Economics 101: Who's Up, Who's Down

Customers at my local Barnes & Noble store are likely to get the impression that books about Franklin D. Roosevelt are all the rage these days. When they stand in line to pay the cashier, they come upon a large display of volumes dealing with FDR and the Great Depression. All of these books tend to portray Roosevelt as a remarkably gifted politician who effectively shepherded the American people through difficult times.

FDR is more popular now as a historical icon than he has been for years, and his predecessor in the White House, Herbert Hoover, now receives historical reviews that are almost as sharply negative as the assessments he received when he was a troubled President back in the early 1930s. Comparisons between Hoover and George W. Bush appear frequently in the national media.

Historians never rehabilitated Hoover in the manner they lifted another troubled president, Harry S. Truman from low ratings, but in recent decades various advocates of “free markets” have tried to improve Hoover’s image. Scholars at the Hoover Institution at Stanford University, the libertarian-oriented CATO Institute in Washington, D.C., and authors associated with other conservative think tanks maintained that Hoover was on the right track when he warned that government interference in the economy could produce creeping socialism. Some of these writers claimed that FDR erred by intervening extensively in the economy. They say Roosevelt extended rather than shortened the Great Depression.

FDR’s current popularity in the history books and the decline of attention to Herbert Hoover signal a broad change in the way Americans are interpreting modern economic history. For decades now, much of the thinking that sprang from FDR’s approach to the economy has been shunted aside by professional economists. In contrast, the philosophy of Herbert Hoover gained new respect in the late Twentieth Century. Hoover’s conservative, free-market perspective became widely influential in the economics departments of American universities. Economists and business professors often avoided direct reference to the disgraced president when discussing these ideas. They turned, instead, to the writings of market-oriented theorists such as Ludwig von Mises, Friedrich Hayek, and Milton Friedman.

During the last quarter of the Twentieth Century, Milton Friedman of the University of Chicago emerged as the most articulate spokesperson for Hoover’s view that government leaders almost always gets things wrong when they intervene in economic affairs. Friedman argued that free markets are infinitely complex. Government bureaucrats cannot broadly understand how these markets work or deal effectively with them. Markets are largely self-regulating, Friedman assured his readers, and the economy is most vibrant when business people enjoy freedom from state interference.

Friedman’s views and those of other scholars of the “Chicago School,” have been popular for many years with business and economics professors and with politicians. Although most advocates of the Hoover-Friedman outlook concentrated in the Republican Party, the perspective also won degrees of respect from powerful figures associated with the Democratic Party. Robert Rubin, President Bill Clinton’s Treasury Secretary, and Charles Schumer, Democratic senator from New York, were among the most influential proponents of de-regulating financial markets in recent years.

Now that U.S. financial institutions are in a meltdown, the nation’s auto industry is near collapse, millions of Americans are facing foreclosure, and unemployment is climbing fast, the public has been losing confidence in the idea that “free” markets are self-regulating. Many analysts are suggesting that recent economic mistakes resemble the disastrous financial judgments of the pre-Depression years. Speculation got out of control in the 1920s and, again, in our times. As President-Elect Barack Obama remarked, somewhat sarcastically, the nation’s financial system has been in need of “adult supervision” for a long time.

The current troubles have brought a dramatic reevaluation of economic history, at least among pundits and some leading politicians. Actions by Franklin D. Roosevelt are now receiving more favorable treatment in popular discussions about lessons from the past. Pundits and politicians are also expressing more interest in the ideas of noted economists who welcomed the government activism of FDR’s New Deal.

John Maynard Keynes, a British economist and contemporary of FDR, has attracted renewed attention. Barack Obama and his economic team are considering Keynes’ ideas because the actions of the Federal Reserve and the Treasury Department have failed to jump-start the economy. Obama’s advisers are calling for a massive stimulus – a form of deficit spending that Keynes had recommended for situations when ordinary fiscal policies fail to get industry and commerce to move quickly out of a slump. Economists who favored the Chicago School’s approach to markets have been suspicious of Keynes’ arguments, but Obama’s advisers are turning to Keynes’s ideas as they try to understand how Americans recovered from the Depression in the 1930s and early 1940s.

Another analyst who had lost favor in the economics departments of American universities, John Kenneth Galbraith, is also gaining ground these days. Galbraith, a liberal activist who served in Democratic administrations from FDR to LBJ, rejected the neoclassical economic theories of Milton Friedman. Writing as a neo-Keynsian, John Kenneth Galbraith recognized that government had an important role to play in economic affairs. In recent months politicians and pundits have shown renewed interest in two of Galbraith’s humorous but insightful books about speculative bubbles – The Great Crash, 1929 (1954) and A Short History of Financial Euphoria (1990). Galbraith showed that financial memory is remarkably short. Supposedly wonderful new financial instruments are often just modifications of earlier schemes that ultimately went bust. Galbraith’s message that human behavior in speculative activity often operates through mass psychology rather than by objective analysis sounds relevant today. Legislators are finding Galbraith’s analysis pertinent as they try to figure out why stock values tumbled recently and why government agencies didn’t do a better job making investors aware of the risks.

Obama and his advisers are now studying examples of earlier New Deal activism as they consider their choices in the current economic crisis. They note that in the 1930s deficit spending by the federal government helped to move the economy out of the doldrums. Members of the Obama team notice, also, that FDR’s Emergency Banking Act helped to stem financial fears, that large-scale public works projects boosted the nation’s infrastructure and reduced unemployment, and that legislation favoring working people fostered development of a strong middle-class in subsequent decades. Suddenly, talk about government’s potential to do good for the overall society is fashionable again.

In the popular media, the reputations of former leaders and thinkers have shifted. Franklin D. Roosevelt once again is a popular figure for study. Herbert Hoover, who had been the subject of a modest rehabilitation by conservative scholars, has slipped again. John Maynard Keynes and John Kenneth Galbraith are attracting new interest. Milton Friedman and his acolytes have lost ground.

The repercussions of this change are not likely to affect classroom teaching for some time in economics departments and in the business schools. Varieties of classical theory remain prominent in the textbooks of those programs. Those ideas also remain fresh in the memories of college instructors who recall confident lectures they heard in their younger days from mentors who claimed that largely unfettered markets were a great workable ideal.