The world has come a long way since the heady days before the Great Depression of the 1930s.
Technology, for one thing, has meant vast changes to our way of life and indeed to significant improvements in our economic productivity. Indeed, it is sometimes argued that these technological advances now make us depression-proof.
Of course, the same line of reasoning — vast improvements in technology over successive decades making the world immune to massive slumps — could have been made before the 1930s. Yet a more careful analysis would reveal that the real issue in examining whether economies are prone to significant downturns are not related to technology but rather to the allocation or misallocation of resources.
The employment of resources contrary to the wishes of individuals in the marketplace leads to what we commonly call a loss. One of the major factors contributing to such misdirection and losses is the falsification of price signals consequent upon the loose monetary policies of central banks, amplified by the lending policies of the commercial banks.
Persistent falsification of price signals leads over time to a production structure that, although very sophisticated technologically, is nevertheless in defiance of the wishes of consumers and highly vulnerable to what economists like to call “shocks”.
Consequently, when central banks reverse their monetary pumping (indeed one of the nastiest of “shocks”) and many activities that had arisen based on false price signals begin to contract, a movement back toward a less distorted production structure begins and therewith comes a retrenchment of these “artificial” economic activities.
This liquidation of artificial structures is what recession or depression is actually achieving. This is not to impart some normative status to such contractions but rather to explain what is actually happening.
The severity of a recession varies in direct proportion to the magnitude of the misallocation of resources occasioned by the activities of the central and commercial banks.
Further, it is not technological innovation as such that increase people’s living standards but rather an increase in capital goods per capita. This in turn is determined by the allocation of real wealth toward the expansion and the enhancement of various items of plant and equipment.
This new plant and equipment will embody new technology. Again, it is the allocation of real wealth towards the formation of new tools and machinery, which is the key to the expansion in the pool of real wealth – the increase in people’s living standards.
Technology Alone Doesn’t Make Us Richer
If the limiting factor, as far as economic growth is concerned, were technological know-how, then most third world economies could resolve their economic difficulties quite easily by adopting the latest western technology using their developing skills base.
The main reason this has not occurred is not the lack of knowledge of the latest technology, but rather the scarcity of real wealth to fund the infrastructure necessary to be able to absorb and deploy such sophisticated plant and equipment.
Yet, in order to expand real wealth production one needs investment in infrastructure, plant and equipment, but the latter investment can only take place when there is sufficient real wealth to begin with – a rather unfortunate vicious circle.
What is required to break this vicious circle is to start the process of real wealth formation. This can be achieved by introducing more freedom in markets by by shrinking government and removing the central bank. I suggest that this will provide more real wealth in the hands of the private sector, which will start the process of wealth generation. In the case of developing and underdeveloped economies, improvements can also come through the introduction and the implementation of individual and property rights – the key factor in the process of wealth accumulation.
According to Mises (Human Action p 500),
The eminence of the Western nations consisted in the fact that they succeeded better in checking the spirit of predatory militarism than the rest of mankind and that they thus brought forth the social institutions required for saving and investment on a broader scale. Even Marx did not contest the fact that private initiative and private ownership of the means of production were indispensable stages in the progress from primitive man’s penury to the more satisfactory conditions of nineteenth-century Western Europe and North America……..The legal guarantees effectively protecting the individual against expropriation and confiscation were the foundations upon which the unprecedented economic progress of the West came into flower.
Mises further suggests,
Investment and lending abroad are only possible if the receiving nations are unconditionally and sincerely committed to the principle of private property and do not plan to expropriate the foreign capitalist at a later date.