What's the most plausible way for the US to avoid the 2nd dip of the Great Depression in 1937?

raharris1973

Gone Fishin'
Donor
Monthly Donor
This is also inherently a question about what *caused* the 1937 dip.

Would less commitment to a balanced budget have been the most helpful move?

If so, which type of deficit would have been more useful, one generating from more public spending, or lower taxes?

Would less regulation have been helpful?

Would a difference in handling the money supply have more potential than anything on the fiscal side?

Or did the problem (and solution) of the 1937 dip come more from foreign sources than American policy sources? One theory I heard was that the breakneck pace of German rearmament had a negative effect on western economies.

You thoughts?
 

Deleted member 1487

Not cutting government spending. I mean it really was that simple, they needed more spending, not less to really get the economy moving. Especially given that the international situation was not recovering and world trade had not picked back up to pre-WW1 levels.
https://en.wikipedia.org/wiki/Recession_of_1937–38
Really the economy hadn't recovered near enough to cut back on government spending, as the recession immediately happened as the government cut spending.
 

raharris1973

Gone Fishin'
Donor
Monthly Donor
Wee FDRs spending cuts a choice, or something imposed on him by cingress or public opinion?
 
Wee FDRs spending cuts a choice, or something imposed on him by cingress or public opinion?

Congress may have had some pressure, but he really wasn't an ardent Keynesian. There's definitely no indication that he was forced into it.
 

raharris1973

Gone Fishin'
Donor
Monthly Donor
What would have been the easier sell for him in 1937 if he wanted to keep spending up? domestic programs like CCC and WPA or navy and army spending?
 
A possible major cause of the recession: the Treasury Department's gold sterilization program. The other reasons given (FDR's spending cuts and tax increases, the Fed's raising reserve requirements) do not seem to be a sufficient explanation:

"The recession is often blamed on the tightening of fiscal and monetary policies. In terms of fiscal policy, the Roosevelt administration became concerned about large budget deficits and began reducing the growth in government spending and increasing
taxes. 4 In terms of monetary policy, the Federal Reserve and Treasury became concerned about the inflationary potential of excess reserves in the banking system and large gold inflows and therefore decided to double reserve requirements and sterilize
gold inflows.

"Yet the evidence that these policy changes were responsible for the severe downturn is underwhelming. Although Brown (1956) finds that the fiscal contraction amounted to a swing in demand of 2.5 percent of GDP in1938, Romer (1992,p. 766) finds a relatively small fiscal multiplier during this period and argues that ‘it would be very difficult’ to attribute most of the decline in output to fiscal policy.5 And while Friedman and Schwartz (1963) put great emphasis on the contractionary impact of higher reserve requirements, subsequent studies have found little support for this conclusion. For example, Calomiris, Mason and Wheelock (2011) note that banks held large excess reserves at the time and that they did not increase their demand for reserves after the new requirements took effect. The reserve requirements were not binding on the banks and therefore they had little, if any, effect on the money multiplier and the supply of money and credit.6

"If these factors cannot be blamed for the severity of the recession, might the big ‘policy mistake’ of the period have been the sterilization of gold inflows?7 Unfortunately, the quantitative significance of the gold sterilization policy has never been fully assessed. Friedman and Schwartz (1963, p.544) maintained that ‘The combined impact of the rise in reserve requirements and–no less important–the Treasury gold-sterilization program first sharply reduced the rate of increase in the monetary stock and
then converted it into a decline’ (emphasis added).8 Yet they did not provide any direct empirical evidence to support the conclusion that the gold sterilization policy was ‘no less important ’than the change in reserve requirements.9 Though understudied by economists, the decision by the Treasury Department to sterilize gold inflows from December1936 until February1938 turns out to have been a very large monetary shock. By preventing gold inflows from becoming part of the monetary base, this
policy brought an abrupt halt to what had been a strong monetary expansion. After growing at about a17 percent annual rate from 1934 to1936, the monetary base ceased expanding in1937. This shift in policy was enormously important because, as
Romer (1992)points out, the inflow of gold from Europe–and the consequent expansion of the monetary base and money supply– was the driving force behind the economic recovery from the Depression. The sterilization policy severed the link between
gold inflows and monetary expansion...

"This article reports several findings. First, the change in the monetary base as a result of sterilization was large. As much as a10 percent increase in the monetary base in 1937 was prevented as a consequence of the program. Second, the monetary base
was a more important source of change than the money multiplier in tightening monetary policy during the period going into the recession. This suggests that, although the Federal Reserve is often blamed for its poor policy choices during the
Great Depression, the Treasury Department should not be immune from criticism since it was largely responsible for the policy tightening during this period. Third, the end of the sterilization program and the resumption of large gold inflows coincide
with the onset of the economic recovery. By contrast, the hike in reserve requirements was only partially rolled back and does not appear to have contributed to the relaxation of monetary conditions. Fourth, the sterilization policy appears to have been transmitted to the real economy through lower asset prices and slightly higher interest rates. Together, these findings suggest that the gold sterilization policy was a key factor behind the1937–8 recession...." http://www.dartmouth.edu/~dirwin/1937.pdf

Gold sterilization and the recession of 1937–1938
Douglas A. Irwin
Financial History Review / Volume 19 / Issue 03 / December 2012, pp 249 267
 
Last edited:

raharris1973

Gone Fishin'
Donor
Monthly Donor
how did gold sterilization work in 37-38?

And what countries were most of this European gold coming from and why? Deposits or payments for goods?
 
On 1940, maybe FDR feels less need to run for a third term if he is even more successful and the Democrats are way ahead.
 

Wallet

Banned
On 1940, maybe FDR feels less need to run for a third term if he is even more successful and the Democrats are way ahead.
Nah he didn't trust anyone else to prepare for WWII. He especially didn't trust the isolationist GOP and he didn't trust anyone in his party to beat them.
 
The crisis or panic generated by the collapse of France was still in full force & Roosevelt saw Wilkie & the other Republican candidates as confused about how to deal with resurgent Germany. Actually the Democratic party leaders were not much better in this. Two decades of isolationism had left the US leadership with a weak understanding of the situation that had developed. Call it egotism, but Roosevelt felt he was better prepared to deal with the looming Facist threat to the US.
 

raharris1973

Gone Fishin'
Donor
Monthly Donor
The academic article David linked to was very interesting. It's monetarist/money supply interpretation of the economics of Depression and the recovery suggest several PoDs.

1st, and most basically, obWI what if Treasury does not "sterilize" gold inflows from late 1936 through 1938. This keeps growth in the money supply and staves off recession.

What are the legislative and political consequences in 1937 and 1938? Does FDR have a friendlier legislative coalition to work with from 1938 onward?
What happens to US business and government spending programs? Might a balance budget be achieved or even a surplus without it being associated with economic disaster? Might that avoid the growing popularity of the idea that deficits stimulated? Would inflation have become a problem?

2nd- With his monetarist/money supply analysis, the author ends up crediting the economic recovery of the first Roosevelt term mainly to expansion of the money supply brought about by inflows of gold from Europeans worried about instability in Europe. He credits this rather than FDR's fiscal policy.

I found that interesting because while rising production related to WWII is widely credited with ending the Great Depression once and for all, this economists' argument attributes the early, fragile, recovery years of 33 to early 37 to European causes also.

So, obWI- No Hitler, no rush to move European gold to America, means smaller money supply in America, means less recovery. That's an interesting scenario. If FDR tries as much fiscal stimulus as OTL maybe it requires higher taxes or more devaluation? Maybe he ends up stuck between Depression and inflation with no sweet spot in between? Also, no blow-out landslide by FDR in '36?

Makes me wonder what motivated stepped up European gold flows to the US in 33-36. Sure, there was Hitler, but I don't know how much that would have scared gold owners versus reassured them. I don't even know what the main source countries were of these 1930s gold inflows. I would assume Germany wouldn't have any, so I presume Western Europe? Or was this inflow related to Stalinist purchases of American goods for industrialization, paid in gold?
 
Last edited:
As many have said, full Keynesianism.

I tend to agree. It's helpful to look at constant dollar GDP.

330px-US_GDP_10-60.jpg


As you can see, you get a decent rate of growth from around 1932 to 1937-ish but by 1937 you are still just at 1928/9 levels of GDP. This really suggests a failure of aggregate demand rather than the monetary factors cited above (though it does not rule out their being a contributing factor). You also see that the 1937 dip was rather shallow and brief and that growth resumed rather quickly. In this climate, spending will get you more for your buck than tax cuts and there is a positive distributional aspect to spending as well, since tax cuts would not have done much for low income individuals who were not subject to income tax. If you saw the spending of World War 2 coming, spending would be a no brainer, as the "large" deficits of the 1930s were a pittance compared to what was racked up during the early-mid 1940s. Further evidence for the beneficial effect of spending is in the graph: GDP doubled between 1936 and 1943, which is just extraordinary and the direct effect of government war spending.

I should also note that spending was the only way to alleviate unemployment, which was still at extraordinary levels in 1937.
 
Last edited:
how did gold sterilization work in 37-38?

And what countries were most of this European gold coming from and why? Deposits or payments for goods?

How gold sterilization worked:

"How did the sterilization policy work? The Treasury Department purchased all gold inflows at $35 per ounce with drafts from its balance at the Federal Reserve. Normally, it would print gold certificates for the equivalent amount and deposit them in a Federal Reserve account to replenish its balance. The certificate would then become part of the monetary base and could be used to increase bank reserves. However, with sterilization, instead of replacing its withdrawn balance with a gold certificate in equal amount, the Treasury kept the certificates in an ‘inactive’ account where they could not be used for the expansion of credit. It paid for the gold out of its general fund, reducing its balances at the Federal Reserve, which would then have to be replenished by issuing new debt or raising tax revenue."
http://www.dartmouth.edu/~dirwin/1937.pdf

From which European counties was the gold coming in 1937? According to Brendan Brown, *The Flight of International Capital: A Contemporary History* https://books.google.com/books?id=OczcAAAAQBAJ&pg=PA64 "Switzerland was the largest single source of the inflows into the USA in the second quarter" which in turn presumably reflected the inflow of French capital into Switzerland. the influx of gold halted in mid-1937 and did not really resume even after the US ended sterilizarion (largely because of fears that FDR would try to meet the recession with devaluation as in 1933) and did not really resume until the Sudeten crisis.
 

raharris1973

Gone Fishin'
Donor
Monthly Donor
3rd obWI- The Douglas Irwin article still provides grist for a fiscal policy what-if. He says the downward shift in government spending mainly came from the end to bonus payments to veterans which had risen in the 1st Roosevelt term. A natural falling off once these Congressionally mandated expenditures were complete.


Well, what are the consequences if the administration keeps spending the same amount year after year, either on continued bonuses, or something else, perhap military recapitalization or domestic programs. What public projects might have been accomplished? And, even if deficit fiscal policy remained, with gold sterilization still in place, money supply growth is still constricted. So what does that do to the economy and do for the US government's ability to keep borrowing?

From which European counties was the gold coming in 1937? According to Brendan Brown, *The Flight of International Capital: A Contemporary History* https://books.google.com/books?id=OczcAAAAQBAJ&pg=PA64 "Switzerland was the largest single source of the inflows into the USA in the second quarter" which in turn presumably reflected the inflow of French capital into Switzerland. the influx of gold halted in mid-1937 and did not really resume even after the US ended sterilizarion (largely because of fears that FDR would try to meet the recession with devaluation as in 1933) and did not really resume until the Sudeten crisis.

Very interesting, so this is mainly French gold via Switzerland. I'm unsure if the rise of Hitler was causing the gold flight from France, or fears of domestic instability.
 
Top