The halo of victory: What Americans learned from World War I

Hugh Rockoff

World War I profoundly altered the structure of the US economy and its role in the world economy. However, this column argues that the US learnt the wrong lessons from the war, partly because a halo of victory surrounded wartime policies and personalities. The methods used for dealing with shortages during the war were simply inappropriate for dealing with the Great Depression, and American isolationism in the 1930s had devastating consequences for world peace.

World War I had important consequences for the structure of the US economy and its role in the world economy. This was especially true in the world of finance. The US transitioned from being a debtor nation to a creditor nation, and financial leadership moved from London to New York. But equally important were the lessons that Americans drew from the war. Although the war had much to teach, Americans tended, I will argue below, to learn too much from the war, drawing strong conclusions from a war in which the US was actively engaged for only 19 months. Many actions, moreover, were being undertaken, and many agencies created, simultaneously. Teasing out the effects of each policy and agency separately would be hazardous at best. But the halo of victory encircled everyone who rose to the top and every policy that survived to the end of the war. Here I will consider three people who were extremely influential in the years following World War I and what they learned from it: Bernard Baruch who headed the War Industries Board, President Roosevelt who served as Assistant Secretary of the Navy in the war, and Senator Gerald P. Nye who headed the Senate committee that in the early 1930s investigated the origins of the war.

Bernard Baruch and the mobilisation of the economy

America declared war in April 1917, and began drafting a large army and undertaking a massive industrial mobilisation. For a time the news on the home front suggested that the industrial mobilisation was going badly. Where were the guns and bullets needed to equip the young men being trained for battle? In March 1918 President Wilson reorganised the War Industries Board, the agency charged with managing the mobilisation, and promoted Bernard M. Baruch, a South Carolina native, Wall Street speculator, and Progressive Democrat to head of the reorganised Board. Baruch was given broad powers, and he moved quickly and aggressively. To prevent spiralling prices of raw materials from undermining production he negotiated fixed prices for some important raw materials with producers. And he introduced a priority system to guide manufacturers who were flooded with orders. The idea was simple. All orders for munitions would be given a rating by the War Industries Board. Orders rated A had to be filled before orders rated B, and so on. And sure enough the flow of munitions from America’s factories increased. Indeed, by the end of the war, output in some industries had approached the astonishing levels reached in World War II. In truth, determining how much of the increase, if any, was due to Baruch and his policies and how much to the maturing of projects started earlier would be difficult if not impossible. Baruch was in charge of war production for the only the last eight months of the war. But the halo of victory surrounded Baruch and the War Industries Board, and his reputation was made.

Progressives, such as Baruch, thought that the war had shown that in peacetime the private sector would benefit from a strong guiding hand from government, and that in wartime government should have complete control of the economy. But agreement on this was far from universal. The left and the right drew very different conclusions from the war. To the left of Baruch there were people who found proof in the war that socialism worked better than capitalism. In 1927 Rexford Tugwell, who would become a prominent advisor to Roosevelt in the first phase of the New Deal, referred to “America’s war-time socialism” and wrote sadly that “we were on the verge of having an international industrial machine when peace broke” (quoted in Leuchtenburg 1964: 90). But many on the right were tired of the daily interference in their lives emanating from Washington during the war, and sobered by the cost of a war undertaken for the idealistic goal of “making the world safe for democracy”. In 1920 Republican Warren G. Harding ran for president promising a “return to normalcy” at home and the avoidance of foreign entanglements abroad. He easily defeated his Democratic opponent, fellow Ohioan James M. Cox (and his running mate Franklin D. Roosevelt). It was a landslide – Harding won 60% of the popular vote.

Baruch’s views had little impact in the 1920s. Like other Progressives he had to bide his time while Republicans occupied the White House. But during the New Deal and World War II his views were influential. I will consider his ideas about peacetime economics below. Here let me note that his signature idea of a “priorities system” for guiding a war economy was given a full trial in World War II by the War Production Board, the analogue of his War Industries Board, but it was found wanting. The problem was “priorities inflation”. Government bureaucrats tended to give the highest priority to every project. Who wanted to risk being called to account for having given a low rating to the production of something that turned out to be important for the war effort? And when lead contractors were given the right to pass their priorities on to subcontractors, they inevitably found a way to give the highest priority they had received to every subcontract they entered. The War Production Board responded by creating higher and higher priorities – hence “priorities inflation” – but the system was unsatisfactory and jettisoned in favour of control through the rationing of scarce materials, although that solution also had its problems.

Franklin D. Roosevelt and the New Deal

When the Great Depression hit, the nation turned to Roosevelt, who responded by creating a host of new agencies and programmes. In a famous paper, “The New Deal and the Analogue of War”, historian William E. Leuchtenburg (1964) showed how in case after case the New Dealers turned to the example of World War I. It is hardly surprising. The war was still fresh in the public memory. “There was scarcely a New Deal act or agency”, wrote Leuchtenburg (1964: 109), “that did not owe something to the experience of World War I.” The Reconstruction Finance Corporation, which borrowed money to invest in railroads, banks, and other troubled enterprises – an agency created by Roosevelt’s predecessor Herbert Hoover – was explicitly modelled on the War Finance Corporation. The Tennessee Valley Authority, which undertook an ambitious effort at regional planning, grew out of a government-operated nitrate and electric power project created in World War I. New Deal agriculture policies were based partly on the policies of the Food Administration. And the Civilian Conservation Corps hired young men for projects in national parks and was based on the mobilisation of the army. Roosevelt told Congress that “In two brief months 300,000 men have enlisted, been trained, transferred to the front, and have started the attack. The battle is on in earnest” (quoted in Leuchtenburg 1964: 114).

“The legacy of the war”, Leuchtenburg (1964: 84) noted, “Was to prove a mixed blessing. Useful as a justification for New Deal actions, it also served to limit and divert the reformers in ways that had not been anticipated.” Policymakers might have drawn the conclusion from World War I that deficit spending combined with an expansionary monetary policy had propelled the economy toward full employment – a lesson that would have been enormously valuable in the Depression. Figure 1 shows a monthly index (1909=100) of industrial production measured against the left vertical axis, the stock of money (M2 in billions of dollars) measured against the right vertical axis, and the cumulative Federal deficit (in billions of dollars) also measured against the right vertical axis. One could choose alternative variables to represent the amount of monetary and fiscal stimulus or the response of the economy, but the general picture would be the same – the economy received a strong dose of both monetary and fiscal stimulation.

Although the stock of money appears in Figure 1 to rise at a fairly stable rate over the whole period, the declaration of war changed the sources of growth. During the period of US neutrality the stock of money rose because the Europeans were paying for their imports of raw materials and munitions in part by shipping gold. After the US declared war, the US government lent funds to our allies so that they could continue these purchases. But the stock of money continued to rise because the Federal Reserve purchased large amounts of federal debt to prevent interest rates from rising. As soon as the war in Europe began, American industry began to feel the effects of increased demand from our future allies for raw materials and munitions, and from neutrals who could no longer buy certain materials from the nations at war. The government fiscal stimulus, represented in Figure 1 by the cumulated federal deficit, however, began with America’s entry into the war.

Figure 1. Industrial production, the federal deficit, and the stock of money, 1910–1920

Although lessons about the effectiveness of monetary and fiscal policy could have been drawn from the war, economic theory was not ready. A few prescient economists recognised the role that had been played by monetary and fiscal policy, but the convincing work of Keynes and Friedman was still in the future.

The US experienced a financial crisis in 1914 when the war broke out; the corresponding dip in industrial production is visible in Figure 1. But the economy had returned to full employment by the time the US entered the war, as shown in Figure 2. Very low levels of unemployment were recorded in 1918 and 1919, and those rates owed something to the pressure-cooker economy that had been created. But they owed even more to the drafting of young men, often recent high-school graduates, removing a group from the labour force that normally experienced high rates of unemployment. For economists who looked at the world from a classical perspective, monetary expansion and deficit spending had simply created inflation. The rate of inflation – the percentage change in the GDP deflator from the previous year – is also shown in Figure 2. The highest rate, which exceeded 20%, was experienced in 1917. The relatively low recorded rate in 1919 was due in part to price controls.

Figure 2. Unemployment and inflation, 1910–1920

True, the wartime deficits were used to provide a justification for peacetime deficits in the 1930s. When the debt mounted, defenders of the New Deal pointed out that an even larger debt had been run up during the war, and America had done just fine in the 1920s. But that was very different from arguing that larger deficits would increase total spending and reduce unemployment. Roosevelt began the New Deal by slashing spending and trying to achieve a balanced budget – including cuts in veterans’ benefits, long considered untouchable – a policy that he had argued for vigorously during his presidential campaign. Although Roosevelt backed away from this position to a degree, he never abandoned his commitment to a balanced budget, let alone embrace Keynesian deficit spending. The Federal government kept two sets of accounts during the 1930s: the regular budget, and an extraordinary budget where relief spending was recorded. The idea was to reiterate through the accounting system itself that the deficits were a temporary measure forced on the administration.

The basic problem that war agencies dealt with – how to allocate scarce resources in a fully employed economy – was the reverse of the problem of the Depression – how to stimulate demand – but this was not part of the thinking behind the new agencies and programmes being created. The agricultural programmes are good examples. Farmers had suffered greatly during the great contraction from 1929 to 1933 because the prices they received for their crops had fallen further than the prices they paid. It is obvious to us now that the main problem was the collapse of demand. But New Deal policies aimed, especially at first, at reducing the “oversupply” of agricultural products. The Agricultural Adjustment Administration created in May 1933 was given the job of raising farm prices by limiting production. “Acreage allotments” assigned to individual farmers limited the amount of land planted with key crops. As the Depression wore on, programmes limiting supply were supplemented by efforts to increase demand, but the earlier policies were never abandoned.

The National Industrial Recovery Act was the premier attempt in the first Roosevelt administration to restore full employment. It looked to the War Industries Board and War Labor Board for inspiration. The idea was to stop, and hopefully reverse, the downward spiral of wages and prices by promulgating a code of fair practice for every industry. Employers would agree to maintain wages, increase substandard wages, and share out work, but in return they would be allowed to meet and negotiate “fair” prices. This was illegal under the antitrust laws, and so the Recovery Act exempted participating firms from the antitrust acts. The hope was that the National Recovery Administration would work with the leaders of various industries and coordinate a recovery through coercion and appeals to patriotism, much as Baruch had supposedly coordinated an increase in war production. General Hugh Johnson, a veteran of the War Industries Board and friend of Baruch, was put in charge. He was known at the time as Baruch’s man, although Baruch had in private recommended against his appointment. Johnson believed that the Depression was due to excessive competition. The natural tendency of business executives to cooperate had been thwarted by the antitrust laws. Excessive competition had gotten America into the Depression and suspending the antitrust laws and providing a government overseer to coordinate business decisions, and provide a conduit for the interests of labour and the consumer, would get us out. Although Baruch may have harboured some doubts about the excessive role being played by the government, in public he was a strong supporter of the Recovery Act.

To help enforce the codes, the Recovery Administration created the “blue eagle” (Figure 3 below). A business that was cooperating with the Recovery Act, for example a grocery that was setting prices according to the industry codes, could display the blue eagle. Shoppers (often assumed to be women) were asked to shun businesses that failed to display the blue eagle, even if they were charging lower prices. The blue eagle was based on the appeals to patriotism that had accompanied government programmes during the war: appeals to conserve food (Meatless Monday and Wheatless Wednesday) and fuel. The idea for the blue eagle was originated, or at least brought to wide public attention, by Baruch, who thought it was crucial to making the programme work. General Johnson saw shopping under the blue eagle as an act of patriotism. “They will go over the top to as great a victory as the Argonne”, said Johnson, “It is zero hour for housewives. Their battle cry is ‘Buy now under the Blue Eagle!’” (Quoted in Leuchtenburg 1964: 121). This sort of appeal, and the vigilantism that it could produce, was tolerated during the war. But understandably, it encountered more resistance in peacetime, and contributed to undermining support for the Recovery Act.

Figure 3. The “blue eagle”, which could be displayed by businesses that were complying with the National Industrial Recovery Act

The Recovery Act enjoyed a short honeymoon. When the initial post-election surge in industrial production petered out, and complaints of unfair treatment from various interest groups began to mount, confidence in the Recovery Act waned. Few tears were shed when the Supreme Court ruled it unconstitutional. Parts of the act dealing with labour survived in other legislation, but the attempt to coordinate industrial firms was over. Indeed, the later New Deal witnessed a revival of interest in antitrust. The methods used for dealing with shortages during the war, whatever their success in wartime, were simply inappropriate for dealing with the Depression. Although the Roosevelt administration wrestled mightily with the Depression, and produced important pieces of social legislation such as Social Security and the minimum wage, many of its programmes were aimed simply at reallocating resources from one interest group to another, rather than creating the additional demand that would have done the most to ameliorate the Depression.

Gerald P. Nye and the “Merchants of Death”

A third lesson many Americans drew from World War I was that the war was brought about not because democracy was in danger, but rather because munitions makers and bankers had pushed the US into the war for their own selfish reasons. Over 100,000 American fighters died in the war, about half from disease. It was a small number compared with the losses incurred by the European belligerents, but enough to produce second thoughts by many Americans about the wisdom of American involvement. When growing international tensions produced concern about another world war, a Senate Committee headed by Gerald P. Nye, a Progressive Republican, was appointed to investigate the role of the “Merchants of Death” (a term used frequently to disparage arms makers and the title of a widely read book published in 1934). The committee, which launched its investigations in 1934, pushed hard to make its antiwar point, and called many witnesses including industrialist Pierre S. du Pont and investment banker J. P. Morgan. Its investigations were halted when Nye accused President Wilson of having misled the country. A senate dominated by Democrats cut off funding for the committee. The Nye committee was successful in showing that many large firms had made a great deal of money from the war, but was not successful in demonstrating direct manipulation of decision-making, for example by bribing of public officials – something which Nye had helped uncover in the earlier investigation of the “Tea Pot Dome” scandal involving the leasing of Federal oil fields to private companies. The committee’s investigations, however, intensified isolationist sentiment, and helped delay rearmament despite the growing threat posed by the Nazis in Germany and the militarists in Japan. The world would pay a heavy price for American isolationism in the 1930s.

In the end, the US surmounted the challenges posed by the Great Depression and World War II despite the misleading lessons drawn from World War I. The philosopher George Santayana famously warned that “those who cannot remember the past are condemned to repeat it.” America’s experience with World War I reminds us of the danger in the other direction. Even brilliant, well-motivated people, it tells us, can jump to misleading conclusions based on simple readings of complex historical events – especially when those events are wartime events surrounded by the halo of victory.

Editor’s note: This is part of a series of Vox columns by leading economic historians on the First World War, which will be collected in a Vox eBook at the end of the year: “The Economics of the First World War”, edited by Nicholas Crafts, Kevin O’Rourke, and Alan Taylor.

References

Engelbrecht, H C and F C Hanighen (1934), Merchants of Death: A Study of the International Armament Industry, New York: Dodd, Mead & Co.

Leuchtenburg, W E (1964), “The New Deal and the Analogue of War”, in J Braeman, R H Bremner, and E Walters (eds.), Change and Continuity in Twentieth-Century America, Columbus: Ohio State University Press: 81–144.

Rockoff, H (2012), America’s Economic Way of War: War and the U.S. Economy from the Spanish-American War to the Persian Gulf War, Cambridge: Cambridge University Press.

Data sources

Carter, S B, S S Gartner, M R Haines, A L Olmstead, R Sutch, and G Wright (eds.) (2006), Historical Statistics of the United States: Earliest Times to the Present, Millennial edition, 5 Volumes, New York: Cambridge University Press. http://hsus.cambridge.org/HSUSWeb/HSUSEntryServlet (Unemployment, GDP deflator.)

Firestone, J M (1960), Federal Receipts and Expenditures during Business Cycles, 1879–1958, Princeton, NJ: Princeton University Press. (Government spending.)

Friedman, M and A J Schwartz (1970), Monetary Statistics of the United States: Estimates, Sources, Methods, New York: NBER, Table 1, column 9. (M2.)

Miron, J and C D Romer (1989), “A New Monthly Index of Industrial Production, 1884–1940”, NBER Working Paper 3172. (Industrial Production.)