Dear Ask a Scholar,
Was the New deal successful in ending the Great Depression? Sounds like a simple question - but the results of searching turn up polar opposite opinions - and these opinions seem emotionally charged and I have yet to see a balanced presentation discussing both sides.
In particular, I am very interested in finding out if sustained deficit spending works in bring a country out of a depression.
- Jeff Pattavina, Northeastern University
For many years, most economists believed that the New Deal was the source of recovery from the Great Depression. The conventional view was based on a few simple observations, the most central of which were that the worst years of the Great Depression in terms of the two major macroeconomic variables of Gross National Product (GNP) and unemployment were in 1932 and 1933. After 1933, the economy did indeed begin a slow process of improvement. The old view argued that the New Deal’s spending on public works and other programs put people back to work and thereby began that slow growth in GNP that characterized the post-1933 period (except for the recession of 1937-38). This argument rests on what became fairly standard economic theory that emphasized the ways in which increases in government spending could substitute for reductions in private investment and consumption expenditures. In particular, spending financed by borrowing (running a deficit) and not by taxes would, through the famed “multiplier process,” lead to higher GNP. When government spends on programs such as public works, the incomes of the workers and owners of resources involved with those projects is increased, enabling them to spend on other goods and services, whose sellers then see higher income, and spend more and so forth. If we run a deficit by not taking out income through taxes at the same time as we spend, the argument is that this would boost GNP and overall economic well-being.
However, in the last decade or two, a new body of research has emerged that is critical of the argument that New Deal deficit spending programs were what cured the Great Depression. Below I present the evidence for this newer, more critical view. The standard view can still be found in many textbooks and in many public policy discussions.
One line of criticism of the old view notes that inflation-adjusted GNP per person and the unemployment rate did not return to their 1929 (pre-Depression) levels until at least 1939 in the case of GNP and at least 1941 in the case of unemployment. For GNP per person to be back to where it would have been without the Depression would have taken several years more, depending on the data one uses. Unemployment as conventionally measured remained above 14 percent through 1939. If one excludes those in government make-work programs from the unemployment rate, it remains above its 1929 figure until the early 1940s. These data suggest that whatever the New Deal might have done, it wasn’t very much.
In addition, part of that improvement was due to the inherent corrective properties of markets. During depressions, economies are trying to heal themselves and they were doing this no matter what New Deal policies were in place. Some argue that the Federal Reserve System’s expansion of the money supply may well have played an independent role in helping the recovery, which suggests that deficit spending may have even less effect than many think. Finally, the apparent recovery may have been overstated because GNP does not distinguish between productive and unproductive expenditures. If GNP is higher because we are paying people for unproductive work such as digging holes and filling them up again, that really isn’t recovery.
Even employment aggregates can hide the real story. If we measure “total hours worked” rather than looking at how many people had jobs, we get a more accurate picture of the state of 1930s labor markets. It turns out that even though more people were working, they weren’t working as many hours as before. Labor hours worked stayed flat from 1932 to 1934, then rose until 1937, dipping in 1938, before rising again. Despite that increase, total hours worked in 1940 were 6 percent less than in 1929. It wasn’t until war mobilization in 1941 that total hours worked exceeded 1929.
When judging the effectiveness of deficit spending, one should also go back before FDR to Hoover. Hoover ran large budget deficits (as a percentage of the total amount of federal government spending) during his final two or three years in office, and FDR argued in the 1932 campaign that those were a bad idea. Those budget deficits, which by that measure were never exceeded in size by FDR until the war, not only did not help, they occurred while the Depression was very quickly getting much worse.
The other problem with deficit spending as a cure is that the real challenge depressed economies face is a lack of investment, not consumption. Private sector recovery requires a recovery in expenditures that generate growth, such as investment in machines and buildings. Investment spending like this makes labor more productive and helps firms make things more cheaply. The New Deal did not significantly improve private investment. It actually retarded its growth because so many of FDR’s new programs, as well as his rhetoric, were perceived as threatening the private sector’s profits, so investors held off making long-term commitments until the business climate was better, both before and after the war. For example, between 1930 to 1940, the amount of investment added to the private economy (minus the replacement of old machines and equipment) totaled minus $3.1 billion. Not until 1941 did this figure exceed the 1929 amount.
Much of the debate depends on how one defines “recovery” and which data are relevant to that definition. The most recent research by economic historians suggests that the New Deal played, at most, a small role in recovery from the Great Depression.
The Standard View:
Eggertsson, Gauti. 2010. “A Reply to Steven Horwitz’s Commentary on “Great Expectations and the End of the Depression.” Econ Journal Watch 7 (3): 197-204. Available at: 
Galbraith, John Kenneth. 1961. The Great Crash, Cambridge, Mass: Riverside Press.
Samuelson, Paul and William Nordhaus. 2009. Economics, 19th edition, New York: McGraw-Hill/Irvin.
The New View:
Higgs, Robert. 2006. Depression, War, and Cold War: Studies in Political Economy, Oxford: Oxford University Press.
Higgs, Robert. 2009. “A Revealing Window on the U.S. Economy in Depression and War: Hours Worked, 1929–1950,” The Independent Review, 14, Summer, available at: 
Horwitz, Steven. 2009. “Great Apprehensions, Prolonged Depression: Gauti Eggertsson on the 1930s,” Econ Journal Watch, 6 (3): 313-36. Available at: 
Powell, Jim. 2003. FDR’s Folly: How Roosevelt and His New Deal Prolonged the Great Depression, New York: Three Rivers Press.
Smiley, Gene. 2002. Rethinking the Great Depression, Chicago: Ivan R. Dee.
Vedder, Richard K. and Lowell E. Gallaway. 1993. Out of Work: Unemployment and Government in Twentieth-Century America, New York: Holmes and Meier.