The Great Deformation (27 page)

To his credit, Hoover did implement a one-year moratorium on reparation payments in June 1931, but by then the central European banking system was unraveling and political reaction and economic demoralization were setting deep roots. England's default on its obligation to redeem pounds sterling for gold in September of that year further exacerbated the downward international spiral.

So when FDR took the oath of office on March 4, 1933, he was confronted by a grave crisis. But it was not the domestic banking crisis sensationalized by his liberal hagiographers; the infamous lines at the teller windows happened almost exclusively during the final three weeks of the long interregnum between November and March and were entirely of Roosevelt's own making. They had been triggered by the president-elect's obdurate refusal to cooperate with the Hoover administration on stabilizing the local crisis that struck the Detroit banks in mid-February, and to assure the public that he had no plans to embrace inflationary money schemes.

The banking crisis was over in a matter of weeks. The roughly $2 billion of currency hoarded in mattresses flowed back into the banking system,
not because of the New Deal but due to an unremarkable bank reopening plan that Hoover's outgoing Treasury Department had actually designed and stayed on to implement.

By contrast, the real crisis was the de facto shutdown of world trade and the chaos in the monetary system and foreign exchange markets. The last hope for reversing this breakdown was the upcoming London Economic Conference in June, which Hoover had organized but for which FDR had again resolutely refused to cooperate in the planning and preparatory meetings.

NOT YOUR KRUGMAN'S NEW DEAL

FDR personally torpedoed the London Conference in early July 1933. In so doing he struck down the international gold standard, left the reparations issue to fester amid international recriminations, and did not even address the need to open the US market to foreign imports in order to revive international trade. In short, Hoover landed a haymaker on the requisites for recovery of the American export-dependent economy and FDR finished the job—no gold, no trade, no capital flows, and no cancellation of the destructive war debts.

There can be little doubt that these crucial matters did not even register with Franklin D. Roosevelt, because on matters of economics he was a relentless dilettante with an affinity for quixotic schemes and downright quackery. This was especially evident when it came to his simplistic belief that the Great Depression was due to low prices, and that the key to restarting the nation's economic engines was a Washington-initiated “reflation” of cotton, wheat, hog, and steel prices.

What FDR did not have, however, was an affinity for anything that resembled full-strength Keynesian demand stimulus like the $800 billion plan that Larry Summers, the chief economic advisor in the first years of the Obama administration (and secretary of the treasury under Bill Clinton), claimed to have channeled from FDR in February 2009. In fact, Roosevelt met with Professor Keynes once and found the great economist's pitch completely unintelligible, and in that reaction he had considerable company. As outlined below, the only New Deal initiative that even remotely embodied Keynesian demand stimulus was the giant veterans' bonus payment of 1936, and that was a political accident that FDR actually vetoed.

That the New Deal had virtually nothing to do with modern Keynesian theories of countercyclical demand management is crucial to understanding the nation's present economic deformations. Contrary to the claims of unreconstructed Keynesians like Professor Krugman, the giant programs of fiscal stimulus and money printing after the September 2008 crisis had
no trial run or validation during the Great Depression. They are based on a false narrative from beginning to end; that is, about why the depression happened and what the New Deal actually did.

In truth, the New Deal was a Chinese menu with little rhyme or reason. It included quasi-fascist schemes to regiment industries and agriculture; public works and regional pork barrel spending to reward the New Deal coalition; price support and production control schemes to levitate farm prices; work relief and social programs to relieve the immense destitution and suffering among the unemployed; and endless special interest legislation sought by unions, the housing industry, and other organized lobbies.

Some of these programs provided humanitarian relief and a safety net. Most either retarded recovery or were abandoned before they could do much harm. And a few—like the industrial union legislation, universal social insurance, Fannie Mae, bank deposit insurance, and farm price supports—lived on to cast a heavy and debilitating shadow over the distant future.

But FDR's opening blow was devastating and long lasting. He outright abolished the basis for sound money at home and personally blocked the revival abroad of stable exchange rates and common international money; that is, currencies redeemable in gold.

FDR accomplished all this during his first year in office. In the process he revealed himself to be a veritable monetary primitive. Indeed, his monetary actions and views made a mockery of the long-settled “sound money” platform of the Democratic Party, and were embarrassingly similar to those of cranks like Father Coughlin and Senator Huey Long.

WHEN FDR GOT THE GOLD

The long-lasting imprint from FDR's famous “Hundred Days” did not stem from the bank holiday, national industrial recovery act, the farm adjustment act, the Tennessee Valley Authority, or the public works administration. Instead, it is lodged in the footnotes of standard histories; namely, FDR's April 1933 order confiscating every ounce of gold held by private citizens and businesses throughout the United States. Shortly thereafter he also embraced the Thomas Amendment, giving him open-ended authority to drastically reduce the gold content of the dollar; that is, to trash the nation's currency.

These actions did not constitute merely a belated burial of the “barbarous relic.” In the larger scheme of monetary history, they marked a crucial tipping point. They initiated a process of monetary deformation that led straight to Nixon's abomination at Camp David, Greenspan's panic at
the time of the 1998 Long-Term Capital Management crisis, and the final destruction of monetary integrity and financial discipline during the BlackBerry Panic of 2008.

The radical nature of this break with the past is underscored by a singular fact virtually unknown in the present era of inflationary central bank money; namely, that the dollar's gold content had been set at $20.67 per ounce in 1832 and had never been altered. There had been zero net domestic inflation for a century and the dollar's gold value in international commerce had never varied except during war.

The Thomas Amendment nullified this rock-solid monetary foundation and instead permitted the president on his own whim to cut the dollar's gold content by up to 50 percent. So doing, it signaled that money would no longer exist fixed, immutable, and outside the machinations of the state, but would now be an artifact of its whims and expedients.

It was a shocking deviation from FDR's own repeated campaign pledges to preserve “sound money at all hazards” and contradicted the pro–gold standard views of even his own party's mainstream. Likewise, the removal of gold from circulation entirely had never before been seriously proposed, not even by William Jennings Bryan, the populist Democrat presidential candidate best known for his “Cross of Gold” speech.

Self-evidently, bank notes and checkbook money had long been a more convenient means of payment than gold coins, but the function of gold was financial discipline, not hand-to-hand circulation. Redeemability of bank notes and deposits gave the people an ultimate check on the monetary depredations of the state and its central banking branch. Indeed, the public's freedom to dump its everyday money in favor of gold coins and bullion was what kept official currency and bank money honest.

At the time, however, the shell-shocked nation—even the conservative opposition—scarcely understood that the Rubicon had been crossed. The most notable clarion call, in fact, came from Lewis Douglas, FDR's own budget director and key economic advisor. Hearing on April 18, 1933, of the president's intention to endorse the Thomas Amendment, Douglas famously declared, “This is the end of western civilization.”

Douglas was at least eighty years premature with respect to timing but his sense of the implication was profoundly correct. In one fell swoop, FDR's capricious actions launched the Democrats down the road to a government-manufactured currency and a purely national form of money.

It thereby repudiated the internationalist hard-money stand of the 1932 Democratic platform, the pro–gold standard candidacies of Al Smith in 1928, John Davis in 1924, and the James Cox–Franklin Roosevelt ticket of
1920. It also nullified the pro-gold principles of Carter Glass and the Democratic majority that had instituted the Federal Reserve Act in 1913 and the Cleveland, Jackson, and Jefferson Democrats who had gone before.

In short, amid the atmosphere of public fear and alarm from his self-inflicted banking crisis, and owing to his willful insouciance in single-handedly scrapping the nation's deep and bipartisan gold standard tradition, FDR essentially parted the waters of monetary history. Until June 1933, virtually everyone believed that gold-redeemable money was the foundation of capitalism, yet within months such convictions had gone stone-cold dormant.

It would, of course, take time for the resulting monetary vacuum to be filled by an aggrandizing central bank and a credit-money-based financial system cut loose from the discipline of gold. In the interim, the Great Depression quashed inflationary expectations and speculative instincts for decades to come, and produced a generation of conservative commercial and central bankers who earnestly attempted to replicate its discipline.

Nevertheless, it was only a matter of circumstances before the policy vacuum was filled by less wholesome propensities. Eventually, Nixonian cynicism and Professor Milton Friedman's alluring but dangerously naive doctrines of floating exchange rates and the quantity theory of money picked up where FDR left off. Notwithstanding Friedman's aura of intellectual respectability, Nixon's crass political maneuvers amounted to a primitive economic nationalism that harkened back to the worst of the disaster that FDR had first sown in the 1930s.

FDR'S LONDON CONFERENCE BOMBSHELL:

THE END OF THE LIBERAL INTERNATIONAL ORDER

After Roosevelt effectively suspended convertibility in the bastion of the world gold standard, money was essentially nationalized. Most of the world's major economies, including the United States', retreated into separate silos of autarky and stagnation, which in turn bred ultra-nationalism, rearmament, and finally world war. But this outcome was not inevitable.

To be sure, the survival of a liberal international economic order had been in doubt throughout the 1920s, as the world struggled to repair the inflationary mayhem of the Great War and resume convertibility of national currencies. Between 1925 and 1928, huge strides toward normalization of exchange rates, capital markets, and trade were accomplished as England, Belgium, Sweden, and even Japan (1930) restored gold standard money.

But all of this tenuous progress had been seriously jeopardized by England's abandonment in September 1931 of the very gold exchange standard it had spent a decade promoting under the auspices of the League of
Nations. So prospects for resumption of the fabulously stable and prosperous pre-1914 liberal international order were hanging by a thread. In this context, historians are agreed that it was FDR who personally delivered the coup de grâce with his famous “bombshell” message to the London Economic Conference in July 1933.

FDR capriciously defied all of his advisors, to the very last man, including the then-chief of his brain trust, Raymond Moley. Flying by the seat of his own pants, he airily dismissed the warnings of his budget director, the brilliant industrialist and financial scholar Lewis Douglas. He also disregarded the firm pro-gold viewpoint of James Warburg, his most senior financial advisor with Wall Street and international finance experience. Moreover, FDR had failed to even solicit the opinion of Senator Carter Glass. Under the circumstances, that was not merely a telling omission; it was damning.

For the better part of three decades, the legendary Virginia senator, also former secretary of the treasury under Woodrow Wilson and principal author of the Federal Reserve Act, had been the Democratic Party's paragon of authority on matters of money and banking. Glass had been an unwavering proponent of the gold standard and had personally written the 1932 Democratic platform in such a manner as to leave no doubt that the Democrats would not resort to easy money and inflationist expedients.

For several weeks before his March 4 inauguration, Roosevelt pleaded with Glass to become his secretary of the treasury. Yet hardly sixty days after Glass finally refused the job, FDR did not even bother to consult him when launching what were epochal monetary policy actions. In essence, FDR's April 1933 gold machinations repudiated the life's work of the very financial statesman he first picked for the single most important job in his government.

Roosevelt's flip-flopping on Glass and gold was a defining moment. It showed that on the raging economic crisis of the hour, Roosevelt's insouciance knew no boundaries; he could believe almost any contradiction that came his way.

It thus happened that after the Hundred Days of emergency actions was completed in late June, FDR headed off to vacation on Vincent Astor's yacht. He sent Moley as his personal emissary to the London conference, which by then had come to be viewed as literally the last hope for retaining an open international trading and monetary order.