Massive Government Intervention Drove U.S. Deeper Into Depression
By THOMAS SOWELL
IBD Editorials
Posted 01/19/2010 06:37 PM ET
Nothing established the idea that government intervention in the economy is essential like the Great Depression of the 1930s.
The raw facts tell the story of that historic tragedy: National output fell by one-third between 1929 and 1933, thousands of banks failed, unemployment peaked at 25%, corporations as a whole lost money two years in a row.
Prior to this time, no president had attempted to have the federal government intervene to bring a depression to an end.
Many saw in the Great Depression the failure of free market capitalism as an economic system and a reason for seeking a radically different kind of economy — for some Communism, for some Fascism and for some the New Deal policies of Franklin D. Roosevelt's administration.
Whatever the particular alternative favored by particular individuals, what was widely believed then and later was that the stock market crash of 1929 was a failure of the free market and the cause of the massive unemployment that persisted for years during the 1930s.
Given the two most striking features of that era — the stock market crash and a widespread government intervention in the economy — it is not immediately obvious which was more responsible for the dire economic conditions. But remarkably little effort has been made by most of the intelligentsia to try to sort out the cause or causes. It has been largely a foregone conclusion that the market was the cause and government intervention was the saving grace.
While unemployment went up in the wake of the stock market crash, it never went as high as 10% for any month during the 12 months following that crash in October 1929. But the unemployment rate in the wake of subsequent government interventions in the economy never fell below 20% for any month over a period of 35 consecutive months.
In short, though the stock market crash has been conceived of as the "problem" and government intervention as the "solution," in reality the unemployment rate following the economic problem was less than half of the unemployment rate following the political solution.
One of the few things on which people across the ideological spectrum are agreed upon today is that the Federal Reserve System mishandled its job during the Great Depression. Looking back at that period, Milton Friedman called the people who ran the Federal Reserve "inept" and John Kenneth Galbraith said that Federal Reserve officials showed "startling incompetence."
For example, as the country's money supply declined by one-third in the wake of massive bank failures, the Federal Reserve raised the interest rate, creating further deflationary pressures.
In order to try to save American jobs by limiting imports that competed with American-made goods, Congress in 1930 passed the Smoot-Hawley tariffs, the highest in more than a century, despite a public appeal signed by more than a thousand economists and a warning from them as to the consequences. Other nations retaliated, as the economists had warned, drastically reducing American exports and the jobs dependent on those exports, so that the unemployment rate went up rather than down.
In the wake of these tariffs, unemployment rose far more dramatically than in the wake of the stock market crash. The unemployment rate stood at 6.3% in June 1930 — eight months after the stock market crash — when the Smoot-Hawley tariffs were passed. A year later, the unemployment rate was 15% — and a year after that it was 25.8%.
All of this unemployment need not be attributed to the tariffs, but the point is that the tariffs were supposed to reduce unemployment. The unemployment rate was already trending generally downward for several months when the Smoot-Hawley bill was passed, a trend that reversed itself just five months after the new tariffs went into effect. Once the unemployment rate rose into double digits in November 1930, an unemployment rate as low as 6.3% was not seen again for the remainder of the decade.
The Smoot-Hawley tariffs under Herbert Hoover were simply one of the first massive government interventions of the 1930s, including many more under Franklin D. Roosevelt. There is little empirical evidence to suggest that these interventions helped the economy and much evidence to suggest that they made matters worse.
Congress also passed laws more than doubling the tax rates on the upper-income brackets under Hoover and raised them still higher under FDR. President Hoover urged business leaders not to reduce workers' wage rates during the depression, even though the greatly reduced money supply made the previous wage-rates unpayable with full employment.
Both Hoover and his successor, President Franklin D. Roosevelt, sought to keep prices from falling, whether the price of labor or of farm produce, assuming that this would keep purchasing power from falling. However, purchasing power depends not only on what prices are charged but on how many transactions will actually be made at those prices. With a reduced money supply, neither the previous amount of employment of labor nor the previous sales of farm or industrial products could continue at the old prices.
Neither Hoover nor FDR seemed to understand this nor to have thought this far. However, columnist Walter Lippmann pointed out the obvious in 1934 when he said, "in a depression men cannot sell their goods or their service at pre-depression prices. If they insist on pre-depression prices for goods, they do not sell them. If they insist on pre-depression wages, they become unemployed."
In short, many things that the Federal Reserve, Congress and the two presidents did were counterproductive. Given these multiple failures of government policy, it is by no means clear that it was the market economy which failed.
There is of course no way to rerun the stock market crash of 1929 and have the federal government let the market adjust on its own to see how that experiment would turn out. The closest thing to such an experiment was the 1987 stock market crash, similar in size but not in duration to the 1929 collapse. The Reagan administration did nothing, despite outrage in the media at the government's failure to act.
"What will it take to wake up the White House?" the New York Times asked, declaring that "the president abdicates leadership and courts disaster." Washington Post columnist Mary McGrory said that Reagan "has been singularly indifferent" to the country's "current pain and confusion." The Financial Times of London said that President Reagan "appears to lack the capacity to handle adversity" and "nobody seems to be in charge."
A former official of the Carter administration criticized President Reagan's "silence and inaction" following the 1987 stock market crash and compared him unfavorably to President Franklin D. Roosevelt, whose "personal style and bold commands would be a tonic" in the current crisis.
The irony in this was that FDR presided over an economy with seven consecutive years of double-digit unemployment, while Reagan's policy of letting the market recover on its own, far from leading to another Great Depression, led instead to one of the country's longest periods of sustained economic growth, low unemployment and low inflation, lasting 20 years.
Like many other facts at variance with the prevailing vision, this one received remarkably little attention at the time or since. While it might be possible to debate the wisdom or effectiveness of various government responses or non-responses to economic crises, there is remarkably little awareness of anything to debate by intellectuals outside the economics profession.
Histories of the Great Depression by leading historians such as Arthur M. Schlesinger Jr. and Henry Steele Commager have made FDR the hero who came to the rescue, though Schlesinger himself admitted that he — Schlesinger — "was not much interested in economics," despite his willingness to make historic assessments of how FDR's policies affected the economy.
However, Professor Schlesinger was by no means unusual among intellectuals for reaching sweeping conclusions about economic issues without feeling any need to understand economics.
From the book "Intellectuals and Society" by Thomas Sowell. Excerpted by arrangement with Basic Books, a member of the Perseus Books Group. Copyright 2009.
investors.com |
