Posted by: dave | July 23, 2011

The wrong lessons from Weimar

I’m a bit scared by what’s happening in Europe at the moment, and not for the reason that most people seem to be scared.

The cycle of brief relief in markets followed by renewed fears seems to have been repeated again now after the latest bailout on Thursday. The explanation for this, I think, is explained pretty well by Matthew Yglesias: the eurozone is still unable to accept that Greece and other peripheral countries simply cannot pay their debts, least of all with an ECB intent on raising interest rates and so making those debts more onerous, while simultaneously choking off the chance of economic growth that could help service them.

I’m truly baffled at what the ECB thinks it is doing raising interest rates in the midst of a historic slump. The eurozone economy needs all the help it can get. Spain has 20% unemployment. And higher inflation is precisely what is needed to erode some of the debts that the peripheral economies are labouring under.

Clearly the ECB is making policy as if only Germany has a serious stake in the eurozone economy, and clearly Germany is terrified of inflation because, as we all have been told, the Weimar hyperinflation led to the rise of Hitler.

I really take issue with that. The hyperinflation ended in 1924; Hitler came to power in 1933. Saying that the hyperinflation lead to Hitler, while ignoring all the pretty dramatic economic events that happened in the intervening years, is like saying that the tech bubble was responsible for the high-stakes battle now going on over the debt ceiling in the U.S.

Let’s just go through the events:

1919: Treaty of Versailles imposes crippling reparations debt on Germany

August 1922: Reichsmark goes through 2,000 to the US dollar

September 1923: Reichsmark hits 60,000,000 to the US dollar

November 1923: Rentenmark established, pegged to the gold standard. Currency stabilises.

1924-29: Foreign capital starts flows back into Germany, attracted by the high interest rate and finance ministers’ promise of austerity budgets

1929: Wall Street crash. Germany catches a cold and the economy declines 25% in three years.

1931: German banking crisis. Foreign capital flees in a headlong rush. Series of bank collapses. Unemployment surges. Finance ministry responds by imposing more austerity, but partly quits the gold standard.

1933: Hitler comes to power. His finance minister Hjelmar Schacht defaults on reparations payments and severs link with the gold standard. Uses the Reichsbank to heavily buy government debt, financing public works programmes which bring down unemployment. Inflation rises, but the economy starts to grow robustly for the first time in a decade.

This is obviously not a defence of Nazi economics, but if you look at that timeline I find it hard to argue that the answer to Europe’s problems is to do what German governments did from 1924-1933 – which is pretty much what the ECB and eurozone governments are in fact doing.

Schacht basically instituted a programme of hard Keynesianism, defaulting on unsupportable debt payments and using the central bank to gin up a fiscal stimulus which could kick start the economy. And this was enough to reconcile many of the German people to being ruled by Nazi thugs.

Indeed, it was so successful that for much of the Depression there were significant constituencies in other developed countries arguing that Germany had a model worth emulating; the fact that they mistakenly attributed this to fascist leadership, rather than sane economic policies, doesn’t change the fact that it was the performance of the German economy they were admiring.

I worry that what the victors of World War I and hard-money believers in Weimar’s finance ministries did to interwar Germany, the ECB is now doing to peripheral eurozone economies. And I’m not saying that this will lead to the rise of Greek, Irish and Portuguese Hitlers, but I’m certainly saying that you can’t pursue a policy of immiserating large numbers of people for problems they were not responsible for, and be surprised if some sort of backlash eventually results.


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