Examining Keynes’ Letters to Franklin Roosevelt

The Franklin D. Roosevelt President Library and Museum has put scans up of several important documents that highlight FDR’s transition from trying to balancing the budget in the Great Depression to, after the crash of 1937, his ability to see that Keynesian deficit spending could help the recovery. The page that has the resources, plus a history, is located here: FDR: From Budget Balancer to Keynesian.

The primary documents includes several campaign speeches by Roosevelt as they evolved over the 1930s, and it also includes John Maynard Keynes’s 1938 private letter to President Roosevelt. The Keynes letter is great. He is a model of clarity, wit, and seriousness with a towering intellect on all matters economic.

After the fiscal and monetary contraction that brought on the crash of 1937, liberals in the Roosevelt administration weren’t sure what to do. Keynes, in his letter, outlined a five step plan including both what had just worked and what to continue doing until the economy healed:

This is how we should judge our current elites and opinion leaders. How well do they understand this game plan for addressing a massive crisis like the one we are in, and under what economic ideology and rationality are they deviating from it? Right now it is a full-time job trying to convince elites that this is the right program for the country, rather than rewriting federal and state law to businesses’ liking and focusing obsessively on the deficit. So little has been learned, and what we’ve learned has been forgotten.

Keynes also noted that getting the housing market straightened out is one of the best ways to handle the Depression. “Housing is by far the best aid to recovery because of the large and continuing scale of potential demand; because of the wide geographical distribution of this demand; and because the sources of its finance are largely independent of the Stock Exchanges.” Getting the housing market right is also an uphill battle for our recession and administration.

1933 Aside:  Keynes Does the Twist

There’s a debate within left-liberal economic circles over the relative importance of monetary versus fiscal policy in dealing with the economic downturn. Often you hear that all the stuff Bernanke is doing, from QE to Operation Twist, is a rejection of what Keynes would advise if he was living today.

Since we are looking at Keynes’ letters to President Roosevelt, let’s look at his 1933 open letter to FDR, published in the New York Times. Among other recommendations, he advises the new administration to do two things on the domestic front (my bold):

If you were to ask me what I would suggest in concrete terms for the immediate future, I would reply thus… In the field of domestic policy, I put in the forefront, for the reasons given above, a large volume of Loan-expenditures under Government auspices. It is beyond my province to choose particular objects of expenditure. But preference should be given to those which can be made to mature quickly on a large scale, as for example the rehabilitation of the physical condition of the railroads… You can at least feel sure that the country will be better enriched by such projects than by the involuntary idleness of millions.

I put in the second place the maintenance of cheap and abundant credit and in particular the reduction of the long-term rates of interest. The turn of the tide in great Britain is largely attributable to the reduction in the long-term rate of interest which ensued on the success of the conversion of the War Loan. This was deliberately engineered by means of the open-market policy of the Bank of England. I see no reason why you should not reduce the rate of interest on your long-term Government Bonds to 2½ per cent or less with favourable repercussions on the whole bond market, if only the Federal Reserve System would replace its present holdings of short-dated Treasury issues by purchasing long-dated issues in exchange. Such a policy might become effective in the course of a few months, and I attach great importance to it.

His first suggestion constitutes fiscal stimulus. But his second suggestion is urging the Federal Reserve to replace its short-term bonds with long-term bonds to bring down the rates on the long-term bonds — just like Operation Twist! Equally interesting, instead of naming an amount of Treasuries to buy, like $800 billion or $2 trillion, Keynes says to hit a specific rate. The Federal Reserve can either set a rate or an amount, and we’ve been doing QE through setting purchase amounts. Maybe this other way that he suggests, having QE set a target for long-term rates, is a better way of doing QE? He’s a pretty smart fellow.

Keynes “terrified lest progressives causes…suffer injury”

Going back to the 1938 letter, I find Keynes’ conclusion chilling.

In this letter, Keynes is saying that if FDR didn’t handle the recovery correctly the whole New Deal would be at risk. Full employment is hard to accomplish, very hard, but it isn’t impossible. And the stakes are higher than just the economic recovery — failure means that progressive governance and polices are both at “risk to their prestige” from a prolonged downturn. Taking the economic downturn “too lightly” puts all of it — from responsibly combating global warming, to bringing fairness and justice to those working in the shadows of labor market, to making sure everyone has access to insurance against sickness and poverty in old age, to the rest of the liberal governance project — at risk. And, as we see the years pass by, it is too easy to lose precious time.

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12 Responses to Examining Keynes’ Letters to Franklin Roosevelt

  1. Dan Kervick says:

    I am impressed by the way Keynes focuses on what is most essential:

    First, the wealth of the nation depends on the volume goods and services it is producing. When there is massive involuntary unemployment, the nation is producing much less that it could be. The obvious conclusion would seem to be that if private sector enterprises are presently incapable of providing the work opportunities for all those unemployed people to get to work making something, then the government should employ them directly – especially when there are so many obvious opportunities for productive work to be done.

    The other key point is that there need be no failure. Only ideology and political pieties stand in the way.

  2. Peter K. says:

    The annual GDP growth rate for the third quarter will be announced Thursday and economists are expecting it to be around 2.7 percent. Would it have been that high without QE1 and QE2? Would the unemployment rate be higher had the Fed listened to critics on the right or left and done nothing?

    With each passing day I’m finding the pieties of the MMTers harder to stomach. A 21st century WPA would be wonderful and yet how likely is it given that the Senate is blocking Obama’s more moderate jobs bill?

  3. Steve says:

    Thanks, Obama.

    Heckuva job.

  4. I think times are different now. 70 years ago government funds could be used to truly expand infrastructure which would directly lead to improved transportation efficiency and therefore more opportunities for entrepreneurs to ramp up new business ventures.

    I believe the single most important thing that could happen today is to allow a person restructure their debts without first being forced into a default.

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  6. Frank says:

    The 1938 Keynes letter is not great. Keynes and others completely missed the point that FDR’s concern about inflation in 1936 led his Treasury Department to slam on the monetary brakes by sterilizing gold inflows. That was the cause of the 1937-38 recession, not the confidence fairy. If you don’t have a proper diagnosis of the problem, you won’t prescribe the right cure.

  7. Mike,

    I applaud you for making a strong case, and for reminding us how high the stakes truly are right now. I for one have been one of the skeptics of the unorthodox monetary policies, sympathizing with the various “Post-Keynsians” like the Minsky folks, and (sometimes) the MMTers.

    Perhaps one way for Post Keynsians and the more mainstream Neo/New Keynsians to bridge to gap would be to explore if there are any policy/tools out there that can specifically target WAGES. I’ve noticed some wonks recently move away from advocating inflation targeting towards advocating for GDP targeting, which I think is in the right direction. Can there be a way to explicitly target wages? I don’t know if there is a combination of unorthodox tools/policies out there as such, but if there is a way to specifically target wages by using monetary tools alone and without fiscal tools (or at least without fiscal tools that require Congressional approval) that may at least be a good use of mental effort.

    Otherwise, pushing for a giant debt jubilee might be a good use of effort, though that’s outside the scope of monetary policy, I presume.

  8. wetcasements says:

    Can you put this in stupider terms that even Megan McCardle could understand?


    Didn’t think so.

  9. Will says:

    You can interpret Keynes as saying that a lack of prosperity would threaten the whole New Deal. But couldn’t we also read it in light of the international situation at the time? In this reading, he would be saying that liberal democracies *must* restore prosperity, or people would turn to the unattractive but high-growth fascist or Stalinist alternatives.

  10. Charles Gilbert says:

    Too bad, FDR didn’t correspond with Hayek instead of Keynes. Virtually all wealth is created by the private sector, and it is that wealth creation that results in employment gains. Government programs and spending do NOT create wealth producing jobs, but instead destroy them.

    If the federal government would limit it’s endeavors to those responsibilities enumerated in the constitution, it could trim it’s spending outlays considerably, and the nation would experience an unprecedented explosion in wealth and living standards.

  11. Penelope says:

    Yes – read Hannah Arendt!

  12. Pingback: Examining Keynes’ Letters to Franklin Roosevelt | Rortybomb « Attack the Citadels

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