The Great Depression
On March 4, 1929, shortly before the Great Depression broke out, Herbert Hoover became the President of the United States. Today, many people view him as a laissezfairist who stood by and did nothing to help the economy when such help was needed. This is a direct opposite of the truth. As a trade secretary in the 1920s Hoover urged the government to fight unemployment by reducing working time and raising wage rates simultaneously, and supported forming of trade unions. He was a strong advocate of increasing government spending on public works during economic slowdowns. Hoover maintained that allowing the wages to fall during the crisis causes the purchasing power of the nation to decrease, and thus exacerbates the crisis.
During the previous crises, American governments did not interfere in the economy. This made crises both milder and shorter. After all, during crises it is best to let malinvestments fail. By supporting malinvestments the government artificially takes away resources from other more productive uses. Wages should fall as any other prices, unless we want huge unemployment such as during the Great Depression. During past crises, the economy, free of the government intervention in wages, time and again rapidly came back to full employment. The laissezfairist government should also cut taxes and government spending radically, thus reducing the time the economy needs to adjust to a crisis.
So, what actions Hoover did actually undertake during the Great Depression?
This is what he had to say:
“The primary question at once arose as to whether the President and the Federal government should undertake to investigate and remedy the evils. … No President before had ever believed that there was a governmental responsibility in such cases. No matter what the urging on previous occasions, Presidents steadfastly had maintained that the Federal government was apart from such eruptions … therefore, we had to pioneer a new field.”
From the beginning it was certain that Hoover was not going to be guided by the most effective and well-tested laissez-faire remedies.
Propping Up Wages
Hoover inaugurated his presidency with a series of White House conferences in which he persuaded entrepreneurs not to decrease wage rates and to continue to invest. He said that it is necessary to keep wage rates on high levels, and if they do fall, then the fall shouldn’t be greater that the fall in the cost of living expenses. Seemingly noble, though in fact economically horrifying, Hoover’s idea was to shift the blunt force of the Depression from the employees’ wages to the entrepreneurs’ profits. Instead of standing down, the businesses in the worst case were to cut down the work week. Entrepreneurs agreed on the plan, seduced by a then-fashionable theory of keeping wages high in order to maintain the purchasing power of society. They were misguided in thinking that the cause of the Depression was overproduction and subconsumption. This was not the case, obviously, as the real issue here was the disrupted structure of production. Misallocation of resources stemming from interest rates being too low caused some companies to overproduce while others underproduced. Maintaining high wage rates only made it more difficult to properly reallocate the resource, i.e. work. It was also agreed upon that instead of standing down, the entrepreneurs would cut work hours and distribute work among more employees. This reduced the pressure on wage cuts even further. As a result, in the early 1930s nominal wage rates were maintained, but real wages have increased, because the prices of most goods and services were falling. In September 1930 immigration to the United States was banned in order to maintain wages and fight unemployment. Work grew very expensive. Keeping prices above free-market levels creates unsalable surpluses. In case of work the surplus is called unemployment. During the Great Depression unemployment was enormous, peaking at 28.3 percent in March 1933. With falling production, turnover, prices, and rising employment, propping up wages only wreaked more havoc to the economy. During the previous crisis unemployment peaked at 11.7 percent in 1921, rapidly falling to 2.5 percent by 1923. The difference was that in 1921 wage rates decreased by 20 percent within a year. The market returned to full employment without government intervention in wages.
In 1930, Hoover raised already quite high tariffs by signing a bill reported to him by Congress. The alleged goal of the bill was to help farmers. The tariff rates were raised to the highest levels in American history. Tariffs hurt farmers producing for export, entrepreneurs importing goods they needed in their own production processes, and domestic consumers who had to spend more money on imported goods. The automotive industry is a good example here. The government imposed tariffs on 800 goods used in the production of cars. Moreover, car exports were hit by European retaliatory tariffs. In result, car sales fell from 5.3 million dollars in 1929 to a meager 1.8 million dollars in 1932.
The tariffs along with the economic slowdown, devastated American exports, which fell from 7 billion dollars to 2.5 billion dollars over the 1929–1932 period.
According to an American economist Dr. Robert Murphy, as far government spending is concerned, Hoover in the first two years in office acted like a model keynesian. In the 1920s, the budgetary surpluses were a good reason to cut taxes and pay off debt. Hoover inherited from his predecessor a budget surplus of 700 million dollars. Given that the entire budget was worth 3.3 billion dollars, this was a big deal. But during Hoover’s term this had changed drastically. In the fiscal year of 1932, 1.9 billion dollars were collected from taxes, while the spending climbed to 4.7 billion dollars. The deficit expenses were indeed huge. Finally, after a complete failure of using deficit spending to cure the Depression, in 1932 Hoover gave it up. By then, however, the unemployment already exceeded 20 percent. After a year, Hoover reduced the deficit, albeit dubiously. The deficit fell very slightly from 2.7 billion dollars in 1932 to 2.6 billion dollars by the next year. 55 percent of the amount was a result of a huge tax increase, that (in accordance with the Laffer curve) did not bring the expected inflows. The remaining 45 percent was due to an actual spending cut. Please note that during previous crises, all of which certainly did not merit the name “Great Depression,” the government actually cut spending at the same time as the inflows were declining.
Hoover fulfilled one his election promises by creating the Federal Farm Board, or FFB. Its aim was to grant all-purpose loans to agricultural cooperatives at low interest in order to maintain the prices of agricultural products, and to manage any surpluses. You have already learned of the results of such a policy from our video on the price system. As the FFB was managed by the representatives of its own beneficiaries, that is the agricultural cooperatives, the result, quite predictably, was creation of an agricultural cartel. After the crash, the FFB lent 150 million dollars to the cooperatives to hold wheat off the market and thus to increase its price. The absurd idea was that people needed to pay artificially high food prices just as the Depression stifled the economy. This pushed farmers to intensify grain production, and thus the price of grain plunged down. The next idea was to persuade the farmers to reduce production in order to maintain the proper price, but they simply refused. This prompted the Farmers’ National Grain Corporation created by the FFB to buy 7.2 million tons of wheat off the market, but this intervention did nothing to stop the prices from falling. Rothbard estimated the losses in wheat and cotton (where similar steps were undertaken as well) at 300 million dollars, not to mention the huge amounts of wheat and cotton given for free to the Red Cross.
The Federal Farm Board also tried to control the prices of wool, butter, and grapes, but this was done on a smaller scale. The government subsidized the production of other products. The FFB only managed to aggravate the agricultural crisis, and was finally dismantled. Yet after the FFB’s failure Hoover continued his attempts at propping up the prices by recommending that productive land be withdrawn from cultivation, that crops be plowed under, and that immature farm animals be slaughtered, even though some citizens were suffering from hunger. All this to reduce surplus. This was destruction of wealth, plain and simple. The government failures led many people to organize protests, demonstrations, and strikes that were anything but peaceful. By the end of 1930, Hoover boasted that everything was fine, because even though the overall prices of wheat and cotton fell by 40 percent, and the prices of other agricultural products fell by 20 percent, in the U.S., the wheat price was 50 percent higher than in Canada, and the price of wool was 80 percent higher than in Denmark. This meant that if not for the huge tariffs, citizens would buy wheat 50 percent cheaper, and wool 80 percent cheaper. Not to mention that these products were impossible to sell abroad due to their high price.
A part of the huge deficit spending went to public works designed to combat unemployment. Hoover sent a message to the governors urging expansion of public works. Soon a special organization was established to collaborate with state governments in the implementation of public works. There was a public construction department created as well. On July 3, 1930, the Congress approved spending 913 million dollars on a public works program that included the famous Hoover Dam. We have explained how ill-advised such an idea is in the video “That Which is Seen, and That Which is Not Seen.” Hoover later bragged about how he persuaded the federal and state governments during the Depression to increase public works programs by 1.5 billion dollars. In only 4 years of his term Hoover spent more money on this than his predecessors did in 30 years.
But the government had more ideas up its sleeve.
For example, an agency was established to provide huge loans to financially troubled banks and railways. The loans, financed by taxpayer money, often ended up in hands of well-connected people.
Last, but not least, there were bank runs. During Hoover’s term some 11,000 banks went bankrupt because people lost confidence in the banking system. Of course, this loss of trust was justified by the fact that most of the time banks under the fractional reserve system are actually out of their clients’ money. The loss of trust only exacerbated in a month preceding Roosevelt’s appointment due to rumors of his plans to abolish the gold standard. Unfortunately, instead of protecting the property of the depositors, the government chose to protect the banks, imposing “bank holidays”, that allowed banks to simply refuse to pay the just claims of their depositors. Such decisions only aggravated the loss of trust in the banking system.
Hoover’s policy shattered the economy, turning a crisis into the Great Depression. As you can see, Hoover abandoned the policy of non-interventionism that has worked well during previous crises. Instead, he decided to take matters into his own hands and to repair the alleged errors of the free market, which, of course, were actually government fault’s and the effect of increasing money supply. When he left his office, the country was in a state of economic collapse.
Some believe that Roosevelt’s New Deal, which actually was Hoover’s policy on steroids, pulled America out of the Depression. This is also untrue. By 1935, unemployment exceeded 20 percent, then fell to 14 percent during the next two years only to rise again to 19 percent in 1938. In the entire period until the end of the 1930s the unemployment never even got close to its peak in the previous crisis, let alone the average in the 1920s, that is 3.3 percent unemployment. True, the GDP grew, but the economists Lee E. Ohanian and Harold L. Cole estimated that in 1939 it was 27 percent below its long-term trend, meaning the economy was recovering slower than it should have. Moreover, it is also untrue that the second world war pulled the U.S. out of the Depression. I encourage you to explore these topics by reading a book by Dr. Bob Murphy, “The Politically Incorrect Guide to the Great Depression and the New Deal.”
You will also greatly benefit from a thorough analysis of the causes of the Great Depression and of Hoover’s actions in Prof. Murray Rothbard’s book “Americas Great Depression”, available for free at the Mises Institute’s website.
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