23/07/2012 07:35 BST | Updated 20/09/2012 06:12 BST

What Economic Lessons Can the 1930s Teach Us?

The Great Depression of the 1930s is remembered as one of the worst economic periods in modern history. But statistics show that our current slump is in someways worse.

Britain's slow recovery has led economists like Paul Krugman to argue that the coalition has failed to learn the lessons of the Great Depression. But at the same time others have argued history shows the coalition is doing the right thing.

In the past the debate around the economic lessons of the thirties might be an irrelevance. Not now, today these arguments flow into crucial areas of policy; such as whether Britain should be continuing to reduce the deficit.

During the thirties the British government's economic priority was to balance the books. This was crucial to maintain confidence in the British economy and help the country remain on the gold standard. Large cuts to unemployment benefit and civil service pay were made to achieve this. And although the UK crashed out of the gold standard in 1931, a neutral budget was maintained until the start of rearmament at the end of the decade.

John Maynard Keynes, who wrote his great text The General Theory of Employment, Interest and Money in response to the slump of the thirties, argued that the decision to maintain a balanced budget unnecessarily prolonged the depression. Today, Duncan Weldon, the TUC's senior policy officer, believes we are repeating the same mistake. He says "beyond a certain point austerity becomes self defeating and we're beyond that point in Britain now".

Effect of spending still subject of debate

Despite Keynes there is a lively debate over the ability of government spending to create growth. Kent Matthews a former advisor to the Bank of England and author of the IEA report No Case for Plan B says "I think the evidence is against it ". He states that research has not found much support for the conventional Keynesian multiplier.

Ann Pettifor chief executive of PRIME, a macroeconomic think tank, disagrees. She co-authored a study into the history of state spending in slumps called The Economic Consequences of Mr Osborne. She says "in slumps when governments spent the deficits fell...its proven".

Although popularly remembered as one of the worst economic periods in modern times. It is worth noting that although bad, the Great Depression in Britain was not as severe as it was in other countries. Following Britain's fall from the gold standard, the UK was in fact the first major economy to recover, recording strong growth figures and budget surpluses in the mid thirties. As then chancellor Neville Chamberlain was proud to announce in his 1935 budget.

But the policies of the thirties were not all about cuts; they used monetary policy to stimulate the economy. Monetary policy controls the amount of money in the circulation. It can be used to boost the economy by increasing the money supply. This is achieved through lowering interest rates to encourage borrowing, reducing the amount banks hold in reserve or printing money. Britain's recovery in the thirties has been used as evidence by some that austerity works. Especially when combined with loose monetary policy.

Coalition has imitated policies of the 1930s

So who's right, did the economic policies pursued in the thirties prolong or shorten the Great Depression. Both sides have points; Britain did recover from the depression quicker than other nations with strong growth in the mid thirties. But unemployment persisted throughout the 1930s and it was not until the Second World War that the economy returned to full capacity.

The economy today is very different to how it was then. The state is almost twice the size, and we are more globalised making us vulnerable to exterior problems like the eurozone crisis.

Today the coalition has to some extent imitated the government of the 1930s. It has attempted to balance the budget albeit gradually. And monetary policy has been used through quantitative easing (basically printing money) and low interest rates in an attempt to stimulate the economy. But for now at least they do not look like bringing about a recovery adding legitimacy to those calling for a plan B.

Of course another lesson of the 1930s might be that there is no quick fix. At least that's what Kent Matthews says "it's going to be a long time to get us back to where we were in 2006 and 2007. I just need to point you to the 1930s and show you that is how long it took then".