Amity Shlaes is a senior fellow in economic history at the Council on Foreign Relations and is the author of The Forgotten Man: A New History of the Great Depression.
In this article, Shlaes challenges several popular misconceptions about the budget and tax policies of President Hoover and Treasury Secretary Andrew Mellon, concluding that many modern commentators do not place the Hoover administration in its proper context and misrepresent its actions.
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Recently some old names from history have been hauled back into use again -- as pejoratives. When Democrats or Republicans are angry at President Obama, they call him a "Hoover." By this reference to the 31st president, the commentators mean a laissez faire budget geek who won't spend, not even to stop an economic disaster.
When the commentators want to be really nasty, they drop the Hoover reference and start talking about Andrew Mellon. By mentioning the man who served as Treasury secretary to Presidents Harding, Coolidge, and Hoover, they mean an etiolated Victorian Scrooge who argues for low taxes because he doesn't care about the people. They are also suggesting someone who relishes forced sales of distressed assets and damages the economy with his outdated policies. "Obama Liquidates Himself" was the snippy headline the Nobel Prize winner Paul Krugman recently put on an entry to his New York Times blog that likened Obama and Treasury Secretary Timothy Geithner to Mellon. The sinister "liquidate" verb is meant to evoke Mellon's response to the 1929 crash -- "liquidate labor, liquidate stocks, liquidate the farmer, liquidate real estates." The point of citing that "liquidate" line is to argue that liquidation spells Depression. Krugman links to a blogger, Jonathan Zasloff, who unkindly suggests that Treasury policy is being conducted in such a retrograde fashion that it recalled "the rotting corpse of Andrew Mellon."
But neither the image of Hoover nor that of Mellon is accurate. In fact, commentators misjudge these leaders by willfully taking what they said or did out of context.
Let's start with Hoover, who came into the presidency at a moment of prosperity: March 1929. Hoover did indeed believe in balanced budgets -- but so did nearly everyone else at the time. Under the gold standard system then prevailing, an unbalanced budget was likely to cause a deeper recession than a spending freeze. That's because a government that cannot balance its budget -- never mind get the deficit below 11 percent of GDP, the challenge confronting the Obama administration -- is a government that investors or other governments may not trust. Given the option, they withdraw their gold or cash from banks and ship that gold to another country. To prevent this, authorities raise interest rates forcing a recession worse than any that might be caused by Obama's very partial spending freeze. In a gold standard regime, a tax increase or a budget cut is nearly always the lesser evil, and everyone knows it.
Hoover, being a mining engineer by trade, was especially alert to the gold standard mechanism. In his time, he'd done his personal part to increase money supply, and therefore growth, by rationalizing precious metal mines from the Wild West to Australia and China.
But to condemn Hoover as an exception on monetary and fiscal philosophy -- as an unusual tightwad -- is to misrepresent him. In fact, he spent more than any other gold standard president before him would have done in the same situation. Federal spending rose under Hoover, both in nominal and real dollars. (Source: "Facts and Figures," Tax Foundation, Table B-3.) As a share of GDP, federal outlays rose to 5 percent of GDP in 1932 from 2.5 percent in 1929 -- a doubling under the Hoover presidency. In the same time frame, the federal government went from a budget surplus to a deficit of 2.4 percent. Outlays by state and local governments also rose -- but not at the Hoover rate. Hoover and Congress were apparently bigger spenders than the governors.
But this is only one area where we get Hoover wrong. Hoover was a constitutionalist -- unlike his successor, Franklin D. Roosevelt, who ranked traditional interpretations of the Framers' words second after economic or political expedience. So at times, we see Hoover asking the states to do work that FDR assumed the federal government should do. But Hoover did not believe in laissez faire economics. Indeed, in a brief manifesto he published in the 1920s, the future president warned against making a "fetiche" of the laissez faire concept. And by temperament, the man was as interventionist as John Kenneth Galbraith. A career spent as the smartest man in the room had only reinforced the instinct Hoover was born with: Jump in and take over. By the time he became president, Hoover was accustomed to telling everyone else what to do, having them do it, and being rewarded for that management style.
While president, Hoover intervened by signing off on a tariff, Smoot-Hawley, even though more than 1,000 economists wrote him an open letter warning that the tariff would disturb international trade and would not "furnish good soil for the growth of world peace." After the 1929 crash, Hoover also intruded on the economy by publicly goading businesses to keep wages high even when they could ill afford to do so. In the autumn of 1929, just after the crash, Hoover even went as far as to call business leaders to a conference at the White House and then make them sign a public promise that they would "not initiate any movement for wage reduction." Hoover believed strongly in federal help for distressed banks, and he created the Resolution Trust Corp., the model for today's Troubled Asset Relief Program. He also signed legislation that disbursed funds to the states for public works. If there is a takeaway on Hoover that is relevant for the blogosphere, it is not that his passivity hurt the economy. It is that intervention does not guarantee recovery.
What about the maligned Mellon? In one area, Mellon indeed lives up to his reputation as being 19th century: his marriage. Mellon was a cold husband, an older Soames Forsyte to his wife, Nora, and the pair divorced. Even the details of that divorce -- they involved secret assignations and private detectives -- were achingly Victorian.
But Mellon was no Scrooge. On the contrary, his charitable giving was so efficient, so effective, that today it could be Exhibit A in a Powerpoint presentation for a wealth management seminar. Mellon understood that gifts of higher quality tend to accrue greater value than gifts of modest value. His philanthropy tended to art. The Pittsburgh magnate therefore bought up top-quality paintings and sculptures -- his Raphaels and his Rembrandts -- such as the pieces from the Soviet Union's Hermitage Museum. By the 1930s, Mellon had amassed a collection so splendid as to be representative of Western art. Then he gave it all to the country -- along with a top-dollar structure to house it, the National Gallery. The gallery matched its contents in opulence. Not content with limestone as his gift to the country, the former Treasury secretary lined his gallery with Tennessee pink marble. The quarrying of the marble was such a large undertaking that Tennesseans commented that it constituted an economic stimulus all its own.
In his investment life, Mellon was likewise avant garde. Although he, like Hoover, dealt in commodities -- the Mellon empire of course included aluminum -- Mellon also successfully deployed a formula for wealth building so modern that Google founder Sergey Brin would find it useful. The formula was recapitulated in a business journal of the day:
Find a man who can run a business and needs capital to start or expand. Furnish the capital and take shares in the business, leaving the other man to run it, except when he is in trouble. When the business has grown sufficiently to pay back the money, take the money and find another man running a business and in need of money and give it to him, on the same basis.
As for the dreaded "liquidate" line, Mellon too is taken out of context. When Mellon uttered those words, the Soviet Union was still in the process of giving the verb its creepy connotation of extinguishing entire populations. The Wizard of Oz had not yet immortalized the verb for children with its famous phrase "So you liquidated her?" -- referring to the Wicked Witch of the West.
What Mellon was saying was simply that sometimes you had to sell to determine prices. He knew that without discovery of prices, traders wouldn't trade and the markets would not clear. And that in turn would cause a delay in recovery. Some of us might not agree with this policy -- witness today's debate over rules on marking to market. But Mellon's pro-fire-sale posture was tenable. If 5 or 10 years from now the United States feels like Japan, weighed down by kereitsu and zombie banks, we will know we should have applied Mellon's liquidation policy today.
And what about taxes? Here Mellon's utility again was major. From the railroad business, he had learned that high freight charges deter traffic. He saw no reason to assume that the U.S. economy was not like railroading. Taxes were like those freight rates -- a business ought to charge "what the traffic will bear," as Mellon put it. Recently Tax Notes' Joseph Thorndike and I established silentcal.com, a blog that focuses on Coolidge, one of the three presidents Mellon served as Treasury secretary. (Or maybe it was the other way around. In his day it was said of Mellon that "three presidents served under him.") One thing we have noted is that when Mellon lowered tax rates five times, his budget stayed balanced or in surplus.
The point here is that as the recovery progresses, or doesn't, both Hoover and Mellon are indeed worth remembering. But as they were in their context, and not as cartoons.