1937 Haunts Democrats During Spending Debate
When President Obama ventured to Capitol Hill to meet with House Republicans shortly after Inauguration, he was met by a barrage of questions about the deficit and out of control spending.
Obama's response reached back to the Great Depression. According to several Republicans in the room, Obama raised the specter of 1937, the year President Franklin Roosevelt succumbed to conservative pressure and cut spending, leading, economists insist, to a renewal of the economic collapse that has been dubbed the "recession within the Depression."
Democratic leaders in both chambers of Congress also take the long view, sharing Obama's concern that pressure from the GOP to cut spending could reverse any economic gains made.
"We have to understand what took place during the Great Depression. There was deficit spending throughout the Great Depression and they stopped it a little too soon," said Senate Majority Leader Harry Reid (D-Nev.) the day after Obama addressed a joint session of Congress.
"President Obama has said he's going to look every place he can to save money, but we also recognize that we're going to have to spend some money to get out of this hole. Government is the only party that has any money," Reid said.
The Huffington Post asked Speaker Nancy Pelosi (D-Calif.) about FDR's decision to cut spending. "We're not going to let it happen again. In the middle '30s -- '36, etc. -- they were concerned about what was happening so they tightened their belts in terms of spending," she said, "and that caused a recession within the Depression, instead of keeping the momentum going."
Energy and Commerce Committee Chairman Henry Waxman (D-Calif.) said that Democrats will be vigilant about cutting spending too soon. "The Keynesian view of the Depression and the way to deal with it is to make up for the lack of private spending by bringing in public spending. And whenever you try to balance the budget, you withdraw public spending. So there are people that speculated the downturn in 1937" was a result of cutbacks, said Waxman.
FDR was inaugurated in March 1933. Following a banking sector rescue, a devaluation of the dollar and massive government spending, the economy grew briskly in 1934, '35 and '36. He was reelected in a landslide of historic proportions.
In 1937, under intense pressure to shave the deficit, he sought to balance the budget by cutting spending and raising taxes. The economy turned back around.
"That's a lesson learned," said Pelosi. "Not that we would do that, but for those who might think that [cutting spending is] a good idea. When you have to stimulate, you have to stimulate. And that's what we have to do."
Congressional Republicans, meanwhile, have called for a "spending freeze."
"The President's budget is an anti-stimulus," said House Minority Leader John Boehner (R-Ohio.) "By taxing too much, spending too much, and borrowing too much, it will kill jobs, slow the economy even further, and hurt middle-class families and small businesses."
Christina Romer, the head of Obama's Council of Economic Advisers, warned in a speech this week at the Brookings Institution of a "lesson from the Great Depression: beware of cutting back on stimulus too soon."
"Growth was very rapid in the mid-1930s," said Romer. "Real GDP increased 11 percent in 1934, nine percent in 1935 and 13 percent in 1936...Industrial production finally surpassed its July 1929 peak in December 1936."
Roosevelt succeeded in reducing the deficit by roughly 2.5 percent of GDP. But at a steep price: In 1937, GDP still grew, but only by five percent. It turned south in 1938, falling by three percent.
"[T]aking the wrong turn in 1937 effectively added two years to the Depression. The 1937 episode is an important cautionary tale for modern policymakers," said Romer, who extensively studied the period during her academic career. The private sector will recover eventually, she said, but "we will need to monitor the economy closely to be sure that the private sector is back in the saddle before government takes away its crucial lifeline."
Republicans don't join in the praise of deficit spending. In analyzing the Great Depression, the GOP blames protectionist trade policies for the reversal in economic growth.
"No, it's what he did all along," said Sen. Kit Bond (R-Mo.) of Roosevelt, rejecting the notion that the '37 cutback hurt the recovery effort. "The Smoot-Hawley Tarriff, raising taxes--that's what kept us in the Depression so long."
Economists agree that tax hikes - done for the purpose of cutting the deficit -- were a big part of the '37 downturn. The federal government began collecting Social Security taxes that year, taking a big bite out of consumers' ability to spend.
Smoot-Hawley was passed in 1930 and is derided by free traders as the epitome of counter-productive protectionism. (Many Democrats also agree that the provision had negative implications for economic growth, but reject the idea that it played a major roll in the '37 reversal.)
"I think one of the major factors was protectionism and raising tariffs," said Sen. John McCain (R-Ariz.). "I think Smoot-Hawley, in the view of most historians...contributed to the worldwide Depression and basically caused a reduction in world trade that was dramatic."
McCain said that by 1937, wasteful spending caught up with the economy. "I also think that some of the quote stimulus that was used at that time was ineffective. They were basically make-work jobs that didn't have a permanent effect," he said.
Rep. Barney Frank (D-Mass.), chairman of the Financial Services Committee, said that there are key differences between today and the 1930s.
"You should not forget history, but you shouldn't slavishly follow it," he said. "We are not worried that Obama is going to do that" - cut spending prematurely - "at this point."
Frank said that once the spending kicks in, the pressure to cut it will diminish. "The anti-spending argument is at its strongest right now, because we've got the criticism without the benefits," he said.
"At some point we've got to reduce the deficit, but I don't think some version of right-wingism is coming back in fashion. If we're right, that spending is going to be more popular three and four and five months from now, because the economy starts to turn around, maybe at the end of the year, and there are police working and there are schools built. I expect to be taking credit for that all year."
Learning from past errors is one thing, said Waxman, but his parents wouldn't countenance referring to FDR's decision as a mistake.
"My parents would never tolerate anyone criticizing Franklin Roosevelt. They probably would be angry at Obama," said Waxman, had they heard his remarks to House Republicans.
"No one had a road map at that time. When I feel discouraged about where we are right now, the thing that gives me hope is that we've had people who've thought through depressions."
Rep. Spencer Bachus (R-Ala.), the top Republican on the Financial Services Committee, said he was staying out of the debate for now. "I don't feel qualified really to offer my own opinion on none of that," said Bachus. "I know a lot of members of Congress are very sure that they know the answer to every problem up here."
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March 13, 2009 09:41 AM