Advice For Obama

Investor's Business Daily

So it's official — the U.S. economy entered a recession in January. But that's very old news. Now we should be focusing our attention on what to do next to keep it from getting worse.

The National Bureau of Economic Research, official arbiter of U.S. business cycles, says the U.S. economy peaked last December and fell into recession in early 2008.

That timing of the downturn might be debatable, but it's hard to argue that today's economy is in anything but bad shape. Factory activity last month was the lowest in 26 years, while auto sales plunged 35% to a two-decade low of 10.5 million vehicles.

Longer-term indicators aren't any better: Business investment plunged 8% year-over-year in the third quarter, and so far companies have shed more than 1.2 million jobs, pushing unemployment up to 6.5%.

Amid the gloom, however, two things need to be said.

First, despite constant comparisons to the Great Depression, this downturn statistically has virtually nothing in common with the 1930s collapse. Fed Chief Ben Bernanke, an expert on the subject, was at pains to make this point Monday.

"During the 1930s," he said, "there was a worldwide depression that lasted for about 12 years and was only ended by a world war. During that time, the unemployment rate went to 25%, at least . . . The real GDP fell by one-third. About a third of all of the banks failed. The stock market fell 90%."

We're not close to those benchmarks — by any measure.

Second, though conditions now don't compare in magnitude or duration, we can still learn from the errors that policymakers made back then. Repeated mistakes by Presidents Hoover and Roosevelt in the late '20s and '30s turned a garden-variety slowdown into an epic tragedy of job loss, hunger and mass poverty.

Our advice to President-elect Obama: Learn the real lessons of the Depression, not those that pop economists would have you learn. To wit:

• Pursue free trade — against the counsel of protectionists in the Democratic Party. It was, after all, the Smoot-Hawley trade tariffs that helped trigger the Depression.

• Don't raise taxes, even on the rich. Top tax rates soared from 25% in 1930 to 75% by 1940. Businesses, investors and those with high incomes moved to the sidelines, prolonging the Depression's length and severity.

• Cut taxes broadly instead. The latest in a long line of studies on the subject found a 1% reduction in taxes has caused as much as a 3% gain in GDP. The report's co-author: Christina Romer, one of your top economic advisers.

• Forget stimulus gimmicks. FDR had an alphabet soup of new agencies and programs to "make work" and substitute government for private-sector activity. It failed. Indeed, recent research, including a study by UCLA economists Lee Ohanian and Harold Cole, found that instead of ending the Depression, FDR's Keynesian stimulus actually prolonged it.

• Don't rely on massive infrastructure projects to revive the economy. Congress can't move fast enough to approve them, and many will simply be pork-barrel spending.

• Support the Fed as it cuts rates. Inflation hawks will surely attack the Fed for its stimulus efforts. But it's important to remember that the Depression occurred in large part because the Fed let money supply shrink as much as a third. It shouldn't happen again.

You deserve credit, Mr. President-elect, for assembling a solid economic team. Now give them a close listen.