WALTER STEWART December 1 1974


WALTER STEWART December 1 1974



My Uncle Harry is a dismal bird.

which comes. I believe, from his constant reading of economics; not only economic textbooks, but all the financial papers and magazines. What he has been reading lately has put Harry’s teeth on edge and stretched his nerves so taut they twang like guitar strings. So he has formed this plan. Harry’s going to sell his house in Toronto, if he can unload before the market collapses entirely, winterize his cottage up north, and move there to sit out the coming depression. In a way, I don’t blame him; for anyone with a gloomy cast of mind, the signs and portents on the financial side seem to have been drafted by the same wonderful folks who gave us 1929, the Crash and the Great Depression. Here is just a scattering of those black marks:

• Stock prices have been sliding almost steadily for two years. The Dow Jones Industrial average, which marks the progress of 30 blue chip stocks, plunged from its all-time high of 1.051 points on January 11, 1973, to 607 on September 30, 1974. The market value of common stocks sold on the New York Stock Exchange (which sets the trend for our own more modest exchanges) is down an estimated $300 billion, and Barron’s weekly reports that “Window ledge space in Wall Street ... is at a premium.” On Canadian exchanges, the situation is almost as bad. The volume of shares traded on major exchanges was down 42% in September, 1974. from September. 1973, and the value of shares traded was down 51.4%.

• Not only are such major corporations as Pan American Airlines in trouble, so are a number of banks around the world. The recent failure of the Bankhaus Herstatt in Germany brought back vivid memories of earlier collapses; in the U.S.. the Federal Reserve System has had to come to the rescue of the Franklin National Bank, and

at least five other banks of similar size (Franklin is America’s twentieth largest) are in trouble. Sound familiar?

• “Italy,” says MçGill economist Jack Weldon, “is virtually bankrupt, living on handouts.” France is in almost as parlous a state, and the United Kingdom not far behind.

• Balance of payments problems imposed by the outflow of cash to meet new oil prices have hit almost every nation; the response has been for each country to try to boost its exports and cut its imports, to cover the gap at the expense of its neighbors. It can’t be done; we can’t all sell more and buy less.

• Real growth has virtually stopped in even the world’s most highly industrialized nations. The Organization for Economic Cooperation and Development, in a recent study of seven major economies (Japan, Canada, the U.S.. West Germany, the U.K., France and Italy) found that their combined production declined 1.25% in the first half of this year.

• The economic climate has a feel like that of the late 1920s; we are surrounded by rampant inflation accompanied by a lack of real growth, perfect seeding ground for a depression. Statistics Canada has coined a new phrase, “stagflation.” to cover this phenomenon, but there is nothing new about it; the world remembers it well.

• We are already surrounded by the rhetoric of depression. John Diefenbaker tells us that “the collapse of the stock market bears a significant resemblance to what happened in 1929.” Mike Mansfield. Democratic leader in the U.S. Senate, says the current economic situation has “all the earmarks of world depression,” and President Gerald Ford claims that overpriced oil can “threaten the breakdown of world order and safety.”

Land-a-mercy, things look black. Well. I’d like to get in on all this gloom:

public anguish is my favorite form of journalism (for good reason; if a gloomy story is correct, you are hailed as a prophet; if wrong, who cares? But if a sunny story turns to mud. you wear it around your neck forever). So I have spent the last several weeks borrowing Harry’s books and papers, talking to economists (theirs is known, rightly, as the dismal science), researching synonyms for “disaster.” looking back to the Great Depression and forward to what seems to lurk ahead. Now my problem is that I think Harry is full of peach-fuzz. Much as I would like to be the first on my block to spot calamity waiting around the corner. I don’t see it that way at all.

The year 1929 can’t happen again. There. I’ve said it and I’m glad. I’ve said it, not as an economist or an historian but as an ordinary observer. We can have economic upheavals, and no doubt we will; we face severe problems, and they may get worse. But not 1929. That particular form of insanity is behind us, and it is useless — worse than useless, it is harmful — to imagine ourselves on the brink of a rerun. That illusion not only freezes the blood, it numbs the brain, it persuades us to reach for remedies that do not apply and will not work.

Consider, for a moment, the world we live in today, and that of 45 years ago. when Black Tuesday rocked the stock markets and the sound of falling bodies all but obliterated the clamor of margin calls. In 1929. the stock exchange was the centrepiece of the North American economy, not only the place where money was raised to finance almost every major venture but the barometer of public and private fortunes. We lived by it, we believed in it; we had been persuaded that stock market speculation could create unending wealth forever, and we nodded enthusiastically when Charles Amos Dice of Ohio State University rolled out this rhetoric: “Fed by

these mighty knights of the automobile industry, the steel industry, the radio industry . . . the Coolidge market (has) ¡gone forward like the phalanxes of Cyrus, parasang upon parasang. and again parasang upon parasang."

That was a giddy ; world, through every loving parasang (I looked up the word; it’s an ancient Persian unit of distance. about 3.6 miles). Stocks could be purchased for 10T down, and usually were -A you borrowed 90rr of the purchase price, after putting up a down payment, called a margin, and the stocks themselves, became security for your debt. The probity of bankers, investment counselors and brokers was taken on trust. Stock exchanges were left to their own devices, to skin widows and orphans at leisure.

Stock margin requirements today call

for a 65.9fr down paynlent: just this one change alone carries enormous consequences. Suppose that, in 1928. you wanted to buy 100 shares of Amalgamated Fudge, then selling at $ 10 a share. You could get them for $100 down, with a loan of $900. Then the stock took off. and soon hit $30; now you owned $3.000 worth of shares and had a profit, on paper. of $2.000. You could use that paper profit to buy another 666 shares, again for only 10F down, and when the price rose again you could repeat the performance. That’s leverage, and it was the darling of the Gay Twenties. Unhappily. however, leverage works both ways. If you were holding 666 shares of Amalgamated Fudge when the Crash came, you would find yourself in difficulty. Let us suppose the stock went down to five dollars; you had bought it at $30 with a loan backed by the paper profits from your first 100 shares. Now those profits had vanished, and there would be a margin call — you would have to put up real money to secure the loan. Even if the margin call was only for \0%. it would be for 10% of the stock when it was valued at $30. your time of purchase, not at five dollars, its present value. Your debt for 666 shares at $30 each would be $19.980. and the only real money you ever put up was the $ 100 you started with. At a minimum, you would have to cough up close to $2.000 to cover the margin call (the actual amount would depend on such other charges as brokerage fees, and when you sold the first 100 shares), and to raise that money you would have to sell your stock in a falling market. Everybody else would be doing the same thing, and the stock

would soon be worthless. The 10T margin was not onlv a lever, it was a trap: it allowed you to build a mountainous debt on a tiny investment, and when the market trembled, the mountain caved in. With today's 65% margin requirement. stock prices cannot climb so giddily nor plunge so precipitously. Leverageexists. but the whiplash is less brutal.

Then. too. what we learned in 1929 about the probity of financiers shook our faith: a number of revered figures sat out the Depression in the poky, because they fiddled with other people’s: money (stockbrokers in Toronto and Montreal, for example, bet against their own customers; they took orders for stock but didn’t buy it. so that it was possible to sell more shares than actually existed). After the Crash, rules were established to bring them under control. Today’s stock salesmen may have as much larceny in their souls as their forefathers. but they don't get the same chance to express themselves.

Economic consultant W. A. Beckett, in a lengthy — and cheerful — interview with the Financial Post, noted that “There is a similarity with 1929 in that there has been a major decline in the. stock market — but it’s a superficial similarity.” Stock prices in 1929 were over-inflated by “tremendous speculation” fired by the 10f margin, while recent high prices have been based on the expected earnings of various companies. Thus, when the slump in stocks came, the letdown was bearable. “The retreat on the Dow.” says Beckett, “has been fairly orderly.”

But there is another, even more important, difference. The stock market no longer is the centrepiece of the economy. Today’s giant corporations generate most of their expansion funds from internal sources, by reinvesting profits. It is not necessary for Canadian Tire to float a new issue every time it wants to build some new warehouses. At the same time many companies, by the creative manipulation of such government programs as regional development incentives. forgivable provincial loans and tax write-offs, can find the funds for expansion or innovation without going near a public stock issue. It is now possible for the economy to grow even when the market is sliding, and. in 1973. a poor year for markets. Canada’s Gross National Product rose in real terms, by 6.8%. There is a limit to the process, of course, but the economy is no longer the hostage of the stock market.

It is possible, then, to have a stock market slump without sending the economy into a tailspin. Economist Eric Kierans argues that “Some of the loud screams you're hearing today are from corporations that are full of fat and don't know what to do with it. All the capability that existed in the economy yesterday exists today, the capability to make steel or airplanes or whatever. The only difference is that the paper is worth less, and that’s a nominal change 1 can’t get too excited about.”

When business activity went onto the skids 45 years ago. the repercussions were widespread and the punishment instantaneous. Investors withdrew from the market, so expansion stopped, factory doors closed, workers were laid off. their salaries ceased, demand slowed, prices dropped, profits vanished, so more investors were driven off. and the process repeated itself. Flard-pressed (and sometimes heartless) banks foreclosed mortgages, and many productive facilities and many farms were taken out of business, adding to the mess. Not only that, the weather was lousy, and drought struck the Prairies.

Today, whenever business begins to falter, phalanxes of corporation executives lean across after-dinner rostrums, brush away the remains of their filetmignon dinners, and tell us that the world is going to hell in a handcart, just as they did in the Thirties, but the rest of the scenario does not follow so swiftly. As expansion funds become tighter, factory doors may or may not close, depending on alternative sources of supply (a DREE grant, for example). If they close, and workers are laid off. they go on unemployment insurance or. in extreme instances, on welfare; in some cases, they will be doing almost as well as before. They continue to have an income. and they continue to spend it: demand slackens, but it does not by any means disappear.

At the same time, government, eggeo on by all those after-dinner speakers, is moved to spend more, not less, in tribute to the high priest of modern economics. John Maynard Keynes, the British economist and author of The General Theory Of Employment, Interest And Money. Keynes held that, in inflationary times, governments should tax high and spend low. while during an economic slowdown they should spend high and tax low. FI is dictum has been modified by the pressure of politics; now governments tend to spend high in good times

and even higher in bad; but the commitin en i not to retreat from spending during a recession is firmly fixed in place.

In short, there is a built-in backstop to the economy today that no one dreamed of in 1929. There were no government pensions during the Thirties except those paid to war veterans; today, everyone over the age of 65 collects a pension. There were no family allowances then; today, 3.5 million families collect an average of $20 per month for each of 7.5 million young Canadians. There were no minimum wages then, no Canada Pension Plan, few private pensiori plans, no Medicare, no hospital insurance, no comprehensive welfare system. The federal Department of Health and Welfare will spend;$6.85 billion in fiscal 1974-75. or about 10 times the spending: of all governments at all levels in 1929; this year we are pouring $2.2 billion into unemployment insurance payments, and $1.8 billion into family and youth allowances.

During the year of the Crash, government expenditures at all levels represented 14% of the Gross National Product; in 1933, at the bottom of the trough, with unemployment more than 19%. this spending rose to 27%; today, governments at all levels dispense more than 40% of the GNP. even in good times. It is possible and indeed fashionable to attack all this government spending as inflationary; certainly dollars spent (for example, pension dollars) to no productive end, are bound to increase demand without increasing supply, and that’s where inflation begins.

But it is worth noting, whatever your views on the welfare state, that the deeper the economy moves into trouble, the more funds are committed to unemployment insurance and family support. If government spending led us into this mess — a dubious proposition, but one I am willing to accept for the sake of argument — it will also apply a brake to recession. It is not possible now. as it was 45 years ago, for businesses to clap shut their doors, banks to call in their mortgages, and politicians to shrug away the growing lines of the unemployed. We do not have the same view of government and business that we had during the Great Depression: we expect government to become an employer of last resort, an alternative capital market, an economic stabilizer and a source of constant dollars to feed and clothe and house our people.

We have come a long way since the

Bennett buggy; what’s more, much of our progress is irreversible. Take the issue of minimum wages. Every province now has legislation governing minimum wages, ranging from $1.75 an hour in PEÏ to $2.25 in Ontario and BC. These figures represent an economic signal, even in industries where they do not apply directly; in effect, they provide a low but minimal economic base. If we go into a recession, even a depression, there will be pressure to lower that base, but it won't be easy to do. In the same way, efforts to cut back pensions, welfare payments and youth allowances will be difficult and dangerous for whatever government sets them in motion.

What is more, should recession turn into depression and prices drop, the purchasing power of these fixed payments will rise: an elderly couple scraping by on $413 a month (the Ontario minimum tor two pensioners today) will actually find themselves better off. (The payment will drop slightly, because it is partly indexed to inflation, but there are federal minimums and provincial minimums to guarantee most of that amount.)

Do not mistake me; I am certainly not advocating a; depression, and 1 am not suggesting that the poor fare better in hard times — by and large, social advances are made from the surpluses generated during periods of mild inflation, and we are a long way from social and economic equity in this nation. Rather. I am saying that in a nation such as Canada, whose resources are real and increasingly valuable, and whose welfare system is advanced, the mechanisms to offset the worst problems of the Great Depression are already in place; we could weather any but the most calamitous collapse.

Provided, of course, that we don’t succumb to panic and destroy the system that supports us. Professor Jack Weldon of McGill argues that “The trouble with the government backstop as a depression cure is that the supports are so large they may be used as perversely as the private sector was in the Thirties.” For example, if the government decided — as it did in 1969 — to dry up the money supply to restrict inflation, even though it led to high unemployment, we could be in trouble. Weldon says. “We keep hearing that we should let the jobless rate go up and cut government spending. but it could be argued that government spending should be increased and switched into more productive channels. Perhaps this is the time for governments

to consider getting directly into the business of building houses. Why not? Housing is short and prices are high.”

Weldon’s colleague. Eric Kierans, makes a related point: “The corporate spokesmen keep telling us there are terrible times ahead, so we should drive down government spending. What they mean is that they want a tax cut.” Corporate profits have continued to climb — up 35.7% in 1973. up another 31% in 1974 — but if governments can be persuaded that such terrible times lie ahead that these sums should be left unmolested. the clear alternative is to cut government spending. There is. God knows, a lot of waste in government spending (just as there is in corporate and private; spending: was the $10 million Loblaw’s spent improving its corporate image a better or worse buy than BC's $100 million welfare over-run?) but what tends to get attacked during these austerity spasms is not the expense accounts of mandarins but unemployment insurance. welfare, teachers' salaries, hospital budgets —the economic backstop.

I am willing to accept that we have fallen on evil days and. since so many economists seem agreed that even worse lies ahead. I will bite back the observation that, as a tribe, they have alwavs been bum guessers (remember the depression that was supposed to follow World W'ar II?). Sure. I’ll concede that even rockier times may lie ahead. What I will not accept is that we live in a world that died before 1 was born, and that the stock market’s slide means curtains for civilization. I am concerned for those who have been hurt in that slide but I am not convinced that a shaking out isn't what the economy needs right now (after all, the economists have been telling us that growth for growth’s sake was dumb; then, as soon as growth slackened, we began to get live readings from the book of the Apocalypse) and my concern is more acute where it touches the working poor, the jobless young and the friendless old. U.S. economist Eliot Janeway says there will be “a depression for the rich”; I doubt it. the rich have a| nasty habit of passing on their depres-f sions to the poor, but I am as willing to swallow Janeway's optimism as I am the brooding pessimism of my Uncle Harrv. And I have more respect for people who want to stay and sort out the economy than those who want to dive for cover.

So. go. Harry,; if you believe we are back in 1929; go to your cottage; go to your lake. Go soak your head •%%