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Originally published Friday, February 13, 2009 at 12:00 AM

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Stimulus bill revives New Deal debate

Underlying the partisan division over President Obama's stimulus bill is a dispute over history, a decades-old debate between liberals and conservatives over the impact the New Deal had in bringing the country out of the Great Depression.

The Washington Post

WASHINGTON — Underlying the partisan division over President Obama's stimulus bill is a dispute over history, a decades-old debate between liberals and conservatives over the impact the New Deal had in bringing the country out of the Great Depression.

Senate Minority Leader Mitch McConnell, R-Ky., said last week that "the big-spending programs of the New Deal did not work." Sen. Richard Shelby, R-Ala., said, "If we look back, even to the New Deal, it's not going to help employment." Two economists argued in The Wall Street Journal that "there was even less work on average during the New Deal than before FDR took office."

But most mainstream economists said the lessons of the Depression, which didn't end until World War II spending kicked in, are different. They said New Deal spending programs begun by President Franklin D. Roosevelt — combined with moves to bolster the banking system, loosen monetary policy and end the gold standard — helped put millions of people back to work.

Increases modest

At the same time, they said federal-spending increases under Roosevelt before the war were modest compared with the size of the economy, and not a good test of stimulus spending.

"The Depression at its worst moment had 25 percent unemployed," said Alice Rivlin, former Clinton budget director and former director of the Congressional Budget Office. "Many of those people got back to work. Not all of them. We still had very high unemployment for many years. But to say it didn't work is to say we know what would have happened without it."

Like most disputes about the past, the wrestling match over the lessons of the Depression has everything to do with the present.

If Roosevelt's New Deal programs — such as the Civilian Conservation Corps, the Works Progress Administration and Social Security — didn't revive the economy in the 1930s, Republicans in Congress have a powerful argument justifying their opposition to Obama's stimulus program.

And if the Roosevelt programs worked, Democrats can justify the $789 billion stimulus package as following a successful precedent.

In fact, for most of the New Deal era, the economy grew quickly, an annual rate of about 13 percent from 1933 to 1937 and more than 10 percent from 1938 to 1941, Commerce Department data show.

Double-digit growth

Many liberal economists said that shows the virtue of boosting spending. Dean Baker, co-director of the Center for Economic and Policy Research, said that "when Roosevelt came in, he started spending money, and from 1933 to 1937 the economy grew at a double-digit annual rate. It was soaring, and the unemployment rate fell at 4 percentage points a year."

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But in 1937, the economy started tumbling backward again. Drawing an analogy to today's fiscally conservative Democrats in Congress, Baker said Roosevelt "listened to the Blue Dogs of his day and cut spending, and the unemployment rate rose again."

Government statistics show that federal spending as a proportion of the economy tripled from 1933 to 1937, but from a small base. In 1937, federal spending tumbled by 10 percent; the year before, the government had paid a one-time bonus to World War I veterans.

Spending by federal, state and local governments fell from almost 16 percent of gross domestic product (GDP) in 1936 to 13.9 percent, essentially putting the brakes on the struggling economy.

And Roosevelt introduced Social Security, including a tax on wages that also hindered growth.

Many economists say fiscal stimulus did not end the Depression because it was not really tried; the spending increases were too small.

"The fiscal impulse was small relative to what was needed," said Barry Eichengreen, a University of California, Berkeley, economics professor and author of a book that argues that getting off the gold standard was a key part of getting out of the Depression. "Did it end the Depression? No. Should we be surprised that it didn't end the Depression given its small size by the standards of the problem? No."

As for the lessons the New Deal has for today's stimulus plan, he said, "To argue that because policy was limp before and didn't work that it should be limp again strikes me as a total non-sequitur."

Recently, economists have focused on the impact of regulatory actions during the New Deal. Lee Ohanian of the University of California, Los Angeles, contends the National Labor Relations Act and the National Industrial Recovery Act dampened competition and kept prices high, reducing demand rather than stimulating it.

"If you're GM and I'm Ford, the government said, 'Keep prices high and don't undercut each other, and we'll let you do that as long as you help workers with higher salaries,' " Ohanian said. "It sounded good, and it was good for the workers who had those jobs, but ... you're not going to hire many workers."

Spending, downturn

McConnell said last week that "in 1940, unemployment was still 15 percent. What got us out of the doldrums that we were in during the Depression was the beginning of World War II."

But is that an argument for or against stimulus? During the war, government spending soared sixfold and federal government debt more than doubled.

It was only in 1936 that John Maynard Keynes published his "The General Theory of Employment, Interest and Money," the book that provided the intellectual underpinning for deficit spending in economic downturns.

Today, the consensus of government's role in pulling the economy out of recession is so widespread, Rivlin said, that the idea of government stimulus is built into "automatic stabilizers." When the economy slows, the government spends more on unemployment insurance, food stamps and Medicaid while taking in less in taxes. "It's already helping," she said.

Copyright © 2009 The Seattle Times Company

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