2004 August 15 Sunday
FDR Policies Prolonged Great Depression For Years
UCLA economists Harold L. Cole and Lee E. Ohanian argue that President Franklin Delano Roosevelt drove up wages and prices and extended the length of the 1930s economic downturn by years.
Using data collected in 1929 by the Conference Board and the Bureau of Labor Statistics, Cole and Ohanian were able to establish average wages and prices across a range of industries just prior to the Depression. By adjusting for annual increases in productivity, they were able to use the 1929 benchmark to figure out what prices and wages would have been during every year of the Depression had Roosevelt's policies not gone into effect. They then compared those figures with actual prices and wages as reflected in the Conference Board data.
In the three years following the implementation of Roosevelt's policies, wages in 11 key industries averaged 25 percent higher than they otherwise would have done, the economists calculate. But unemployment was also 25 percent higher than it should have been, given gains in productivity.
Meanwhile, prices across 19 industries averaged 23 percent above where they should have been, given the state of the economy. With goods and services that much harder for consumers to afford, demand stalled and the gross national product floundered at 27 percent below where it otherwise might have been.
"High wages and high prices in an economic slump run contrary to everything we know about market forces in economic downturns," Ohanian said. "As we've seen in the past several years, salaries and prices fall when unemployment is high. By artificially inflating both, the New Deal policies short-circuited the market's self-correcting forces."
The policies were contained in the National Industrial Recovery Act (NIRA), which exempted industries from antitrust prosecution if they agreed to enter into collective bargaining agreements that significantly raised wages. Because protection from antitrust prosecution all but ensured higher prices for goods and services, a wide range of industries took the bait, Cole and Ohanian found. By 1934 more than 500 industries, which accounted for nearly 80 percent of private, non-agricultural employment, had entered into the collective bargaining agreements called for under NIRA.
Cole and Ohanian calculate that NIRA and its aftermath account for 60 percent of the weak recovery. Without the policies, they contend that the Depression would have ended in 1936 instead of the year when they believe the slump actually ended: 1943.
This is not an original argument. While it has been many years since I read Murray Rothbard's book The Great Depression my memory of it is that he made a very similar argument. The argument seems plausible to me. When the money supply collapsed from widespread bank failures what was needed was a decline in wages and prices to a clearing level point where the amount of money and prices of goods and services matched up. Instead FDR's Administration intervened to prevent the meeting of supply and demand.
The 1930s era was still the economic dark ages. Milton Friedman and Anna Jacobson Schwartz
hadn't yet published their epic Monetary History of the United States, 1867-1960 (they had to wait till after 1960 to publish it in order for the title to make sense). So economic policy makers didn't have a monetary theory capable of explaining what was happening. FDR's policies were akin to bleeding a patient to help recover from a severe infection. Today of course we look down on the doctors who bled patients. But we still build monuments to honor political leaders who pursued disastrous economic policies based on nothing more than primitive superstitions. The lesson? If you want to be a quack and have a great great reputation decades after you've passed from center stage then you are better off becoming a political quack than a medical or scientific quack.
If I recall correctly, neither politicians nor economists knew how to make wages go down during that period in history. This was the problem Keynes identified as "the downward stickiness of wages" and solved (at least in theory) via a policy of deliberate but controlled inflation, which would cause real wages to fall, even as nominal wages stayed constant or even rose, though more slowly than prices. Of course Roosevelt did not end the depression (World War II did that) but, even so, it seems more accurate to finger a drastic contraction in the money supply in the 1929-1932 period as the proximate cause of the problem of persisting unemployment, which is the conventional explanation.
If they'd have gotten rid of the legal tender status of the dollar, at the outset of the downturn, there would have been possible a much faster adjustment to the international crisis. It was after Austria and Germany defaulted, that France had no reparations to use to pay Britain for the war debts, which forced Britain off gold. This left all the pressure for liquidity in the world to converge on America, causing the run on our banks. It was a crisis of socialistic war finance, running up against the facts of all these countries being unable to pay their war debts. Having allowed this deflation to spread, the fastest recovery would have occurred by using all-private money and credit. Lower wages could have got employment back up, but deflation was an obstacle on the legal tender dollar system. They needed to let the value of outstanding credit float against everything else.
I agree that the true definition of deflation is the contraction of the momey supply, but
we must emphasize why this is happening in general. The real problem is that most of the
expansion of the money supply, is due to the credit system, which means that borrowing is
responsible for the growth of the money supply... The US government does not print new money.
Even the government deficit is financed by money borrowed from the upper class. This kind of growth of
the money supply by means of the credit system, often leads to deflationary depressions.
If the GDP wants to grow 3 % per year, why not legistlate so that the government has the authority
to print 3 % of fresh new money every year?
There's no one answer because ech is trying to answer a different question; Bolton comes closest.
But, instead of focusing on what specific mechanism, if resorted to, might have averted some of the more serious social effects of the depression, a far more comprehensive (as well as enduring) solution needs to account for the eentirety of what is termed the "business
cycle." No other stream of economic thought has focused on that aspect with near the intensity (nor results) than the Austrian.
No matter whether one reads Rothbard or von Mises (and I recommend the latter), it is clear that the depression is a necessary correction to a prior distortion (the boom) which has as its cause the continual expansion of the money supply through fractional-reserve banking.
Though a relatively slow (and therefore insidious) process, the fresh currency continually thrown into the loan market raises both wages and prices, the latter of which operate directly on the constant forecasting activities of entrepreneurs. The distorted picture of the future
leads those misled to compete, not only for workers in a rising labor market (they are the easier part, as they can be shed whenever the
truer picture becomes apparent but also for goods of higher orders--productive fcilities, machinery, R&D, transport facilities, etc.
In an undistorted capital market, the very scarcity of capital and its valuation (whether in the form of the interest rate or the specific entrepreneur's cost of funds--these are somewhat different entities) serves as "the brakes" on schemes of the entrepreneur--exercised
not only by himself personally, but, as well, by lenders and investors. But under the distortion-regime, many more projects seem worthy
and are, in fact, entered upon, including the sinking of progressively greater sums in real things which would be useless for the
actual realization of consumer desires. When the contraction occurs, only then are malinvestments most obvious in those things that
begin to form overstocks--the proof that the consumers' actual desires were more intense for substantially other things. If the capital
equipment of all sorts could merely be re-employed in the more correct lines, no disaster would occur. Overstocks can always be sold over a longer time or by price-cutting to clear the excess from the market. But much of the capital goods are only partly convertible to
other purposes and, even then, usually at substantial cost; much is worthless for all except scrap.
The disarrangement injures all. Even the more judicious entrepreneurs who did not expand in the inflation-favored bubble sectors could
not, during that time. exercise their own plans to the degree desired due to competition from the deluded. Now, with that competition
in the loan market removed, they are still disadvataged by the prices of capital goods resultant from their "fixing" in inconvertible things
and are thus prevented from expanding in sectors for which actul consumer demand might otherwise result in good business.
Add to these problems the delusion of labor that aims at the continuation of their former rates when the capital that underpinned their former incomes is either idled or already in the scrapyard--and the disaster is complete. And, precisely because the normal situation of the wage-earners is often fragile, especially as they have families to support and consist in great numbers, the very most injudicious and
damaging policy--engaged in by unions, gov't-favored theorists (including Keynes and his entire ridiculous chorus), and assisted by the
natural inclinations of the workers themselves to unimaginative lethargy and misplaced hope--is that centered on maintaining the wage
heights formerly enjoyed and in seeing every move towartd their diminution as "anti-labor," "favoring the wealthy," etc. These very same
workers, constituting the great bulk of the consuming class, together with everybody else, seeing the drop in prices, restrin their purchases
in the prospect of better prices tomorrow--just as, during the boom, they bought as much as possible against the rise in tomorrow's price.
I would like to say that I know the cure for these woes. And, particularly, I'd like to be able to say it because something worse is in the wind.
We're in for something that will make the Great Depression look like a picnic.
Mises (and Rothbard and many others) suggest a return to the Gold Standard. I agree that the Gold Standard would solve many problems.
But the ultimate problem is one that the Gold Standard can only solve temporarily. And that is that, as long as "money" is something the
quantity of which can be affected as a matter of policy by the government, neither the Gold Standrd nor the very money itself is safe.
The only "cure" is something that has never been seen in the history of the world. A "sound" money--gold would be best, NONE of which
would be in the hands of the government except in the normal accounts intended for current expenditures (and, perhaps, an emergency fund). Gold changing hands in everyday commerce, whether in dollars, lira, or grams--each unit merely a specified weight and fineness.
Is it efficient? No--it isn't, compared to an honest government issuance, fully convertible against 100% reserves. But, since that's never
been possibl;e except for extremely short periods in the past, to hope for such a thing is silly. Far better to hope for one that is, at least
theoretically, workable, even if it's never existed before. All the rest led to what we've experienced in the past and shall agin in the future.
situation is lying idle or in the scrapyard
Mises und Austrian economics school are very deep. But a gold standard will not work
because of the fact that in a free economy, all the wealth will accumulate in the upper
class, as a function of the average IQ distribution (the bell curve).
If you start the economics game by giving and equal number of "chips" made of gold or platinum, to each
citizen, when the game progresses long enough, the lower classes ( with average less than the IQ of the
upper echelons ) will lose their chips to the upper class, and their wealth will not only stagnate and
fall behind the wealth growth of the upper class, but it will actually diminish. ONLY government intervention
in the form of giving new money and help can prevent this. Randall parker was not spoiled by his
parents, but he has a high IQ, and he is successful in all his endeavors, making
it possible for him to accumulate wealth. But this would NOT be possible if the money supply is constant,
without taking money from the lower classes. Otherwise, the separation between the rich and the poor
will continue ad infitinum even if we adopt a gold standard. Already, the top 1 % rich families own over
45 % close to 50 % of the wealth in the US, and the top 10 % rich own 90 % of the wealth. The median
net worth per family is $72,000, even though the average net worth per family is $380,000.
I think that by the year 2025, the top 5 % will own 95 % of the wealth in the world. This
stratification will continue. And the gold standard cannot help, because the strong takes from the
Basically, the laws analogous to fluid mechanics and thermal diffusion phenomena apply to the money
The downward stickiness of wages was a real problem in Britain and America as the economy contracted. Unfortunately, as Rothbard showed clearly in his peculiar history of America's Great Depression, both Hoover and Roosevelt worked mightily to prevent downward wage rate adjustments. Further, as Hutt showed in several of his great critiques of Keynesianism, the British government could not politically allow downward adjustments, not without a union revolt. Fabian Socialist Webb referred to the unions as "pigs." Even he knew that wages should go down.
So, downward adjustments in wages were possible in the market. But the political institutions - including unions - didn't allow for them. Thus one of the reasons for a lengthened depression, as opposed to a speedy recovery.