Trade Cycle

The Monetary Approach.

The second road leads into the tangled wood of monetary theory. Those who follow it lay stress on the dependence of the scale of industrial activity on the general level of prices, and on the dependence of the latter, in its turn, on the monetary policy of the Government and the banks. The independent leaders of business are advantaged during a period of rising prices, because the rise in many of their money costs of production (such as debenture interest, salaries and in some degree wages) lags behind the rise in their money receipts. They are accordingly both enabled, and furnished with a real inducement, to expand the scale of their operations; and owing to their habit of concentrating their attention on the movement of the price of their own products, the inducement is likely to seem greater to them than it actually is. Conversely, in time of falling prices, business men are both disadvantaged by the relative fixity of some of their money costs, and believe themselves to be more disadvantaged than they are; and they are impelled there fore to contract the scale of their operations. These price move ments, if left unchecked, act cumulatively, in both directions; for as long as prices are expected to go on rising, business men con tinue to rush in to buy; and as long as prices are expected to go on falling, business men continue to liquidate their stocks of goods, and to refrain from replenishing them.

Now modern currency and banking systems, even when an chored to a gold standard, are of such a kind, that, unless con sciously operated with another end in view, they permit consid erable play to these price movements. Indeed they exaggerate them by displaying an excessive timidity in altering those rates of interest whose magnitude has an important effect in determin ing the volume of loans issued by the banks, and consequently the volume of purchasing power put, in the form of cheque cur rency, into the hands of the public. In the last resort, therefore, it is held, both the unhealthy activity and speculative excesses of the period of boom, and the wasteful stagnation of the period of depression, are due to a faulty loan-policy on the part of the banks, or a faulty currency policy on the part of the Govern ment, or a combination of the two. One objection to this ex planation in its cruder forms is that the level of prices depends not only on the quantity of purchasing power issued to the public by the Government and the banks, but on the willingness of the public to use the purchasing power when it has got it ; and that it does not seem certain that this latter factor, especially in a time of deep depression, when everybody is determined to hoard money rather than spend it, is entirely explicable in monetary terms or controllable by monetary means. Nevertheless, there seems little doubt that a monetary policy consciously aimed at keeping the general price level approximately stable, would do a good deal to damp down the violence of the trade cycle ; and a policy of this kind has apparently been followed with some suc cess by the Federal Reserve Board in the United States since 1922.

Instabilities Inherent in the Economic Process.—The third and fourth groups of roads lead to an examination of certain real, as opposed to merely monetary or psychological, features of modern industry. The third group runs through a landscape of physical and technical features, the fourth through a landscape of legal and social ones. Let us consider the former by asking the question : "What rational reasons are there why industry as a whole should automatically increase and diminish the scale of its output?" and glancing at three possible lines of reply:— (1) Because of a self-renewing rhythm in its real costs of pro duction. During the later stages of a depression, there is a pro gressive advance in the effectiveness of labour, a progressive writing off of inflated capital charges, a progressive overhauling of methods of technique and organization, which breed renewed activity. During the later stages of a boom there is a progressive recourse to inferior instruments of production, a progressive util ization of over-tired and recalcitrant labour, wasteful methods of management, and inferior business leadership, which ultimately breed collapse.

(2) Because of variations, due to fluctuations in the bounty of nature, in the amount of agricultural produce offered in exchange for the products of industry. Normally, the effect of good har vests is to stimulate industry and of bad harvests to depress it; but there seem to be exceptional cases (as perhaps in 192o) where an over-abundance of agricultural products leads to such a fall in their price as to impair seriously the purchasing power of agricultural producers over the products of industry, and so to induce industrial depression. Many attempts have been made to connect the trade cycle directly with a cycle of crop-yields dependent on meteorological phenomena : the most famous is that of Prof. W. S. Jevons to connect the supposed ten-year period of the trade cycle with the sun-spot period, and the most recent that of Prof. H. C. Moore to establish an eight-year period in economic affairs, depending on the behaviour of the planet Venus. Without accepting any such views, it is possible to hold that harvest variations, through their influence on the demand for transport and in other ways, frequently exercise an important influence in moulding the shape and the intensity of the trade cycle. It follows that the more numerous the sources of supply of any crop and the greater the facilities for carrying it over from year to year, the better for industrial stability; and it has been suggested in certain quarters that governmental purchase and storage of the leading crops would assist materially in the process of industrial stabilization.