20-Jul-2010 | By Brian Anderson, Contributing Editor
Note: Part I of this series appeared in the June issue of A Line of Sight here. Part III will publish in the August issue.Many people who idolize President Franklin Roosevelt and support Keynesian economic theory argue that President Hoover was a capitalist who believed the free market would resolve the economic issues following Black Tuesday. In reality, although Hoover was a Republican, he believed that the federal government should have a large role in the economy and society. Think of President George W. Bush’s Compassionate Conservatism; although, unlike Hoover, Bush understood that business-friendly fiscal policy would shorten an economic contraction. Nevertheless, Hoover and Bush believed that the federal government should provide public services and intervene in the economy.
Hoover rejected supply-side economics and believed that the first step to stabilize the economy was to maintain employment and wages. Dubbed the high-wages theory, Hoover thought that people would spend their income and stabilize the economy. Hoover convened business leaders to convince them to maintain employment and wage levels even though the natural tendency for businesses was to shed jobs, decrease wages or both to protect revenues and their shareholders.
Hoover used the power of his office to coerce businesses to bear the brunt of the economic contraction and apply his high-wages theory. “The fundamental fallacy of the high-wages doctrine”, Jim Powell wrote in FDR’s Folly: How Roosevelt and His New Deal Prolonged the Great Depression, “was it didn’t increase total purchasing power (money supply). If businesses increased the amount of money paid out as wages, then employees had more money to spend, but businesses and their shareholders had less money to spend. A high-wages policy might affect the distribution of business revenue, not the total amount of purchasing power in an economy.” Businesses were already hurting after Black Tuesday. Hoover hurt them more.
The high-wages policy was shortsighted and prolonged the inevitable outcome that businesses would eventually have to adjust to the economic conditions. Businesses had the options of maintaining wages or shutting down under the policy. Many businesses had no other option but the latter.
Another disastrous Hoover policy was the Smoot-Hawley tariff, which Hoover signed into law on June 17, 1930. The misguided intention of the tariff was to stimulate American agricultural production by raising import duties on about 25,000 agricultural products. The stock market immediately fell. Countries retaliated, as typically happens when another country imposes a tariff, by restricting imports of American products. The Smoot-Hawley tariff and subsequent tariff retaliation negatively affected economies across the globe, including the US economy. US goods were effectively shut out of the markets of its trading partners.
Jim Powell noted, “Smoot-Hawley was particularly destructive because the United States was the world’s largest creditor. While demanding that debtors make their payments, the United States made it more difficult for them to do so. Farmers, who had lobbied so hard for Smoot-Hawley, saw their exports plunge from the 1929 pre-Smoot-Hawley $1.8 billion to $590 million just four years later. This contributed to the catastrophic downward spiral of businesses nearly everywhere.”
Tariffs hinder the free market by restricting trade which sets harmful parameters around the range of economic activity. US goods were suddenly shut out of foreign markets and vice-a-versa. Smoot-Hawley restricted economic activity when it needed to expand.
Smoot-Hawley and artificially high wages were not the only means by which the Hoover administration interfered with the free market. Hoover increased federal spending for public works projects and increased taxes in 1932 when he signed the Revenue Act. The Hoover administration urged states to undertake public works projects that were aided by the federal government. Public works projects included the Hoover Dam, highway construction and numerous other ineffective stimulus projects. Federal spending increased from $3.1 billion when Hoover took office to $6 billion in his final fiscal year in office. The federal deficit rose dramatically.
In 1931, Hoover urged Congress to raise taxes to cover the federal deficit. Subsequently, the Hoover tax increases in 1932 were the largest tax increases before or since. Alan Reynolds illustrated in The Hoover Analogy Flunks that the Hoover tax increases raised the top income tax rate from 25% to 63% and quadrupled the lowest tax rate from 1.1% to 4%. The plan backfired as federal revenues from the income tax dropped from $834 million in 1931 to $427 million in 1932 to $353 million in 1933. Not only did the Revenue Act punish tax payers, it punished the federal government as well.
The results of Hoover’s ineffective federal intervention into the economy were a dramatic increase in unemployment and economic contraction. During the four fiscal years under president Hoover, the unemployment rate rose from 8.9% in 1930 to 24.9% in 1933. Businesses shut down and deflation destroyed investment. People held onto their money rather than invest it in the unstable stock market and businesses.
Contrary to the arguments of big government advocates, the Hoover administration did not follow free market ideology. In fact, the Hoover administration expanded the role of the federal government to unprecedented levels. Following Black Tuesday, the Hoover administration intervened in the economy worsening the situation which led to a 24.9% unemployment rate. FDR expanded the ineffective policies of the Hoover administration, grew the government to frightening levels and prolonged the Great Depression, which will be discussed in next month’sA Line of Sight.
