THE ECONOMIC ACCOMMODATION, I
Economists regularly engage in political theory, masking normative judgments with seemingly objective analysis.
—CONRAD P. WALIGORSKI
One of the most reliable, though not necessarily most distinguished, accomplishments of economics is its ability to accommodate its view of economic process, instruction therein and recommended public action to specific economic and political interest. Craftsmen, sometimes of no slight ability, are regularly available for this service.
In the first half of the last century, the age of burgeoning capitalism, David Ricardo and the Reverend Thomas Robert Malthus, the two most influential economic voices of those years, saw an industrial world in which a handful of exceedingly well maintained and powerful capitalists dominated society from the dark satanic mills. In those mills thousands, not excluding small children, labored without power and for the pittance that allowed only for a sadly limited existence. As I have indicated on other occasions, it would be hard to design a better cover for this far from compassionate economic and social order than that which Ricardo and Malthus provided. Wages, they held, were pressed ineluctably to the margin of subsistence by natural law—and specifically, as Malthus especially urged, by the natural law of procreation, this being the uncontrollable breeding habits of the human species. From the force of the growing population and the resulting very natural competition for jobs, wages were thus brought down to the minimum necessary for survival.
Malthus, a compassionate man, did not think this grievous tendency wholly without remedy; ministers in the wedding ceremony should, he thought, warn against unduly prodigious intercourse. Until this family planning design became effective, however, the mill owner and the capitalist could find comfort in a condition not of their own making. They could react with indignation to any thought of trade union or government intervention, however improbable, for that contravened the natural—and sexual—order.
Not less accommodating, then as now, was the social commitment to laissez faire, the doctrine that is thought to have emerged in seventeenth-century France, although its actual origins are debated. This, as already noted, is the belief that economic life has within itself the capacity to solve its own problems and for all to work out for the best in the end.
In Britain in its age of industrial triumph nothing was more helpful than the support given by all accepted economic theory to free trade. This was urged both eloquently and elegantly by Adam Smith. Here the accommodation was especially clear. For Britain, the industrially most advanced of countries, free trade was of obvious advantage, and, like laissez faire, it acquired a strong theological aura. In Germany and the United States, on the other hand, economic interest was better served by tariffs. Accordingly, the most respected economists in those countries—the noted Friedrich List in Germany, the eloquent Henry Carey in the United States—spoke vigorously for protection for their national “infant industries,” protection, in fact, from the products of the British colossus.
Such was the service of economics to early capitalism. And such service has continued. Toward the end of the last century, in what has now come down to us as the Gilded Age, Herbert Spencer avowed the economic and social doctrine of the survival of the fittest—it is to him and not to Darwin that we owe those words. Though British, Spencer was a figure of heroic proportions in the United States, as were his disciples. His most distinguished acolyte, William Graham Sumner of Yale, served the gilded constituency in remarkably explicit language: “The millionaires are a product of natural selection.… They may fairly be regarded as the naturally selected agents of society for certain work. They get high wages and live in luxury, but the bargain is a good one for society.”1
Thorstein Veblen, who, oddly, was one of Sumner’s students, did, it must be said, acquire even greater fame for his inconvenient treatment of this doctrine. The rich and the powerful he saw in anthropological terms—their habits of life were those of tribal leaders; their enjoyments, tribal rites—and he so described them.2
In this century, for as long as the dominant industrial and financial mood was opposed to the New Deal, so, as I have already indicated, were the most reputable economists. They cited its conflict with free market principles, its impairment of essential economic motivation and, above all, its seeming subversion of sound money and public finance. Economists who approved or served the New Deal were scorned in no slight measure for their dissidence and even their eccentricity. Only when the basic ideas won acceptance did economists in general step forward to give their approval.
I come now to the modern accommodation of economics to contentment. This is at two levels. There is, first, the accepted economics strongly represented in the textbooks, in normal economic discourse and in established belief. And there is, second, that which has been rather specifically designed to serve contentment and is widely, if not quite universally, so recognized.
The reputable accommodation of economics to contentment begins with the broad commitment to the doctrine, more often called the principle, of laissez faire; of this, ample mention has been made. In keeping therewith, government intervention, specifically government regulation, is unnecessary and normally damaging to the beneficent processes of nature. Or, since things will work out in the long run, it is an expression of impatience.
Accordingly, the overwhelming presumption as to the necessity for government action is negative. The case for any specific intervention must be strongly proved; the case against rests not on empirical demonstration, not alone on formal theory, but also on deeper theological grounds. As you must have faith in God, you must have faith in the system; to some extent the two are identical.
Over the centuries this faith has, indeed, been subject to waves of strength and weakness. In the age of contentment, not surprisingly, it is strong. Perhaps more than any other belief, it has been a sustaining force for the contented. It supports the powerful commitment to the short run and to the rejection of longer-run concerns. (In ultimate support, of course, is the most quoted observation by John Maynard Keynes: “In the long run we are all dead.”)
The modern commitment to laissez faire is not, however, without exception. There are, as sufficiently indicated in earlier chapters, forms of state action that are considered firmly in the service of contentment. The rescue of failing banks and other financial institutions is an obvious case, as also support to the military establishment—anciently, the defense of the realm. So also publicly provided pensions for the more comfortable of the aged. And there are exceptions for numerous lesser matters. Laissez faire is a general but not a confining force in the culture of contentment.
To other, more specific and no less self-serving economic accommodation I now turn. The doctrines that have been more obviously designed to support contentment are discussed in the next chapter.
The most serious general threat to contentment results, perhaps needless to say, from the intrinsic tendency of capitalism to instability—to recession or depression, with its adverse effect not alone on employment but also on income and profit, and to the very real fear of inflation.
Since the Great Depression of the 1930s, there has been a broad consensus that the government must take steps to mitigate or control these manifestations of instability. It must have a macroeconomic policy for economic stabilization and expansion. This agreement is not quite absolute; an onset of recession in the economy invariably brings predictions from economists that it will be short and self-correcting. Here again the theology of benign result: the business cycle has its own beneficent dynamic. Nonetheless, some public action is now generally deemed necessary, and the more basic accommodation to contentment lies in the specifics of that action. Reduced to their essentials, they are rather simple and even obvious. Limiting popular understanding of them, however, is a covering cloak of highly functional mystification that admirably serves the culture of contentment.
The basic feature of a recession or depression is a reduction, for whatever reason, in the flow of effective demand—of purchasing power—for capital goods and for consumer goods and services. The result is a shrinkage of production and employment and a cumulative effect as corporations and consumers find their purchasing power diminished and they react accordingly.
The causes of inflation are not quite symmetrically the opposite. Inflation comes when, for whatever reason, the flow of demand or purchasing power presses on a significant number of goods and services, allowing or forcing a general upward movement in prices. Additionally in the case of inflation, however, powerful microeconomic factors, as they are called, may force producers to raise prices over a substantial part of the economy. Wage negotiations leading to higher costs and forcing higher prices or, a more spectacular case in recent times, a large increase in oil and energy prices may have a strong inflationary effect.
There are for economists a professionally rewarding number of causes of the forces leading to the curtailment of demand that induces recession or depression, or of those initiating an expansion of demand. Perhaps there may be a broad, causally undefined tendency for consumers to spend more or less or for producers to invest more or less. Waves of optimism and pessimism have an ancient and well-avowed role in the economics of the business cycle. There is the effect of the fear that follows the collapse of speculative episodes or other banking or financial crises, and the effect of increases or reductions in export demand.
Yet other factors can also be important. Much action, however, is beyond the range of the favored public policy. Public oratory designed to restore consumer confidence and influence business investment, for example, though much employed, is not known to be especially useful. In the early years of the Great Depression presidential assurances of the certain imminence of recovery were thought to be a sign of a more serious prospect. Thus they had an adverse influence on the securities markets and, it was thought, on business confidence.3 In the painful recession of the early 1990s, as this is written, similar oratory emanates from Washington on a daily basis.
In fact, useful action against recession or inflation comes down to government measures to expand or to contract the flow of consumer and investment spending. Action against inflation also may involve a general restraint on costs, notably wage or, on occasion, energy costs, as these may force up prices over a wide area of economic activity. The relevant choices are fiscal policy, monetary policy and a policy as regards wages or other influential costs as these put upward pressure on prices. The one that conforms most agreeably to the controlling principles of contentment is wonderfully clear. It is the one that, not surprisingly, has the most general economic approval.
Fiscal policy involves action to increase or decrease the flow of spending—of effective demand—by adding to or subtracting from the government contribution thereto. This is accomplished by increasing or decreasing government spending, taxes remaining the same, or by increasing or decreasing taxes, expenditures remaining the same. Or it is accomplished by infinitely varied combinations of such actions.
Fiscal policy does enjoy a certain standing in established economic discussion and instruction. As earlier observed, however, it accords very badly with the controlling tenets of contentment, for it means, needless to say, an enlarged role for government. Also, a deliberate increase in taxes to limit the flow of spending and mitigate inflation is out of the question; resistance to taxes for whatever reason is basic in the culture of contentment. Equally impossible is an increase in public spending to add to the flow of purchasing power unless it serves military or other authorized purpose.
A reduction in spending as an anti-inflation measure is commended in principle but is subject to the controlling role of the needed expenditure. A reduction in taxes is similarly possible, but, as will presently be seen, tax reduction is held to have different and justifying factors of its own that are unrelated to the business cycle.
Large and persistent public deficits substantially supporting the flow of private expenditure were accepted, if rhetorically regretted, during the 1980s, and they continue. However, the deliberate management of expenditures and taxes for economic support or restraint was not acceptable. In the years of President Ronald Reagan there was a strong suggestion from numerous economists that such action was historically obsolete. It belonged to the departed age of John Maynard Keynes; time had passed it by.
Before considering the second line of government intervention, monetary policy, there is a third and less often used instrument of economic management. That is direct restraint on costs, and more particularly wage-costs, as these may force up prices and cause inflation. This design is under an especially stringent economic ban in the age of contentment, and peculiarly so in the English-speaking countries. In Germany, Japan, Austria, Switzerland and Scandinavia, wages are negotiated within the limits of what can be paid at the existing level of prices; this is commonplace policy. Although enjoying a certain respectability in the United States in past times—in World War II, the Korean War, informally under John F. Kennedy and notably in a general freeze of wages and prices by Richard Nixon in 1971—wage and price controls are now considered an unthinkable extension of government authority. Even steps to restrain energy costs and to conserve use are beyond the pale. The former intrudes on an area where the market is authoritative and, as ever, ultimately benign. The latter—conservation—lies under the general proscription on action for long-run effect.
For practical purposes, only the second of the major lines of government action against inflation and recession is consistent with the tenets of contentment. That is monetary policy, and here the economic accommodation is nearly complete.
As the preferred choice, monetary policy is not just a residual, however; it has strong affirmative values that are specifically in keeping with the controlling principles of contentment. Of these I have made previous mention; to them in more detail I now turn.
Commending monetary policy in the age of contentment is, first, the element of mystification strongly associated with money and its management, something that economists over the years have done little to dissipate. One of the cherished distinctions of the economist is the public belief that he or she has privileged access to the assumed mystery of money. To some extent the great banker or other financier enjoys the same distinction, at least until, in the not infrequent case, some large error of speculative optimism is grievously exposed.
Here we must differentiate between monetary policy and what is called monetarism. The first refers generally to any action by a central bank to control the volume of borrowing and lending by commercial banks with effects that will presently be noted. Monetarism, a more specific and imaginative doctrine, the eloquent and diligent spokesman of which is Professor Milton Friedman in the United States, focuses all economic policy on the total supply of money in circulation—cash, bank deposits, whatever buys goods and pays bills. It holds that if this total is tightly controlled and allowed to increase only as the economy expands, prices will be stable and the economy will function well out of its own independent strength.
At one time monetarism had a prominent role in the political economy of contentment. A better design to limit the role of government and to support the view that all economic life would function under its own automatic guidance could hardly be imagined. Alas, however, the monetarist faith was unduly optimistic even for the contented. A rigorous effort at monetary control in the early 1980s in the United States contributed to the most severe recession since the Great Depression. Union power and resulting upward pressure on prices were, indeed, curbed, but this, in considerable part, was done by curbing the economic strength and even solvency of employers. Monetarism did not quite die after this debacle; it was, however, relegated to the economic shadows, where it remains.
When one comes to the more prosaic world of monetary policy as it affects prices and economic activity, the mystery and magic disappear, and rather completely, on examination. The practical effect of monetary action on the economy, as earlier indicated, is ultimately through a substantial control of interest rates. By raising or lowering the cost of borrowing by its member banks, the Federal Reserve in the United States, like central banks in other countries, has a substantial, if clearly imperfect, measure of control over the rates at which commercial banks and other financial institutions can lend money to their customers. From this comes the economic effect.
Higher interest rates discourage consumer borrowing and expenditure for home ownership and consumer durable goods, and they are presumed to discourage investment and associated spending by business enterprises. From this come the restrictive effect on total spending in the economy—on aggregate demand—and ultimately the control of inflation. The opposite policy, a resort to lower interest rates, less costly borrowing, is taken to have the reverse effect. Here, appropriately demystified, is monetary policy.
Anciently economists have, indeed, questioned the symmetry of this process: the metaphor used is that one can pull an object along the floor with a string, but, alas, one cannot shove it along with a string. Monetary policy can pull economic activity down; it cannot so assuredly shove it up. By those economists committed to monetary policy and the many who watch their actions with awe, this is not thought a compelling disqualification.
That monetary policy, with its wide economic approval, stands solidly in the service of contentment is not in doubt, for it involves virtually no government apparatus, the insignificant bureaucratic establishment of the central bank apart. The Federal Reserve System in the United States is accorded exemption by law from both legislative and executive authority; it is independent. This independence, it is accepted, is subject to presidential and other public pressures, and it is more specifically compromised by an intimate and statutory relationship with the commercial banks and less formally with the financial community as a whole. The latter have the accepted right to pass public judgment on central-bank policy, and no Federal Reserve chairman would be thought acceptable were he subject to severe criticism from the banking world. In actual practice, no such criticism is ever thought deserved.
The financial community finds explicit satisfaction in an active central-bank policy. It sets high store by preventing inflation, and in the larger culture of contentment inflation is more to be feared, on balance, than unemployment. It has an especially strong commitment to interest rates that more than compensate for the rate of inflation, and it also seeks to have the central bank move strongly against inflation—more strongly than against recession. The asymmetry in attitude here, while little emphasized in the age of contentment, is notably real.
High interest rates, as earlier mentioned, reward with income a very considerable and very influential part of the community of contentment. In the accepted economic attitudes, however, central-bank policy is socially neutral. In fact, and as earlier noted, it strongly favors the rentier class, a group that is both affluent and vocal. It is an indubitably inescapable fact that those who have money to lend are likely to have more money than those who do not have money to lend—an economic truth that stands on a par with the unimpeachable observation attributed to Calvin Coolidge that when many people are out of work, unemployment results. In the 1980s, personal income derived from interest payments increased from $272 billion to $681 billion, or by 150 percent. Income from wage payments increased by 97 percent.
And there is further affirmation. The 1980s were years of large and persistent deficits in the budget of the United States. These did not escape notice or criticism. On the other hand, the high interest rates by which inflation was kept under control invited little adverse comment, the reason being that they were much enjoyed by the recipients, were wholly in keeping with the mood of contentment, and thus again, and sadly, were economically acceptable.
There is, of course, a downside to all this. As has been indicated, high interest rates, the inevitable counterpart of an active monetary policy and especially of one in combination, as in the 1980s, with a soft budget or fiscal policy, act against inflation by discouraging business borrowing and investment. And they act similarly against consumer borrowing and expenditure. Business borrowing is generally for new and improved plant and equipment; that by consumers is in substantial measure for housing. It follows that a prime effect of an active monetary policy is to discourage investment for improved economic performance and for housing construction. In the longer run, less efficient, less competitive industry, a shortage of housing and homelessness, are (and have been) the inevitable result. This, however, is not prominent in established economic discussion.
There have also, in the recent past, been other effects. The deficit in the public accounts has meant that interest charges make up an increasing share of the budget. Also, the high real interest rates have attracted funds from abroad, and from the resulting conversion of other currencies into dollars have come an artificially high rate of exchange for the latter, a strong resulting bonus to imports and, in parallel, an adverse price for exports. The resulting trade deficit has changed the United States from being the world’s largest creditor to being, without a close contender, its greatest debtor. From this has come an important effect on the availability of money for overseas use, one of the two pillars of foreign policy—a matter to be noted presently. But the higher budget costs of interest and the effect on the nation’s foreign position and policy were the consequences in the longer run, and, as sufficiently observed, what happens in the long run the culture of contentment traditionally ignores. To this too the established economics accommodates. There is satisfaction of a sort in finding in this culture and its attitudes a compelling consistency.
1 William Graham Sumner, The Challenge of Facts and Other Essays, edited by Albert Galloway Keller (New Haven: Yale University Press, 1914), p. 90.
2 His academic fame came also from the reaction of the presidents of the institutions in which he taught. They, on becoming acquainted, however reluctantly, with his views and with the grave discontent they caused to college trustees and the adjacent business community, found it wise to have him move elsewhere.
3 I have dealt with this in The Great Crash, 1929 (Boston: Houghton Mifflin, 1955, and later editions).