As it has become evident that the financial crisis is comparable, in important ways, to the early stages of the Great Depression, there has been a lot of debate about the lessons to be learned from the responses to the Depression in the US, most notably the various policies that made up the New Deal. There’s a lot to be learned there, but it’s also important to remember that the Depression, in the US and elsewhere, continued throughout the 1930s before being brought to an abrupt end by the outbreak of World War II.
Not only did the slump end when the war began, it did not return when the war ended – a huge difference from previous major wars. Instead the three decades beginning in 1940 were a period of unparalleled prosperity for developed countries, with economic growth higher and unemployment lower than at any time before or since.
What lessons can we learn from this experience?
In the immediate aftermath of the war, the lesson seemed obvious. Planning had succeeded where capitalism had failed, and more planning was needed to maintain that success. As the White Paper on Full Employment (Commonwealth of Australia 1945) put it
Despite the need for more houses, food, equipment and every other type of product, before the war not all those available for work were able to find employment or to feel a sense of security in their future. On the average during the twenty years between 1919 and 1939 more than one-tenth of the men and women desiring work were unemployed. In the worst period of the depression well over 25 per cent were left in unproductive idleness. By contrast, during the war no financial or other obstacles have been allowed to prevent the need for extra production being satisfied to the limit of our resources.
Over time, as the difficulties of planning became apparent, emphasis shifted to the idea that the war had provided a Keynesian stimulus to aggregate demand, and that, with careful management, unemployment (or inflation) due to inadequate (excessive) aggregate demand could be avoided. Thirty years of success seemed to confirm that view.
After the failure of Keynesian economic management in the 1970s, this explanation appeared less adequate, but no adequate alternative was proposed. Given the apparent success of monetary policy in stabilising output and inflation, and reducing unemployment, from 1990 onwards, the issue seemed largely academic, and given the focus of US economists on the New Deal, even academic attention to the question has been limited.
Perhaps stimulatory fiscal policy will produce a rapid and complete recovery from the current crisis, and a restoration of the postwar Keynesian orthodoxy. But given the damage that has already been done to the global financial system, and the prospect of much more to come, this is far from certain. The experience of Japan in the 1990s is not encouraging, and this crisis is far worse in important respects. Perhaps when the collapse of financial intermediation is as near-complete as it was in the Depression, a large element of central direction is needed to restore trade and ensure necessary flows of credit. In the absence of a rapid recovery, questions like this will assume increased urgency over the next year or two.
fn1. In most respects, a continuation of the Great War that began in 1914, but in economic terms a completely different kind of conflict, based on comprehensive planning and mobilisation of economic and labour resources.
fn2. Although I didn’t think it necessary to spell this it out, it appears that I must. I am not suggesting that war is economically beneficial, still less that it would be a good thing to expand the wars in which we are currently involved (and which have, obviously, done the economy no good). The fact that the apparent economic benefits of WWII were more or less unique to that war suggests we need to look at the specific policies of that period, and not at ideas about the supposed economic benefits of war.