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Blogging the Zombies: Expansionary Austerity – Life

November 26th, 2011

Another instalment in the new  draft chapter on Expansionary Austerity, which I’m writing for the paperback edition of Zombie Economics. Comments and criticism much appreciated

Despite the advocacy of Keynes, the Treasury View prevailed. When the majority of the Labour government elected in 1929 rejected the austerity policies proposed by Treasury, the government split. The Prime Minister, Ramsay MacDonald and Chancellor of the Exchequer, abandoned Labour and joined the Conservatives in a ‘National Government’, which held office throughout the 1930s.

The effects of austerity were disastrous.  The unemployment rate in Britain. Unemployment rates were above 20 per cent throughout the 1930s, and even higher in the ‘depressed areas’ of the North.

But with the Labour party divided and discredited, and the Liberal Party in terminal decline, there was no alternative. MacDonald was soon pushed aside, along with the remaining pretensions of the National Government to any concern about the poor and unemployed. The Conservatives would remain in office for another decade, before finally being swept aside by a resurgent Labour Party in 1945.

If the effects of austerity were bad in Britain, they were disastrous in Germany and Japan. By 1929, Germany seemed finally on the path to recovery after the destruction wrought by what was then called the Great War of 1914-18, the punitive treaty of Versailles and the hyperinflation of the early 1920s.  The extremists of the Communist and Nazi parties had been marginalized, and a moderately left-of-centre coalition, led by the Social Democratic party, held power.

The Depression hit the government hard, and provoked a demand for austerity policies, most notably a cut in unemployment benefits. The finance minister, Rudolf Hilferding was a leading Marxist theoretician, but in matters of macroeconomic management Marxist orthodoxy coincided with the Treasury view. Hilferding argued that, while crises and depressions would inevitably bring about the downfall of capitalism in due course, in the meantime, there was nothing to do but to follow the dictates of capitalist sound money.

As in Britain, the government split and fell, and was replaced by a conservative government led by Heinrich Bruning. Bruning pushed austerity policies even harder, steadily losing public support and driving the growth of the extreme parties, most notably the Nazis. By the time he fell from office in 1932, Hitler was unstoppable.

Much the same story played out in Japan. As the Depression intensified, the civilian governments imposed austerity measures that produced a sharp deterioriation in living standards. After a period of chaos, with growing political violence and assassinations, the military took over government, using the time-honored policy of international aggression to cement domestic support. The invasion of Manchuria in 1931 was the first in a series leading up to the Pearl Harbor attacks of 1941, and Japan’s entry into World War II.

The policy of austerity did not triumph everywhere. In some countries, including Sweden and New Zealand, social democratic or labour governments came to power in the early years of the Depression, with a commitment to radical reform and a willingness to use the power of the state to promote economic recovery. The Social Democratic idea of the ‘Folkhemmet’ (People’s Home) formed the basis of a consensus that dominated Swedish (and, more generally, Scandinavian) politics for decades, before being eroded by the forces of market liberalism after the crises of the 1970s and 1980s. Similarly, in New Zealand, the Labour government of Michael Joseph Savage transformed the country. Savage’s picture was a staple decoration of working class homes in New Zealand during his lirgetime, and fifty years after his death he remains  the nation’s most admired political leader.

The most important alternative to the politics of austerity, however, was Franklin D Roosevelt’s New Deal. By the time Roosevelt took office in 1933, the Great Depression was nearly four years old, and the banking system was on the verge of collapse. The idea that the economy would return to full employment through market process of adjustment was ad discredited as it had ever been.

 Roosevelt was not a Keynesian. In fact, he came to office promising to restore budget balance. He was, however an instinctive activist who was unwilling to sit by and do nothing when a third of the workforce was unemployed. His National Industrial Recovery Act (NIRA), had two main components. The first, the National Recovery Administration incorporated some positive elements such as union rights, but these were placed in the context of an attempt to overcome deflation through the encouragement of cartels. Fortunately, perhaps, the Supreme Court ruled key parts the NRA unconstitutional in 1935.

The other part of Roosevelt’s program, the Public Works Administration was more in line with the prescriptions of Keynesian fiscal stimulus, as was the Works Progress Administration created in 1935.

The stimulus associated with the New Deal was inadequate to deal with the shock of the Depression, and was intermittent,. Faced with criticism about budget deficits, Roosevelt undertook a major reversal in 1937 which almost precipitated a new Depression.

It was not until the outbreak of World War II in 1939 that fiscal policy was directed to the goal of mobilising all available resources. The resulting upsurge in economic activity, and the contrast with the Depression years, killed the idea of expansionary austerity, seemingly once and for all.

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  1. Anon
    December 5th, 2011 at 19:04 | #1

    John, you should mention Germany’s massive ‘Keynesian’ policies, which Hitler began in ’33 and had the country back to full employment by early ’36 (which was before major rearmament began), almost a decade before everyone else. In fact it was very similar to the New Deal (the Nazis praised Roosevelt immensely for the New Deal) but it wasn’t half-arsed. It had public infrastructure programs, employment programs, the works. All paid with big deficit spending of course. Hitler took pride in saying “our economic theory is that we have no economic theory” so the Nazis just did was they thought was practical. I have a brilliant 70′s journal article on it (American Historical Review I think), but unfortunately don’t have access to my PC right now; next week when I do I’ll find it and post a link.

  2. Anon
  3. RexR.
    December 7th, 2011 at 12:35 | #3

    John, Your paragraph on Japan may need reconsidering. According to Wikipedia, http://en.wikipedia.org/wiki/Economic_history_of_Japan#Prewar_period the Japanese economy suffered less from the Great Depression than most industrialized nations, expanding at the rapid rate of 5% of GDP per year.

    Also my understanding of the economic squeeze on Pre-War Japan was a result of trade barriers being erected to stop cheaper Japanese goods undercutting western markets trying to recover from the depresssion, rather than as I think you say, austerity measures being imposed from above by the government.

    Although this article in the LAtimes http://articles.latimes.com/1985-04-28/business/fi-21564_1_world-war , whilst quoting Churchil who said “Britain and 40 other countries felt increasingly compelled, as the years passed, to apply restrictions or tariffs against Japanese goods produced under labor conditions unrelated to European or American standards.” also states that “The root of Japanese imperialism is certainly not to be found in economic causes,” he argues, but rather in fanatic national ambition”

    So whilst economic factors, including externally imposed austerity, destabilised the government – there was a seething militaristic culture just waiting to get its hands on the levers of power and show the world what it could do.

  4. Ernestine Gross
    December 7th, 2011 at 18:14 | #4

    The topic ‘expansionary austerity’ is totally above, below, beside or outside my head.

    Expansion of what? Austerity for whom and when and why?

    Yes I do remember macro-economics texts which contain the words ‘expansionary’ and ‘contractionary’. In this context, these words are labels given to regions of graphs which belong to, IMHO, extraordinarily abstract models of ‘the economy’. With all these qualifications in mind, I offer one comment.

    It seems to me there is one crucial difference between ‘the crisis of 1929’ and ‘the crisis of 2008’. While both ‘global crises’ were preceded by a boom in the finance industry, the reaction of governments to the ‘crises’ (market failure) differed. In 1929 banks failed and some bankers are recorded as having jumped from great heights in Wall Street. By contrast, in 2008, except for one spectacular case, banks were rescued by people as represented by their elected governments and, to the best of my knowledge, not one banker jumped. As a consequence, the impact of ‘the 2008 crisis’ on the national and international payment system and on employment was different to that in ‘the Great Depression’ in the early 20th century, but government debt expanded.

    In other words, the initial condition for macro-economic discussions regarding ‘expansionary fiscal and monetary policy’ vs ‘austerity’ at present is different from that at the time of the Great Depression, and, as a consequence, learning from history is limited.

    It seems to me there is nothing wrong with a bit of austerity for those who were rescued in 2008 and those who benefitted during the preceding years. For example, a Tobin type tax, forcing ‘the banks’ to write off ‘assets’ (junk bond loans that should have been called equity at the time of issue but were ranked as investment grade bonds by the rating agencies), levying a substantial insurance charge on rating agencies, increasing top marginal tax rate and being a bit more careful with government expenditure but without causing waves are austerity measures that are, IMHO, not out of place.

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