending during the 1930s” went “hand-in-hand with chronic double-digit unemployment” – as if unemployment never fell at all under Roosevelt. Then we read that the 1930s was a “failed decade of deficit spending” (Murphy 2099: 24).

At this point, we come to the crux that destroys Murphy’s analysis. At pp. 13–14, Murphy notes that the economy returned to depression in 1938 (the “depression within the Depression”), but never asks why that happened. The major failing of Murphy’s chapter is his unwillingness to explain why America returned to depression in 1938. If he had bothered to do so, he would have found strong evidence that contradicts his Austrian interpretation of the Great Depression.

The answer is that the economy plunged back into depression because in 1937 and 1938 Roosevelt turned to budget balancing. The result was that the federal deficit was virtually eliminated by fiscal year 1938 by the raising of taxes (which contracted private spending power) and the reduction in overall federal spending. In June 1936, the Revenue Act passed Congress and caused a significant increase in income tax rates, as well as the tax on undistributed profits. The main effect of the tax on undistributed profits was to adversely affect the cost of investment for small and medium-sized firms. There is a reasonable case to be made that this tax increased business uncertainty about profitability of investment. Furthermore, the collection of the Social Security tax began in January 1937, another tax measure contracting private spending power.

When fiscal expansion occurred, the economic data show a significant recovery from depression in the 1930s – if not to full employment – but, if anything, they would strongly suggest that the US economy in 1937 was on the road to full employment, if not for the disastrous austerity and fiscal contraction induced by deficit hawks of that era.

Roosevelt was to blame because he listened to them and became a deficit hawk himself. But this lesson is lost on Murphy.

Furthermore, if fiscal expansion clearly promoted recovery, then it follows that more radical fiscal expansion would have led to a faster and better recovery.

Another dismal failing of many Austrian discussions of the Great Depression is the contemptible unwillingness to look at what happened outside the US.

As I have shown here, we have clear evidence that fiscal expansion and stimulus lead to strong and relatively rapid recoveries from depression in New Zealand, Germany and Japan:
“Keynesian Stimulus in New Zealand: 1936–1938,” September 23, 2011.

“Takahashi Korekiyo and Fiscal Stimulus in Japan in the 1930s,” August 27, 2011.

“Fiscal Stimulus in Germany 1933–1936,” September 3, 2011.
(2) On p. 9, Murphy discusses margin trading and its role in the stock market bubble of the 1920s, but totally fails to prove his point: in fact, he does nothing but reinforce the old conclusion that unregulated margin trading had a major role in financial market instability. Murphy’s attempt to pin the blame mainly on the Federal Reserve’s cheap money policy ignores the fact that financial market regulation was precisely what was needed to put curbs on speculative lending.

(3) On p. 11, Murphy notes business opposition to Roosevelt’s New Deal, but ignores the important point that American business was divided in its view of Roosevelt: some opposed him and some supported him. Intense business opposition was restricted to certain sectors:
“While encouraging the growth of big labor and ministering to the needs of the elderly and the poor, the New Deal also provided substantial benefits to American capitalists. Business opposition to Roosevelt was intense, but it was narrowly based in labor-intensive corporations in textiles, automobiles, and steel, which had the most to lose from collective bargaining. The New Deal found many business allies among firms in the growing service industries of banking, insurance, and stock brokerage where government regulations promised to reduce cutthroat competition and to weed out marginal operators. Because of its aggressive policies to expand American exports and investment opportunities abroad, the New Deal also drew support from high-technology firms and from the large oil companies who were eager to penetrate the British monopoly in the Middle East. Sophisticated businessmen discovered that they could live comfortably in a world of government regulation. The ‘socialistic’ Tennessee Valley Authority lowered the profits of a few utility companies, but cheap electric power for the rural South translated into larger consumer markets for the manufacturers of generators, refrigerators, and other appliances.” (Levy et al. 1986: 447-448).
(4) On p. 15, Murphy repeats the myth that Hayek predicted the Great Depression. But that simply isn’t true, as I have shown here:
“Lionel Robbins and the Myth of Hayek’s Prediction of the Great Depression,” February 5, 2012.

“Hayek and the Stock Market Crash of 1929: So Much for His Predictive Powers,” December 28, 2011.
(5) At p. 18, Murphy briefly discusses Milton Friedman, in order to dismiss the latter’s monetarist views on the cause of the Great Depression. Friedman argued that the depth of the depression was caused by the inaction of the Federal Reserve when it allowed the money supply to collapse from 1929 to 1933.

But Murphy fails to mention that a somewhat similar view can also be found amongst certain Austrian economists: Hayek came to believe that an unnecessary and disastrous “secondary deflation” could affect an economy in recession:
“Hayek on Secondary Deflation,” January 24, 2011

“Hayek on Monetary Stabilisation in a Secondary Deflation,” August 6, 2011.
Hayek even expressed agreement with Milton Friedman later in life:
“There is no doubt, and in this I agree with Milton Friedman, that once the Crash had occurred, the Federal Reserve System pursued a silly deflationary policy. I am not only against inflation but I am also against deflation! So, once again, a badly programmed monetary policy prolonged the depression” (Pizano 2009: 13).
Hayek and Ludwig Lachmann even endorsed limited Keynesian stimulus during a depression, but one would never know that from Murphy’s book. Murphy appears to represent one extreme subset of the Austrian school: the Rothbardians.

By p. 24, Murphy acknowledges that the US money supply did indeed “shrink by a third from 1929 to 1933.” But then we read that “there was nothing unprecedented about the speed of the collapse in the money supply .. of the 1930s” (Murphy 2009: 24). Yet Murphy provides no empirical data to support this claim. Can Murphy really point to a period when money supply in America collapsed with this speed and depth, and when there was no recession or depression?

(6) At 23, Murphy badly misrepresents American economic history. He asserts that:
“America’s free market economy had always rebounded from its previous depressions – usually within two years and at most within five years” (Murphy 2009: 23).
On p. 25, we read that before the creation of the Federal Reserve “somehow depressions always managed to sort themselves out fairly quickly.” First, even if it were true that the US economy, before 1914, always recovered within five years of a recession, a five year period can hardly be considered short.

Secondly, the statement is not even true. America had two periods of severe economic malaise in the late 19th century, which lasted more than five years: the 1873–1879 period and 1893–1899 era. In the 1870s, America had a seven year period of economic crisis: a recession (from 1873–1875) and then rising unemployment until 1878, which remained high until 1879.

In the 1890s, America had a double dip recession (the first from 1893–1894 and second in 1896) and then high unemployment up until 1899 – another seven year period of economic malaise.

The interested reader can find more on these periods here:
“US Unemployment in the 1890s,” January 24, 2012.

“Rothbard on the US Economy in the 1870s: A Critique,” September 24, 2012.
Since we do not really have decent estimates for early and mid 19th century GDP and unemployment, we cannot say whether there were periods as bad as the 1870s/1890s in those times.

(7) A final, latent failing of this first chapter and the book in general is the unwillingness to clearly differentiate Keynesian economics from the New Deal: the two were not the same. Conflation of modern Keynesian policies and the New Deal is simply misleading.

The New Deal did indeed have some deleterious aspects, and they were opposed and criticised by Keynes himself, as I have pointed out here:
“Keynes on the New Deal in 1933,” September 2, 2011.
In particular, Keynes criticised the National Industrial Recovery Act (NIRA) and attempts at raising prices by restricting output. Not every program in the New Deal was constructive, and pointing to the failure or harmful nature of some programs does not discredit modern Keynesian theory.
All in all, Chapter 1 of The Politically Incorrect Guide to the Great Depression and the New Deal does not inspire much confidence in Murphy’s analysis, or his questionable Rothbardian school myth-making about the 1930s.


Darby, M. R. 1976. “Three-and-a-Half Million U.S. Employees Have Been Mislaid: Or, an Explanation of Unemployment, 1934–1941,” Journal of Political Economy 84.1: 1–16.

Levy, L. W. et al. (eds). Encyclopedia of the American Constitution (vol. 1). Macmillan, New York.

Maddison, Angus. 2003. The World Economy: Historical Statistics. OECD Publishing, Paris.

Murphy, Robert. 2009. The Politically Incorrect Guide to the Great Depression and the New Deal. Regnery Publishing, Inc. Washington, DC.

Pizano, D. 2009. Conversations with Great Economists. Jorge Pinto Books Inc., New York.


  1. I remember reading something written by Hayek (possibly in an IEA monograph) in which he said something like: "I blame Keynes for calling his theory 'General Theory' rather than indicating it was a prescription for the times". I took this to means that he thought Keynesian economic was justified during the Great Depression. I don't believe anything these modern 'Austrians' say about the Great Depression because of their ideological fixation that government intervention is the cause of all economic problems. I'd be interested in reading a fuller critique of their view that central bank monetary policy was the main cause of the depression.

  2. There is simply no way a president could muster the political will to effect the level of stimulus required to counteract the destabilizing effects of the countless regulations and restrictions placed upon the vast majority of the population. I fully agree with every criticism you have offered. It isn't that stimulus won't work, it's just that it wouldn't be needed if people were left to figure out their own methods of earning, saving, investing and spending.

    1. There is simply no way a president could muster the political will to effect the level of stimulus required to counteract the destabilizing effects of the countless regulations and restrictions placed upon the vast majority of the population

      You're saying that, say, 1922-1933 was an era of "countless regulations and restrictions placed upon the vast majority of the population"?

      It was no such thing, yet the depression still occurred.

      Plenty of other examples exist, e.g., Australia 1880s-1890s, an era with no central bank, a gold standard, virtually non-existent banking regulation, but which ended in a disastrous debt deflationary depression.

    2. I don't know. I'm guessing that it was as most all periods are. The question was however, can policy say... counteract the unemployment caused by unions and minimum wage laws? Could policy of any administration counteract the instability of many sectors caused by; the McFadden Act of 1927, the Fordney-McCumber Tariff of 1922, the Volstead Act 1919 or the Federal Reserve Act of 1913?
      There were many. You take my words too literally.
      There are depressions with and without regulation. I don't deny it. What is the point in trying to prevent them when it is clear that no one can? What is the use of expending tremendous resources on policy that first doesn't prevent depressions and once we are in one, doesn't bring us out of it?
      We have entered depressions and left them. No one can say for sure why they occur but more or less regulation doesn't make much difference. Wikipedia lists the lengths of 19th century depressions and only one was longer than 5 years. It was 5years 5 months. The "malaise" may have lasted longer. I give you that.
      Maybe we should look at the situation from the point of view that says the norm is depression and every once in awhile factors come together to make the economy look better than it should normally?

    3. "What is the point in trying to prevent them when it is clear that no one can? "

      The idea that recessions cannot be prevented is false.

      The Australia government acted quickly with fiscal expansion in 2008 and 2009 and stopped any recession from occurring in its economy.

      "No one can say for sure why they occur but more or less regulation doesn't make much difference. "

      First, we are not talking about regulation, but use of fiscal policy. Different thing.

      Secondly, we know why they happen: I and C contract in GDP.

  3. The Austrians badly misrepresent the Great Depression -- that is obvious. The beginning of any competent analysis is to plot the level of growth against the contributions by sector. So, you plot GDP growth against... the components that contribute to GDP (not rocket science, kids). So...

    GDP = C + I + G + (X - M)

    Once we've done this we can argue about causality (is government spending dampening or encouraging investment etc.), but if an analyst has not got this far they're frankly not worth listening to. (Surprisingly, a great number of analysts do NOT get this far).

    It appears to me from the above that Murphy does not get this far. He says that growth in the immediate period of government spending was sluggish. But if you look at the above accounting identity you will see that if the government increases spending, GDP will increase. This is just an accounting identity. You don't even need to look at the figures. A priori we know that if the government increases investment by $1bn, ceteris paribus, GDP will increase by $1bn. That's because GDP has as one of its components... government investment... duh!!!

    Are you a rabid Austrian and don't believe what I'm saying? Well, stop spending all your time learning Praexology and look at the national accounts!


    The only rational critique is to say that while government spending gives GDP growth in the immediate term a boost it hampers it in the long run (due to Ricardian equivalence or some other crappy argument with no empirical foundation).

    But that brings us to the other giant blind spot in the Austrian analysis: World War II. This is when the deficits REALLY got going and, boy-oh-boy, did that economy grow!



    If you think that the Austrians are uncomfortable about the depression, just raise the war period with them. They fall apart. It's rather amusing.

    After the war everyone -- EVERYONE, Hayek included -- accepted that the government could grow the economy. But some (Hayek) said that it was not "ethical". Fine. But then we're not talking economics, we're talking politics. And if a person has moral objections to Big Guv'ment I won't convince them otherwise, but they should stop trying to cast their moral argument in objective economic terms. Its very silly and childish.

    So, what happened after the war? Did consumers pull in spending as they anticipated dreaded tax rises (Ricardian equivalence)? Nope. Was there hyperinflation due to the massive deficits (Austrian theory)? Nope. There was a boom. A golden age of capitalism that was kicked into gear when workers began spending the savings that they had accumulated during the war. (Again, see basic accounting identities: government deficits = private sector surpluses).

    How does that square with the Austrian view? It doesn't. Even its adherents knew that Austrian economics was dead after the wartime experiments with Keynesianism and the honest ones fled into the ivory tower and started preaching moral philosophy. Let's be crystal clear about this: during and after the war EVERYONE knew that the Austrians had been proved wrong. Here's Keynes himself speaking on the matter. Listen to him and you will hear that what he is saying is 100% consensus:


    I will never understand why these neo-Austrian economists are so stubborn. If they want to be right-wing just become New Classicals and ignore history as a matter of principle; focus on toy models with strict assumptions. That way you can live in la-la land. But why tackle history? Why try to prove what is obviously not empirically sound? Why try to pass off opinion as fact?

    And these people call themselves rational... They're not rational. They're zealous, fanatical and blind.

  4. "Plenty of other examples exist, e.g., Australia 1880s-1890s"

    Are there other examples besides Australia where Free Banking coincided with a debt-deflationary depression?

    (Please do not cite the American banking systems in the mid-19th or early 20th centuries; they were certainly not free of "regulations and restrictions.")

  5. I posted quite a long comment on this on Tuesday. Just curious if you deleted it or it got lost in the works somewhere?

    1. I have not seen such a comment. Are you sure it was submitted properly?

  6. Keep in mind, C+I+G+Xm includes government spending...