The Severe Recession of 1920 – The Forgotten Economic Downturn

When people discuss the history of America’s difficult economic times during the 20th century, the Great Depression and stagflation in the 1970’s will always be mentioned. However, one of the more severe recessions America has endured is rarely discussed. Until recently, this period in time received very little publicity. The reason why the history of this recession is so relevant today is because the measures that were taken to revive the economy were sharply different than what was done during the Great Depression and all of the notable ensuing economic downturns with the exception of President Ronald Reagan’s approach.
President Obama has just signed the single largest spending bill in America’s history into law. Americans have been told repeatedly since the day Obama was sworn in how urgent it is that this legislation is passed. He consistently refers to the current recession as “the worst economic crisis since the Great Depression.” If only top-notch economists had that same crystal ball... The severity of this recession should not be dismissed. However, a comparison to the Great Depression is premature at this juncture.
All throughout the campaign, Obama promised that there would be transparency and bipartisanship in his administration. Instead, the single largest spending bill in America’s history was not made available to the public until after it was signed into law, lawmakers had less than 24 hours to read a bill that exceeded 1,100 pages prior to voting, and the voting was almost straight down party lines. In addition, only the lawmakers from the far left wing of the Democratic Party had substantial input.

This economic crisis is so severe, the administration just didn’t have the time to debate and seek input from those who have a different point of view and would propose different solutions. If the time had been taken to review the alternative solutions, then perhaps top economists would have reminded the Obama Administration of the 1920 recession and the government’s response.

When President Warren Harding was elected, he inherited a deepening recession. The most important aspect that separates Harding’s response from President Hoover’s, Roosevelt’s, Carter’s, Bush’s (both father and son) and Obama’s is he did not grow the size of government, spend money recklessly, raise taxes and implement burdensome regulation to address the problem.

The 1920 recession was not mild, as the country experienced very sharp deflation. The decline in the Gross National Product (GNP) price deflator from 1920 to 1921 was larger than any deflation experienced during the Great Depression. Using the Department of Commerce 1986 estimates, the 1989 Balke & Gordon and Romer estimates, they produce one-year deflation figures of 18 percent, 13 percent and 14.8 percent, respectively. The closest competitor is the 11.5 percent deflation recorded for 1931-32, the third year of the Great Depression. (1)

Unemployment did not reach Great Depression level heights; however, job loss was fairly rapid from 1920 to 1921. Unemployment rose from 5.2 percent to 8.7 percent during that time, and farm income dropped 40 percent. (2)

One can make an argument that the economic downturn from 1919 to 1921 was more severe than the current recession. It’s important to distinguish between future speculation and actual data. Unemployment at the beginning of the downward economic trend (December 2007) was 4.8 percent and is now currently 7.6 percent. (3) Although the numbers climbed sharply, the pace and decline in income was more severe in 1920.

Given the magnitude of the 1920 recession, President Harding could have made a case for government intervention and expansion. Much like the current crisis, commercial banks were failing, property value was declining, and people were losing their jobs and their homes.

President Harding’s response was to let businesses fail, cut government spending, balance the federal budget, reduce taxes and remove burdensome government regulations. How’s that for an economic stimulus package? It’s safe to say that if he were running for President in 2008, he would have been laughed off the campaign trail. The media would have destroyed him.

However, this unsung fiscal hero’s accomplishments are no laughing matter. The Harding and Coolidge (Harding died in office in 1923) Administration cut the top marginal tax rate from 73 percent to 25 percent in four years’ time. Although Harding dramatically reduced taxes, he was still able to reduce large budget deficits resulting from World War I and eventually run a surplus. This is one of the better cases for the argument that tax cuts increase tax revenue. Federal government spending was cut in half between 1920 and 1922. Harding also believed that burdensome regulation (think of the modern day Sarbanes-Oxley Act) stood in the way of private sector growth.

America’s first experiment with supply side economics was a success. The tax cuts and reduced regulation allowed business to grow capital and create jobs. The reaction by the Harding/Coolidge administration gave way to the “Roaring 20’s” economic boom – among the most rapid periods of economic growth in America’s history. The technological advances made during the 1920’s were also among the greatest in America’s history.

The recession that began in 1920 ended before 1923. Harding’s response makes a very strong case as to why government intervention is not the answer. The Great Depression may not have been so “great” if a hands off approach were taken. The Great Depression lasted until World War II, and some analysts believe that the war itself ended the Great Depression. Imagine if Presidents Hoover and Roosevelt responded in a similar manner as Harding instead of tripling tax rates, bailing out failed institutions, expanding government to unprecedented levels and imposing massive government regulations. The stagflation coupled with double digit unemployment in the 1970’s  was brought to an end only when President Reagan reintroduced the supply-side theory.

History has shown us what works, which begs the following question: Why do our elected officials continue to ignore history? The Democrats are determined to prove to the world that FDR was one of America’s best Presidents regardless of the fact that fiscal history shows otherwise. People did not have history as evidence to illustrate that FDR’s policies would fail; however this is not the case for President Obama. America will not stand for unemployment that exceeds 20 percent or wait over a decade for measurable results that would stem from a third world war.

Upon implementation of America’s largest spending bill in history, the federal budget deficit could spike to an extraordinary $2 trillion. President Obama has bet big on FDR’s policies. However, he may want to consider Harding’s if he plans on winning a second term...


(1) http://www.questia.com/googleScholar.qst;jsessionid=JdJSGMq9Ls020nnSvSGMvBVYtnQTkMjNyNGwq9BfMTGfNnMZ1LpF!-165377178!2064305130?docId=96522339
(2) http://eh.net/encyclopedia/article/Smiley.1920s.final
(3) http://www.bls.gov/news.release/pdf/empsit.pdf