FDR Goes to War

by Eric Shierman

Baked into our collective historical imagination is the notion that the war brought us out of the Great Depression. Since the major breakthroughs in macroeconomics that have taken place since 2009, this is a timely topic for a historian to tackle. Using Christopher Sims’ vector autoregression, Valerie Ramey and Robert Barro have definitively demonstrated this was not the case. War spending contracted GDP with a multiplier of 0.6 just like the utter waste that preceded it. The Fulsoms have been able to show what did change for the better, the Roosevelt Administration’s treatment of American business.

If one follows the theme and word choice of Franklin Roosevelt’s “fireside chats” there is an unmistakable difference between the before May 26, 1940 Roosevelt Administration and the after May 26, 1940 Roosevelt Administration. Roosevelt clearly made the policy choice to enter the war in the spring of 1940. Once that decision was made, the class warfare came to an end. Never again did we hear businessmen referred to as “privileged princes” who were “thirsting for power.”

Roosevelt became a war president and business became his friend. In that 1940 radio broadcast Roosevelt articulated a new vision for his presidency: “Therefore, the government of the United States stands ready to advance the necessary money to help provide for the enlargement of factories, the establishment of new plants, the employment of thousands of necessary workers, the development of new sources of supply for the hundreds of raw materials required, the development of quick mass transportation of supplies.” One can only wonder if there were industrialists seeing dollar signs as they listened to him conclude “We are calling on men now engaged in private industry to help us in carrying out this program, and you will hear more of this in detail in the next few days.” The President’s war on the private sector was coming to an end. In the next few days he introduced crony capitalism as his new economic policy.

Roosevelt’s reelection to his third term was in 1940 as well. In Wendell Willkie, the Republicans nominated an articulate debater. He was a successful business man with no government experience. Willkie’s moment of fame emerged from his debates with new dealers that were broadcast over national radio. The way the Folsoms describe his nomination makes me think of what Herman Cain almost became:

If this had been 1936, Roosevelt would have used Willkie’s business background against him, but after two terms in office and little economic recovery to show for it, Roosevelt opted for a new approach that fundamentally changed the direction of his administration’s policy. Taking advantage of the fall of France, Roosevelt became apolitical, focusing on foreign policy, pretending to be indifferent to his own reelection. This gave him a plausible rational for refusing to debate Willkie and ignoring the worsening economy. Behind the scenes Roosevelt was focused like a laser on his reelection, using the new military spending as a means of buying off Republican businessmen, appointing Republicans to his cabinet, and on the day before the Republican convention Roosevelt actually secured the support of the National Association of Manufacturers.

Roosevelt got the war he wanted. The Folsoms parry aside the conspiracy theories about Roosevelt’s foreknowledge of the attack at Pearl Harbor. It certainly seems malevolent that an administration so eager to enter the war and so consumed in preparing for it, would be so unprepared for the war once it came. There is no need for a conspiracy when simple stupidity will suffice. The mountain of money spent building up the military the previous year and a half had been squandered on building bases in the US for patronage political spending to buy support from former political enemies of the New Deal. There was also a rejection of the significance of naval aviation by the institutional establishment of the Navy that remained battleship centric. Roosevelt having once been an assistant secretary of the Navy considered himself an expert on such matters and concurred with the conventional thinking that Pearl Harbor was safe from attack until the Japanese assembled a huge armada of capital ships that could not be concealed. The idea that a small, inconspicuous group of carriers could inflict such damage was unthinkable at the time.

With the war effort, Roosevelt was able to intervene into the economy in a way that he never could even when he was at the height of his power in 1933. We’re talking about more than just rationing rubber here. The War Production Board controlled everything. To save textile material it mandated the shortening of women’s skirts! That’s what I call heavy handed regulation. There was ample opportunity to pick winners and losers, reward friends, and punish enemies.

The laws of economics could not be repealed however; incentives still mattered. The New York Times editorialized “We need also a prompt revision of those governmental policies which have destroyed production capacity in this country by discouraging private enterprise.” Secretary of War Henry Stimson laid out the policy choices available to his boss: “you have got to let business make money out of the process or business won’t work, and there are a great many people in Congress who think that they can tax business out of all proportion and still have businessmen work diligently and quickly. That is not human nature.” Roosevelt did not like it, but the necessity of war prompted him to abandon the New Deal which had America centrally planning its economy more than its enemies were. Restoring some old American entrepreneurial freedom, US industrial output turned on a dime:

In America, entrepreneurs were allowed to profit for their innovation; anti-trust laws and other regulations were relaxed. Burt Folsom narrates several anecdotes with the same style that made The Empire Builders such a good read. Kaiser, Higgins, and Simplot made fortunes during the war and America would have been weaker had they not:

Wartime tax policy regressively flattened the federal income tax. Previously Roosevelt pushed for a 100% tax on all income greater than $25,000, but it was defeated in Congress, despite large Democratic majorities. Taxes on the wealthy were already so punitively high, the only way more revenue could be gathered would be to broaden the tax base. Before 1942, the income tax was entirely a wealth tax that only 4 million Americans paid. Roosevelt cut the standard deduction by more than half bringing the tax base up to 39 million Americans. The next year, Roosevelt engineered the biggest change in tax policy since the creation of the income tax, withholding. Since the taxes for 1942 were also due in 1943, there emerged a problem of double taxation. The marginal rates were so high, this was serious stuff. For example, if you made $5,000 in 1943, the amount of taxes you would have to pay that year would be $7,924,795! Roosevelt was prepared to go forward with this. He seems to have compartmentalized his new found pro-business pivot by trying to confiscate the businessmen’s income. The House passed Roosevelt’s plan but it failed in the Senate. While it sat in conference committee, Roosevelt threatened to veto any watered down version, which is exactly what Roosevelt got. He vetoed it as promised, but Congress overrode Roosevelt’s veto and the Revenue Act of 1943 became law.

Roosevelt soon learned to love this new tax code. The complexity that came out of the reconciled House and Senate versions allowed tax breaks to be given to wealthy political allies while its opaqueness allowed a tax audit of political enemies ample opportunity to find wrongdoing real or imagined. The crony capitalism of our corrupt tax system was born.

In addition to really getting into the weeds of tax policy, the Fulsoms pack a separate book’s worth of detail into chapters on the loss of civil liberties, the courting of Stalin, and the 1944 election. They are able to match a clear prose style that makes for easy reading with a grounding in primary sources that documents the evidence for their conclusions. The fluffy romantization of Michael Beschloss and Doris Kearns Goodwin this is not.

The Folsoms wrap their book up with a chapter directly addressing the big question “Did the War end the Great Depression?” First they point out that the low unemployment of the war years should not be mistaken for economic prosperity. The low wages of soldiers on the front and women in home front factories looks a lot like the adjustment in wages that the countercyclical fiscal policies of the previous decade was trying to prevent. With low wages came war time rationing. A close look at the depravity of the time reveals austerity worse than where the labor markets were heading in 1932.

It was not that crony capitalism was an ideal way to manage an economy, it was simply better than what had come before – having public power companies buying up profitable utilities to then run at a loss, mass armies of diggers digging canals with small shovels rather than steam powered equipment, or farmers paid to burn their crops:

We recovered after the war. The crony capitalism has sort of remained with us, but nothing on the level of 1940-1945. The greatest post war miracle we saw was not so much economic but political. Political gridlock prevented the restoration of the New Deal until the late 1960s. Following the war we saw the biggest, most acute cut in government spending ever. If wartime spending was the support for an economic recovery, the sudden shock of its demise should have been damaging. The most enjoyable part of this wonderful book is the extent to which the Folsoms quote the experts at the time warning of the eminent economic doom when the federal fiscal support of the economy would end. The sudden discharge of so many young men all at once amounted to the largest mass layoff ever. The sudden cancelation of factory orders for guns, tanks, and bombers was the greatest shift in demand ever. This was all accompanied by no WPA or even unemployment benefits. The economy took off after the war just as Keynesian theory said it would not. For almost two decades the Hoover and Roosevelt Administrations had spent huge sums of money to prop up the economy that we now know yielded a multiplier of less than one. Simply bringing this to an end proved to be the best stimulus of all.

That of course is just a summary of the Folsoms’ book.  It’s so packed with detail and documentation it defies summary, making it the perfect gift this Christmas for that little policy wonk intellectual in your life.

Eric Shierman is a partner at Creative Destruction Investment Partners, writes for the Oregonian under the pen name “Portland Aristotle” on the MyOregon blog, and is the author of the forthcoming book: A Brief History of Political Cultural Change. His articles can be read at:http://connect.oregonlive.com/user/PortlandAristotle/posts.html