Monday, February 29, 2016

Books: An Empire Of Wealth - Rise Of The American Economy By John Steele Gordon

(Drivebycuriosity) - The USA is the most powerful & wealthiest country of the world. How did that happen? Why did the US flourish while countries like Brazil and Argentina did not, even that they started with similar advantages? John Steele Gordon answers these and a lot of other questions in his excellent book "An Empire Of Wealth - Rise Of The American Economy 1607-2000" (amazon).

Gordon wrote not only a concise economic history of the United States, he also gives a top-notch introduction into advanced economics. "Empire" is very clearly & catchy written and I learned a lot by reading this book. Below some tidbits from the vast knowledge the author stretched over 492 pages:

Why could Europe dominate the whole world for centuries and conquer & develop the American continent? The old continent was more technological advanced then the rest of the world and  benefitted from a row of innovations & inventions:
- the invention of the printing press in the Renaissance that reduced the cost of books, and thus of knowledge. Cheap information fostered the rise of science and (early) technology,  it promoted trade and helped managing corporations
-  the creation of full-rigged ships made long ocean passages possible
-  the initiation of double-entry booking made it much more easier to detect errors and to invest in complicated and distant enterprises and still keep track of how these investment are doing
- the launch of the joint-stock company, the precursor of today`s stock market listed companies,  limited the risk an individual investor had to take and made it possible to amass big sums to invest in distant places like the American colonies. New York, Virginia and the New England colonies were not founded by the English state; they were founded by profit-seeking companies.

According to Gordon the "get-up-and-go mentality" was also an important factor for America´s rise. Americans are descended from those who got up and came - "those who chose to leave all they had ever known and come to a strange and distant land came to pursue their own ideas of happiness". The willingness to accept present discomfort and risk for the hope of future riches that so characterized these immigrants, and the millions who would follow over the next two centuries, has had a profound, if unmeasurable effect on the history of the American history.

America`s rise as industrial nation was driven by inventors & entrepreneurs like Samuel Slater, who developed a cotton spinning machine in the 18th century and Oliver Evans, who created a flour mill, the steel magnate Andrew Carnegie and Cornelius Vanderbilt, who was one of the first who built great industrial and transportation empires in the late 19th century. Railroads had an important role in the development of the vast nation. "In Europe railroads connected existing cities. In America, in many cases, they midwived them into existence". In the early 1920s Henry Ford, who was obsessed with driving production costs lower, made cars affordable for the masses and created so a huge industry and wealth for the whole nation.

All these factors worked beneficially together. "In the half century between the end of the Civil War and the beginning of World War I in Europe, the American economy changed more profoundly, grew more quickly, and became more diversified that at any earlier fifty-year period in the nation´s history". In 1865 the country was still basically an agricultural one. By the turn of the twentieths century the United States had the largest and most modern industrial economy on the earth, characterized by giant corporations undreamed of in 1865.

                                              Jefferson´s Inheritance

But America´s rise wasn´t smooth, instead it was a bumpy ride. While the American economy grew at an astonishing rate, it also was  the most volatile in the Western world, subject to an unending cycle of boom and bust whose amplitude far exceeded the normal ups and downs of the business cycle. In the 19th century America suffered frequent crashes of banks, railroads and other companies which started a panic leading to a depression. "Seller´s panic produce, by their nature, a sudden surge in demand for money as investors and depositors seek liquidity, and money, of course, is the ultimate liquid asset. Because there was no central bank empowered to regulate the money supply and to provide the liquidity needed to protect the banking system in times of stress, however, these sellers`panics greatly exacerbated the downward swings of the business cycle. Basically sound institutions collapsed by the hundreds when they were unable to meet the sudden demand for money. Often they took the life savings of families and the liquid assets of businesses with them".

One of the worst depressions started January 1837. The price of cotton, then an important income source for the US economy, fell by half in March. By April Philip Hone, a former mayor of New York, wrote in his diary that "the immense fortunes which we have heard so much about in the days of speculation, have melted like the snows before an April sun. No man can calculate to escape ruin but he owes no money; happy is he who has a little and is free from debt." By early fall, 90% of the nation´s factories were closed. Federal revenues fell by half in 1837. The depression didn´t reach bottom until February, fully 72 months after in began.

Another depression began in early 1893. "By the end of the year some fifteen thousand companies had failed, along with 491 banks. The gross national product fell by 12%, and unemployment rose rapidly from a mere 3% in 1892 to 18.4% two years later".

America owed these frequent crises partly to Thomas Jefferson. The third President of the US (1801-09 ) defeated his political opponent Alexander Hamilton, who wanted to create an central bank. Jefferson had a deep political aversion to cities and to the commerce that thrives them and described himself as “an enemy of banks”. His vision of the future of America was a land of self-sufficient yeomen farmers, a rural utopia. Jefferson, born one of the richest men in the American colonies - on his father`s death he inherited more than five thousand acres of land and three hundred slaves - spent money all his life with a lordly disdain for whether he actually had any to spend. He died, as a result, deeply in debt, bankrupt in all but name”.

Jefferson - and later his followers - balked Hamilton`s plan to create a central bank, modeled on the Bank of England. This institute should regulate the money supply by disciplining the private banks and should also be a source of loans for the government and other banks. But thanks to Jefferson and his followers for more than a century America had to do without out financial fire fighters. At the turn of the 19th century one man merged who tried to fill the gap: JP Morgan. The New Yorker banker used his own huge fortune and his enormous influence on Wall Street to hinder the bank panic from 1907 to evolve into a full-fledged depression. Using his own wealth and his power persuasion he talked other banks to pump liquidity into the market. The awareness that a man of the stature and probity of J.P. Morgan might be able to avert financial calamity in the future, but there was no guarantee that there would be such a man available, lead to the creation of the Federal Reserve System (Fed), the central bank, in 1913 - finally.

                                              The Great Depression

After World War I only the United States emerged from the struggle materially strengthened and Wall Street replaced London`s Lombard Street as the world`s  leading financial power. Cheaper cars and falling costs for electricity caused productivity to soar in the 1920s, increasing output per worker by 21.8 in the decade. This helped to push manufacturing output up by more than 90%. Economic growth fueled optimism and the stock market - a huge rally took off.

By the spring of 1929 the financial market began to disconnect from the economic fundamentals. The Dow Jones Industrial Average and the New York Times Index of widely hold stocks continued to rise while the economy began to move into recession, thanks to the Fed who started rising interest rates to clamp down the money supply. But the wider market, including thousands of secondary stocks and those not included in the most widely watched averages, had begun to decline along with the economy.

On September 5 leading stocks like U.S. Steel & AT&T dropped in the last hour of trading sharply. Over the next six weeks the market trended downward, with occasional plunges followed by more modest recoveries. On October 23 a wave of selling swept the market, causing a mountain of margin calls (broker cancelling stock loans) which accelerated the selling.  Thursday, October 24, the Black Thursday, was the most frantic in the history of the New York Stock Exchange so far. Short sellers, who borrowed stocks and sold them immediately in the hope to buy them back much cheaper, made the drop worse. Purchases by banks who tried to stop the panic caused a very short live rally, just a dead-cat-bounce. On Monday the selling resumed and on Tuesday, October 29, the Black Tuesday, the market plunged massively. Der Dow Jones Average at the end of the day stood 23% below where it had closed on Saturday, and nearly 40% below its high of early September.

But, as Gordon explains, the stock market crash didn`t cause the crisis, the sharp fall was just an effect of the forces moving the American and world economies into depression. Although the stock market had been an national obsession in 1929, its crash had not directly affected that many families - less than 2.5% of the population had brokerage accounts. The Federal Reserve, still young & unexperienced, made a rookie mistakes: The Fed did not move decisively to add liquidity to the banking system nationally. In the year 1931 the Federal Reserve moved aggressively to defend the dollar and maintain the gold standard as foreign banks and investors moved to repatriate gold. "It was an utterly disastrous decision, perhaps the greatest of all mistakes made in these years", comments Gordon. "Maintaining the gold standard required raising interest rates and cutting the money supply, causing an already severe deflation to become much more severe." Banks called loans to stay liquid, while customers postponed purchases in expectation of lower prices.

The Smoot-Hawley Tariff Act was another fateful mistake. This regulation put high tariffs on imported goods. "Tariffs are taxes, and taxes, inescapably, are always a drag on the economy. But far worse, high tariffs breed retaliatory tariffs in foreign countries". Great Britain and other countries nations responded with sharp restriction of US exports -  as result the world trade began to collapse.

Starting in the year President Franklin Roosevelt implemented the New Deal, a long list of measures, to revive the US economy. This included the Federal Reserve Act, which reformed and strengthen the central bank. "For the first time in ninety-nine years, since President Andrew Jackson had destroyed the Second Bank of the United States, the country had a fully functioning and empowered central bank. The country had paid dearly for the lack of it." The Glass-Steagall Act was part of the new program and separated deposit from investment bank to reduce power and risks of the banks.

                                                            Unprecedented Boom

At the end of World War II many economists & business leaders predicted a new depression because of the lacking military demand again. Instead an unprecedented boom started through the early 1970s. In the begin the US economy got some tailwinds from the GI Bill of Rights. This program was originally intended to reward veterans for their bravery and sacrifice in the war. It provided generous payments to veterans for education, buying houses and investing into businesses. The post-war boom ended when Opec implemented an oil embargo to punish the West for Israel´s Yom Kippur War (Oil Shock) which caused high inflation rates and new recessions. The US economy, which relied heavily on the car, was hit hard. President Ronald Reagan - and falling oil prices - rekindled the economy in the 1980s and a new period of prosperity started which lasted through the year 2,000.

In October 1987 the stock market crashed again and suffered the worst one-day decline in percentage terms - 22.8% - in history. Many thought that this signaled the start of a new Great Depression. In fact, the market recovered 104 points the next day and reached a new high on the Dow within 15 months, "The reason, principally, was that the Federal Reserve acted immediately and decisively to stem the panic and to protect the economic institutions of the country from harm". It "flooded the street with money", as it pumped massive liquidity into the economic system. The US economy grew 3.6% in 1987 and advanced 4.2% in 1988 in spite of the stock market turmoils. For the first time since Alexander Hamilton had stemmed the panic of 1792, federal monetary authorities had performed as the should in a moment of financial crisis.

The book ends with the stock market meltdown of 2000/01 and some words about  9/11. I really would enjoy if Gordon´s would also write an analyses and description of the 2008 financial crises and the recovery.

                                        A Man Who Dies Rich, Dies Disgraced

Gordon claims that the US "has never developed an aristocracy, because the concept of primogeniture, with the eldest sun inheriting the bulk of the fortune, never took hold. Thus great fortunes have always been quickly dispersed among heirs in only a few generations. The American super rich are therefore always nouveau riche". He continues"the giving of vast sums to eleemosynary institutions by the very rich is a uniquely American practice; the European upper classes have no such traditions".  It began with people like George Peabody (The Peabody Museums at Harvard and Yale, among much else), Peter Cooper (The Cooper Union, still the only major college in the US to charge no tuition) and John Jacob Astor, whose Astor Library is today the core of the New York Public Library, the larges privately financed library in the world).

As the 19th century began to wane, the people who were building great fortunes - like Henry Clay Frick, John d. Rockefeller &J.P. Morgan - began to found or endow museums, concert halls, orchestras, colleges, hospitals, and libraries in astonishing numbers in every major city. The billionaire Carnegie -one of these donators - wrote, that "a man who dies rich, dies disgraced" and gave away  nearly his entire fortune.

Conclusion: I learned how the US became the richest nation on earth, how economic crisis arise and how to fight them, how the gold standard & and new tariffs made the Great Depression even more worse, what America´s super rich do with their money and a lot more.

No comments:

Post a Comment