C Romer with lots of data in 1992 "What Ended the Great Depression?" The Journal of Economic History vol 52 pp 757-784.
This paper examines the role of aggregate demand stimulus in ending the Great Depression. Plausible estimates of the effects of fiscal and monetary changes indicate that nearly all the observed recovery of the U.S. economy priort to 1942 was due to monetary expansion. A huge gold inflow in the mid- and late 1930s swelled the money stock and stimulated the economy by lowering real interest rates and encouraging investment spending and purchases of durable goods. That monetary developments were crucial to the recovery implies that self-correction played very little role in the growth of real output between 1933 and 1942.
Now I'm not sure if Obama understands that Romer is saying that the US recovered because of Hitler who scared the gold out of Europe (she is very clear on this point in the text). She makes a strong case, but the party line is that Roosevelt deserves the credit.
Keynes with almost no data and writing in 1935 (hence before the flight) understood the issue.
In The General Theory of Employment Interest and Money
Chapter 23 Notes on Notes on Merchantilism, the Usury Laws, Stamped Money and Theories of Under-consumption Keynes argued that back in the bad old days, going for the gold was the only feasible approach.
Now, if the wage-unit is somewhat stable and not liable to spontaneous changes of significant magnitude (a condition which is almost always satisfied), if the state of liquidity-preference is somewhat stable, taken as an average of its short-period fluctuations, and if banking conventions are also stable, the rate of interest will tend to be governed by the quantity of the precious metals, measured in terms of the wage-unit, available to satisfy the community’s desire for liquidity.
At the same time, in an age in which substantial foreign loans and the outright ownership of wealth located abroad are scarcely practicable, increases and decreases in the quantity of the precious metals will largely depend on whether the balance of trade is favourable or unfavourable.
Thus, as it happens, a preoccupation on the part of the authorities with a favourable balance of trade served both purposes; and was, furthermore, the only available means of promoting them. At a time when the authorities had no direct control over the domestic rate of interest or the other inducements to home investment, measures to increase the favourable balance of trade were the only direct means at their disposal for increasing foreign investment; and, at the same time, the effect of a favourable balance of trade on the influx of the precious metals was their only indirect means of reducing the domestic rate of interest and so increasing the inducement to home investment.
That does *not* mean that Keynes was a merchantilist. In particular one can imagine how delighted he was by a process that enriched the USA at the expense of Europe.
For this and other reasons the reader must not reach a premature conclusion as to the practical policy to which our argument leads up. There are strong presumptions of a general character against trade restrictions unless they can be justified on special grounds. The advantages of the international division of labour are real and substantial, even though the classical school greatly overstressed them. The fact that the advantage which our own country gains from a favourable balance is liable to involve an equal disadvantage to some other country (a point to which the mercantilists were fully alive) means not only that great moderation is necessary, so that a country secures for itself no larger a share of the stock of the precious metals than is fair and reasonable, but also that an immoderate policy may lead to a senseless international competition for a favourable balance which injures all alike.[4] And finally, a policy of trade restrictions is a treacherous instrument even for the attainment of its ostensible object, since private interest, administrative incompetence and the intrinsic difficulty of the task may divert it into producing results directly opposite to those intended.
Thus, the weight of my criticism is directed against the inadequacy of the theoretical foundations of the laissez-faire doctrine upon which I was brought up and which for many years I taught;— against the notion that the rate of interest and the volume of investment are self-adjusting at the optimum level, so that preoccupation with the balance of trade is a waste of time. For we, the faculty of economists, prove to have been guilty of presumptuous error in treating as a puerile obsession what for centuries has been a prime object of practical statecraft.
Basically, Keynes' insight into the results reported by C. Romer is that, given the fools in the Fed and the timidity of Roosevelt, the US might as well have been an early modern country (and US policy was relatively Keynesian compared to say that of France).
8 comments:
I'm no fan of Christina Romer's view of the Great Depression. While I think her work documenting the size and effect of the monetary flow is a valuable addition to the history of that period, it is NOT the history of the period.
Having documented FDR's fiscal timidity, and seven or eight years with no evidence of "self-correction", she's now supervising Obama's fiscal timidity, but expecting different results. But, leave that for another day.
Romer's thesis would be more plausible if Roosevelt hadn't taken the U.S. so far off the gold standard that owning monetary gold was actually illegal, and if real interest rates were not pretty much flat on the floor for the whole period. What she calls a monetary expansion might better be characterized as equivalent to fiscal expansion -- it was people with money from outside the existing circular flow, adding to the circular flow by spending. Her talk of a "swelled money stock" was surely an audience pleaser among monetarists -- Christina knows her audience -- but it is not an entirely unprejudiced characterization, and, I question whether its analytical significance is established for the historical circumstances. The implicit thesis appears to be that a sufficiently vigorous monetary expansion could have put everything right, despite the inadequate fiscal stimulus of New Deal relief and restructuring projects. After all, the inadvertent monetary expansion of European gold imports did the trick, to a limited extent -- in Romer's narrative, at least.
I don't think the revival of our powers of historical empathy and projection, aroused by the present crisis, have done much to enhance the prestige of the monetarist analysis of the Great Depression, despite Romer's good work. (And, it is good work, as far as establishing important facts in the record. I disparage her academic salesmanship, not her actual scholarship.)
In any case, the key historical issue of the Depression remains the issue of wages. New Deal policy forced up wage rates, particularly in industrial sectors that were unionizing.
If the money-price-system is seriously out-of-whack, then lowering wages can be "without bound" as Keynes would say, and still have no good effect, while raising wages in sectors enjoying large rents might actually have positive effects. But, was the money-price-system seriously out of whack, 1933-40? And, if it was, what does that imply about the shape of the expected effects of that refugee gold flowing from Europe?
"This paper examines the role of aggregate demand stimulus in ending the Great Depression. Plausible estimates of the effects of fiscal and monetary changes indicate that nearly all the observed recovery of the U.S. economy prior to 1942 was due to monetary expansion."
The paper by Christina Romer, defended by supposedly liberal economists, is meant only to be insulting to the Roosevelt Administration, and is absurd as such in dismissing Roosevelt in providing for jobs for 3.5 million individuals in a population of about 127 million.
This is only conservative Roosevelt bashing with a supposed pretense at seeming liberal. Roosevelt bashing conservatives have been joyful.
There we have the braver than brave pretend liberal Robert Waldmann having the nerve to condemn the timidity of Roosevelt by pretending to be Keynes. Keynes of course was remarkably respectful of Roosevelt.
Bruce Wilder
Yes indeed. If the US was in a liquidity trap, then foreign gold didn't help us. As far as I can see, Romer really doesn't address this possibility in any way, so her estimates might be totally wrong, because they are based on the assumption that non liquidity trap data can be used to estimate effects during a liquidity trap.
Excellent point.
Anonymous 1. I don't see any conservative Roosevelt bashing in the paper. The criticism of Roosevelt was that he listened to conservatives and didn't deficit spend enough.
Also Romer is just talking GNP. The purpose of the WPA was not just to pump up the economy and build things which were valuable and wouldn't be built by the private sector. It's aim was also to keep people from starving. The Same GNP without public intervention would have implied many more people in absolute total life threatening poverty. The WPA was better than cash unemployment insurance, but life without either would have been much briefer for many Americans.
Anonymous 2. I'd be respectful of Roosevelt too if I were writing a letter to him. In fact, I respect Roosevelt, but I also wish he had run bigger deficits.
The matter is easy to understand, Christina Romer has decided that Roosevelt and New Deal policy were of no particular effect is our recovering from the Depression. This is false but this is the argument conservatives have made for decades and Romer has decided to agree. Not that the research agrees, only that Romer does.
I have to be careful though, because the Berkeley academic police will be alerted if I criticize Romer too much.
"Plausible estimates of the effects of fiscal and monetary changes indicate that nearly all the observed recovery of the U.S. economy prior to 1942 was due to monetary expansion."
Romer is denying any economic significance of the Roosevelt Presidency. I find this offensively wrong as did the tens of millions of Roosevelt supporters from 1933 on.
http://delong.typepad.com/sdj/2009/04/g-20-meeting-forecast.html
April 1, 2009
G-20 Meeting Forecast
By Brad DeLong
1. Obama will tell the G-20 leaders what they ought to do.
2. They will complain.
3. They will do about half of it.
4. That they do half of it will be an extraordinarily good outcome--the best episode of international policy coordination since Bretton Woods itself.
5. Will them doing half of what they ought to do be good enough? Ah, that is the question
If we judge the Obama administration based on performance relative to the difficulty of the dive, I think their scores are good: 9.7, 9.3, 8.7, 9.1, and a 4.4 from the East German judge...
[Beyond all arrogance, no surprise though.]
The Keynes quotation is actually a different point from Christy's argument (or at least what Christy's argument should be.) During the late 1930s the purchasing power of gold in world commodity markets rose and fell with shifts in world demand for gold. Massive worldwide dishoarding in 1936-37 pushed commodity prices sharply higher all over the world. Massive gold hoarding in late 1937-38 pushed commodity prices much lower. Gold flows by themselves do not change world gold demand, and hence have no effect on world commodity prices. But by late 1930s only the U.S. and Belgium were still on the gold standard. Thus as gold left Europe and went to the U.S., it did not reduce European money supplies, but did boost the U.S. money supply. So the net effect was less gold demand and thus higher prices. So why did we have mild deflation from mid-1938 to mid-1940? Because of money hoarding at near zero interest rates. The gold pushed up the base, but the base didn't push up prices. Christy is half right. The gold flows did help, ceteris paribus. But I don't think they mattered much in the end. Ceteris paribus we would have had steeper deflation in the late 1930s without gold inflows. But in reality FDR wouldn't have allowed that to happen. He would have pressed the Fed to reduce its gold ratio (less gold demand) and if they refused he would again have devalued the dollar--which had very effectively boosted prices in 1933.
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