The Foundation for Economic Education (FEE) is proud to partner with Young America’s Foundation (YAF) to produce “Clichés of Progressivism,” a series of insightful commentaries covering topics of free enterprise, income inequality, and limited government. See the index of the published chapters here.

#37 – If FDR’s New Deal Didn’t End the Depression, Then It Was World War II that Did

(Editor’s Note: The author is a professor of history at Hillsdale College and author--with his wife, Anita—of the 2013 book, FDR Goes to War. This essay was first published in FEE’s journal, The Freeman, in February 2010.)

What finally ended the Great Depression? That question may be the most important in economic history. If we can answer it, we can better grasp what perpetuates economic stagnation and what cures it.

The Great Depression was the worst economic crisis in U.S. history. From 1931 to 1940 unemployment was always in double digits. In April 1939, almost ten years after the crisis began, more than one in five Americans still could not find work.

On the surface, World War II seems to mark the end of the Great Depression. During the war more than 12 million Americans were sent into the military, and a similar number toiled in defense-related jobs. Those war jobs seemingly took care of the 17 million unemployed in 1939. Most historians have therefore cited the massive spending during wartime as the event that ended the Great Depression.

Some economists—especially Robert Higgs (see http://www.independent.org/store/book.asp?id=65) -- have wisely challenged that conclusion. Let’s be blunt. If the recipe for economic recovery is putting tens of millions of people in defense plants or military marches, then having them make or drop bombs on our enemies overseas, the value of world peace is called into question. In truth, building tanks and feeding soldiers—necessary as it was to winning the war—became a crushing financial burden. We merely traded debt for unemployment. The expense of funding World War II hiked the national debt from $49 billion in 1941 to almost $260 billion in 1945. In other words, the war had only postponed the issue of recovery.

Even President Roosevelt and his New Dealers sensed that war spending was not the ultimate solution; they feared that the Great Depression—with more unemployment than ever—would resume after Hitler and Hirohito surrendered. Yet FDR’s team was blindly wedded to the federal spending that (as I argue in my 2009 book New Deal or Raw Deal? -- http://tinyurl.com/mmu7y6e) had perpetuated the Great Depression during the 1930s.

FDR had halted many of his New Deal programs during the war—and he allowed Congress to kill the WPA, the CCC, the NYA, and others—because winning the war came first. In 1944, however, as it became apparent that the Allies would prevail, he and his New Dealers prepared the country for his New Deal revival by promising a second bill of rights. Included in the President’s package of new entitlements was the right to “adequate medical care,” a “decent home,” and a “useful and remunerative job.” These rights (unlike free speech and freedom of religion) imposed obligations on other Americans to pay taxes for eyeglasses, “decent” houses, and “useful” jobs, but FDR believed his second bill of rights was an advance in thinking from what the Founders had conceived.

Roosevelt’s death in the last year of the war prevented him from unveiling his New Deal revival. But President Harry Truman was on board for most of the new reforms. In the months after the end of the war Truman gave major speeches showcasing a full employment bill—with jobs and spending to be triggered if people failed to find work in the private sector. He also endorsed a national health care program and a federal housing program.

But 1946 was very different from 1933. In 1933 large Democratic majorities in Congress and public support gave FDR his New Deal, but stagnation and unemployment persisted. By contrast, Truman had only a small Democratic majority—and no majority at all if you subtract the more conservative southern Democrats. Plus, the failure of FDR’s New Deal left fewer Americans cheering for an encore.

In short the Republicans and southern Democrats refused to give Truman his New Deal revival. Sometimes they emasculated his bills; other times they just killed them.

Senator Robert Taft of Ohio, one of the leaders of the Republican-southern Democrat coalition, explained why he voted against much of the program: “The problem now is to get production and employment. If we can get production, prices will come down by themselves to the lowest point justified by increased costs. If we hold prices at a point where no one can make a profit, there will be no expansion of existing industry and no new industry in that field.”

Robert Wason, president of the National Association of Manufacturers, simply said, “The problem of our domestic economy is the recovery of our freedom.”

Alfred Sloan, the chairman of General Motors, framed the question this way: “Is American business in the future as in the past to be conducted as a competitive system? He answered: “General Motors . . . will not participate voluntarily in what stands out crystal clear at the end of the road—a regimented economy.”

Taft, Wason, and Sloan reflected the views of most congressmen, who proceeded to squelch the New Deal revival. Instead they cut tax rates to encourage entrepreneurs to create jobs for the returning veterans.

After many years of confiscatory taxes, businessmen desperately needed incentives to expand. By 1945 the top marginal income tax rate was 94 percent on all income over $200,000. We also had a high excess-profits tax that had absorbed more than one-third of all corporate profits since 1943—and another corporate tax that reached as high as 40 percent on other profits.

In 1945 and 1946 Congress repealed the excess-profits tax, cut the corporate tax to a maximum 38 percent, and cut the top income tax rate to 86 percent. In 1948 Congress sliced the top marginal rate further, to 82 percent.

Those rates were still high, but they were the first cuts since the 1920s and sent the message that businesses could keep much of what they earned. The year 1946 was not without ups and downs in employment, occasional strikes, and rising prices. But the “regime certainty” of the 1920s had largely returned, and entrepreneurs believed they could invest again and be allowed to make money.

As Sears, Roebuck and Company Chairman Robert E. Wood observed, after the war “we were warned by private sources that a serious recession was impending. . . . I have never believed that any depression was in store for us.”

With freer markets, balanced budgets, and lower taxes, Wood was right. Unemployment was only 3.9 percent in 1946, and it remained at roughly that level during most of the next decade. The Great Depression was over.

Summary

Wars aren’t cures for depressions. They simply divert manpower and resources away from what consumers want to what government wants to win the conflict.

FDR’s “New Deal” prolonged the depression and fortunately, attempts to revive it to keep the economy going after World War II were squelched.

The economy didn’t collapse after WWII because reductions in federal spending and taxation encouraged entrepreneurship.

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