Economics and The Public Welfare

Chapter 31

The New Deal in 1929-1930

Change of Tariff and Federal Reserve Policies Clearly Called For. The stock market crash demonstrated that fundamentally wrong policies had been pursued. It was surely time for a slowing down and a change of policy. The evidence was particularly clear (a) that the policy of cheap money and rapid expansion of credit was a fallacious one, and (b) that high tariffs interfering with the movement of goods and preventing our European debtors from paying their debts with goods was a fallacious policy. But to have recognized these things would have meant humiliation for the political party in power.

Would Have Involved Severe Readjustment. If we had taken our medicine in 1929 and early 1930, we should have had a severe depression. There were a good many unsound points in the credit structure, and they would have had to be liquidated or readjusted. The credit structure of business was generally extremely strong. Almost any business that could make a reasonable showing of earning power, and not a few that could make only a prima facie showing, had been able to issue stocks in the enthusiastic stock market that had preceded the crash. Businesses had refunded a good many bond issues with the proceeds of stock issues, had reduced their debts to the bank with money obtained from the stock market, and had increased their holdings of cash. The financial structure of business was exceedingly strong.

But there were weak points in the banking system where there were excessive holdings of illiquid bonds, or where there were large loans to customers on collateral inadequately diversified, the liquidation of which would break the market. There were weak points in the real estate mortgage situation based on very exaggerated real estate prices. Many smaller banks later fell into grave difficulties because they had bought such mortgages in too great volume and too uncritically when they had excess funds and didn’t know how to use them. A great deal of water had to be squeezed out of the sponge.

There were dangerous weak spots in the international credit picture. But if we had lowered our tariffs so that the weak foreign debtors could pay with goods, most of these could have been kept solvent. The country and the world were probably strong enough, despite the folly of the years preceding, to have gone through an orderly liquidation and readjustment, with a normal revival, if we had recognized our mistakes in policy in late 1929 and proceeded forthwith to change them.

But Administration Turned to Governmental Economic Planning. But the Administration at Washington was dead set against any such readjustment. It turned instead to frantic governmental economic planning. Governmental economic planning is back seat driving by a man who doesn’t know how to drive and who, except in wartime, doesn’t know where he wants to go. It is, moreover, back seat driving by a man who makes a very heavy charge for his services at the expense of the chauffeur’s wages, and who increases these heavy charges month after month. As the chauffeur’s wages prove inadequate to support the governmental back seat driver, a mortgage is placed on the car, and inroads are made on the gas and oil of the automobile. Damaged fenders are left untouched. The automobile begins to miss its periodic overhauling. Cylinders accumulate carbon and don’t all work. The machine slows down, and the chauffeur grows jittery.

We had had a great deal of this back seat driving for several years preceding the stock market crash, as Secretary Mellon and President Coolidge gave out utterances which whipped up the stock market and encouraged the speculators, while the Federal Reserve System supplied the chauffeur with high-powered gasoline.

Hoover Tells Business to Hold Up Wages and Prices. Even while the stock market crash was going on, President Hoover called together in Washington 1 the leaders in business, in railroads, and others, to urge upon them the policies of not cutting prices, not cutting wages, increasing capital outlay, and the like. This was the personal conduct of business by the back seat driver which is the essence of the New Deal and of governmental economic planning. Municipalities and States were also called upon to increase their borrowing for public works. The poor old St. Louis and San Francisco railroad, impressed with its duty to keep purchasing power high, thereupon proceeded to declare its preferred dividend a full year in advance—with unsatisfactory consequences.

International Staples Break in Price. Almost immediately following the stock market crash, there was an ominous downward movement in the prices of many raw materials and basic foods—the great staples of international trade. Brad-street’s Index of Commodity Prices, which is heavily weighted with raw materials, moved downward nearly 5% in the month of December alone. By early January, 1930, jute prices in New York went to 6 1/4¢ a pound as against 7.4¢ a year before. Foreign wool prices were about 30% under the prices of the preceding year. Coffee was selling at about one-half the price of the year before, with demoralization in Brazil and trouble in Colombia and Salvador and a number of other countries. Rubber was 14.7¢ a pound as against 18¢ at the same time in 1928. Business conditions in Malaya and other chief rubber producing sections were reported as much depressed. Silk, after a sharp decline in November and December, 1929, was selling at the lowest price since the first World War, being quoted in New York at $4.65 per pound, as against $5.20 the year before. Silver had declined drastically, selling in January at 43 7/8¢ per fine ounce as against 57 1/4¢ the year before. Cotton was off 3¢ a pound from the preceding year. Wheat prices were declining. This concerted general decline in basic international staples, affecting most material- and food-producing regions all over the world, was ominous. Such a movement may usually be taken as a forecast of a very severe reaction and depression.

Hoover Farm Board and Wheat Prices. Much more significant, however, than the relatively moderate decline in wheat prices, was the fact that these prices declined in the face of strenuous efforts by the Government to hold them up. The Hoover New Deal had put the Government into the wheat business. The Farm Board had begun to function in the late autumn of 1929. The Farm Board came into the game late. In the two or three preceding years many parts of the world had been trying to uphold the price of wheat by artificial measures. Canada had been conspicuous in this matter, speculating with her wheat pool, holding instead of selling. Hungary and Poland had been playing the game. The figures on page 222 2 show the approximate carry-over of wheat on August 1 for the six-year period ending in 1929.

The world’s wheat carry-over had doubled in the three years ending in 1929, before our own Farm Board entered the picture. Wheat prices had broken badly between May and August of 1928, and there was a further sharp break in May and June of 1929 under the growing pressure of this load.3 But the Federal Farm Board (organized July 15, 1929) stepped into the breach, with the result that the United States took over an undue share of the cumulative load which the world had been carrying. It promptly advised farmers not to send wheat forward too rapidly.4 On October 26 the Federal Farm Board stated that it would loan to qualified wheat cooperatives approximately $150,000,000, funds which the cooperatives would not have needed for orderly marketing, but which they did need for holding.5 North America held wheat in the autumn and winter of 1929-1930. The Argentine sold.6 We held our wheat too high, and we lost our share of the export trade of the world, though the export trade of the world as a whole in wheat fell off drastically,7 and although prices of wheat here and abroad continued to decline. President Hoover, early in March, 1930, asked the Congress for an additional $100,000,000, making a total of $250,000,000, to enable the Farm Board to continue its policy—which, though concentrated on wheat, involved cotton and some other farm products as well.8

Wheat Carry-Over, August 1, 1924-1929 (In millions of bushels)
	1924	1925	1926	1927	1928	1929
United States	165	135	111	138	142	262
Canada	41	26	35	48	78	104
Canadian in U. S	3	3	4	5	14	23
Argentina	66	56	61	65	90	120
Australia	38	36	30	34	43	45
Afloat for Europe	42	33	39	46	45	38
United Kingdom Ports	10	9	4	8	10	6
Totals	365	298	284	344	422	598

It is probable that there was more planting of wheat in the United States than would have occurred had the Farm Board not entered the picture, which meant an intensified problem for the following crop year.

Those who condemn the New Deal for its agricultural follies in 1933 and succeeding years, and above all, for loans to farmers which held back cotton which would otherwise have gone into the export trade, should not credit Roosevelt’s New Deal with originality on this point.

Cheap Money Renewed, Early 1930. Early 1930 saw also a renewal of artificially cheap money. Talking with a small group of leading Federal Reserve officials in the last week of December, 1929, one came away with the conviction that Federal Reserve policies, if left free from political interference, would be conservative, and that the disposition was to let the money market “sweat it out” and reach monetary ease by the wholesome process of liquidation. The opinion was expressed by a particularly well-informed Federal Reserve official that easy money was not in sight on the basis of any natural forces, and a good deal of time must pass before easy money could be looked for.

But very early in 1930, easy money came through a policy change.9 The rediscount rate of the New York Federal Reserve Bank dropped 1/2% at a time from 4 1/2% on February 6, 1930, to 2% by the following year end. The Federal Reserve banks’ buying rate for ninety-day acceptances, which was 4% at the beginning of 1930, dropped rapidly to 3% by March 19, to 2% by the middle of the year, and to 1 3/4% in December. The call money rate, which ranged from 4to 6% in January, 1930, dropped to 2% by the end of the following July, and remained at approximately that level till the year end week beginning December 28. Going with this, and a primary causal factor in it, was a renewal of Government security purchases by the Federal Reserve banks on a great scale.

In 1929 the figure for Government securities owned by the Federal Reserve banks stood at $136,000,000 on October 23, rising to $533,000,000 on December 18, and standing at $511,000,000 on December 31. Dropping off to $477,000,000 on January 29, the figure rose again to $602,000,000 on August 27, 1930.

The sum of $600,000,000 was approximately 25% of the total legal reserves of all the member banks of the Federal Reserve System in 1930. Federal Reserve bank operation in Government securities, on a scale much smaller than this, could turn the money market upside down, could make a scarcity of capital look like a superfluity of capital, and could generate incredible abnormalities in the monetary picture. We renewed in 1930 many of the illusions which the stock market crash of 1929 should have dispelled.

Stocks Rise Again, But Business Steadily Declines. New corporate security issues, which had fallen off very sharply in the final quarter of 1929, rose again rapidly in the first two quarters of 1930, the figure for new capital for the second quarter of 1930 exceeding any preceding quarter,10 even in 1929. Foreign security issues, publicly placed in the United States, which had dropped from $1,319,000,000 in 1928 to $758,000,000 in 1929, rose again in 1930 to approximately $1,000,000,000. These foreign securities issues included another great block of German Government bonds, the Young Plan bonds. There came, too, in the first half of 1930 another strong upward move in the stock market—another specific response to the injection of dope—reaching a new high level in April, only to fall back again in May and June, with later a violent break culminating in December of 1930.

An examination of the curve for production shows a strong upward movement following the open market purchases of Government securities by the Federal Reserve banks in 1924, as well as a strong upward movement in the stock market, and the same thing is true in 1927. In 1930, however, although the stock market and the issue of new securities responded to the renewal of cheap money, the curve for production makes no response at all. It moves downward steadily through the whole year 11 1930, dropping from a level of 105 at the beginning of the year to 84 at the end. The jaded economic organism could no longer respond to financial stimulus.

Crowning Folly of Tariff of 1930. But there came another folly of governmental intervention in 1930 transcending all the rest in its significance and in its baleful consequences. In a world staggering under a load of international debt which could be carried only if countries under pressure could produce goods and export them to their creditors, we, the great creditor nation of the world, with tariffs already far too high, raised our tariffs again. The Hawley-Smoot Tariff Bill of June, 1930, was the crowning financial folly of the whole period from 1920 to 1933.

Before our passage of this bill, there had still been hope. Some of the weaker countries of Europe, under extreme pressure to protect their currencies, had raised their tariffs—reducing imports but also at the same time reducing their exports—getting a little temporary relief from the pressure on their exchange rates, but at the same time increasing domestic unemployment for those in the export industries. But there was not a great deal of this, and the influence of the more powerful countries upon the weaker countries in the direction of protecting what freedom of trade there was, was strong. Moreover, it was possible for financial advisers in the great banks in the financial centers to offer cogent arguments to the governments of the weaker countries which helped to hold them back. But once we raised our tariffs, an irresistible movement all over the world to raise tariffs and to erect other trade barriers, including quotas, began. Protectionism ran wild over the world. Markets were cut off. Trade lines were narrowed. Unemployment in the export industries all over the world grew with great rapidity, and the prices of export commodities, notably farm commodities in the United States, dropped with ominous rapidity. Farm prices in the United States dropped sharply through the whole of 1930, but the most rapid rate of decline came following the passage of the tariff bill.

Industrial Stocks Break 20 Points on Tariff News. The dangers of this measure were so well understood in financial circles that, up to the very last, the New York financial district retained hope that President Hoover would veto the tariff bill. But late on Sunday, June 15, it was announced that he would sign the bill. This was headline news Monday morning. The stock market broke 12 points in the New York Times averages that day, and the industrials broke nearly 20 points. The market, not the President, was right.

Young Plan German Bonds and Tariff. It was the regular practice in the financial district of New York for investment houses contemplating the issue of new foreign loans to make inquiry of the State Department as to whether the State Department objected to particular loans. The State Department assumed no responsibility for the loans to which it made no objections, but it did, from time to time, interpose objections and these objections were always respected. Under the laws as they stood in the period prior to 1933, there was no legal authority for the Federal Government to take authoritative action to prevent a foreign bond issue in the United States, but this authority was not needed. There was, on the one hand, respect for the wishes of the State Department, and there was, on the other hand, the knowledge that an expression of disapproval by the State Department could spoil the market and ruin an issue. In some cases State Department disapproval was expressed when a foreign government had not yet taken steps to fund its debt to the United States Government. In one notable case, that of the Dawes Plan Loan of 1924, it is believed that there was an informal intervention by Secretary Hughes to make sure that Germany would go on the gold standard before he would give the “all clear” on the placement of this loan in the United States.

This usual procedure was followed in connection with the Young Plan German Loan of 1930, as disclosed in a two-volume publication of the State Department issued on July 21, 1945, of which an account is given in the New York Times of Sunday, July 22. “Details of the Department’s treatment of the loan proposal were handled by the late Joseph P. Cotton, Under-secretary of State. The approval through the non-objection formula was given by the then Secretary of State, Henry L. Stimson, to J. P. Morgan and Company.”

The Young Plan Loan, or the German Government International Loan of 1930, with a coupon rate of 5 1/2%, was offered in the United States in the amount of $98,250,000 on Thursday morning, June 12. If this loan were to be good, Germany must be in a position to obtain dollars with which to make it good, and to obtain these dollars, she must be able to sell goods in adequate volume in foreign countries, including the United States. Three days later, on the afternoon of June 15, the President of the United States let it be known that he would sign the tariff bill, the effect of which was to interpose a grave barrier in the way of Germany’s obtaining the dollars with which to pay debt service on the Young Plan bonds and, for that matter, on all her other numerous outstanding bonds in the United States and elsewhere in the world. The right hand surely did not know what the left hand was doing.

• 1This point will be discussed at length in Chap. 34.
• 2I have not been able to find that this article was ever published. However, the reader will find much of it in two books by Veblen: Imperial Germany and the Industrial Revolution, New York, 1915; and The Nature of Peace and the Terms of Its Perpetuation, New York, 1917.
• 3See my book The Effects of the War on Money, Credit and Banking in France and the United States, published by the Carnegie Endowment for International Peace, Oxford University Press, New York, 1919. For London, see the interesting articles by Mr. J. M. Keynes in the British Economic Journal in late 1914.
• 4O. M. W. Sprague: “Crisis of 1914 in the United States,” American Economic Review, September, 1915; H. G. S. Noble: “The New York Stock Exchange in the Crisis of 1914,” Garden City, N. Y., Country Life Press, 1915. These two papers are classics of permanent value.
• 5The figures of all the State and National banks and trust companies appear only once a year in the Comptroller’s report as of approximately June 30. For dates other than June 30, it is necessary to make estimates. During the war period these estimates are made on the basis of variation in the National Bank figures.
• 6War Industries Board Price Bulletin No. 3, Government Control Over Prices, by Paul Willard Garrett, assisted by Isador Lubin and Stella Stewart, Washington, Government Printing Office, 1920, p. 550.
• 7Mr. Herbert Hoover, in particular, did a superb job in bringing the grain and milling interests into the service of the country. I shall later find occasion to criticize his policies as President, but I wish to pay high tribute to his work in feeding the Belgians before we entered the war, to his work in food control at home during the war, to his postwar work in feeding stricken countries, and to his work under President Truman along similar lines after World War II.
• 8See my “Value and Price Theory in Relation to Price-fixing and War Finance,” an address before the American Economic Association, printed in papers and proceedings, American Economic Review Supplement, March, 1918. Reprinted in the Economic Bulletin issued by the Capital Research Company of Los Angeles, Vol. II, No. 2, Dec. 6, 1940, and reprinted in the hearings of the Senate Committee on Banking and Currency on the Price Control Bill Dec. 16, 1941. See also my testimony of Dec. 16, 1941, before this Committee.
• 9“An Index Number of Production,” American Economic Association, Dec., 1920, published in Papers and Proceedings the following March.
• 10See Federal Reserve Charts on Bank Credit, Money Rates and Business, Feb., 1941, p. 32.
• 11See Federal Reserve Charts on Bank Credit, Money Rates and Business, Nov., 1941, p. 34.