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The Path to Growth: What Do the 1930s Tell Us About Now?

Speakers: Jonathan Alter, Senior Editor and Columnist, Newsweek, Harold Cole, Professor of Economics, University of California, Los Angeles, James K. Galbraith, Lloyd M. Bentsen Jr. Chair in Government and Business Relations, Lyndon B. Johnson School of Public Affairs, University of Texas at Austin, and Amity Shlaes, Senior Fellow for Economic History, Council on Foreign Relations
Presider: James F. Hoge Jr., Peter G. Peterson Chair and Editor, Foreign Affairs
March 30, 2009, New York
Council on Foreign Relations

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This session was part of the CFR Symposium on a Second Look at the Great Depression and the New Deal, cosponsored by Dean Thomas Cooley of the Leonard N. Stern School of Business, New York University, and supported by a special grant from the Ewing Marion Kauffman Foundation.

JAMES F. HOGE JR.: Okay, welcome to this session of the Council on Foreign Relations, the last session today on the Great Depression, lessons to be learned, lessons to be avoided. We've got a terrific panel to finish up on. But first, let me remind you to turn off not just the vibration, but off entirely any electronic equipment that you've got, Blackberries, phones, and so forth. This is an on the record session, and in addition to those of us who are here in this room, we have members who are participating around the nation and the world viewing this meeting via password protected teleconference.

Now, in the sessions you've had so far you've dealt with the circumstances of the 1920s, particularly the 1929 crash, and what role that did or didn't have as far as the Great Depression was concerned, the role of labor policy, infrastructure spending. What can one learn from the 1930s lessons? And then moving up to today -- how to reform the financial markets? And we're going to end with this session; The Path to Growth: What Do the 1930s Tell Us About Now?

Our panelists are Jonathan Alter, who is senior editor and columnist at Newsweek and author of The Defining Moment: FDR's First Hundred Days and the Triumph of Hope. Then there's Harold L. Cole, who is professor of economics at the University of Pennsylvania and also an author of numerous articles in economic and political journals. James Galbraith is the Lloyd M. Bentsen Jr. chair in Government and Business Relations at the LBJ School of Public Affairs at the University of Texas at Austin. And he is the author of The Predator State: How Conservatives Abandoned the Free Market, and Why Liberals Should Do Too. Amity Shlaes, senior fellow for economic history here at the council, is author of the bestselling book, The Forgotten Man: A New History of the Great Depression.

We're going to touch on, obviously, some of the economic points, but let me start with something more general. Jonathan Alter's book gives a wonderful portrait of LBJ, and I'm -- (inaudible) -- FDR, and stresses very much, not to the exclusion of other things, but very stresses very much many of the characteristics of the man that were important in terms of leadership at a time of really great crisis. He was an activist. He was pragmatic. He was experimental. He was unbelievably confident. Some of this may sound very familiar to somebody we have leading right now. He was also effervescent. Winston Churchill once described meeting FDR as being like opening a bottle of champagne.

Now, my question, Jonathan -- leaving aside what may have been good and bad about some of his policies, what were -- how important do you think the qualities of the man were over a longer period of time, not just the Great Depression, but getting out of it and moving in a different direction?

JONATHAN ALTER: I think the personal qualities are extraordinarily important. To give you one quick example -- I know you talked some about that first fireside chat earlier this morning, but that took place -- the first time he went on the radio for what became known as fireside chats -- it took place on March 12th, 1933, which was eight days after he was sworn in as President. And at the time that Roosevelt became President three fifths of the banks in the United States were already closed, so what at that time had been called the moratorium and he more festively called a bank holiday, is one example of the way he used terminology to put a nicer glow on things.

It was already basically a feta compli. The financial system of the United States was in the fetal position. A lot of people, including the head of the Harvard Business School thought that capitalism might have come to an end and that we might be headed for some other kind of system. And there were these terrifying bank runs that took place as the last of the banks closed in the weeks before Roosevelt came to office. The banking collapse had its immediate origins in Michigan and the dysfunctional relationship between Henry Ford and son Ed -- (inaudible) -- who owned a big bank there. But it spread like wildfire across the country.

So when he comes in, there are these terrifying bank runs. And, in fact, they were worried that as he was being sworn into office on March 4th that there would be bank runs literally at noon as he was being sworn in, so that morning at 3:00 in the morning on inauguration day the governors of New York, Herbert Lehman and Illinois Henry Horner shut the banks in those states. So that was -- to give you some idea -- markets down 90 percent. Unemployment is at 25 percent, although actually only a quarter of all able-bodied adults were working full time at that time in the United States, or employment was really 25 percent.

Ten days later -- excuse me -- eight days later on March 12th he gives his fireside chat. He says I want to speak to you for a few moments tonight about banking, my friends. He starts out my friends, I want to speak to you for a few moments tonight about banking. And by the time he's done the following day as the banks start to reopen under his plan the same people who had been pushing each other out of the way in these lines to get the last of their money out were patriotically lining up to redeposit their money and take it out from under the mattress, as he explicitly told them to do. He said hoarding has become a terribly unfashionable pastime. Take your money out from under the mattress and redeposit it in our banks as they reopen under our plan. And they did so. That's leadership, if you can convince people to do that, and a lot of it had to do with his just conversing conversationally with the American people in a different kind of way.

Now, I wanted to make one quick point that is not directly on the question, but I think is very related to the question that we've been talking about. I saw -- all day -- I saw Mitch McConnell on television recently saying, oh, I've been reading a lot about the New Deal and the 1930s, and, you know, if you study history, you learn a lot, and I learned that actually the big spending programs of the 1930s didn't get us out of the Depression. It wasn't until World War II that we got out of the Depression. And that's what he learned from history. And that to me is a percent illustration of the misuse of history and how sometimes the more you learn, the less you know.

Because my question to him, to the television set -- I wasn't on with him -- was to say, well, what do you think it was at the time of World War II that got us out, tax cuts? Were there big tax cuts on the eve of World War II? I don't think so. What was there? Massive government spending. They could've taken the planes and tanks they built and dropped them into the ocean, and, in fact, the B-24 that my father flew in World War II was destroyed after he got back to the United States when the war ended. It didn't matter what they spent it on. It was spending. It was fiscal stimulus. And it had an overpowering effect on the economy.

So I think the notion that we've been hearing all day today pretty much from -- particularly from one side of the debate that somehow fiscal stimulus -- it doesn't have anything to do with pulling us out of bad economic times -- has been pretty much slam dunked by history. And in terms of the deficits, it will run up because government spending is a -- such a huge percentage of GDP during the war, dwarfing what it is today. By the '50s and '60s we had -- you know, we had worked all of that off. So the idea that we're burdening our children and grandchildren in ways that can't be worked out is -- also been defied by history.

HOGE: Well, that gets us to the stimulus program, and I thought we'd get to it rather fast.

Harold, let me turn to you. What is your assessment of the stimulus program, and beyond the stimulus program, what should be the goals we now have to get (gross ?) started again on a sustained basis? What are the particulars that need to be emphasized in terms of what we need to grow again in the right way?

HAROLD L. COLE: Okay. I had these -- (inaudible) -- prepared remarks which end with the stimulus program, so if you'll give me a second, I'd like to sort of lead into that and come back to the stimulus program, because I want to take partial (interest with ?) partial disagreement with what you said. So if we step back and we look at some of the -- a wide range of studies that we've done, or -- I haven't done them all. I've done, you know, a limited amount of that, actually very limited, but there's been a general -- (some of ?) these studies that have been on depressions. There was allusion to the Keyhoe and Prescott Depression find.

And in addition, if we look at a bunch of work that's been done on the sources of growth, what we see is a very stark common feature, which is at the end of the day measured productivity accounts for what happens in any kind of long-run sense. And measured productivity is a measure trying to capture the efficiency with which we employ our resources, in particular, capital and labor.

Now, countries that go through some sort of crisis, like the Great Depression, what they see almost invariably is big falls in measured productivity, big falls in employment, and because productivity and employment both fall, even bigger falls in output. The falls in productivity are associated with, first of all, stress in the financial market and a need to reorganize how we're doing production and what's being produced and where. They're extremely painful, but what you seem to see is -- (inaudible) -- fact that's coming out of this is countries that reorganize relatively rapidly see productivity return rapidly back -- relatively rapidly back to trend, and countries that delay this process see that sort of productivity reverse and being dragged out over decades. And if you don't screw up other things, then you also see employment and output returned back to trend.

So what happened to the U.S. in the '30s? That's also been talked about a lot. We saw this downward movement in productivity, bit downward move in employment. We seem to have straightened out our financial mess. We certainly had a huge, massive reorganization, as we've alluded to, a lot of bankruptcies, et cetera. Starting after 1933, we see a rapid return of productivity back to trend. Productivity is back on trend by '36, roughly speaking, and it's basically a -- it's a solid productivity decade. Employment does not recover. It recovers a bit, but it's really a very anemic employment. Recovery (through ?) output is anemic. (This is ?) all a relative trend.

We have argued in -- (inaudible) -- what we've argued was that the National Recovery Administration and the various -- and impediments put in through our industrial and labor policy impeded the recovery of employment. Starting in '39, you see a reversal of those policies, as we mentioned, and then subsequently to that, you see the big government fiscal stimulus program that's undertaken, really big, say, in '41. I think that's when it really starts to -- (inaudible).

Output does not come back to trend at this point -- (laughs) -- goes way above trend during the war or substantially above trend during the war, and then comes back to trend after the war. But -- (inaudible) -- question comes up. What would have happened if we did not put in those labor and industrial policies? Our research -- I mean, it's a model and that's what we get out of it, but our research indicates that we would've come back to trend without the fiscal stimulus.

Now, there's not very much debate about the impact of military fiscal stimulus spending. There's more debate about non-military stimulus spending, and the problem there is you're worried about it substituting for private spending. With fiscal stimulus spending we have some nice, natural experiments from the war. They're big. The signal -- (inaudible) -- is large, and we can back out of -- you know, an estimate of the multipliers was talked about. They're all in this Wall Street Journal article reported in -- (inaudible) -- point eight. That's probably the consensus.

But returning to my prepared remarks, what I had in mind was to contrast not just what happened in the '30s in the U.S., but also what happened in Japan, and that's been talked about a bit here, and I want to emphasize it more. Japan did not go through their reorganization process rapidly. They propped up their banks. They propped -- and indirectly through their banks they propped up a lot of firms. They had very few bankruptcies in anything like the relative sense that we had during the '30s. And what you basically see is almost a complete cessation of growth in Japan at -- per capita growth, and they talk about the lost decade and sort of the anemic growth that dragged on after that for quite awhile.

If I step back and say what do I want to learn from that -- is I want to try and avoid some of the negative features that we saw for the U.S., and I want to avoid some of the negative features that we saw for Japan. And so the key is to keep your eye on the bouncing ball, which is what are the things we want to do to return productivity back to its normal growth and to not impede the markets, sort of returning employment back to their normal levels.

So if I start to evaluate some of the policies -- I think we're supposed to talk about that. Maybe I should wait, and you want -- I might be up in time, so you can cut me.

HOGE: Yeah, we'll come back. That'd be -- get James into this as well, and James, you're -- I read you're -- readings. You are very skeptical to some of what we're doing and where we may be headed. What is your assessment of the Obama approaches and programs in terms of getting back to sustained growth?

JAMES K. GALBRAITH: Well, let me begin, first of all, with some lessons that we might draw from the experience of the 1930s --

HOGE: Right.

GALBRAITH: -- in very broad terms, 'cause I think looking back on that period can, in fact, teach us a few things. First -- broad lesson I would draw is that capitalism is unstable. It has the capacity to fail. There is no such thing as an animal that lives forever, no such thing in engineering as a boat that always rights itself or a submarine that doesn't have a (crush dent ?). Systems can fail, and we need to be able to identify the circumstances under which they are failing.

We saw that form 1929 to 1932, a failure at the heart of the credit system which underlay the capitalist economy of the time. And the question that we have to face today is are we seeing something that is qualitatively similar, something which is different from what we've experienced in the post-war period, but closer to that particular episode.

Second point from the New Deal is that policy works most effectively when it is directed at the broad population and not filtered through a handful of institutions at the top of the economic hierarchy. The New Deal was a broad spectrum approach to economic problems, some of which can be analyzed in the terms of stimulus packages and (change ?) and expansion and others of which should not be analyzed in those terms. And I'll come to that in a second.

Now, thirdly, I think we learn from the New Deal experience that persistence pays. The policy works so long as it is pursued aggressively and consistently. In the early 1930s we had a very rapid recovery, the most rapid peacetime recovery that had been seen up to that point, a doubling of industrial production between 1933 and 19 -- 1932 and 1936. Thereafter, of course, the government reverted to the path of balanced budgets. In 1937 it immediately dumped the economy back into a recession from which Roosevelt had the wit to escape by once more relaunching the New Deal. So there was a test of whether the system was in absence of a strong provost policy capable of growing on its own. And five years later, it still wasn't.

I think there are four very specific points that are very relevant I think to what we should -- the way we should be thinking about how to restore growth in our present environment. The first is if we accept that we are experiencing a true crisis of the financial system, qualitatively comparable to the early 1930s, then the lesson I would take from the New Deal is that the reform and repair of the banking system is necessary, but it's not going to be sufficient. Even if the books of the banks are purged, as the Treasury's plan proposes -- and I oppose the Treasury's plan. (Inaudible) -- it's the long way of going about it. Even if that's done, we should not expect banks to resume lending to borrowers who do not have stable incomes, do not have stable jobs, and whose collateral -- mainly their houses -- has fallen sharply -- (inaudible). It's not going to happen.

Secondly, a great deal of what the New Deal did falls under the rubric of social insurance. It is an attempt -- was an attempt to provide stability and security to a population that was desperate for both of those things. And if you look at deposit insurance, which helped quell the panic in the banking system, and did so very effectively as the previous panel discussed, Social Security, which provided a minimal decent living standard to the elderly population, the National Labor Relations Act, which permitted and fostered the growth of collective bargaining, and also the -- (inaudible) -- the agricultural adjustment and the National Industrial Recovery Act.

They were all broadly based upon the idea that was prevalent in institutional economics at the time that laid great stress on the value of social insurance. And they were all in their ways -- one can argue about the NIRA -- it was, in any event, invalidated -- successful in their own terms. That is to say they provided the measure of stability that was not there before. Whether or not they contributed to economic growth as such, they were extremely valuable. And I would argue that in addition to that, they also made a material contribution to the resumption of economic growth.

Third point is that in terms of government spending and job creation, the New Deal had an important short-term component that was led by Harry Hopkins, who was charged by Roosevelt from the beginning to get people off the streets and into employment. But also, a very important long-term component led largely by Harold Ickes -- the Public Works Administration, which rebuilt the country from one end to the other. When my father drove his Model T from his home in Ontario to Berkeley, California in 1930, he noted that the roads were not paved from Lincoln, Nebraska to the California line.

By the end of the New Deal, we had built 700,000 miles of roads. We had reconstructed the entire rural school system of the country. We had built the Lincoln Tunnel and the Triborough Bridge and the Marine Air Terminal here in New York. We had built a couple of aircraft carriers and placed the country in a much better shape to confront the challenges of the Second World War than it could ever otherwise have been in.

These were long-term commitments that were started early and carried forward through the decade of the 1930s. It would not have been possible to do that if the program had been inspired by the kind of short-term Keynesian thinking that we -- or pseudo-Keynesian thinking that we see dominant today, which says we just give it -- the economy -- a short-term stimulus and get back to normal in a couple of years. Roosevelt, I don't believe, was interested in getting back to the normal of the 1920s. He was interested in building a new economy, and he did that.

HOGE: Do you think Obama is short-term thinking, or are you talking about some other factors here?

GALBRAITH: I think -- I mean, there's much that I like about what this Administration has done from the outset. I think the recovery package was the right thing to do, and it may have been the best bill you could get in the first few weeks. But if we persuade ourselves that this economy will recover in two years and that we'll be back on the path of the 1990s or the 2000s where the expansion can be led by credit institutions choosing a direction, whether it's information technology or housing, and basically supporting a recovery all on the basis of loans made against those assets or those prospects, I think we're going to find ourselves to be gravely disappointed.

And as we draw back and terminate the expansion programs that we're currently embarked upon, we will find that the economy slows down again. And that will be, I think, a grave shock to the American public and a grave shock to the effectiveness of the Administration going forward.

So it seems to me that what we need to do in addition to the steps already taken -- and again, the banking package I don't have time to give a criticism of, but in addition to the fiscal steps going forward -- is to think seriously about the challenges that the country faces over the next generation. And there are two that are extremely important. One is energy security, and the other is climate change.

HOGE: (Inaudible).

GALBRAITH: And if we do it correctly, we could do over 20 years or 30 years what the country did in five years in World War II. I mean, you wouldn't want to proceed that quickly, and it -- the -- but you'd -- over -- if you stretch it out over a long period of time and rebuild the country around the extremely -- unavoidable objectives, then you can keep people employed and you can also build industries with the technological capacity to conquer world markets, and that will help stabilize our national situation.

HOGE: Let me get Amity into this. When you look at the 1930s and lessons -- the lessons to be learned that might be helpful -- and they're the lessons to learn that you want to avoid -- now, you've been very skeptical of stimulus programs, not necessarily in all dimensions, but certainly you've got a lot of questions. You have big questions about public/private responsibilities, particularly in a period of -- like this coming forward. You've been concerned about entrepreneurship and losing kind of that plane. Where do you come down on what lessons on what lessons we should learn, what we should avoid from the 1930s to get jumpstarted into growth again?

AMITY SHLAES: Thank you. One of the things that we started out this conversation about -- growth with -- was what is humane? So really, being humane and having growth go together -- growth is humane. It's one of the ways -- the most efficient ways to be humane. We all agree on that. And when you look at the presidents of this period, whether they're Coolidge or Roosevelt or Hoover, and you say what did the people perceive to be humane, what was humane for them, I think the number one thing we can all agree is employment. A job is humane. That's what President Obama is after now. That's what President Roosevelt was after. Right away. I want to put people back to work. That's what he said, and that was also what Coolidge would've said had he spoken more. (Laughter.)

So when we look at the record of the New Deal and also, by the way, of President Hoover, we can very much appreciate the leadership in terms of person, in terms of radio presence of President Roosevelt, in terms of bravery, in terms of his ability to stop banks' panic through that (storied ?) radio address. But you do see a problem because the jobs that were promised just did not come. There are many debates about the quality of the jobs, what jobs were created. We talked about some of them today.

If you take the government data, the kind you get if you email BEA or BLS, you see unemployment around 15, averaging for the decade. If you go by a paper that can test that -- the most paper, which is Michael Darby's paper -- you get an average of 14 percent unemployment. If you go by more generous measures that include all the kinds of jobs that we created through New Deal programs, you're still above a 10 percent average for this period of Hoover-Roosevelt. And that itself was the insufficient humanity of Hoover period and New Deal alas, but for all the good will.

So I want to mention that because it seems to me important when you're saying a President was great because he was humane. It's also the execution that's important. Roosevelt was a human man, but maybe some of the outcomes were insufficiently humane. Coolidge was perceived as inhumane, but some of the things that his policy yielded were quite humane.

Overall, when I look at this period, I end up -- and I studied it, looking at all these schools, trying to figure out whose school am I in, and I do I get that school, and does it make sense to me? There's so much to learn in monetarisms. There's so much learn in Keynesianism and post-Keynesianism, good things to learn.

But another school that we haven't studied so much seems to me especially important, the school with an awkward name called public choice theory led by, for example, James Buchanan of George Mason, and he says -- and this gets back to our growth question eventually -- well, you know, life is a competition, and sometimes it's a competition between the public sector and the private sector. Cane Kinsel (ph) said the same thing when he spoke to Roosevelt and said don't think that the government is necessarily better than the private sector or that the private sector is necessarily better men than the public sector. Maybe they're two teams, and maybe they're doing battle. A lot of -- (inaudible) -- is about games and battle.

And when you look at the course of the '30s sort of writ large -- what happened? Well, in the beginning the public sector was kind of small, and it grew a bit. It gained ground. And the private sector loss some significant ground. We see that in the data. For example, if you look at tax foundation charts and say what year -- in what year did the federal government finally become bigger than the states and the towns -- because even in the beginning of the '30s -- and you go -- oh, you -- this goes to the point of you can't do much Keynesian spending in the '30s 'cause the government wasn't big enough. The -- (inaudible) -- wasn't big enough. The federal government was half the size of the states and towns in terms of presence in the economy.

So they gain and gain and gain. Maybe it wasn't the kind of spending we do today, gain and gain and gain, and you see all of a sudden 1936, this crucial tipping point in American history, certainly for American federalism. Woops! The federal government was bigger than the states and the towns, and it receded a bit -- '37 -- but then the trend is set, and that's it for the rest of our history as we know it.

And in each arena where battles were happening in the 1930s, you could take tax and say the government was gaining ground because it's taxing more, higher rates at times, or growth industry -- sort of Internet of the age -- was utilities. The Tennessee Valley Authority competed quite directly with a company that thought it could light up the South, which was Commonwealth and Southern led by Wendell Willkie whose bust is sitting upstairs in this very house, or whether it was in the area of labor through a government law, these -- Wagner Act and such laws that we've talked about, or even monetary -- the government has the power over the money. Who's in charge of the money? The government, clearly, was taking power of the money by, for one thing -- for example, the inflation hedge of the time was to own gold, and they basically outlawed ownership of gold.

That was the experiment, that maybe if the government expanded and the private sector retreated a bit, well, we would get optimal growth, and we did not. When you get to the final question, what about when the government spends so much more, 1940 and the war? And I would just say there were other factors at issue. One was that Roosevelt, who was a military man, not an economic man -- much more comfortable with war and knew what to do, the right thing, lead us in that war -- called off his war on business as the end of the '30s and said I need you here, and contracts are to be had. Welcome back, gentlemen, instead of I'll see you in court or read your name out loud on the radio and make fun of it.

So out of a sense of utility, he backed off, and there was also, of course, a monetary component that was not fiscal, but rather monetary monetary of stimulus, as Dr. Roemer (ph) has demonstrated.

So it's a very complex story, and -- (inaudible) -- out of this school, which -- we never thought about it, and Robert Hagues (ph) is in this room. He's one of the great scholars of that period, and he's written about what he calls regime uncertainty. When a government's very, very unpredictable, fires the head of an automaker -- all of a sudden, that hurts the market too. And when you wonder why the market isn't coming back when it really cannot predict -- when it doesn't like the idea of bold (purchase ?) and experimentation -- we clearly saw what happened with that in the '30s, and that's what Hagues and public choices have documented.

HOGE: Okay, we're going to run out of time here. I can see that.

SHLAES: Oh, sorry.

HOGE: We're going to go to the audience in just a minute, but our other panelists want to have a quick comment on what system -- this is -- we'll start with Jim and then Jonathan.

GALBRAITH: Just a word on the unemployment numbers. I think we can all agree that the 1920s were wonderful. In 1926, the unemployment rates was under two percent. It was certainly low through the -- until the crash in 1929. But you have to take a presidency from its starting point to its finish. And when Herbert Hoover left office in 1933, the unemployment rate was 25 percent, and the conditions, as Jonathan has already said, were substantially worse than that, in fact.

The great argument over how effective the New Deal was in reducing unemployment turns on a critical point, which is whether you count the people who worked for the New Deal as employed. The official statistics, which are often cited, do not, in fact, count them as employed, and there were approximately three and a half million of them at the peak, and the effect -- including them -- is to show that between '33 and '36 the unemployment rate fell from 25 percent to under ten percent. And it's that accomplishment, that decline which can be credited to Franklin Roosevelt and the New Deal, both the effect on the private sector and the effect of public employment.

Some people argue that those people who worked in public jobs were not really employed. But of course they were. They thought they were employed. They were working. They were getting paid. They were no less employed than a construction worker on a private project who knows that the job will come to an end some day.

HOGE: Jonathan.

ALTER: Yeah, I'm just -- I'm interested than Jamie brought up David Weir's research, which is very important to consider, and you don't want to cherry pick unemployment figures from different years in order to make a point. But I think the larger point is a political one, which I'm more equipped to make, since I'm not -- I don't even play an economist on TV. (Laughter.)

You know, the point is are the American people stupid, is really the question. Because in 1936 Franklin Roosevelt ran for reelection. And if the New Deal had been a failure, I think the results of that election, which were referendum on the New Deal, would've been different. Now, there used to be a saying in American politics; As goes Maine, so goes America. And in the election of 1936 there were only two states that voted for Alf Landon, Maine and Vermont. And so the slogan then became as goes Maine, so goes Vermont. (Laughter.) The entire -- rest of the country came to an overwhelming verdict that the biggest victory since George Washington -- and I don't think it was because everybody had the wool pulled over their eyes as to whether Franklin Roosevelt was successfully addressing their concerns.

Unemployment -- it was just a hair -- Jamie, it was just a hair under ten percent, but according to David Weir's figures, there -- more logical unemployment rate was about, you know, 9.7 percent in 1936. But that's a long way from 25 percent four years earlier.

HOGE: Okay.

ALTER: That's a significant reduction.

HOGE: Let's take some questions from the floor. Please stand, identify yourself. A mike will come your way. Try to keep the question concise, and one question per person. We'll start with you, sir. Mike is coming up.

QUESTIONER: Hi, my name is Harolton McFrack (ph) from McFrack (ph) Organization. I think it's very interesting that all of you intellectually like to take your politics back in time and imagine if you were as conservative or liberal as you are now, put yourself in the 1930s and make observations as a result of that. But I actually would like to ask an economic question, ask you to put your economic brains on, which is if we were in the 1930s now based on what has happened politically and what has happened economically to date, what year in the 1930s are we sitting right now by analogy in the end of March, 2009?

And secondly, as a result of your view of what year in the 1930s we're currently sitting in right now, what do we have to expect economically a year from now, three years from now, and five years from now to occur? Thank you.

HOGE: Harold, do you want to take a crack at that? Oh, we'll just run right down the panel.

COLE: Yeah, I think, first of all, you want to be careful about -- (inaudible) -- in the 1930s. It really shows a misunderstanding of the severity of what went on there and the depths of the crisis. I mean, a factor of 10 basically -- difference is what you're talking about, and a factor of 10 is -- so I'm going to -- (laughs) -- change the question, I guess, and go back and say, look, if we look at what we did right and what we did wrong, there are a number of things that we did right. The re-regulation of the banking system and the financial system -- we got that right. Some of the social insurance programs we put in place -- clearly very important.

We also got through the reorganization process and got out the other end of that and saw productivity return back to its normal glide path. And Bob Gluckers (ph) kept emphasizing, you know, you get outside of this big downturn, and then the upturn during, you know, World War II -- and we're on that glide path, but that glide path is not guaranteed to us. And you can see other countries who are on that kind of glide path, and I go back to Japan, and I go back to the big difference between what the Japanese did and how that's now lining up not so much with what we did in the '30s, but what we're doing now. You know, they went and sort of bailed out everyone, and they did not go through this reorganization process.

And what strikes me in looking at the -- you know, the negative aspects -- and there's some positive aspects we can point to to what Obama's doing, but if I look at the negative aspects, I'm struck by, you know, how few institutions are paying the price of their failure, how few institutions are being allowed to fail, especially financial institutions. And as the prior panel I think -- (laughs) -- emphasized over and over again and I just want to second, you know, we -- these institutions can fail. And, you know, the idea that we're going to (level ?) -- bail out everyone and lose all this money in the process of -- you know, that's a stunning over (expenditure ?).

HOGE: Okay, James?

GALBRAITH: In terms of what's happened to the banking system, and also in terms of our ideas, I think we're in 1930. That is to say we're just at the beginning of the process, and we have forgotten a great many things that we learned in the 1930s and 1940s. In terms of the severity of the slump, we have a tremendous advantage in that government is bigger, and we have the mechanism of the automatic stabilizers in addition to the stimulus package which has been enacted so that as taxes fall and as public spending increases, the economy will tend to reach a floor much more quickly than it did in 1930 to '32. And that's a hopeful thing. That's a good thing that we can be thankful for.

HOGE: Amity?

SHLAES: Well, I'll make a new case and say -- let's say 1937, because that was the famous depression within the depression when unemployment did zip right back up into the mid and high teens. And what characterized that period is that the economy wanted to recover. The economy has a natural propensity to recover. The U.S. economy will always recover, but certain things were in its way, and if you wanted to save one thing, since we're going fast, it's a choice of having a deal making culture over a price making culture.

What Dean Cooley was trying, I think, to get at in one way before in his session was that if you can just tell us the prices of things, then we can trade them. It might not be a price that we like, but at least they can be traded as long as you prolong Japan wise, the deal making aspect -- it's up to various people, how they line up on K Street, what they can or cannot negotiate with the Treasury, where they went to school, and various trivial -- (inaudible) -- like that. Then you have a general freezing of the economy, and that's what we had in the later '30s.

I would add that Japan is a -- did I lose my sound -- that Japan is to me a -- also a very good comparison. The lost decade in Japan -- what do we look at in contra-distinction to the failure to clear out the banks in Japan? Well, one place we can look at is right here in the U.S. in Texas. There's a gentleman here from Texas today who noted that a lot SNLs and banks were allowed to fail, and it was awfully brutal, but then Texas's GDP grew rather faster than Japan's subsequent to its crisis. So there are models all over the world of both kinds of dealing with (a downturn ?).

HOGE: There might be some good news today while we've been here. President Obama used the B word, bankruptcy, and said that there were going to be more necessary when he spoke at 11:00a.m. this morning and that the -- that many companies were going to need to go bankrupt. So he's not completely oblivious to this unanimity of our economic judgment here.

I would say economically we were -- we're in 1930. That's a gross over simplification, obviously, but politically we're in 1933. And you have a President who is explicitly following in Roosevelt's footsteps in two ways, and he actually used the same language. He said we -- Roosevelt said we need bold, persistent experimentation. Take a method and try it. If it fails, admit failure, frankly, and try another, but above all, try something. Barack Obama said we need to experiment. The bottom line is what works. We'll do whatever is necessary to confront the crisis.

Franklin Roosevelt in his inaugural address said we need action and action now. He used that term six times. He signed 15 major pieces of legislation in his first 100 days because he knew that the idea of action itself was in many ways more important for the American public in getting things moving again than some of the particulars, which could be fixed later on. And Obama just signed another bill this morning. That stimulus was itself five major pieces of legislation. I think if you add up his others, he's at about eight or nine now in terms of major pieces of legislation. So he's on a path to compete with Lyndon Johnson in 1965 and Franklin Roosevelt in 1933 in terms of putting points on the board. If you're dealt bad cards, the only thing a President, a successful President can do, is deal other cards faster.

HOGE: Question.

QUESTIONER: John Locke (ph) from the -- (off mike) -- Institute. When Bob Luten (ph) started this series this morning, the first comments I heard was something like -- (inaudible) -- there's the substantive issues, and then there's the psychology. I'm glad that this session focused a lot on the psychology and confidence. And I'd like to ask a question about direct job provision, direct employment by the government. I've been personally disappointed 'cause I think that connects so much with confidence when somebody you know that otherwise would be unemployed is in the National Employment Corps or something like that.

Do any of you -- I'd like to ask -- think that we should, must, or could have a direct federal job program?

HOGE: Jim?

GALBRAITH: Before I did that, I would give the states and localities as much money as they need to preserve and expand the existing networks of local public services. It seems to me that would greatly stabilize the employment position.

In terms of what the federal government can do directly, I think there are areas, and in particular, we're going to need a national effort on these questions of energy and climate change. And there will be major employment possibilities. Those should start initially in the federal sector, it seems to me. But in terms of general employment, we have much more state and local infrastructure to do that. We should give them all the funds they need, both for operating and capital budgets, and help -- work to stabilize the economy through that channel.

HOGE: Very interesting statistic, coincidental statistic -- the first jobs program of the New Deal was the Civilian Conservation Corps, and Roosevelt insisted that 250,000 young men over the objections of organized labor, which called it Hitlerism and Stalinism, be sent out to work planting trees, more than a billion trees, by summer of 1933. So within three months he got 250,000 young men out there working.

The Senate has just passed -- and the President is about to sign -- the Serve America Act, which creates 250,000 -- precisely the same number of service jobs as the CCC, which was the first national service program. Unfortunately, it would take much longer for those service jobs to actually be created.

HOGE: Yes, way in the back on the left. Gentleman in the blue shirt, right there, on your right.

QUESTIONER: Oh, hi. John Canby (ph), Real Clear Markets. I'm hearing lots about how the government can spend and create jobs. And I think the reason there is skepticism among some of us is how is it that the government can spend money unless it is taxing or borrowing from productive people in the private sector first? And if you agree with that, how do you think that you can create wealth from the same transaction twice? I mean, how does this work? This would be specific to Jonathan Alter.

HOGE: (Laughs.) Okay.

ALTER: I don't mean to talk too much, but since you challenge me, first, you know, on the question that was raised earlier -- there's a difference between military spending, you know, and -- which doesn't crowd out the private sector. Well, they converted River Run and Willow Run in Detroit to making bombers instead of making cars in World War II, so that was clearly crowding out, you know, the private sector so that -- I don't think it's necessarily a zero sum game in terms of crowding out.

In answer to your question, government can, you know, print more money. Roosevelt didn't want to call it inflation, sort of called reflation -- (laughs) -- and then are you putting some of it on the credit card and borrowing from the future? You bet you are in the same way that, you know, Wall Street put a lot on the credit card. Sometimes borrowing can help cure some of the disease that was caused by excessive borrowing.

And we certainly have a long way to go before we reach confiscatory tax levels. If you look at the tax levels that the President's proposing that we return to, they are the tax levels of the 1990s, which provided the greatest, you know, wealth creation in human history. So clearly, we're not confiscatory.

HOGE: Amity, you want to add to that?

SHLAES: I think it's interesting we're talking about different kinds of confidences. We all agree that we need confidence. There's the confidence to get a job, whether it's from the new programs, Serve America, or from the CCC in the days of yore. But there's also the confidence you need to have to decide to create a job. And insofar as we do still have lots of hope for the private sector, you need something to stimulate if you're going to be using a stimulus. That matters too. And where is that confidence?

What is the obstacle right now? We're all wondering right this minute -- there was someone here who asked a question earlier because she had recently been laid off -- what is the obstacle to rehiring? And one of the things is something the Administration is actually pursuing; health insurance, the cost of rehiring someone you think -- I might rehire them, but I don't want to pay all those other benefits, at least not right. I can't afford it. And that's why you see so many people going plural in the workplace, taking multiple jobs.

So what we need to focus on right now is what are the obstacles to rehiring? Are they concerned by the rehirer about the marketplace uncertainty? Anything can happen. And what about costs of labor? That was -- (inaudible).

HOGE: Jim.

GALBRAITH: (I guess ?) a dirty secret of this process is that the government spends money by writing checks, by typing numbers into a computer. The guy who does that doesn't have the phone number of the guy who collects taxes. He doesn't check to see whether there's money in the till. The government has always, except for maybe six very brief periods in the (history of the Republic ?) spent more than it takes in in taxes. It's the way the government functions. And it is precisely that extra spending which creates the savings of the private sector. In the very brief periods when taxes exceed government spending, the effect is to drain resources from the private sector and to tip the economy over into a recession. That's what happened, for example, in 2000-2001.

HOGE: Okay. (Laughter.) I knew you wouldn't agree with that one.

SHLAES: (Inaudible.)

QUESTIONER: Let me be slightly frank here. So what do I do? I write down models that are supposed to meet certain intellectual standards. I use those models to evaluate things. I'm primarily a theorist, but sometimes I put numbers in them, and sometimes I work with people who know a lot about putting numbers in.

If you ask me can I get a -- you know, a model to give you -- you know, increased government spending, output goes up -- can I get a model to deliver that? Absolutely. Can I get it to deliver labor up? Absolutely. Can I get it to deliver consumption up? Absolutely. Can I reverse all that stuff? Absolutely.

So now the question becomes not can you write down a standard looking model that will deliver all of those implications? The question is can you write down a plausible model, meaning where the numbers that you're going to put in when you try and parameterize this model seem reasonable. So that's the first part of the debate. It's not some -- you know, and so when people try to go out there and think about what do plausible numbers look like, the big problem they face is unlike military spending where we normally interpret it as having no productive implications, infrastructure spending is different. So then the answer that you get depends very sensitively on how productive you make that infrastructure spending.

So if you make real productive so that output goes up, well, then, you don't get the big negative income effect, which causes, you know, labor to go up and output, you know, to go up more than the increase in government spending to offset the implied fall in consumption. You know, exactly what you get out of it depends on how you parameterize it.

Now, people have gone out there and tried to come up with estimates. The best estimates -- the problem is the data for this stuff is lousy. No one's gone out and done some massive infrastructure spending along the lines of the war, so we don't have good data. When they go out and generate, you know, estimates done carefully with, you know -- I'm going to call it bad data, but it means we're going to have a very imprecise estimate -- they get a number like zero. Now, I'm personally surprised by zero because I would've thought it would be bigger than that. But that's the standard estimate that we work with.

Now, is that an estimate we should go to the bank with? Absolutely not. It's a bad number. But it means that so far there is no sharp evidence that leads us to some sort of big number. I'm just -- (that's the consensus on ?) --

HOGE: Short-term zero, obviously not medium-term zero, right?

QUESTIONER: Yes.

HOGE: Interstate highway system obviously created -- (inaudible) --

QUESTIONER: Right, but the best positive, productive -- see -- sorry, if you evaluate these things as productive expenditures and they have positive -- (inaudible) -- things, what we're trying to ask is what happens if we suddenly, you know, jack it up? That's a much harder --

HOGE: Very short time horizon you're talking about.

QUESTIONER: Yes. Well --

HOGE: Question.

QUESTIONER: Yes, hi. Time Cane from the Kauffman Foundation. So fascinating conversation, but it feels to me like it's been focused on whether the Keynesian New Deal worked or didn't work in terms of spending taxes. But the question in this panel is about growth, and I wonder -- when I think of the New Deal, you know, you can tell me a story. We'll all believe a tax cut would stimulate the economy, or some sort of government spending would stimulate the economy, but not really grow it, not lead to innovations in new technology.

And the thing -- when I think about the Depression and the response to it, it wasn't the spending. It was what happened in the Constitution, right? And in terms of the laws and the Tenth Amendment and the notion that there was going to be a centralization of power -- so whether you think it worked or not, I think all the panelists agree that the power got centralized and that that led to a lot of other things, the abuse of the Commerce Clause, passing of the minimum wage, which I think most economists would say don't work, but now it's illegal for states to, you know, disagree. So we prefer a state to set their own minimum wage below the federal standard, even though most economists would say that might be a good move -- (inaudible) --

HOGE: So the question is --

QUESTIONER: -- growth and jobs. Sorry, the point is, is that a concern? Is that a right analysis when you see states get bailed out, even if perhaps they've had bad policies?

HOGE: Okay. You know, power in the 1920s was fairly centralized, but it wasn't in Washington. It was right here in New York. And what the New Deal did was to take the locus of power away from New York and move it both to Washington and to some degree spread it out all across the country. So I think you can argue the point about whether power in the real sense of small groups of men actually dictating the fate of the country is deeply centralized by the New Deal.

HOGE: Right back there on the left.

QUESTIONER: So I'd like to readjust everybody's thinking.

HOGE: Identify yourself.

QUESTIONER: Oh, I'm Price Fishback (ph) from the University of Arizona. I'd like to readjust everybody's thinking about the World War II stimulus. The word -- you want to talk about World War II -- is sacrifice, sacrifice, sacrifice, sacrifice. Here's what we did. We suddenly took 40 percent of the economy and turned it into war planes and all sorts of things along those lines. Jonathan's point about -- that they took the River Rouge factory and started producing planes is exactly right. His analysis of that being a Keynesian stimulus is exactly wrong.

The way we solve the unemployment problem is we put 15 percent of the population into the military and send them to the equivalent of Iraq. Then we have all these people who can't buy a new automobile. They can't buy new tires. They can only get gasoline one day a week. They can only eat meat one day a week, sugar one day a week, and all sorts of things like this. If you look at real consumption figures that Bob Hick (ph) calculated back to this time period adjusting for the true price controls, you'll find that real consumption fell during the war.

So if you see this as being a stimulus package where we're going to get some positive benefit for no cost, that is exactly wrong. I mean, basically -- so my question is if you look at the end of this, what you'll find is all the stimulus occurs after the war is over, and it's all crowded out during the war, and so -- (inaudible) --

HOGE: So what you're saying is thank goodness we don't have to go to war to solve the problem.

QUESTIONER: Exactly.

HOGE: Okay.

QUESTIONER: And so the point about this is if you're thinking about this as a Keynesian stimulus World War II -- Paul Krugman wrote this up recently -- it's insanity to think that way. This is pure sacrifice, is what we went through during the war.

HOGE: Very quickly, James. One more question.

GALBRAITH: All fixed investment has that character, that it takes away from consumption and does something else with the resources. In World War II -- I think I would quarrel with you about the extent of the civilian sacrifice much less here than in any other combatant country.

QUESTIONER: No doubt.

GALBRAITH: And as a family matter, since my father ran the price controls, one of the points of that exercise was to persuade the public that they could accept a deferred compensation scheme called government bonds, which would give them purchasing power after the war. And that, in effect, worked brilliantly not only to restore the middle class, to create a middle class, but also to restore the foundation on which we could have a post-war private financial system, which was never rebuilt in the 1930s.

QUESTIONER: (Off mike.)

HOGE: By the way, it's very easy to get -- (laughs) -- what you said out of a model. I mean, that's the -- (laughter) -- that comes out front and center. (Laughter.)

QUESTIONER: Okay.

HOGE: Plausible.

QUESTIONER: Plausible. Yes, sir.

HOGE: Last question way in the back.

QUESTIONER: Gordon Surt (ph), Mind, Inc. Maybe a kind of literal-minded question, but at the end of a really fascinating day for which I thank the organizers. Perhaps you would take a shot at the question that is at the title of the section of the panel, which says what do the 1930s tell us about now? So if each of you were to be so good as to say what in the Depression do you regard as something that we should follow that points us in a direction, and what from the Depression and the things that were done to deal with it should we avoid?

HOGE: Very quickly. Everyone take a shot at that.

Jonathan, start.

ALTER: The -- (inaudible) -- of shared sacrifice, to pick up on the previous question -- a sense that we're all in this together, that we need to move beyond every man or woman for himself attitude toward moving forward as a country, a sense of pragmatism, experimentation, and if the experimentation fails, try something else, admit failure, frankly, as Roosevelt said, and the sense that -- of hope. You know, at the end of the first hundreds days a journalist wrote that Roosevelt succeeded in restoring hope, a sense of decency, and a sense of self-respect. You've got to get the people believing that they have some future if you're ever going to get the economy going, if you've ever going to get the kind of innovation that we need for a more permanent level of growth. And the particular policies are less relevant than the overall sense of direction and sense of uplift.

HOGE: Amity?

SHLAES: The institutions of financial governance from the New Deal and also some of them from the Hoover period that made markets transparent and the rules clear are ones we should emulate so that we too can trade again, and I would count there also deposit insurance, the creation of the SEC and some of those other features. Let's get away from deals and who we like and dislike and arbitrary decision and prosecutions and move more towards a rules-based system, even if we don't like certain aspects of our new legislation that creates that. Nobody's going to like everything about the new super SEC that's about to be created. There's going to be some part everyone hates. That's okay once we know what it is, what animal we're dealing with. Once it's not too arbitrary, there will be movement again.

And the second thing I think would be to have some faith in the private sector to do its part here. The private sector's job is to pull us forward, and what we discovered in the 1930s was maybe the public sector got in the way of the private sectors too much, so to allow it to show some leadership and begin to take some leadership positions.

HOGE: James?

GALBRAITH: You know, in 1932 the system that was called capitalism had collapsed. It had lost the confidence of the population. And the alternatives were Bolshevism and fascism -- (inaudible). And what Roosevelt and the New Deal did was to show that those were not the only alternatives, that we could, in fact, craft something indigenous to the United States, consistent with the Constitution, supportive of the whole population that would bring us out. And by the end of the 1930s, you've sold the population on that proposition, and we had a path forward which formed the foundation of the institutions that we still rely on today, including, for example, Social Security and deposit insurance and many others -- and others that were created in a great society.

That's the kind of thing that we're going to have to do now, because it seems to me that while we have not yet touched the depths of the Great Depression, we have reached a point where we have to face the weaknesses of the systems that we have built over the last 30 years and do something serious about repairing it.

QUESTIONER: How?

HOGE: Okay, so I'd point to some of the things that have been talked about. We're going to have to re-regulate our financial system in a way that's going to try and restore transparency and order without blocking innovation, and that's going to be a very tricky thing to do. Some of those points were sort of raised.

I think we're going to have to move away with -- I would actually in some ways argue we should move away with some of the jimmying we did with the economy. For example, we tried to extend home ownership just very, very broadly into the population, and as a result, we were putting people into the positions -- poor people, people of unstable incomes into the position of trying to buy up this huge asset, and that -- you know, some of that stuff I think we want to re-think the direction we had.

If I look at the fiscal stimulus, I think we've already sort of beat on that. I would say more -- we've got to think about ourselves as getting through a reorganization process, and we've got to have the courage to let the bankruptcy laws work, let the firms that should fail work, but at the same time we should be a little bit careful about how we spend our money. You know, one thing that the finance panel didn't bring up was the extent to which it seems to me like we're over spending to bail out the financial system to the extent we need to.

HOGE: A reception follows, but first, help me thank this wonderful panel. (Applause.)

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