Shlaes In the WaPo: A Chilling Uncertainty

A Chilling Uncertainty, by Amity Shlaes
The Washington Post, Wednesday, December 31, 2008

The United States has entered the era of the experiment. President-elect Barack Obama is putting forward an infrastructure program whose plans and price tag are unclear. Treasury Secretary Henry Paulson whipped up the Troubled Asset Relief Program to buy up bad mortgage instruments, and, expanding on that experiment, President Bush wants to try extending TARP to autoworkers.

The idea that experiments are warranted in current circumstances comes from the New Deal. The official history is familiar: FDR put forward multiple projects, some at cross-purposes. Yet New Deal inconsistency was not a problem and might have been a virtue. Through "bold, persistent experimentation," his catchphrase, Franklin Roosevelt brought recovery.

Modern economists, monetarist or Keynesian, have not rejected this story line. The trouble with the 1930s, in their view, is that government did not fiddle enough. Had the Federal Reserve, the Treasury or the White House fiddled more, the Depression might have been shorter or less severe. The New Deal Fed, they say, never got the price level quite right. Or, the New Deal stimulus programs were too little. And so on.

But there is significant evidence that the very arbitrariness of the New Deal made the Depression worse.

In 1932, stunned market players and citizens wanted to know what the new rules were. They voted for a party with a platform so moderate it could have been written by today's Concord Coalition: stability, sound money, balanced budgets. That was the Democratic Party, led by Roosevelt.

Many of FDR's initial plans did bring stability: His first Treasury secretary worked to sort out banks with the outgoing Hoover administration in a fashion so fair that an observer noted that those present "had forgotten to be Republicans or Democrats." By creating deposit insurance, FDR reduced bank runs. His Securities Act of 1933 laid the ground for a transparent national stock market. Equities shot up.

But other policies were more arbitrary. Using emergency powers, FDR yanked the country off the gold standard. Both American and international markets looked forward to a London conference at which a new monetary accord was to be struck among nations. Over the course of the conference, though, FDR changed orders to his emissaries multiple times. Some days he was the internationalist, sending wires about international currency coordination. Other days he was the cowboy, declaring that all that mattered was what the dollar bought in farm states. The conference foundered.

Some of the worst destruction came with FDR's gold experiment. If he could drive up the price of gold by buying it, he reasoned, other prices would rise as well. Roosevelt was right to want to introduce more money into the economy (the United States was deflating). But his method was like trying to raise an ocean level by adding water by the thimbleful. What horrified markets even more was that FDR managed the operation personally, day by day, over a breakfast tray. No one ever knew what the increase would be. One Friday in November 1933, for example, Roosevelt told Treasury Secretary Henry Morgenthau that he thought the gold price ought to be raised 21 cents. Why that amount, Morgenthau asked. "Because it's three times seven," FDR replied.

Morgenthau later wrote that "if anybody knew how we set the gold price, through a combination of lucky numbers, etc., I think they would be frightened."

They were. The "Roosevelt Rally" flattened. The arbitrary quality of other initiatives reinforced concerns. The New Deal centerpiece, the National Recovery Administration, helped some businesses compete and criminalized others for the same behavior. Sometimes Roosevelt goaded federal prosecutors into harassing corporate executives. Other times, he schmoozed the same execs at the White House. In 1936, FDR pushed through deficit spending. In 1937, he was Mr. Budget Hawk.

Uncertain, markets froze. Businesses refused to hire or invest in equipment. Unemployment stayed stuck in the teens. The 'deal' part of the New Deal phrase was problematic; businesses didn't want individual favors, they wanted clear laws for all. Industrialist Ernest Weir summed up what his community was desperate for FDR to do: "Above all to make the program clear and then stick to it."

Today, uncertainty also chills. Questions abound over the future regulation of stocks and derivatives, over tax policy, over bailouts. All this makes it hard for the market to settle on equity or home prices. And Americans follow stories about names--Secretary Paulson, Secretary-designate Timothy Geithner--more than they do the news about the Fed or the Treasury.

Luckily, we are entering the optimal time for reducing uncertainty: a new president's first hundred days, with a majority to back him on the Hill. Obama might start by rebuilding key institutions: creating a super-Securities and Exchange Commission, a tough regulator with clear plans for overseeing stocks as well as those instruments that had been monitored unpredictably because of vague status. He should also halve corporate tax rates, currently some of the world's highest, and reduce the capital gains rate to 5 percent. Rewriting the Fed law to clarify it will make avoiding an Alan Greenspan bubble easier. Defining his infrastructure program clearly would have the effect of putting up a sign: Open for Business.

Some will say all that sounds politically impossible. Until recently, though, so did a trillion-dollar infrastructure project. A new hundred days spent making good laws will bring sturdy recovery. A hundred days spent making more deals will not.

Amity Shlaes is an adjunct fellow at AEI. She is the author of The Forgotten Man: A New History of the Great Depression.