Unfortunately, the economic cycles are unavoidable, in the best economic system, ever, Capitalism. Good news is that the Capitalism does not only cause cyclical ups and down, it also has built in market mechanisms for quick corrections. But, there are a couple of important things related to hidden hand corrections. First of all, if the downturn is due to natural market forces, it gets corrected far quicker than one caused by interventions. It is because in this case hidden hand does only correct market imbalances, it also has to neutralize the negative effects of interventions, until and unless the interventions are withdrawn. Second of all, natural correction by market forces should not be destroyed by further interventions.
Interventions can cause serious distortions in natural correction process, and delay and prolong the recovery. For example, the crises are usually caused the collapse of overheated economies. A very important mechanism in this correction process is deflation. Deflation happens due to multiple factors acting on during crisis. Take the example of current credit crisis. With too much bad credit in place, people and businesses start defaulting in their loans and credit. This caused bank crashes and credit freeze or fall in availability of credit. Many people employed by crashed banks got unemployed.
Credit freeze effects all kind of expansion. For example, hiring more people, buying more equipment and real estate, mergers and acquisitions, research and development, creativity and innovation. All these factors cause a ripple effect and more people get unemployed. Due to higher unemployment net demand for goods and services drop. Although many businesses are going out of business, the net effect is usually more competition in the midst of declining demand. This causes drop in prices and since most businesses and individuals are now trying to hold on to whatever they have and are reluctant to have more debt, the net demand for money falls, too, resulting into reduced interest rates.
On the other hand more people are unemployed, so there is more competition for limited jobs available. This brings down the wages. So, the net effect is that it becomes cheaper to get money, hire people and buy equipment and other inventory. In the meantime, reduced prices or deflation brings down the cost of living, and people who are still making money through their businesses and jobs can now buy more and enjoy a higher standard of living. This spurs net demand and business expansion. People and businesses gradually start borrowing again and hiring resumes. This starts a new upward trend in economy.
As history proves, if markets are sufficiently intervention free, each boom is bigger than earlier one and net effect of each boom and bust cycle is overall progress and increased prosperity. These natural cyclical correction can, of course be seriously disrupted by market interventions, resulting into delayed and prolonged recovery process. This is the reason why recoveries from 1776 to early 1900 were swift and quicker until the massive market interventions were started by Teddy, resulting into prolonged and painful recoveries, later on.
The interventions have also adversely effected our growth rates since that time which have been mostly 2-3% a year. Contrary to the period up to early 1900s, these growth rates are not even enough to accommodate the new work force added every year. Therefore, we are hardly making any net progress since that period. Interventions can produce serious adverse effects during both boom and bust periods. During boom government picks up winners and losers, causing lots of corruption and scarce resources are mostly directed towards less efficient investments. To understand the negative effects of intervention during bust, the study of current downturn could be very beneficial.
So, we start from beginning to understand what went wrong and what is resulting into such a dismal, painful and prolonged recovery? It all went wrong, right from the beginning. Corporate media and government created a huge hoax which they do, by the way, every time they want to expand government and reward their campaign financiers. Public was panicked under the assumption that world is about to come to a screeching halt and sky is about to fall. It was said, if the big financial institutions were not bailed out, the results would be beyond imagination.
So, almost two trillion dollars of tax payers’ money were awarded to very people who caused the whole mess and were supposed to go to jail, in the names like stimulus to economy and rescue for economy, and then it was continued as QEs bringing the net government spending on recovery to about 19-17 trillion dollars. The pretext was that the money given to these institutions would stop massive lay-offs and credit will start flowing, again. Six years down the line, we all know that neither of that ever happened. Unemployment is still very high, under employment is even higher and it is next to impossible for start-ups, early stage companies, small businesses and even consumers to find credit.
All the money got accumulated in big banks and other financial institutions which are either still sitting on it or used that money to buy smaller banks and pay bonuses to executives who were actually responsible for crisis. Now, these institutions are even bigger than those were in 2008, preparing for another, yet, even bigger tax payers financed bailout. Why did this happen and is till happening? It is because as shown by the course of events, all the rescued corporations are basically corrupt, inefficient and incompetent. Only reason they got the money is because they finance the election campaigns of both major parties. Other reason is that the flow of credit is not a magical things which can be started by pressing a button. Flow of credit is a phenomenon in economic cycle which comes back gradually after the cost of doing business and buying products and services is significantly fallen which spurs the consumption and business activity hence making sense to borrow money. If the demand is still low, lots of people are still unemployed and under employed, business activity is low and expansion doesn’t make any sense, there is no way that credit will start flowing again. Even if you want to borrow neither you nor the banker are sure if it is really going to work or if it really make any sense under those economic conditions.