One of the most famous conversions à la Saulus to Paulus in the history of economics was that of Alvin Hansen’s ultimate total embrace of Keynesian doctrine in the late 1930s. His initial skepticism expressed in his October 1936 review published in the JPE is well-known. This post resurrects the summary of his view of deficit financing from November 1935 before he first read Keynes’ General Theory. From a newspaper account of the event where Hansen addressed the subject of government deficit financing, we see that even before having encountered the General Theory Hansen was out of step with the respectable opinion held by the overwhelming majority of the businessmen expressing an opinion on the matter.
The event was the Civic & Commerce association and Minneapolis Business Men’s association luncheon meeting at the Curtis hotel on Tuesday, November 12, 1935. Speakers were Professors Arthur W. Marget (Harvard Ph.D.) and Alvin H. Hansen. The business men in attendance were asked to vote on whether the federal government should exercise its spending power without relation to revenues at the present time. Of the 38 who voted, 31 opposed continued spending without regard to government revenues [Start-Tribune (Minneapolis), 13 November 1935]. This is opposite to what Hansen recommended “at the present moment” because of his fear that this might check the revival in capital goods.
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Brief Summary of Talk by Mr. Hansen at the Meeting of the Civic and Commerce Association on November 12 [1935] on the Question:
WHETHER OR NOT THE FEDERAL GOVERNMENT SHOULD AT THE PRESENT MOMENT RIGOROUSLY BALANCE ITS BUDGET.
I called attention to two opposite arguments on the unbalanced budget currently presented, each somewhat alarmist in character. These two arguments are as follows:
1.That the unbalanced budget has had and is currently having the effect of producing deflation in business and increasing unemployment.
2.That the unbalanced budget has had and is having the effect of producing a violent speculative boom which has already brought us into an advanced stage of inflation.
These two arguments are, of course, inherently contradictory, yet they are frequently in the public discussion advanced by the same person.
With respect to the first argument – that the unbalanced budget is producing a deflationary effect and increasing unemployment – it should be said that an unbalanced budget may indeed have this effect under certain conditions. It is by no means certain that large government spending will of necessity increase the flow of purchases, particularly, and stimulate business. We must always remember that the vast bulk of the community’s income is paid out through business activity and only a small part through government spending. Now it is always possible that large government expenditures may under certain conditions have the effect of destroying business confidence and therefore of curtailing private business activity, and reducing the volume of capital expenditures by private enterprise. If the curtailment of private expenditures more than offsets the new volume of government expenditures, the effect is definitely deflationary.
Now there are certain definite criteria by which one may determine whether the unbalanced federal budget is actually having a deflationary and depressional effect upon business as a whole. In the first place, if the government is experiencing a flight of capital and drain of its gold reserves, the indication is that a deflation is under way; and the cause of this deflation may, in certain circumstances, be a badly unbalanced budget. Thus in France at the present moment, every indication that an unbalanced budget is in prospect tends to cause a loss of confidence and fear that France will be driven from the gold standard; tends to create a flight of capital from France and a loss of gold reserves of the French Central Bank. Similarly, in 1932, every time Congress made a move which looked toward a huge increase in the government deficit, there developed a flight of capital and a loss of gold reserves and the deflationary pressures incident thereto. The reason is not difficult to find. France now, and the United States in 1932, had overvalued currencies and costs and prices were too high in relation to the rest of the world. It was difficult, under these circumstances, to maintain the gold standard and an unbalanced budget caused a loss of confidence in the currency. Hence the flight of capital and the gold drains and the depressional effect on business.
Since January, 1934, with the devaluation of the dollar, the United States has faced no such situation. Our currency is now undervalued. In consequence, far from losing capital, we have had large capital inflow and large gold inflow. There is no evidence at the present moment that our unbalanced budget is causing a deflationary effect on business in this country so far as capital movements and gold drains are concerned. On this first test, therefore, it does not appear that the unbalanced budget is at the present moment deflationary in effect.
A second test: An unbalanced budget may, under certain circumstances, cause an utter lack of confidence, cause hoarding of money and the piling up of additional deposits, may cause a panicky liquidation of bonds, a fear of the future, and an unwillingness to buy commodities or securities or to invest in new construction. This country witnessed just such a liquidation crisis in late 1931 and 1932 and the first two months of 1933. But all this has changed. There is now no evidence that the current unbalanced budget is creating this kind of panicky fear. Instead, we have an upward movement of prices, of security values and of business activity.
Another test as to whether the current unbalanced budget is causing deflation: Are the current governmental expenditures encroaching upon the available supply of banking and investment funds to such an extent that private capital is unable to obtain funds for private capital expansion. The evidence is that the current governmental expenditures are not encroaching upon private business. There are abundant funds awaiting investment. Surplus reserves of the banks are enormously high, indeed, so high that they open up a serious question of whether or not we shall be able to control the credit expansion in the years to come and keep it within bounds.
A final test: Is the unbalanced budget currently endangering government credit and making it insecure. There is no evidence that such is the case. The interest rate of long term government borrowing has been falling and has by now reached the extraordinary low level of about 2.5 per cent and considerably less than one per cent on short term treasury notes. The government credit at the present moment has every evidence of being strong. Current federal revenues are nearly twice as high as in 1932. The national income is increasing, the prospect of future revenues with adequate taxation is good.
I turn now to the second argument – the argument that the unbalanced budget instead of creating a depression in business, is creating a violent speculative boom and that we are already far advanced in the process of inflation.
I find this view also unduly alarmist. What tests may we apply in order to ascertain whether or not the current unbalanced budget is producing these alleged effects.
In the first place, an index of violent speculative boom is the commodity price level. I have heard it argued that there is evidence that we are well advanced in inflation because the price level is rising more and more rapidly. I have checked the facts and find that since the middle of 1933 the price level has been rising at a moderate and steady rate with perhaps some tendency toward a slowing down. I find further that if you omit agricultural products and food products, the price level has been absolutely stationary since early 1934. Agricultural and food prices have been profoundly affected by the great drought of 1934. I do not find, therefore, any alarmist inflationary development in the commodity price level.
A second test is the movement of the security market. Is it inflated at the present moment? This is difficult to say. I am inclined to think that our security market was even more inflated than now at the very bottom of the depression, certainly from the standpoint of earnings. I am impressed with the fact that foreigners are heavily buying American securities. There is a general belief among careful students of this question that American securities are relatively low compared to foreign securities. All this is not conclusive, but there does not appear to be any convincing evidence that the security market currently indicates an advanced stage of inflation.
The third test: The bond market. If we were already in an advanced stage of inflation, we could be quite sure that the bond market would be falling, that the interest rate would be rising. In a period of inflation all experience shows that people sell bonds and buy heavy commodities and stock certificates. At the present moment, however, the bond market is strong and interest rates are low. On this test also, then, there is no evidence that so far the unbalanced budget has brought us into an advanced condition of inflation.
The conclusion that I would reach is that both these extreme agruments are alarmist. It is my belief that a rigorous balancing of the federal budget at the present moment would check the revival that is under way and put a damper on the business expansion that is now going on, particularly in the machine tool industry, the iron and steel industry, and in general in the capital goods field. It does not seem to me, therefore, that we should at the present moment recommend a rigorous balancing of the federal budget.
This, however, leads to a warning. It is absolutely essential that we prepare now for heavy taxation in the years to come and for a short curtailment of government expenditures in order to check an extraordinary speculative boom. The enormous surplus reserves which have now reached the unprecedented level of three billion dollars creates a serious danger of a violent inflation in the years to come. This must be checked by rigorous measures. One of these measures is a program of heavy taxation and sharp curtailment of extraordinary government expenditures, and in addition, a vigorous central bank control of expansion.
A few facts in conclusion: The federal public debt was set at 26.6 billion dollars in August, 1919. It had been reduced to 16.0 billion dollars in December, 1930. During the last two years and two months of Hoover’s administration, the public debt was increased 5.4 billion dollars. The public debt, therefore, stood, when this administration came into power in March, 1933, at 21.4 billion dollars. In two years and six months of Roosevelt administration it has increased by seven billion dollars. In these two periods it is of interest to note that the Hoover administration had an unbalanced budget equal to about two hundred million dollars per month, while in the two and one half years of the Roosevelt administration it has had an unbalanced budget at the rate of two hundred and thirty million dollars per month. This includes all emergency expenditures as well as ordinary expenditures. Nearly a half of the Roosevelt deficit has gone into public relief. It is interesting to note that the difference in the monthly deficit is very slight in the two administrations in the periods in question.
Source: Harvard University Archives. Papers of Alvin H. Hansen. Correspondence and Other Papers, ca 1918-1970s. Box 1 of 2. Folder “Correspondence & Notes 1935-36”.
Image Source: Portrait of Alvin Hansen from the online media at the University of Minnesota Archives.