The Reagan Legacy

If Reagan's foreign policy was based on an extreme view of the Soviet threat that he did not subscribe to and a military build up that was both unnecessary and economically destabilizing, the basis of his economic policy was a journey to Shangri-La. He was determined to change Roosevelt economic policy even though its worth had been demonstrated during the long postwar boom and restore the free market economic system that had previously ended in the Depression. How he accomplished this folly is the subject of this chapter. Although free market doctrine seemed to be done in once and for all by the Depression, in the late 1940s at the University of Chicago economics department it staged a theoretical comeback. It was also part of a conservative rebirth that began to receive national attention in 1955 with the founding of Bill Buckley's National Review. These sources were a godsend for a new movement focused on bringing back the conditions that created exceptional wealth for a few individuals during the 1920s. They set out to induce the public to forget the Depression and build a case that modern conditions made a repeat impossible. Working in their favor was the fact that a market economy is fundamental to capitalism. In Wealth of Nations (1776), the founder of modern economics, Adam Smith, noted the rare ability of market forces to automatically allocate resources in the most efficient manner and correct negatives. If industry is given a free hand, growth will be maximized and everyone will enjoy greater prosperity. Due to our great success with capitalism, market sentiment was especially strong in America, but even Adam Smith did not go so far as to think results were always favorable. He was suspicious of businessmen, who could only be tempered when competition was meaningful, and recognized that government was necessary in many areas. Only in its modern form did the free market come to be viewed as a perfect system. Smith was not alone in recognizing that the free market did not always work. The Industrial Revolution first exposed the dark underbelly of capitalism, notably labor exploitation, pollution, and a tendency toward severe economic setbacks requiring years to make up for. Materialism and a highly competitive spirit in the U.S. created a drift toward activities that undermined the free market. After being brought down by the Depression, capitalism was feared to be a failed system and communism a real threat. In these trying circumstances, Franklin Roosevelt worked out modifications that saved the day. As the modified market system unfolded in the postwar years, capitalism reached a marvelous balance between encouraging entrepreneurship and protecting the public interest. In a booming economy, the conservative conviction that any element of socialism would inhibit economic progress proved to be wrong. Roosevelt's program was developed out of the thinking of British economist John Maynard Keynes. He had burst into notoriety in 1919 with the book, Economic Consequences of the Peace, predicting European economic disaster from the harsh terms of the Versailles Peace Treaty. In a 1926 (pre-Depression) essay, The End of Laissez-Faire, Keynes made a powerful argument against free market thinking. He noted that support for individualism arose out of opposition to monarchy and strict church rules of behavior, but individual freedom pressed upon the claims of society and carried to extremes led to anarchy. Seeking to solve the conflict between individual and group interests, economic philosophers found a solution in the concept that under enlightened conditions individual freedom promoted the public interest, but Keynes implies that the free market concept was a too convenient answer to the dilemma and that enlightened conditions were not normal. He postulated that government should not do the things that individuals are already doing successfully, but should take care of desirable national goals not being met by private sources. Inequities, inevitable in a free market system, impair efficiency and the cure lies in collective action that improves the techniques of modern capitalism. Keynes anticipated the effort to perfect economics with mathematical formulas by noting that scientific support for laissez-faire did not exist. Ideal distribution of productive resources might be brought about through individuals acting independently, but declaring it so was unrealistic. The most conspicuous oversight of laissez-faire was monopoly power or combinations that interfered with equality in bargaining. In addition, passage of time creates a variety of maladjustments that laissez-faire has difficulty adjusting to. Supporters claimed that the free market would always win in the end, but as Keynes said, in the long run we are all dead. Not originally an economist, Keynes was a student of sociology. His economic insights came out of realization that financial markets are not subject to firm rules. In the absence of definitive solutions, he offered methods for countering what he called “inescapable uncertainty” in financial markets. An active investor, he made and lost fortunes, leaving him keenly aware of the presence and consequences of the speculative inclination. Observing how speculation intensified the business cycle, much of the regulation that developed out of his thinking for lessening the cycle was directed at banking and securities brokerage. His most important publication, The General Theory of Employment, Interest and Money (1936), was a theoretical justification for government interventionist policies in countering recessions. Since recessions were caused by human traits, they could be limited in their severity by regulation. With the most thoughtfully reasoned alternative to free market thinking, Keynes style of regulated capitalism was based on the insight that, wondrous as free market self-correction might be, man's inherent speculative inclination led to periodic over production, shortage of demand, and ruinous gambling in the financial markets. The regulatory structure developed by the Roosevelt administration under Keynes inspiration was a primary contributor to worldwide postwar economic prosperity. Though free marketers equated government intervention with socialism, it was really an effort to ward off the evil instincts inherent in a free market system and keep the economic gears progressively lubricated. Not merely a matter of social justice, regulation actually improved the workings of the economy by limiting the inevitable excesses of the free market. Capitalism reached a marvelous balance between encouraging entrepreneurship and protecting the public interest. Corporate managers were part of the success. Their personal greed limited by high tax rates, they developed an interest in community responsibility and concern for employees. Nevertheless, despite the empirical evidence in a booming economy, free market supporters refused to acknowledge that restraints were needed for capitalism to operate at its best.