Our economic nightmare is just beginning
Source Louis Proyect
Date 11/09/29/23:47
Our economic nightmare is just beginning

by John B. Judis

Mitt Romney has shed the dark blue suit, white shirt, and pale
blue tie of his 2008 campaign for an open-neck tattersall shirt
with its sleeves rolled up. His sideburns are graying, and his
eyes are lined, but he still sports a boyish grin and radiates the
can-do enthusiasm of a man who is promising to turn the country
around the way he once turned around the Salt Lake City Winter
Olympics. This August morning, in the wake of the battle over
raising the debt ceiling and Standard & Poor’s decision to
downgrade America’s credit rating, he has come to Concord, New
Hampshire, to speak to the local Chamber of Commerce. Beforehand,
he agreed to answer a few questions from reporters.

In an opening statement, Romney blamed Standard & Poor’s decision
on President Obama. The president’s spokespeople, he said, “would
substitute Harry Truman’s ‘The buck stops here’ with a new motto:
‘The buck stops somewhere else.’ The truth is the buck stops at
the president’s desk, and he needs to reassert the leadership
necessary to restore America’s financial foundation.” To achieve
such a foundation, Romney endorsed the congressional Republican
plan, dubbed “cut, cap, and balance,” which would slash $111
billion from next year’s budget, reduce federal spending as a
percentage of GDP from 22.5 to 19.7 percent in six years, and
adopt a balanced budget amendment to the Constitution. The plan
represents an attempt to achieve private-sector prosperity through
public-sector austerity.

“Mr. Romney,” I said, after he had fielded several other
questions, “I want to ask you something about history. You know,
when Herbert Hoover had to face a financial crisis and then
unemployment, his strategy was to balance the budget and cut
spending, and that made things worse. When Roosevelt came in,
unemployment was twenty-five and went to fourteen percent by 1937.
With deficits. Aren’t you repeating the Hoover mistake?” Romney’s
grin turned quizzical. “Do you really think so?” he asked me. “I
do think so, but you go ahead,” I replied.

“Let’s go back to the Hoover days,” Romney began. “The issue in
the Hoover years was what was happening in the budget that year.
This year, we are spending $1.6 trillion more than we take in, and
that would have made anyone in either party blush if they saw
numbers like that. And the issue today is not just this year’s
deficit, it’s deficits as far as the eyes can see. ... America has
to rein in the excessive spending not just this year, but over the
long period of time.”

I didn’t think it would be proper to turn Romney’s press
conference into a debate about history, so I let his answer stand.
But he seemed to be suggesting that the premise of my question was
flawed because deficits are much larger today and will probably
continue unabated. And they are larger—but that is because our GDP
and government are also larger. Meanwhile, if our deficits stretch
“as far as the eyes can see,” so did the deficits in Hoover’s day,
which continued unabated for 16 years. Romney was insisting that
there was nothing to be learned from Hoover’s response to the
Great Depression. But, in fact, what happened in the United States
and Europe in the ’30s is an excellent—perhaps, the best—guide to
what is happening to us now.

Yet it’s not just Romney and the other Republican presidential
candidates who seem oblivious to the lessons of the ’30s. From
David Cameron to Angela Merkel to Japan’s new Prime Minister
Yoshihiko Noda, many of the world’s leaders are convinced that
austerity is the way to fix our broken economy. President Obama—at
least judging by his recent jobs speech to Congress—seems to
understand that this approach is leading to economic disaster; but
he may have waited too long to begin making this case to the
American people, and the odds that he can actually get any kind of
massive spending bill through Congress, now or even after 2012,
remain low.

During the next year of campaigning, we are going to hear lots of
uplifting slogans about America’s can-do spirit and the bright
prospects for our national future. That is the way politicians
talk, and there is nothing wrong with that. But such optimistic
rhetoric should not fool anyone about the underlying reality:
Unless there is a fundamental—and difficult-to-imagine—change in
the way our politics interacts with our economy, the United States
and much of the world are headed for a very grim future.

TODAY’S RECESSION does not merely resemble the Great Depression;
it is, to a real extent, a recurrence of it. It has the same
unique causes and the same initial trajectory. Both downturns were
triggered by a financial crisis coming on top of, and then
deepening, a slowdown in industrial production and employment that
had begun earlier and that was caused in part by rapid
technological innovation. The 1920s saw the spread of
electrification in industry; the 1990s saw the triumph of
computerization in manufacturing and services. The recessions in
1926 and 2001 were both followed by “jobless recoveries.”

In each case, the financial crisis generated an overhang of
consumer and business debt that—along with growing unemployment
and underemployment, and the failure of real wages to rise—reduced
effective demand to the point where the economy, without extensive
government intervention, spun into a downward spiral of
joblessness. The accumulation of debt also undermined the use of
monetary policy to revive the economy. Even zero-percent interest
rates could not induce private investment.

Finally, in contrast to the usual post-World War II recession, our
current downturn, like the Great Depression, is global in
character. Financial disturbances—aggravated by an unstable
international monetary system—have spread globally. During the
typical recession, a country suffering a downturn might hope to
revive itself by cutting its spending. That might temporarily
increase unemployment, but it would also depress wages and prices,
simultaneously cutting the demand for imports and making a
country’s exports more competitive against those of its rivals.
But, when the recession is global, you get what John Maynard
Keynes called the “paradox of thrift” writ large: As all nations
cut their spending and attempt to devalue their currencies (which
makes their exports cheaper), global demand shrinks still more,
and the recession deepens.

Politicians today might not want to remember, but, in the first
phase of the Great Depression, the major economies, oblivious to
the paradox of thrift, took steps that made things much worse. In
the United States, Hoover, who was a Republican progressive in the
tradition of William Howard Taft rather than Calvin Coolidge,
responded initially to the stock market crash and the drop in
employment by proposing a tax cut and a modest public works
program. He also tried to bring industry together to agree to
invest and to maintain wages and prices. But, when firms continued
to cut back, unemployment continued to rise, and tax revenues
dropped—creating a budget deficit—Hoover and the Republicans
turned to cutting government spending and raising taxes on the
assumption that a government, like a business, should not respond
to hard times by going further into debt. In a news conference in
December 1930, Hoover declared, “Prosperity cannot be restored by
raids upon the Public Treasury.” In fiscal year 1933 (which began
in June 1932), federal spending actually decreased. By March 1933,
when Franklin Roosevelt took office, the unemployment rate had
climbed to 24.9 percent from 3.2 percent in 1929.

In Great Britain, the economy had begun to decline after 1925,
when the Tory government, rejecting Keynes’s advice, decided to go
back on the original pre-World War I gold standard. By raising the
price of the pound in dollars or francs, the Tories priced British
exports out of the world market. In May 1929, the Labour Party
ousted the Conservative Party, whom voters blamed for the
downturn. But Labour Prime Minister Ramsay MacDonald pursued many
of the same policies as the conservatives. MacDonald was a
socialist and blamed a “breakdown” in world capitalism for
Britain’s ills, but he thought that as the head of capitalist
Britain, he had to adhere to the gold standard and free trade,
while cutting the budget.

Keynes’s Liberal Party, led by former Prime Minister Lloyd George,
advocated massive public works, but Labour leaders branded the
Liberal proposals “madcap finance.” They rejected any idea of a
third way between laissez-faire capitalism and socialism. As
unemployment soared in Britain, MacDonald proposed raising taxes
and cutting spending on unemployment insurance in order to balance
the budget. MacDonald had always been averse to partisanship and
had earlier urged the parties to put their “ideas in a common
pool.” When Labour’s trade union members balked at his cuts,
MacDonald created a national unity government with the Tories in
1931 and passed spending cuts and tax increases. By the next year,
unemployment in Britain had risen to 22.1 percent from 10.4
percent of the wage-earning workforce in 1929.

In Germany, where the slump had begun in 1928, a coalition led by
a Social Democratic prime minister held sway. Both the Social
Democrats and their conservative coalition partners were committed
to reducing Germany’s rising budget deficits, but the Socialists
wanted to do so by borrowing money overseas, while the
center-right parties advocated cutting the budget by slashing
unemployment insurance. The government split and, in an election
in 1930, a center-right coalition led by the Catholic Centre
Party’s Heinrich Brüning took power. Brüning drastically cut
spending and raised taxes, and, by 1932, when the next elections
occurred, the German economy was in ruins. Production was at 40
percent of what it had been in 1929, and unemployment had risen to
33 percent.

In all these cases, the lesson was clear: Cutting spending and
raising taxes to balance the budget had made things much worse.
And, as these governments discovered, there was a political price
to be paid. In the United States, Franklin Roosevelt and the
Democrats turned out Hoover and his party by a landslide. The
Republicans would not win the presidency again for 20 years and
would remain the de facto minority party for almost 50 years. In
the October 1931 elections in Britain, the Labour Party suffered
its worst defeat. MacDonald would be expelled from the party, and
Labour would not regain power until 1945. In Germany, Adolf
Hitler’s National Socialist Party would best the other parties in
the 1932 elections. And, in January 1933, Hitler would become

IN THEIR INITIAL response to the recession of 2008, leaders in the
United States and Europe appeared to heed the lessons of the Great
Depression. Obama, British Prime Minister Gordon Brown, and French
President Nicolas Sarkozy each backed generous government spending
programs to revive the economy, and they also advanced proposals
for reforming the increasingly dysfunctional international
monetary system. In the United States, Federal Reserve head Ben
Bernanke and Council of Economic Advisers chair Christina Romer
had both made their mark as academics with analyses of the Great
Depression. And Britain’s Labour Party had become a bastion of
Keynesianism after World War II. In short, there seemed little
doubt that the follies of the late ’20s and early ’30s would be
avoided this time.

But then problems began to arise. Obama’s initial stimulus proved
woefully insufficient to stem the rise in unemployment. The $787
billion federal stimulus included $288 billion in tax cuts, which
were as likely to be saved as to be spent; meanwhile, the stimulus
was partially offset by an estimated $425 billion in state and
local spending cuts and tax increases. The need for more spending
was evident to Romer and to liberal economists, including Paul
Krugman and former Council of Economic Advisers head Joseph
Stiglitz; but Obama failed in his first year to press
energetically for additional spending. His influential treasury
secretary, Timothy Geithner, believed that, after the initial
stimulus, the recovery was proceeding on its own, and Obama’s
attention was focused on passing health care reform. By the end of
2009, the failure of the recovery to take hold had emboldened the
Republican opposition and given birth to a new right-wing
movement, the Tea Party, that called for a drastic reduction of
government spending.

Republican victories in the 2010 election led Obama to backtrack.
He embraced the rhetoric of austerity—calling on government to
“tighten its belt”—and accepted spending cuts in order to pass a
budget and win Republican agreement for raising the debt ceiling.
Most of these cuts are slated to take place over a decade, but as
much as $30.5 billion is to be cut in 2012. In acceding to the
uncompromising Republican opposition, Obama made it less likely
that the United States would recover from the recession during his
first term. Recently, as Obama’s popularity sank, even among
Democrats, and as the economy has continued to flounder, he has
changed course, calling for $400 billion in new spending and tax
cuts to create jobs; but the odds that Republicans will go along
with him seem low.

In Great Britain, the dour Brown, who was inept as a politician,
was replaced in May 2010 by Tory David Cameron. A modest recovery
had begun under Brown, but Cameron, concerned about a rising
deficit, slashed spending and raised taxes. Cameron’s five-year
plan calls for the elimination of 300,000 public-sector jobs. As a
result, growth has slowed to a crawl in Britain. The economy
increased .2 percent in the second quarter. And unemployment,
which fell in 2010, has begun to rise.

On the continent, the leaders of more prosperous nations have
responded to growing unemployment, lagging growth, and the threat
of insolvency on the periphery by calling for austerity. Dutch
Prime Minister Mark Rutte has proposed appointing a Eurozone
commissioner who could expel countries (like Greece) that don’t
adhere to strict budget rules. Sarkozy and Merkel have proposed
that all the Euro countries pass legislation requiring balanced
budgets and balked at creating “Eurobonds” that would give
struggling countries access to lower-interest loans. “Austerity is
the only cure for the Eurozone,” Merkel’s finance minister,
Wolfgang Schäuble, declared in The Financial Times.

SOMETIMES LEADERS do things that harm their own nations because
they don’t know any better. Hoover, like many Republicans and
Democrats at the time, couldn’t conceive of deficit spending as
being beneficial under any circumstances. But others have had
choices and have still adopted the alternative that is most
damaging to their country. That was true of British Labour during
the beginning of the Great Depression—and it is true of the
leading American and European politicians who have backed the
current round of austerity measures.

There are three factors that explain these bad choices. The most
common, but least persuasive, explanation is that political
leaders and governments are in thrall to powerful financial
interests. The City of London (Britain’s Wall Street) was
certainly enthusiastic about reviving the gold standard in 1925
and resisting devaluation afterward; London’s bankers saw the
prewar gold standard as essential to maintaining their hold over
international finance. In the United States today, bankers on the
Federal Reserve’s Open Market Committee have opposed the Fed
injecting more money into the economy because it might be
inflationary. Inflation reduces the value of the loans that banks
have made.

But this explanation is unsatisfying because support for austerity
goes well beyond bankers. A second explanation is that national
leaders, faced with a severe downturn, model their own reaction
for what a nation should do on what an individual business, faced
with more efficient competition, would do. They want the
government, like a business, to respond by cutting costs rather
than increasing debt. They also see public spending and deficits,
which must be financed on the same bond market where businesses
raise money, as “crowding out” what’s available for private
investment. And the more sophisticated see austerity as part of a
general strategy—along with eliminating business taxes and
regulations—to boost exports and reduce imports. Cutting spending
makes it possible to cut taxes on business; less spending on
unemployment insurance or welfare puts downward pressure on wages
and prices, making it easier to outsell foreign competitors. It is
a model that assumes an atomized world economy in which each
nation is out for itself. The United States and Europe embraced
this “beggar thy neighbor” strategy at the beginning of the Great
Depression, and today’s Republicans, as well as Cameron’s Tories
and Merkel’s Christian Democrats, do so, too. Japan’s Noda also
endorses a version of this strategy.

The third factor has to do with what economist Robert Skidelsky,
trying to explain the dogged adherence of MacDonald’s Labour
government to the gold standard and to laissez-faire capitalism,
called “political culture.” It is particularly relevant to the
United States and Britain. Nations, like individuals, grow up with
certain assumptions about government and the economy that can
persist over centuries. Britain and the United States both have
strong anti-statist traditions, dating from the English and
American revolutions, that were reinforced by their economic
success. Writes the anthropologist Jared Diamond, “The values to
which people cling most stubbornly under inappropriate conditions
are those values that were previously the source of their greatest
triumphs over adversity.”

In the American political culture, opposition to “big government”
has become an article of faith that brooks no contradiction. When
I was in New Hampshire this summer, I accompanied Republican
Congressman Charlie Bass on a visit to a small factory that
produces industrial-strength air-conditioning filters. Bass asked
the factory owner what he would do first if he were Obama. The
owner replied immediately: “Cut spending.” Later, as I was touring
the plant, I learned that schools, government buildings, and the
military bought their filters there.

As Bass was leaving, I asked the owner whether, in proposing that
Obama reduce government spending, he wasn’t cutting off his nose
to spite his face. He was taken aback and took a moment to reply.
He began by denying that cutting federal spending would have any
effect on his business, which was mostly local, but then
acknowledged that schools and offices now had less money to buy
filters. It was as if he had never made the connection before
between his deep-seated cultural assumptions about government and
the fate of his own business—and by extension that of other

Charismatic leaders can reshape and even defy their nation’s
political culture. Franklin Roosevelt did so during his first
term. But Roosevelt inherited a situation so desperate that the
public was willing to tolerate any kind of experimentation. Obama
entered office with some of the preconditions for radical reform.
Crisis was in the air. Wall Street was in disfavor. Voters blamed
the downturn on his Republican predecessor, George W. Bush. And he
had the rudiments of a political movement. But the country was not
in as desperate shape as it was in 1933, and the opposition was
still functioning. To have put in place a program that might have
spurred at least the beginnings of a recovery, Obama would have
had to be both extraordinarily bold and fiercely combative. And he
was neither.

In dealing with the downturn and financial crisis, the president
was cautious—as evidenced by his choice of Geithner, who had
presided over the Federal Reserve Bank of New York during the
crash. Like MacDonald, Obama harbored a dream of bringing the
parties and interest groups together behind his program. As The
Financial Times’s Martin Wolf put it, “Mr. Obama wishes to be
President of a country that does not exist. In his fantasy US,
politicians bury differences in bipartisan harmony.” After the
bruising battle over the debt ceiling, Obama may have finally put
his dream of a post-partisan politics to rest and adopted a more
aggressive political style. But the narrow opening for dramatic
change that existed in early 2009 has probably closed.

TO EXTRICATE THEMSELVES from this mess, the United States and
other leading nations are going to have take the same kind of
steps that the West took after World War II—steps that led to 25
years of prosperity. After World War II, governments came to play
a much greater role in national economies, particularly in the
United States. In 1929, U.S. federal spending accounted for 3.68
percent of GDP. During World War II, it rose to 43.6 percent; by
the mid-’50s, it had leveled off between 17 and 23 percent. This
spending helped complement private investment and sustain consumer

In the future, the United States will once again have to raise
rather than lower the level of federal spending as a percentage of
GDP. Republicans want to cap spending at 19 percent of GDP, but,
in the wake of the recession, it may have to hover between 25 and
30 percent or perhaps climb even higher. That’s because of an
aging population that will need public services, the growing
importance of publicly funded science and technology, the need to
transform the nation’s energy and transportation networks, and the
impact on employment of the trend toward automation in
manufacturing and services. Even if the U.S. economy grows at a
healthy pace, the private sector may not provide enough jobs.

The United States and other nations will also have to reform the
world’s monetary system—again—in order to instill a sense that we,
the world’s nations, are all in it together. Near the end of World
War II, the United States, with Britain as a junior partner,
established the Bretton Woods international monetary system. That
eliminated a major source of instability and division that had
arisen when the older British-based gold standard had broken down.
The Bretton Woods system was based on the dollar’s equivalence to
gold, but, unlike the older system, it allowed countries other
than the United States to devalue or revalue their currencies and
thereby reduce either their trade deficits or surpluses.

In the 1970s, Bretton Woods broke down. The new dollar-based
system has fueled a succession of crises. It has been held
together tenuously by a triangular relationship among the United
States, Japan, and China in which the Asian countries have sought
to maintain their export surpluses with the United States by
keeping their currencies undervalued. Rather than exchanging their
surplus dollars for their own currency, they have used the dollars
to buy U.S. government or private securities. They have funded
U.S. deficits, but also helped provide the money that inflated the
housing bubble. As the recession set in, China, in particular, has
been in a position to alleviate the crisis and to confound the
paradox of thrift by substantially revaluing its currency, which
would encourage exports from the United States and Europe—but it
has balked at doing so. In effect, China, too, has followed a
strategy of “beggar thy neighbor.”

To escape the recession, the leading nations, including China,
would have to establish a new international system that could
avoid these kinds of imbalances. But how? The economic historian
Charles Kindleberger pioneered the argument that a stable,
well-functioning international system requires a single, leading
nation—an absolute monarch. But no country will be ready within a
decade or two to assume the role that the British played in the
nineteenth century or the United States played after World War II.
This means the leading countries will have to reach agreement
among themselves. And that won’t be easy, particularly as a
version of economic isolationism gains ground.

OBAMA IS UNLIKELY to get substantial spending increases through
the Republican House during the next year, and, even if he wins
reelection, he probably won’t have large enough majorities in
Congress to force through the kind of spending the economy needs.
Indeed, as a second-term president, he would likely be in the same
position as MacDonald in 1931, presiding over a national
government that he ultimately does not control.

Romney and Rick Perry, the two leading candidates to replace
Obama, are both business conservatives who can be expected to take
their cues on economic policy from the Chamber of Commerce, Wall
Street, and the Business Roundtable rather than from the Tea
Party. Romney, who cherishes the image of himself as a pragmatic
turnaround artist, may prove more adaptable to economic
circumstances than Perry. In his appearances, Romney sends out dog
whistles—audible to liberals—that he is not as economically
radical as his opponents. For his part, Perry should not be
dismissed as an anti-government activist. A Tea Party enthusiast
would not have established the Texas Emerging Technology Fund,
which uses government money to boost high-tech business ventures.

If they are faced with a continuing slowdown, Romney or Perry
would be likely to support what they would think of as a stimulus
program—one that is heavily weighted toward reducing business
costs through cutting corporate tax rates, eliminating capital
gains taxes, reducing or eliminating regulations, and discouraging
unionization. The hope will be, as Romney has put it, to make
“American businesses competitive in the global economy.” But such
a strategy assumes that there is a backlog of demand for U.S.
consumer and capital goods that firms would meet if government
increased their potential profit margins. In a global downturn,
that’s not necessarily the case. Such an approach would probably
do what Calvin Coolidge, Ronald Reagan, and George W. Bush’s
economic proposals did: redistribute wealth and income from the
bottom toward the top—out of the hands of people who are most
likely to spend what they have and into the hands of people most
likely to save rather than spend. In a downturn, that’s not a good
strategy for getting the economy going.

The policy outlook is similarly grim in Europe. To remain viable,
the Eurozone will have to widen its responsibility for the
economic health of the weaker, peripheral nations that are
tottering under debt and exorbitant interest rates. But France and
Germany are urging these countries to escape their debts by
drastically cutting spending; that, again, will reduce demand in
the Eurozone during a downturn. And powerful conservative forces
within the wealthier countries—asking, “Why should we help
them?”—are against any expansion of fiscal responsibility in the

In the ’40s, it finally took a world war to bring about the
conditions for reforming the world’s leading economies. The war
established the United States as the unchallenged leader of world
capitalism, and it convinced Washington that a renewed strategy of
“beggar thy neighbor” would be self-destructive. The popular New
Deal reforms also established a floor under government’s role.
Western Europe and Japan followed America’s lead. Will it take
another global catastrophe to convince the leaders of the United
States, Europe, and Asia to halt the repetition of past errors—to
recognize that they need to establish a new economic order? What
will it take to convince the people of the United States that they
have to overcome their cultural predilections against big
government? These are the questions that will have to be answered
over the years, but, in the coming election, I would expect they
would meet with the same Cheshire Cat grin that I received when I
asked Romney whether he wasn’t calling on America to repeat
Hoover’s mistakes.

John B. Judis is a senior editor at The New Republic and a
visiting scholar at the Carnegie Endowment for International
Peace. This article appeared in the October 6, 2011, issue of the

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