Reliving the Crash of '29: How Hoover's Policies Blazed the Trail for FDR and Wrecked the US Economy

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published in Inquiry,
12 November 1979.

A half-century
ago America — and then the world — was rocked by a mighty stock
market crash that soon turned into the steepest and the longest-lasting
depression of all time. Only the cataclysm of World War II
was able to pull the Western world out of the Great Depression.
It was not only the sharpness and depth of the depression that
stunned the world and changed the face of modern history: It was
the length, the chronic economic morass persisting throughout
the 1930s, that caused intellectuals and the general public to
despair of the market economy and the capitalist system. Previous
depressions, no matter how sharp, generally lasted no more than
a year or two. But now, for over a decade, poverty, unemployment,
and hopelessness led millions to seek some new economic system
that would cure the depression and avoid a repetition of it.

solutions and panaceas differed; for some it was Marxian socialism;
for others, one or another form of fascism. In the United States
the accepted solution was a Keynesian mixed economy or welfare-warfare
state. Harvard was the focus of Keynesian economics in the United
States, and Seymour Harris, a prominent Keynesian teaching there,
titled one of his many books Saving American Capitalism;
that title encapsulated the spirit of the New Deal reformers of
the thirties and forties. By the massive use of state power and
government spending, capitalism was going to be saved from the
challenges of communism or fascism.

One common
guiding assumption characterized the Keynesians, socialists, and
fascists of the 1930s: that laissez-faire, free-market capitalism
had been the touchstone of the U.S. economy during the 1920s,
and that this old-fashioned form of capitalism had manifestly
failed us by generating, or at least allowing, the most catastrophic
depression in history to strike at the United States and the entire
Western world. Well, weren't the 1920s, with their burgeoning
optimism, their speculation, their enshrinement of Big Business
in politics, their Republican dominance, their individualism,
their hedonistic cultural decadence, weren't these years indeed
the heyday of laissez-faire? Certainly that decade looked that
way to most observers, and hence it was natural that the free
market should take the blame for the consequences of unbridled
capitalism in 1929 and after.

for the course of history, the common interpretation was dead
wrong: There was very little laissez-faire capitalism in the 1920s.
Indeed the opposite was true: Significant parts of the economy
were infused with proto-New Deal statism, a statism that plunged
us into the Great Depression and prolonged this miasma for more
than a decade.

In the first
place, everyone forgot that the Republicans had never been the
laissez-faire party: On the contrary, it was the Democrats who
had always championed free markets and minimal government, while
the Republicans had crusaded for a protective tariff that would
shield domestic industry from efficient competition, for huge
land grants and other subsidies to railroads, and for inflation
and cheap credit to stimulate purchasing power and apparent prosperity.
It was the Republicans who championed paternalistic Big Government
and the partnership of business and government while the Democrats
sought free trade and free competition, denounced the tariff as
the "mother of trusts," and argued for the gold standard
and the separation of government and banking as the only way to
guard against inflation and the destruction of people's savings.
At least that was the policy of the Democrats before Bryan and
Wilson at the start of the twentieth century, when the party shifted
to a position not very far from its ancient Republican rivals.

The Republicans
never shifted, and their reign in the l920s brought the federal
government to its greatest intensity of peacetime spending and
hiked the tariff to new, stratospheric levels. A minority of old-fashioned
"Cleveland" Democrats continued to hammer away at Republican
extravagance and Big Government during the Coolidge and Hoover
eras. Those included Governor Albert Ritchie of Maryland, Senator
James Reed of Missouri, and former Solicitor General James M.
Beck, who wrote two characteristic books in this era: The
Vanishing Rights of the States
and Our
Wonderland of Bureaucracy

But most
important in terms of the Depression was the new statism that
the Republicans, following on the Wilson administration, brought
to the vital but arcane field of money and banking. How many Americans
know or care anything about banking? Yet it was in this neglected
but crucial area that the seeds of 1929 were sown and cultivated
by the American government.

The United
States was the last major country to enjoy, or be saddled with,
a central bank. All the major European countries had adopted central
banks during the eighteenth and nineteenth centuries, which enabled
governments to control and dominate commercial banks, to bail
out banking firms whenever they got into trouble, and to inflate
money and credit in ways controlled and regulated by the government.
Only the United States, as a result of Democratic agitation during
the Jacksonian era, had had the courage to extend the doctrine
of classical liberalism to the banking system, thereby separating
government from money and banking. Having deposed the central
bank in the 1830s, the United States enjoyed a freely competitive
banking system — and hence a relatively "hard" and noninflated
money until the Civil War. During that catastrophe, the Republicans
used their one-party dominance to push through their interventionist
economic program; it included a protective tariff and land grants
to railroads, as well as inflationary paper money and a "national
banking system" that in effect crippled state-chartered banks
and paved the way for the later central bank.

The United
States adopted its central bank, the Federal Reserve System, in
1913, backed by a consensus of Democrats and Republicans. This
virtual nationalization of the banking system was unopposed by
the big banks; in fact, Wall Street and the other large banks
had actively sought such a central system for many years. The
result was the cartelization of banking under federal control,
with the government standing ready to bail out banks in trouble,
and also ready to inflate money and credit to whatever extent
the banks felt was necessary.

Without a
functioning Federal Reserve System available to inflate the money
supply, the United States could not have financed its participation
in World War I; that war was fueled by heavy government
deficits and by the creation of new money to pay for swollen federal

One point
is undisputed: The autocratic ruler of the Federal Reserve System,
from its inception in 1914 to his death in 1928, was Benjamin
Strong, a New York banker who had been named governor of the Federal
Reserve Bank of New York. Strong consistently and repeatedly used
his power to force an inflationary increase of money and bank
credit in the American economy, thereby driving prices higher
than they would have been and stimulating disastrous booms in
the stock and real estate markets. In 1927, Strong gaily told
a French central banker that he was going to give "a little
coup de whiskey to the stock market." What was the
point? Why did Strong pursue a policy that now can seem only heedless,
dangerous, and recklessly extravagant?

Once the
government has assumed absolute control of the money-creating
machinery in society, it benefits — as would any other group —
by using that power. Anyone would benefit, at least in the short
run, by printing or creating new money for his own use or for
the use of his economic or political allies. Strong had several
motives for supporting an inflationary boom in the 1920s. One
was to stimulate foreign loans and foreign exports. The Republican
party was committed to a policy of partnership of government and
industry, and to subsidizing domestic and export firms. A protective
tariff aided inefficient domestic producers by keeping out foreign
competition: But if foreigners were shut out of our markets, how
in the world were they going to buy our exports? The Republican
administration thought it had solved this dilemma by stimulating
American loans to foreigners so that they could buy our products.

A fine solution
in the short run, but how were these loans to be kept up, and,
more important, how were they to be repaid? The banking community
was also confronted with the curious and ultimately self-defeating
policy of preventing foreigners from selling us their products,
and then lending them the money to keep buying ours. Benjamin
Strong's inflationary policy meant repeated doses of cheap credit
to stimulate this foreign lending. It should also be noted that
this policy subsidized American investment banks in making foreign

Among the
exports stimulated by cheap credit and foreign loans were farm
products. American agriculture, overstimulated by the swollen
demands of warring European nations during World War I, was a
chronically sick industry during the 1920s. It had awakened after
the resumption of peace to find that farm prices had fallen and
that European demand was down. Rather than adjusting to postwar
realities, however, American farmers preferred to organize and
agitate to force taxpayers and consumers to keep them in the style
to which they had become accustomed during the palmy "parity"
years of the war. One way for the federal government to bow to
this political pressure was to stimulate foreign loans and hence
to encourage foreign purchases of American farm products.

The "farm
bloc," it should be noted, included not only farmers; more
indirect and considerably less rustic interests were also busily
at work. The postwar farm bloc gained strong support from George
N. Peek and General Hugh S. Johnson; both, later prominent in
the New Deal, were heads of the Moline Plow Company, a major manufacturer
of farm machinery that stood to benefit handsomely from government
subsidies to farmers. When Herbert Hoover, in one of his first
acts as President — considerably before the crash — established
the Federal Farm Board to raise farm prices, he installed as head
of the FFB Alexander Legge, chairman of International Harvester,
the nation's leading producer of farm machinery. Such was the
Republican devotion to "laissez faire."

But a more
indirect and ultimately more important motivation for Benjamin
Strong's inflationary credit policies in the 1920s was his view
that it was vitally important to "help England," even
at American expense. Thus, in the spring of 1928, his assistant
noted Strong's displeasure at the American public's outcry against
the "speculative excesses" of the stock market. The
public didn't realize, Strong thought, that "we were now
paying the penalty for the decision which was reached early in
1924 to help the rest of the world back to a sound financial and
monetary basis." An unexceptionable statement, provided that
we clear up some euphemisms. For the "decision" was
taken by Strong in camera, without the knowledge or participation
of the American people; the decision was to inflate money and
credit, and it was done not to help the "rest of the world"
but to help sustain Britain's unsound and inflationary policies.

Before the
World War, all the major nations were on the gold standard, which
meant that the various currencies — the dollar, pound, mark, franc,
etc. — were redeemable in fixed weights of gold. This gold requirement
ensured that governments were strictly limited in the amount of
scrip they could print and pour into circulation, whether by spending
to finance government deficits or by lending to favored economic
or political groups. Consequently, inflation had been kept in
check throughout the nineteenth century when this system was in

But world
war ruptured all that, just as it destroyed so many other aspects
of the classical liberal polity. The major warring powers spent
heavily on the war effort, creating new money in bushel baskets
to pay the expense. Inflation was consequently rampant during
and after World War I and, since there were far more pounds, marks,
and francs in circulation than could possibly be redeemed in gold,
the warring countries were forced to go off the gold standard
and to fall back on paper currencies — all, that is, except for
the United States, which was embroiled in the war for a relatively
short time and could therefore afford to remain on the gold standard.
After the war the nations faced a world currency breakdown with
rampant inflation and chaotically falling exchange rates. What
was to be done? There was a general consensus on the need to go
back to gold, and thereby to eliminate inflation and frantically
fluctuating exchange rates. But how to go back? That is, what
should be the relations between gold and the various currencies?
Specifically, Britain had been the world's financial center for
a century before the war, and the British pound and the dollar
had been fixed all that time in terms of gold so that the pound
would always be worth $4.86. But during and after the war the
pound had been inflated relatively far more than the dollar, and
thus had fallen to about $3.50 on the foreign exchange market.
But Britain was adamant about returning the pound, not to the
realistic level of $3.50, but rather to the old prewar par of

Why the stubborn
insistence on going back to gold at the obsolete prewar par? Part
of the reason was a stubborn and mindless concentration on face-saving
and British honor, on showing that the old lion was just as strong
and tough as before the war. Partly, it was a shrewd realization
by British bankers that if the pound were devalued from prewar
levels England would lose its financial preeminence, perhaps to
the United States, which had been able to retain its gold status.

So, under
the spell of its bankers, England made the fateful decision to
go back to gold at $4.86. But this meant that British exports
were now made artificially expensive and its imports cheaper,
and since England lived by selling coal, textiles, and other products,
while importing food, the resulting chronic depression in its
export industries had serious consequences for the British economy.
Unemployment remained high in Britain, especially in its export
industries, throughout the boom of the l920s.

To make this
leap backward to $4.86 viable, Britain would have had to deflate
its economy so as to bring about lower prices and wages and make
its exports once again inexpensive abroad. But it wasn't willing
to deflate since that would have meant a bitter confrontation
with Britain's now powerful unions. Ever since the imposition
of an extensive unemployment insurance system, wages in Britain
were no longer flexible downward as they had been before the war.
In fact, rather than deflate, the British government wanted the
freedom to keep inflating, in order to raise prices, do an end
run around union wage rates, and ensure cheap credit for business.

The British
authorities had boxed themselves in: They insisted on several
axioms. One was to go back to gold at the old prewar par of $4.86.
This would have made deflation necessary, except that a second
axiom was that the British continue to pursue a cheap credit,
inflationary policy rather than deflation. How to square the circle?
What the British tried was political pressure and arm-twisting
on other countries, to try to induce or force them to inflate
too. If other countries would also inflate, the pound would remain
stable in relation to other currencies; Britain would not keep
losing gold to other nations, which endangered its own jerry-built
monetary structure.

On the defeated
and small new countries of Europe, Britain's pressure was notably
successful. Using their dominance in the League of Nations and
especially in its Financial Committee, the British forced country
after country not only to return to gold, but to do so at overvalued
rates, thereby endangering those nations' exports and stimulating
imports from Britain. And the British also flummoxed these countries
into adopting a new form of gold "exchange" standard,
in which they kept their reserves not in gold, as before, but
in sterling balances in London. In this way, the British could
continue to inflate, and pounds, instead of being redeemed in
gold, were used by other countries as reserves on which to pyramid
their own paper inflation. The only stubborn resistance to the
new order came from France, which had a hard-money policy into
the late l920s. It was French resistance to the new British monetary
order that was ultimately fatal to the house of cards the British
attempted to construct in the 1920s.

The United
States was a different situation altogether. Britain could not
coerce the United States into inflating in order to save the misbegotten
pound, but it could cajole and persuade. In particular, it had
a staunch ally in Benjamin Strong, who could always be relied
on to be a willing servitor of British interests. By repeatedly
agreeing to inflate the dollar at British urging, Benjamin Strong
won the plaudits of the British financial press as the best friend
of Great Britain since Ambassador Walter Hines Page, who had played
a key role in inducing the U.S. to enter the war on the British

Why did Strong
do it? We know that he formed a close friendship with British
financial autocrat Montagu Norman, longtime head of the Bank of
England. Norman would make secret visits to the United States,
checking in at a Saratoga Springs resort under an assumed name,
and Strong would join him there for the weekend, also incognito,
there to agree on yet another inflationary coup de whiskey
to the market. Surely this Strong-Norman tie was crucial,
but what was its basic nature? Some writers have improbably speculated
on a homosexual liaison to explain the otherwise mysterious subservience
of Strong to Norman's wishes. But there was another, and more
concrete and provable tie that bound these two financial autocrats

That tie
involved the Morgan banking interests. Benjamin Strong had lived
his life in the Morgan ambit. Before being named head of the Federal
Reserve, Strong had risen to head of the Bankers Trust Company,
a creature of the Morgan bank. When asked to be head of the Fed,
he was persuaded to take the job by two of his best friends, Henry
P. Davison and Dwight Morrow, both partners of J. P. Morgan &

The Federal
Reserve System arrived at a good time for the Morgans. It was
needed to finance America's participation in World War I, a
participation strongly supported by the Morgans, who played a
major role in bringing the Wilson administration into the war.
The Morgans, heavily invested in rail securities, had been caught
short by the boom in industrial stocks that emerged at the turn
of the century. Consequently, much of their position in investment-banking
was being eroded by Kuhn, Loeb & Co., which had been faster
off the mark on investment in industrial securities. World War
I meant economic boom or collapse for the Morgans. The
House of Morgan was the fiscal agent for the Bank of England;
it had the underwriting concession for all sales of British and
French bonds in the United States during the war, and it helped
finance U.S. arms and munitions sales to Britain and France. The
House of Morgan had a very heavy investment in an Anglo-French
victory and in a German-Austrian defeat. Kuhn, Loeb, on the other
hand, was pro-German, and therefore was tied more to the fate
of the Central Powers.

The cement
binding Strong and Norman was the Morgan connection. Not only
was the House of Morgan intimately wrapped up in British finance,
but Norman himself — as well as his grandfather — in earlier days
had worked in New York for the powerful investment banking firm
of Brown Brothers, and hence had developed close personal ties
with the New York banking community. For Benjamin Strong, helping
Britain meant helping the House of Morgan to shore up the internally
contradictory monetary structure it had constructed for the postwar

The result
was inflationary credit, a speculative boom that could not last,
and the Great Crash whose fiftieth anniversary we observe this
year. After Strong's death in late 1928, the new Federal Reserve
authorities, while confused on many issues, were no longer consistent
servitors of Britain and the Morgans. The deliberate and consistent
policy of inflation came to an end, and a corrective depression
soon arrived.

There are
two mysteries about the Depression, mysteries having two separate
and distinct solutions. One is, why the crash? Why the sudden
crash and depression in the midst of boom and seemingly permanent
prosperity? We have seen the answer: inflationary credit expansion
propelled by the Federal Reserve System, in the service of various
motives, including helping Britain and the House of Morgan. But
there is another vital and very different problem. Given the crash,
why did the recovery take so long? Usually when a crash or financial
panic strikes, the economic and financial depression, be it slight
or severe, is over in a few months, or a year or two at the most.
After that, economic recovery will have arrived. The crucial difference
between earlier depressions and that of 1929 was that the 1929
crash became chronic and seemed permanent.

What is seldom
realized is that depressions, despite their evident hardship on
so many, perform an important corrective function. They serve
to eliminate the distortions introduced into the economy by an
inflationary boom. When the boom is over, the many distortions
that have entered the system become clear: Prices and wage rates
have been driven too high, and much unsound investment has taken
place, particularly in capital goods industries. The recession
or depression serves to lower the swollen prices and to liquidate
the unsound and uneconomic investments; it directs resources into
those areas and industries that will most-effectively serve consumer
demands — and were not allowed to do so during the artificial
boom. Workers previously misdirected into uneconomic production,
unstable at best, will, as the economy corrects itself, end up
in more secure and productive employment.

The recession
must be allowed to perform its work of liquidation and restoration
as quickly as possible, so that the economy can be allowed to
recover from boom and depression and get back to a healthy footing.
Before 1929, this hands-off policy was precisely what all U.S.
governments had followed, and hence depression, however sharp,
would disappear after a year or so.

But when
the Great Crash hit, America had recently elected a new kind of
President. Until the past decade, historians had regarded Herbert
Clark Hoover as the last of the laissez-faire Presidents. Instead,
he was the first New Dealer. Hoover had his bipartisan aura, and
was devoted to corporatist cartelization under the aegis of Big
Government; indeed, he originated the New Deal farm price support
program. His New Deal specifically centered on his program for
fighting depressions. Before he assumed office, Hoover determined
that should a depression strike during his term of office, he
would use the massive powers of the federal government to combat
it. No more would the government, as in the past, pursue a hands-off

As Hoover
himself recalled the crash and its aftermath:

The primary
question at once arose as to whether the President and the federal
government should undertake to investigate and remedy the evils…
No President before had ever believed that there was a governmental
responsibility in such cases… Presidents steadfastly had maintained
that the federal government was apart from such eruptions… therefore,
we had to pioneer a new field.

In his acceptance
speech for the Presidential renomination in 1932, Herbert Hoover
summed it up:

We might
have done nothing… Instead, we met the situation with proposals
to private business and to Congress of the most gigantic program
of economic defense and counterattack ever evolved in the history
of the Republic. We put it into action… No government in Washington
has hitherto considered that it held so broad a responsibility
for leadership in such times.

The massive
Hoover program was, indeed, a characteristically New Deal one:
vigorous action to keep up wage rates and prices, to expand public
works and government deficits, to lend money to failing businesses
to try to keep them afloat, and to inflate the supply of money
and credit to try to stimulate purchasing power and recovery.
Herbert Hoover during the 1920s had pioneered in the proto-Keynesian
idea that high wages are necessary to assure sufficient purchasing
power and a healthy economy. The notion led him to artificial
wage-raising — and consequently to aggravating the unemployment
problem — during the depression.

As soon as
the stock market crashed, Hoover called in all the leading industrialists
in the country for a series of White House conferences in which
he successfully bludgeoned the industrialists, under the threat
of coercive government action, into propping up wage rates — and
hence causing massive unemployment — while prices were falling
sharply. After Hoover's term, Franklin D. Roosevelt simply continued
and expanded Hoover's policies across the board, adding considerably
more coercion along the way. Between them, the two New Deal Presidents
managed the unprecedented feat of making the depression last a
decade, until we were lifted out of it by our entry into World
War II.

If Benjamin
Strong got us into a depression and Herbert Hoover and Franklin
D. Roosevelt kept us in it, what was the role in all this of the
nation’s economists, watchdogs of our-economic health? Unsurprisingly,
most economists, during the Depression and ever since, have been
much more part of the problem than of the solution. During the
l920s, establish-ment economists, led by Professor Irving Fisher
of Yale, hailed the twenties as the start of a “New Era,” one
in which the new Federal Reserve System would ensure permanently
stable prices, avoiding either booms or busts. Unfortunately,
the Fisherines, in their quest for stability, failed to realize
that the trend of the free and unhampered market is always toward
lower prices, as productivity rises and mass markets develop for
particular products. Keeping the price level stable in an era
of rising productivity, as in the 1920s, requires a massive artificial
expansion of money and credit. Focusing only on wholesale prices,
Strong and the economists of the 1920s were willing to engender
artificial booms in real estate and stocks, as well as malinvestments
in capital goods, so long as the wholesale price level remained

As a result,
Irving Fisher and the leading economists of the 1920s failed to
recognize that a dangerous inflationary boom was taking place.
When the crash came, Fisher and his disciples of the Chicago school
again pinned the blame on the wrong culprit. Instead of realizing
that the depression process should be left alone to work itself
out as rapidly as possible, Fisher and his colleagues laid the
blame on the deflation after the crash and demanded a reinflation
(or "reflation") back to 1929 levels. In this way, even
before Keynes, the leading economists of the day managed to miss
the problem of inflation and cheap credit and to demand policies
that only prolonged the depression and made it worse. After all,
Keynesianism did not spring forth full-blown with the publication
of Keynes's General
in 1936.

are still pursuing the policies of the 1920s that led to
eventual disaster. The Federal Reserve is still inflating the
money supply and inflates it even further with the merest hint
that a recession is in the offing. The Fed is still trying to
fuel a perpetual boom while avoiding a correction, on the one
hand, or a great deal of inflation, on the other. In a sense,
things have gotten worse. For while the hard-money economists
of the 1920s and 1930s wished to retain and tighten up the gold
standard, the "hard money" monetarists of today scorn
gold, are happy to rely on paper currency, and feel that they
are boldly courageous for proposing not to stop the inflation
of money altogether, but to limit the expansion to a supposedly
fixed amount.

who ignore the lessons of history are doomed to repeat it — except
that now, with gold abandoned and each nation able to print currency
ad lib, we are likely to wind up, not with a repeat of
1929, but with something far worse: the holocaust of runaway inflation
that ravaged Germany in 1923 and many other countries during World
War II. To avoid such a catastrophe we must have the resolve and
the will to cease the inflationary expansion of credit, and to
force the Federal Reserve System to stop purchasing assets and
thereby to stop its continued generation of chronic, accelerating

N. Rothbard
(1926–1995) was the author of Man,
Economy, and State
, Conceived
in Liberty
, What
Has Government Done to Our Money
, For
a New Liberty
, The
Case Against the Fed
, and many
other books and articles
. He
was also the editor – with Lew Rockwell – of The
Rothbard-Rockwell Report

Rothbard Archives

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