FISCAL POLICY IN THE 1930s

The popular belief that the Hoover administration did nothing to combat the depression is erroneous. In January 1932, he set up the Reconstruction Finance Corporation to borrow money by issuing securities guaranteed by the federal government and to relend it to banks, insurance companies, railroads, and other businesses experiencing financial difficulties. The very formation of such an agency in peacetime (it was a revival of the War Finance Corporation of World War I) marked a sharp break with tradition. Support of agricultural prices with production controls by the Federal Farm Board, which had been established in 1929, was equally revolutionary. The Hoover administration’s major deficiencies were its persistent refusal to establish a desperately needed federal program of work relief, even if it meant deficits, and its failure to press the Federal Reserve to expand money and credit. Orthodox Keynesians would add that the administration should have deliberately raised spending for whatever purpose and cut taxes to generate “multiplier effects.” Virtually all economic historians agree that too much reliance was placed on maintaining confidence through the public testimonials of business and government leaders but not enough on measures to raise incomes and correct the deflation.

Franklin D. Roosevelt and his staff were uncomfortable with deficits. During the campaign of 1932, Roosevelt promised to cut spending 25 percent and balance the budget. But once in office, the Roosevelt administration was willing to run large deficits by historical standards to finance its many new programs. How large were these deficits?

TABLE 23.3 GOVERNMENTAL EXPENDITURES AND REVENUES, 1927-1940 (BILLIONS OF DOLLARS)

AThis is for 1927; data for 1929 is not available.

Source: Historical Statistics 1975, Series F53, Y335, Y336, Y339, Y340, YSS2, and YS7I.

Why did they not lift the country out of the depression, as Keynesian economic theory predicts?105 The relevant numbers are given in Table 23.3. The federal budget was steadily in deficit during the depression. Relative to the traditional size of the federal government, the level of spending and the deficits seemed large indeed. Note that by 1938, federal spending was two and one-half times as high as it had been in 1927. Taxes had also been increased (despite the depression) by 75 percent from $4 billion to $7 billion. The resulting deficit of $0.2 billion ($7.2 — $7.0) in 1938, however, was more than offset by a surplus at the state and local levels of $1.1 billion ($10.0 — $11.1).