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Oct 9, 2017
Presented by
Lee Ohanian

Did FDR help end the Great Depression? Did his New Deal improve an otherwise hopeless economy? Lee Ohanian, Professor of Economics at UCLA and consultant to the Federal Reserve Bank of Minneapolis, explains.

Myth: FDR’s New Deal ended the Great Depression. Fact: FDR’s economy-stifling policies prolonged the Great Depression. 

  • The centerpiece of Roosevelt’s New Deal plan to fix the economy was the National Industrial Recovery Act, or NIRA, announced with great fanfare and support in 1933.View Source
  • FDR believed that he could use the government to artificially raise both prices and wages, making business and workers happy.View Source
  • But here’s what FDR missed: Artificially raising wages also raises labor costs. When labor costs go up, business hires fewer workers or no workers at all, especially in a depression.View Source
  • Meanwhile, artificially raising prices reduces demand for the obvious reason that people buy less of something when its price goes higher.View Source
  • WATCH: UCLA's Lee Ohanian: “Hoover, Roosevelt and the Great Depression”View Source

Why did the Great Depression last so long? FDR wrongfully believed the government could better manage the economy than private enterprise.

  • FDR wanted the limited government of Thomas Jefferson replaced with a European style “national democracy” that served what he called the “forgotten man.”View Source
  • Roosevelt confused the economic activity during WWI, which was actually the result of inflated war demands, as being due to government planning.View Source
  • FDR believed that businessmen cut prices and wages to the detriment of the worker and the economy as a whole, violating “fair competition.”View Source
  • The government, Roosevelt concluded, could much better manage the economy during a time of crisis, than private enterprise, which, in his worldview, only considered its own selfish interests.View Source
  • Related reading: “New Deal or Raw Deal?: How FDR's Economic Legacy Has Damaged America” – Burton W. Folsom Jr.View Source

FDR’s New Deal enshrined crony capitalism, encouraging corporations and unions to lobby for special deals and discouraging competition.

  • Under FDR’s New Deal, businesses flocked to Washington to lobby for handouts and regulation. All businesses had to abide by the rules adopted or face fines and jail time.View Source
  • Large corporations used regulation to limit competition from smaller firms, who couldn’t handle the cost.View Source
  • So instead of prohibiting monopolies, the NIRA (National Industrial Recovery Act) created monopolies, on the condition that these favored industries raised wages and bargained with labor unions.View Source
  • The Supreme Court declared the NIRA unconstitutional in May, 1935, stating that FDR violated Constitutional separation of powers.View Source
  • WATCH: “Hoover and the Great Depression” – Lee OhanianView Source

FDR didn’t end the Great Depression, he prolonged it. His New Deal artificially raised wages and prices, killing jobs and hurting consumers.

  • FDR’s Wagner Act of 1935 provided unions with new collective bargaining rights. As the labor unions grew in size and power, so did workers’ wages.View Source
  • These artificial price and wage increases prevented the natural forces of competition from lowering prices and raising productivity.View Source
  • Instead, artificially high wages led industry to hire fewer workers, and high prices reduced demand for products.View Source
  • If these policies had not been adopted, research by Lee Ohanian and Harold L. Cole indicates the economy would have returned to its normal level of employment and output by 1936.View Source
  • Related reading: “FDR's Folly: How Roosevelt and His New Deal Prolonged the Great Depression” – Jim PowellView Source

The centerpiece of FDR’s New Deal, the NIRA, created monopolies, promoted crony capitalism, and was declared unconstitutional in 1935.

  • Instead of prohibiting monopolies, the New Deal’s NIRA (National Industrial Recovery Act) created monopolies, on the condition that these favored industries raised wages and bargained with labor unions.View Source
  • The Supreme Court declared the NIRA unconstitutional in May, 1935, stating that FDR violated Constitutional separation of powers.View Source
  • Businesses flocked to Washington to lobby for handouts and regulation. All businesses had to abide by the rules adopted or face fines and jail time.View Source
  • Large corporations used regulation to limit competition from smaller firms, who couldn’t handle the cost.View Source
  • WATCH: UCLA's Lee Ohanian: “Hoover, Roosevelt and the Great Depression”View Source

FDR’s New Deal hurt more than it helped. It took reversing many of FDR’s policies to finally climb out of the Great Depression.

  • After several years of historically slow recovery, even FDR acknowledged that his policies had hurt growth. In 1938, the Department of Justice began pursuing antitrust against monopolies—which FDR’s NIRA helped create—and competition increased.View Source
  • By the time World War II began, the economy was finally improving.View Source
  • FDR allowed Congress to suspend many of his new deal policies during the war, including the WPA, the CCC, and the NYA.View Source
  • Related reading: “New Deal or Raw Deal?: How FDR's Economic Legacy Has Damaged America” – Burton W. Folsom Jr.View Source

As FDR’s New Deal proved, using the government to artificially raise prices and wages results in reduced demand and fewer jobs.

  • FDR believed that he could use the government to artificially raise both prices and wages, making business and workers happy.View Source
  • But here’s what FDR missed: Artificially raising wages also raises labor costs. When labor costs go up, business hires fewer workers or no workers at all, especially in a depression.View Source
  • Meanwhile, artificially raising prices reduces demand for the obvious reason that people buy less of something when its price goes higher.View Source
  • WATCH: “Hoover and the Great Depression” – Lee OhanianView Source
  • Related reading: “FDR's Folly: How Roosevelt and His New Deal Prolonged the Great Depression” – Jim PowellView Source

Did President Franklin Roosevelt’s New Deal economic policies pull the country out of the Great Depression? My research clearly suggests that the answer, contrary to popular belief, is no. In fact, the New Deal made matters worse.

Let me explain. 

The centerpiece of Roosevelt’s New Deal plan to fix the economy was the National Industrial Recovery Act, or NIRA, which the President announced with great fanfare in June of 1933.

FDR believed that he could use the government to artificially raise both prices and wages. It would work like this: higher prices would raise profits—that makes business happy; and higher wages would raise income—that makes workers happy.

More profits for business means more money to hire new workers. Higher wages for workers means more money to buy consumer goods. A virtuous cycle is set into motion and the economy improves rapidly.

But here’s what FDR missed: Artificially raising wages also raises labor costs.  And when labor costs go up, business hires fewer workers or no workers at all, especially in a difficult economic environment. Meanwhile, artificially raising prices reduces demand for the obvious reason that people buy less of something when its price goes higher.

So, why did FDR do this?

FDR based his New Deal policy largely on what happened during World War I, which had ended only 15 years earlier, in 1918. During that war, the government established planning boards to set wages and prices, and economic activity increased. If it worked during wartime, FDR reasoned, it should work during peacetime. But Roosevelt confused the economic activity that was actually the result of inflated war demands as being due to government planning.

The government, Roosevelt concluded, could much better manage the economy in a time of crisis than private enterprise, which, in his worldview, only considered its own selfish interests. Therefore, government guidance—not free enterprise—was Americans’ steadfast ally.

Contrary to what you might think, big business, including autos and steel, were happy to go along with FDR’s plan—at least, at first. If the government was going to ensure their profits, who were they to complain? So, instead of prohibiting monopolies—something the government is actually supposed to do—the NIRA created monopolies on the condition that these favored industries immediately raised wages significantly and bargained collectively with labor.

Not surprisingly, the Supreme Court declared the NIRA unconstitutional in May, 1935, stating that FDR violated constitutional separation of powers. He had meddled in an area— private business— where he had no constitutional right.  But the decision had little practical effect because the government simply ignored it.

Meanwhile, the wage side of the equation rose faster than expected because of the passage of another New Deal Law, the 1935 Wagner Act. The Wagner Act provided unions with new collective bargaining rights. And as the labor unions grew in size and power, so did workers’ wages. 

The result was that between 1933 and 1939, these government policies— the NIRA and the Wagner Act—increased prices and wages by about 20 percent. These artificial price and wage increases impeded what should have been a strong recovery from the Depression. They prevented the natural forces of competition from pushing prices down and pushing worker productivity up. Instead, artificially high wages led industry to hire few workers, and high prices reduced demand for products.  

If these policies had not been adopted, my research, as well as research by other economists, indicates the economy would have returned to its normal level of employment and output by 1936. In other words, the policies that were supposed to restore prosperity actually prolonged the Depression.

I’m Lee Ohanian, Professor of Economics at UCLA for Prager University.

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