The Economy: "Too Much of a Good Thing, Part III"

"Too Much of a Good Thing, Part III"
by Bill Bonner

"The phenomenon known as “declining marginal utility” is well known. Economists cite it from time to time. Even butchers refer to the ‘point of diminishing returns.’ And poets warble about fading light and failing love. No proof necessary. Everybody knows what happens to fat people when they eat too much. Everybody knows what happens to banks that lend out too much money or to plants when they are given too much water. As to Adolph Hitler, everybody who’s ever watched the History Channel knows he pushed his luck.

“Too much” is an expression that covers a lot of ground. It is what happens when you pass the point of diminishing returns…and keep going. Give the plant some water and it flourishes. Give it more and it doesn’t help. Keep giving it water and it will die. That is when you have gone too far and done too much. That’s when you have reached the downside.

There are some things, of course, which are excessive from the get-go. For those things even a little bit is too much. Those are the things that Adolph Hitler wanted to do. But giving the man the benefit of the doubt, Germany felt under considerable pressure in the ’20s and the ’30s. She had agreed to an armistice in 1919. Then, still subject to a starving blockade by the English navy and with no further defenses left, she was stabbed in the back…forced to take the blame for the war and to pay the cost of reparations.

What would she pay with? Germany could barely feed herself, let alone pay billions — in gold — in compensation to her former enemies. And when she failed to make the payments, the French invaded, seizing the richest and most productive industrial area of Germany, the Ruhr Valley. The situation seemed impossible. The French and British owed colossal sums to America. They counted on payments from Germany to balance their accounts. But Germany’s war debt was far beyond what she could pay. Nor could she even default and go bankrupt in the way that debtors who own too much typically do. War debt, like taxes, could not be resolved by ordinary means. Since there was no honorable way out of the crisis, Germany took a dishonorable route. She made promises; she did not intend to keep them.

When you begin looking for ‘too much’ you find it almost everywhere. Had not the war reparations been set “too high” Germany, France and Britain might have been able to come to an agreement on more relaxed terms. Then, Germany might have been allowed into the company of civilized nations; they might have worked out their differences amicably and WWII might have been averted. But in retrospect, the allies were too eager to assign the guilt to Germany, uniquely, too greedy for reparations…and then too blockheaded to see that they were making a major mistake. They practically forced Germany into a defensive, xenophobic…and ultimately delusional…position.

Adolph Hitler was ‘too much’ too. He was the kind of man who should have worked as a housepainter, giving himself plenty of time under the eaves to let his over-heated brain nurse grudges and design grand strategies. He could have simmered in a local bar after work…developed a bad case of lead poisoning…and eventually ended his days in a state mental hospital. Instead, in the ‘too much’ era of the ’20s and ’30s, history called him to do her dirty work. He was on the job in a flash…ready to add hyperbole to already overwrought situations.

As if Germany didn’t have enough trouble in the ’30s, Herr Hitler added more. He was a central planner’s central planner. He had a plan for everything. And every plan was a disaster. The biggest problem in Germany was that its farms were not very productive. A lot of labor (more and more from women) went into producing relatively little food. Any economist could have explained why: there had not been enough investment in the farm sector. Germany had wasted its capital in the trenches of Verdun and the Somme. Then, it had been forced to redirect much of the national income to the reparations payments. Until the mid-’30s, however, Germany had a market-driven economy. Left alone, farm prices would have gone up, drawing more capital to the farm sector. Agricultural investments would have almost certainly raised productivity and output. But the farmers were not left alone. Instead, when the National Socialists came to power, they almost immediately fell to telling the farmers what to do, while systematically starving agriculture of the investment capital it needed.

In the 1930s, about 9 million people worked in farms in Germany, compared to more than 10 million in the USA. But America had 7 times as much arable land. This left German farmers with low incomes and little hope for improvement. Birth rates fell in half, from the 1870s to the 1920s. This alarmed Nazi leaders, who feared a ‘race death’ for the German people. But rather than stand aside and allow modernization to lower farm population and raise farm incomes, Hitler proposed a solution. In 1933, a law was put forward that would create a new legal entity — an Erbhof. It was meant to be a farm that would be the rampart of the German peasantry. It could not be bigger than 125 hectares. It couldn’t be sold or mortgaged. And it had to be passed from father to son.

The advantage from the farmers’ point of view was that the government would take away much of the burden of debt. But the disadvantage, which became apparent later, was that the farmers no longer had a way to finance expansion, new equipment or tide themselves over through bad harvests. The Nazis wanted these farms for ideological reasons (Jews could not own an Erbhof), but the effect was to further retard capital investment on family farms.

As to the strategic mistakes, Mr. Hitler’s vision of economics was not what you could call the result of ‘too much’ thinking. Instead, it consisted of thoughts not worth having. To the problem of too little food output, the Fuhrer had a solution: invest more in the Wehrmacht! Then, he would use the army to take more farmland away from his neighbors. This may seem to the reader like a shocking and barbaric idea. But Hitler maintained that this was precisely what the English, the French, Spanish and the Russians had done. They had each seized huge territories, exterminated the people who were on it, and converted them to granaries that would feed their own people. The English got North America and Australia. The Spanish got South America. The French got large areas in Africa, north and south of the Sahara. The Russians had taken over almost the entire Eurasian landmass, from the border of Poland in the West (soon to be the center of Poland…after the Soviets grabbed the eastern half of the country in 1939)…to the Bering Straits in the East…from the Arctic to India, north and south.

Germany had been largely left out of this grab for farmland. But why was it too late, Hitler wondered? There were vast areas of Poland, the Ukraine and Russia that were sparsely populated. Why not just take them from the natives the way the Americans took Kansas or the Argentines took the pampas?

In the event, Hitler shifted Germany’s money from food production to war production. By 1938 an incredible 19% of output was directed towards the military, compared to just 2% in the US. You might think 19% is ‘too much.’ It meant that nearly one out of every five employees worked full time just to prepare for destruction and/or defense. Was this a case of ‘declining marginal utility’ or something else? Almost surely, each extra mark did not merely provide less ‘security’ than the mark that went before it. The rate of return had not only declined…it had dropped below zero. It was negative. It no longer produced more safety and security for the German people, not even marginally. Quite the opposite, it increased the risk of a violent confrontation between Germany and her neighbors. Neither the French, English, Italians, Poles or Soviets could ignore the juggernaut growing in Germany. Each had to make an accommodation to it…or prepare for war.

In the late ’30s all of Europe geared up for fighting…spending an elevated percentage of their output just for military protection (or offense, as the case may be). By 1939 they were all spending ‘too much’ — far beyond the normal needs of defense. Germany’s war spending had risen to nearly 1 out of 4 marks’ of output — 23%. France was not far behind at 17%, followed by 12% for Britain.

Curiously, some would later regret not spending more. Even though military spending had become a negative-paying investment for the Germans — actually increasing their likelihood of coming to grief in war — it then became necessary for the rest of Europe to throw good money after bad. Soon the whole continent…and the UK and America too…were in over the heads…far beyond the point of diminishing returns. They didn’t know it, but they were now on the downside…where further ‘investment’ in military matters yielded increasingly negative results.

Not that there was any other alternative for France…and Poland. With the teutons bristling with guns, they felt they had to arm themselves too. But neither tanks nor barbed wire put bread on the table or fixes leaks in the roof. The Germans — and everyone else — were getting demonstrably poorer with each passing year. Those who spent the most lost the most.

The French (before 1940) and the English had the advantage of an umbilical cord across the North Atlantic. They could spend relatively less of their own resources, counting on the support of America to make up for what they lacked. The Germans had to make do with their own resources and pay the price for their own dumbbell economic policies.

The Nazis followed the time-trodden path of all central planners. They imposed one set of rules. When these caused other troubles (unintended consequences, in the language of classical economists), they imposed more rules to fix the problems caused by the first ones. For example, shifting so many resources to the Wehrmacht left the farm sector short-handed and under-capitalized. Even before the war began they were running out of food. So, they imposed price controls to avoid soaring prices for diminished supplies of food. Then, still short of supplies, they created a system of substitution. In 1935, bread flour was diluted with cornmeal and potato starch. But hoarding and shortages appeared anyway; so, officials resorted to rationing. Food was rationed in Germany from 1935 until after the end of the war. The combination of price controls and rationing was so lethal that Party bosses began to warn about a dangerous level of mal-nourishment…on the farm and in the factories. In the spring of 1940, workers in Germany’s armament industries were beginning to collapse from overwork and under-feeding.

Most remarkable about this period is that, at least before the invasion of Poland, much of the world applauded Nazi Germany’s economic success. It was said that ‘they [the Nazis] made the trains run on time,’ and by implication, made the entire economy work. This was entirely untrue. In fact, the Nazi economy was a catastrophe from the very beginning. The trains didn’t run on time. There were shortages of almost everything. Prices were often bizarre, arbitrary and misleading. And wages were far below international standards.

Even with the most disciplined and thorough-going efforts on the part of the rail workers and their bosses, trains were snarled up in hopeless tangles all over the Fatherland. This, too, was caused by detailed planning on the part of Nazi transport officials…and by the kind of sweeping strategic planning initiatives that often originated with Mr. Hitler himself.

Coal, people, oil, ore, factories — all were moved around according to Hitler’s strategic visions. For example, essential armaments factories had to be removed from Germany’s Western border. In the ’30s, France still had the largest and most powerful army in Europe. Hitler did not want to leave his key industries vulnerable to French attack. And rather than trade peacefully and normally for raw materials, Germany was increasingly cut off from the world market, forced to make odd deals and forced to shuttle supplies along odd, improvised routes. After the Molotov-Ribbentrop Pact, the Soviet Union was the major source for many of Germany’s raw materials, with Germany shipping finished weapons back to Moscow in return. All of this had to pass over a rail system designed primarily for trade with the West.

While the trains did not run on time, it was a major feat of engineering and ingenuity that any of the key elements of the economy ran at all. Hitler had determined that Germany should achieve self-sufficiency in energy (similar to the recently announced goal of Mitt Romney) and other key economic ingredients by 1940. However, the three most essential elements of a modern, mobile army — oil, rubber, and iron ore — were not physically available in the Reich. This forced the regime to stretch. It had to reach out to troublesome suppliers…or had to create synthetic materials, as it did for rubber, in a famous collaboration with IG Farben.

Each of these contortions was ‘uneconomic’ in the sense that it was not the easiest, fastest or cheapest way to get the desired end product. Each imposed costs that ultimately reduced standards of living. But Hitler & Co. were marching to a different drummer from the very beginning. Economics mattered. But only as a tool… Economics was no longer a lens through which to observe or a set of insights with which to understand. It was a wrench…or a sledge hammer.

Was farm production falling off? Were there too few trains to haul the troops…or the coal? Had the price of oil spiraled out of control? The Nazis did not try to understand why. Instead, they brought out the sledge and tried to whack it back into line. Almost all Germany’s economic problems after 1936 could be traced to a single cause — too much spending on the military. But cutting back on military spending was out of the question. Herman Goering explained:

No end of the rearmament is in sight. The struggle which we are approaching demands a colossal measure of productive ability…the only deciding point in this case is victory or destruction. If we win, then business will be sufficiently compensated… It is entirely immaterial whether in every case new investment can be amortized. We are playing for the highest states… All selfish interests must be put aside. Our whole nation is at stake. We live in a time when the final battles are in sight. We are already on the threshold of mobilization and are at war, only the guns are not yet firing.

Hitler and Goering did not consider an economy an infinitely complex natural system — like an ecosystem — to be studied, admired and protected. It was a slave…to be bullied and bludgeoned into doing what you want. Bossing around an economy is one of those things of which even a little bit is ‘too much.’ But so was almost every other feature of the Nazi economy — from price fixing to slave labor to rationing to strategic objectives and anti-Jewish commercial laws. Every little fix stole from someone. Every little regulation inconvenienced someone and made almost everyone poorer. And yet, economists kept drawing the wrong conclusion. Unemployment, for example, had been banished. The jobless rate was nearly 30% when the National Socialists came to power. By the end of the ’30s, it was negligible.

Of course, the ruling elite believed it had the right to direct labor where it wanted it. Mostly, this was not necessary. The Nazis wanted labor in the arms factories. Since they paid the highest wages, they naturally attracted workers from the fields and forests. This, however, left the fields low on man-power. Of course, German farms had needed extra labor for many years. It was traditional to attract seasonal workers from Poland. But the Poles were treated so badly under Nazi guidance and labor rules, few signed up. It soon became necessary to take a more muscled approach…both with the Poles and, later, with the French.

Germany’s economic growth rates were likewise impressive. They were the strongest in Europe, averaging about 8% per year in the 6 years leading up to the beginning of the war. Where did Germany…short of resources…burdened by overbearing regulations and strangled by heavy military spending…get the wherewithal for such progress?

There are two parts to the answer. First, the ‘growth’ was fraudulent; preparations for war are a form of economic activity, but they do not make people, generally, any better off. Instead, directing resources to weapons and ammunition makes them poorer; they end up with fewer of the goods and services they really want. Second, the Nazis were living on borrowed time and borrowed money. In the 6 years leading up to the invasion of Poland, the government received only 62 billion marks in revenue (the personal tax rate in Germany was only 13.7% in 1941). It spent, however, more than 100 billion. Politics…Nazism…central planning…deficit spending…strategic visions — all were way past the point of declining marginal utility. They had no utility left. The Third Reich was neither on the rise…nor on a plateau. It had reached the downside. Germany was going broke fast.”

- http://dailyreckoning.com/

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