Government Spending Didn’t End the Great Depression

Given that our country is mired in a severe recession, the history of the Great Depression — especially the history of how we got out of it — is rightly regarded as relevant to fixing today’s problems.

Some popular accounts would have us believe that the Great Depression ended via a) FDR’s New Deal and/or b) World War II. Translation: it was ended via a) a veritable government takeover of the economy, including massive wealth transfers to pay for make-work projects and/or b) an extremely costly war, both in money and in lives. Keynesian economists (and the politicians they influence) have used this supposed history to justify claims that more government spending, no matter what form, is the key to economic recovery.

But economic historian Burton Folsom and his wife, Anita Folsom, have written a forceful Wall Street Journal piece debunking the popular mythology of the Great Depression.

Here are some excerpts:

Let’s start with the New Deal. Its various alphabet-soup agencies — the WPA, AAA, NRA and even the TVA (Tennessee Valley Authority) — failed to create sustainable jobs. In May 1939, American unemployment still exceeded 20 percent. European countries, according to a League of Nations survey, averaged only about 12 percent in 1938. The New Deal, by forcing taxes up and discouraging entrepreneurs from investing, probably did more harm than good.

What about World War II? We need to understand that the near-full employment during the conflict was temporary. Ten million to twelve million soldiers overseas and another ten to fifteen million people making tanks, bullets and war materiel do not a lasting recovery make. The country essentially traded temporary jobs for a skyrocketing national debt. Many of those jobs had little or no value after the war.

What was the solution? In large part, for the government to substantially reduce its intervention, especially through taxes and wealth transfers. After the war, Folsom writes,

Congress reduced taxes. Income tax rates were cut across the board. FDR’s top marginal rate, 94 percent on all income over $200,000, was cut to 86.5 percent. The lowest rate was cut to 19 percent from 23 percent, and with a change in the amount of income exempt from taxation an estimated twelve million Americans were eliminated from the tax rolls entirely. Corporate tax rates were trimmed and FDR’s “excess profits” tax was repealed, which meant that top marginal corporate tax rates effectively went to 38 percent from 90 percent after 1945.

[…]

By the late 1940s, a revived economy was generating more annual federal revenue than the United States had received during the war years, when tax rates were higher. Price controls from the war were also eliminated by the end of 1946. The United States began running budget surpluses.

A lesson of this is that government spending is not economically necessary to end a downturn or depression; it is economic poison. In today’s economic context, the antidote is first and foremost a massive reduction in government spending (tax cuts are desirable, but only once our deficit is cut) which must include a phasing out of the welfare and regulatory programs that so much of government spending pays for.

This article originally appeared on Voices for Reason, April 20, 2010.