Sunday, June 20, 2010

The Weimar Republic and austerity

Over the years I had always assumed that the hyper-inflation during the Weimar Republic was what ultimately lead to the rise of the Nazi party.

This is why I was a bit shocked to read the history of Heinrich Bruning, one of the last chancellors of Germany before the Nazis took over.

The hyperinflation took place from 1921-1923, and between 1923 and 1929 the economy had more or less recovered.

But then in 1929 the world economy crashed, taking the German economy down with it.

With a doctorate in economics, Brüning seemed like the ideal chancellor to bring the economy back on track in 1930. His plan to reduce deficits to reduce the burden of debt had a somewhat familiar ring to it:

Brüning disclosed to his associates in the German Labour Federation that his chief aim as chancellor would be to liberate the German economy from the burden of continuing to pay war reparations. This would require an unpopular policy of tight credit and a rollback of all wage and salary increases.


Brüning's measures were implemented in the summer by presidential decree and made him extremely unpopular among the lower and middle classes. As unemployment continued to rise, his cuts in welfare and reductions of wages combined with rising prices and taxes, increased misery among workers and the jobless.

The lack of spine of the trade unions in opposing these rollback led to a huge shift of support away from the traditional left wing parties and the rise of right wing demagogues.

I think that one of the reasons that austerity has been popular among certain economists is that they fail to understand the psychology of loss aversion. A 5% paycut hurts so much more than a 5% pay increase combined with 10% inflation. An economist might say “but wait! those are mathematically equivalent!’ Tell that to the mob waiting outside.

Austerity turns economics from a win-win game in to zero-sum game, similar to the classic life-boat exercise. Who gets tossed overboard to save the boat?

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