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Thursday, May 24, 2012

The Myths of the Interventionists

The austerity that isn't.

One of the most pernicious myths in the economic history of the twentieth century is the belief that what caused the Great Depression, or at least worsened it, is Herbert Hoover’s dogmatic commitment to a “do nothing” laissez-faire policy in the aftermath of the stock market crash. This argument is part and parcel of the set of beliefs about the Great Depression that I have dubbed the “high school history” version of that event. (It includes the claims that laissez faire caused it, Hoover’s inaction worsened it, the New Deal did wonders, and World War II got us all the way out.) This claim about Hoover’s dedication to laissez faire is, as I have suggested, utterly false.

In fact Herbert Hoover was long known as a Progressive who favored much more government intervention in the economy. From his days with the U.S. Food Administration in World War I through his time in the 1920s as secretary of commerce, Hoover constantly pushed his beliefs that laissez faire did not work and that government must take a more active role. When the economy went south during his first year as president, it came as no surprise that he put those beliefs into action.

Hoover not only signed the Smoot-Hawley Tariff, as everyone knows, he also encouraged businessmen to keep wages up, expanded the real amount of government spending, reduced immigration to near zero, set up all manner of government lending facilities, and increased the budget deficit. Along with the Federal Reserve System’s failure to do its job, resulting in a 30 percent drop in the money supply, these Hoover interventions were responsible for turning what might have been a severe, but short recession into a Great Depression. So the “high school history” story is right to blame Hoover–but it does so for exactly the wrong reasons.

Hoover’s Well Known Views

How did this myth get started? Hoover’s beliefs were widely known before he was elected. Indeed “in 1920 [Franklin] Roosevelt backed Hoover for the presidency–as a Democrat.” During Hoover’s presidency, numerous commentators pointed out his activism. Hoover himself made it a selling point of his 1932 presidential campaign against Roosevelt. Roosevelt knew it too: Part of his campaign was an attack Hoover’s expansion of the budget deficit. Roosevelt’s advisers also understood what Hoover did; they noted that much of the New Deal was taken from programs that he had started.

So where did the myth of Hoover come from?

I don’t have an easy answer to this question, but it’s an important one because we may well be in the middle of a parallel myth. This is the belief that so-called “austerity” programs have prevented economies in Europe, and perhaps the United States too, from recovering more strongly from the Great Recession. Pundits such as Paul Krugman blame what they see as dramatic budget-cutting (“austerity”) in European Union counties for the lackluster recoveries and even double-dip recessions around the world. For Krugman this proves that an even larger Keynesian-style stimulus is needed.

What Austerity?

In the face of this argument various classical-liberal economists have offered compelling evidence that in fact the reductions in spending in Europe have either been nonexistent or very small.  In almost all cases, they have been accompanied by tax hikes that are counterproductive in a recession. These economists also argue that the lackluster recovery might be the result of various policies that these governments have adopted, such as stimulus programs at the onset of the recession and/or the very tax hikes associated with supposed austerity. Without a serious attempt to deal with the rising costs of maintaining their expansive social programs, the countries of the EU (and the United States) will eventually have to pay the piper. Their reluctance to face that reality does not inspire investors to want to take long-term risks there.

The danger at the moment is that the Myth of Austerity will become the Great Recession equivalent of the Myth of Hoover. The damage the Hoover myth has done extends all the way to the Great Recession itself: Many argued in the fall of 2008 that anything short of the enormous intervention we got that winter would be “Hooverism” and plunge us into a second Great Depression. In fact, the Myth of Austerity is really just a warmed over version of the Myth of Hoover.

When people like Krugman come face to face with the failure of the ideas they’ve been peddling for decades, rather than confront that truth they retreat to the same old myths. Just as the defenders of intervention in the 1930s and ’40s needed the Myth of Hoover when the New Deal didn’t deliver as promised, so do their modern counterparts need the Myth of Austerity to explain away the failure of their interventionism today. There is no more important task for classical liberals right now than to prevent the Myth of Austerity from taking hold.

Find a Portuguese translation of this article here.

  • Steven Horwitz was the Distinguished Professor of Free Enterprise in the Department of Economics at Ball State University, where he was also Director of the Institute for the Study of Political Economy. He is the author of Austrian Economics: An Introduction.