Wednesday, September 28, 2011

Herbert Hoover, Deficit-Spender: Correcting John Judis in The New Republic

In the October 6 cover story for The New Republic, titled "Doom!", John B. Judis admonishes readers to beware the economic lessons of the 1930s--and then proceeds to make a number of incorrect statements about what happened in the 1930s.

In the third paragraph, Judis pats himself on the back for asking Mitt Romney a tough question. Judis asked: "I want to ask you something about history.You know, when Herbert Hoover had to face a financial crisis and then unemployment, his strategy was to balance the budget and cut spending, and that made things worse. When Roosevelt came in, unemployment was twenty-five and went to fourteen percent by 1937. With deficits. Aren't you repeating the Hoover mistake?"

Before listing the various mistakes here, the actual spending, debt, and deficit numbers starting in 1930, both in nominal terms and as a share of GDP, are readily available in the Historical Tables volume that is published each year with the president's proposed federal budget. All numbers I quote here are from the "Historical Tables" volume in the 2012 budget. From that source, you can easily confirm the following facts:

1) Hoover's budget strategy over his term of office was not to balance the budget. The budget ran a small deficit of -.6% of GDP in 1931, followed by a much larger deficits of 4.0% of GDP in 1932 and 4.5% of GDP in fiscal year 1933 (which, as Judis points out at a different point in his discussion, started in June 1932 and was thus mostly completed before Roosevelt took office in 1933).

2) Hoover did not cut spending. In nominal terms, federal spending went from $3.3 billion (!) in 1930 to $4.6 billion in 1933.  Given price deflation during that time, the real increase in government spending would have been larger. With the economy declining in size, federal outlays more than doubled from 3.4% of GDP in 1930 to 8.0% of GDP in fiscal year 1933.

3) Because of this pattern, it would be hard to find an economic historian to argue that fiscal tightness was a significant factor in worsening the Great Depression from 1929 to 1932. The economic literature has for half a century focused on how overly tight monetary policy deepened the Depression, and has noted at length how the dysfunction of monetary policy at that time worked through banks and the financial system and through the exchange rate to hinder the economy. It would also be hard to find an economic historian to argue that the primary reason for the drop in  unemployment rates from 1933 to 1937 was a surge of expansionary fiscal policy.

4) During the 1932 presidential campaign, Franklin Roosevelt promised to wipe out the Hoover budget deficits and instead to run a balanced budget. In his first few months after taking office, FDR tried to put this policy into effect--before soon abandoning it. For a source, here is a description from the quick history at the Franklin D. Roosevelt American Heritage Center Museum: "Roosevelt promised in his 1932 campaign that he would end the deficits that had plagued the Hoover administration and restore a balanced budget. This he never did, and eventually he would come to consider deficit spending a useful and necessary response to recession. In 1933, however, he remained committed to fiscal orthodoxy, and on 10 March he asked Congress to pass legislation cutting government salaries and veterans' benefits. Both Houses passed the Economy Act within days, despite protests from some progressives who argued correctly that the measure would add to the deflationary pressures on the economy... The New Deal soon departed from these conservative beginnings."

It gets worse. Judis writes (a bit smugly) how Romney evaded his question, and then writes: "But he [Romney] seemed to be suggesting that the premise of my question was flawed because deficits are much larger today and will probably continue unabated. And they are larger--but that is because our GDP and government are also larger."

But deficits as a share of GDP are much larger now than than they were in the Great Depression. The two biggest deficits in the 1930s were 5.5% of GDP in 1936 and 5.9% of GDP in 1934. The budget deficit was 10.0% of GDP in 2009, 8.9% of GDP in 2010, and (estimated) 10.9% of GDP in 2011.

Judis believes that additional fiscal stimulus is warranted. I supported both the Bush fiscal stimulus package in 2008 and the Obama stimulus package in 2009, although I had some disagreements with their design and targetting. While I do think it's tremendously important to get the U.S. deficits under control in the middle term, I wouldn't try to slash the deficit in the short run with unemployment still  up around 9%.

But the notion that the Great Depression was an example of highly active fiscal stimulus and the Great Recession was not is upside-down. Recent years have seen a far larger fiscal stimulus in response to a lower unemployment rate than in the 1930s. During the Great Depression, Franklin Roosevelt faced unemployment rates of 25% and continued the Hoover policy of budget deficits, running deficits no larger than 5.9% of GDP and more usually in the range of 3-4% of GDP through the 1930s. During the Great Recession, the U.S. economy experienced unemployment of nearly 10%, and has responded with fiscal stimulus on the order of 10% of GDP.

And the elephant in the room, which Judis doesn't discuss, is the accumulation of debt. After all of the deficits of the 1930s, the total ratio of federal debt held by the public still totaled only 44.2% of GDP in 1940. Throughout the 1930s, the federal government had a lot of capacity to borrow--and could then still ramp borrowing much higher to finance the fighting of World War II. But in 2011, total federal debt held by the public is an estimated 72% of GDP. Looking ahead over the next decade, the federal government has a lot less capacity to borrow.

ADDED: For a follow-up on the post on October 4, see my post on  More Herbert Hoover: Father of the New Deal.