Seven Crashes, page 21
Then something else occurred on the foundation laid by the particularizing and logistical innovations. War required competent government-run logistics. The Second World War provided an unprecedented mobilization of national resources, coordinated by the government. On May 26, 1940, President Roosevelt announced in a fireside chat the U.S. government would “harness the efficient machinery of America’s manufacturers” to produce 50,000 combat aircraft over the next twelve months to confront the “approaching storm” of global war. “The Government, working with industry, is determined to increase that capacity to meet our needs.” “Therefore, the Government of the United States stands ready to advance the necessary money to help provide for the enlargement of factories, the establishment of new plants, the employment of thousands of necessary workers, the development of new sources of supply for the hundreds of raw materials required, the development of quick mass transportation of supplies. The details of all of this are now being worked out in Washington, day and night.”137 War demonstrated the staggering competence of the U.S. government.
The potential had been seen already in the 1930s by some other countries. In particular, both the Soviet Union and Nazi Germany looked to Fordism as a way of constructing national economies. Historian Stefan Link’s recent book shows how Soviet and German engineers were mesmerized by American technology and sought a similar transformation.138
The downward U of globalization and the upward U of American productivism were thus intimately intertwined. The United States then became a model or template for the rest of the world, not simply as a result of its new political supremacy (though that helped greatly to propagate the vision). Globalization immediately after 1945 took place not so much through big flows of trade, people, or even money, but of ideas. The United States as a big economy with a very large internal market had never been very dependent on foreign trade, and in this sense was never very globalized. Its major contribution to the development of the world in the mid-twentieth century was the demonstration that the American Dream could be the antidote to the Great Depression.
The Great Depression, which began as a story of a demand shortfall, necessitated an economic analysis of the catastrophe, and invited a large public-sector mobilization. That mobilization could only take place in a national context, and—as military mobilization—it was distinctly dangerous. It could be imitated, destructively, elsewhere. Or, later, in a more peaceful context, it could lead to a pale civilian version of the military mobilization: an insistence that every country needed its own plan, its own economic vision of the future, its own airline, or even its own automobile producer. That was development, even fast development, a term that became current in the 1940s. But it was development without substantial globalization, just what the doctor (Keynes) ordered.
5
The Great Inflation: The 1970s
The Great Inflation began with economic overheating; its outcome produced widespread shortages and price hikes that destroyed confidence in government. It was a crisis produced by plenty and excess; in its wake globalization was rethought. The 1960s saw expanding international trade, and a generalized optimism about how human society could be controlled and directed. The euphoria generated was directed to ensuring that economies fired on all cylinders, that a little bit more growth could be squeezed out of the mechanism of macroeconomic management. Hubris lay in the belief that governments could achieve their objectives. The upward pressure on demand in the end created a supply constraint and then, in the 1970s, a supply shock.
Unemployment in the United States was driven down substantially below modern calculations of a “natural rate of unemployment,” around 5.7 percent in 1965 and 1966.1 Consumer price inflation rose from 1.7 percent in 1965 to 3.0 percent the next year and 5.9 percent by 1970. Rather belatedly, in 1969, the Federal Reserve tightened its policy, and thus engineered a mild recession in 1970, but that did little to dampen inflationary pressures. There is a monetary policy paradox in which too much monetary stability creates a false assurance that speculation is riskless and thus drives the formation of bubbles that are prone to collapse. The fiscal version of this trap, which was sprung in the can-do atmosphere of the late 1960s, is that fiscal fine-tuning, following the recipes of Keynes, would ensure that every downturn or occurrence of economic slack could be counteracted through active demand management. Everything seemed possible—until it wasn’t, and analysts then began to rediscover “unpleasant arithmetic.”2
Governments initially thought they needed to do more. Even regimes that announced that they would follow conservative free-market principles—Richard Nixon’s presidency in the United States or Edward Heath’s British Conservative administration—soon ended up imposing controls and restrictions in order to pursue (unsuccessfully) continued prosperity. The effect of Nixon’s price controls was to encourage more consumption, more imports, and eventually there were shortages, especially of heating oil in the winter of 1972–1973. The chronology matters because a great deal of the mythology of the 1970s arose from belief that the rest of the world—in particular the oil producers, but also other commodity suppliers—had abused their position. In fact, they were responding to developments driven by the United States—and by the many other western countries that had embarked on the same course of self-confident expansion. Initially it was tempting to think that the oil producers were “the clear and central villain of the piece.”3 A more realistic view, however, sees the oil price as responding to global supply and demand, and in particular to the general economic expansion of the late 1960s and the early 1970s.4
We can see the bewilderment generated by the new economic shocks in the shifts of the simple vocabulary Americans have used to describe their view of the world. Americans in print used the word “progress” more frequently than “crisis,” in a striking contrast with gloomy twentieth-century Germans. But from 1967, the use of “progress” fell off swiftly, while “crisis” rose (and “progress” in French or German also incurred increasing disapprobation after 1967, though the French decline started earlier). After 1966, Americans, at least in print, started to use the phrase “progress is good” much less frequently. In the 1970s, the situation grew much worse, according to data from Google’s Ngram viewer. Vietnam, the gasoline shortages, Watergate, and stagflation amounted to a national loss of faith.
The defining economic parameters that eventually bred 1970s pessimism and malaise lay domestically, in the combination of high inflation with high unemployment and low growth. The driver was a widespread belief in the capacity of economic growth to raise productivity, make more growth, and push down prices as a consequence of productivity gains. An influential model evolved by Nicholas Kaldor looked at the long-term relationship between technical progress and the rate of growth and derived a “technical progress function.” An expanded manufacturing sector would lead to a self-sustaining virtuous cycle of higher rates of growth and hence also of higher wages.5 The influential economist Roy Harrod then drew the logical consequence that stronger demand growth might reduce (rather than increase) inflation.6 These optimistic expectations were severely disappointed.
Previously, policy-makers had supposed there was a trade-off between inflation and growth, defined by a Phillips curve, the relationship identified by the New Zealand economist William Phillips: in the original version, the relationship was between wages and employment. High growth or rising employment would generate a shortage of workers and wage pressure that would be translated into rising prices. An economic shock would reduce the demand for employment and lead to a wage mitigation, and a slower pace of price increases. For the world’s major industrial economies, this relationship could be clearly empirically demonstrated through the 1960s. In the 1970s, however, wages continued to move up even though there was substantial unemployment. Keynes’s theory of adjustment depended on irrational or arbitrary behavior of wage-earners, who in the original vision suffered from a “nominal wage illusion”: they did not notice that inflation was eroding their real incomes, and the lower real wages generated higher levels of employment. If the nominal illusion faded with higher levels of inflation, a new answer to the adjustment question was required. Wage settlements could only be constrained by discipline, by the imposition of guidelines or even controls. Lenders of money had their own illusions too. The rise of inflation drove down real interest rates below any historic trend, deep into negative territory, reduced government debt, and thereby fueled the illusion that deficits do not matter.
The new Phillips relationship was also a consequence of an underappreciated consequence of transformative technical and economic change. New technologies allowed new production, as well as a shift to services in rich countries. But the labor for the new activities was not instantly available, and a substantial transfer of people from one area to another was incompatible with the policy emphasis on full employment. The problem was most acutely diagnosed, not in the case of western market economies, but in the world of Soviet planning, where János Kornai analyzed how there could be no real economic system from which both excess demand and excess supply had been eliminated: “‘Optimization,’” he wrote, “is not possible: we want full employment, but we do not want labor shortage. They are joint products, which, it seems, necessarily appear together.”7
Growth and Productivity
Though the source of the inflation problem was domestic, the arguments and responses that it provoked lay in external policy, in the shaping of how a national economy related to the rest of the world. And the United States led the way. In August 1971, President Nixon dramatically ended the gold convertibility of the dollar (at that time restricted to foreign official institutions), and imposed a ninety-day freeze on wages and prices, as well as a 10 percent surcharge on imports to “ensure that American products will not be at a disadvantage because of unfair exchange rates.” There were new exchange rates from December that were intended to help American producers.
Nixon’s secretary of commerce, Peter Peterson, announced new energy initiatives in late 1972, warning of how there would be a shortage of funds to pay for oil imports that would drive a competition for export earnings: oil was taking the place that corn had occupied in the tumultuous debates of the hungry 1840s in Europe (see Figure 5.1). As Peterson put it, “One result could be that all major deficit countries could find themselves forced to engage in a wild and cannibalistic scramble not only for energy but for external earnings to pay their bills. This could create an extremely rigorous competition for manufacturing exports and the sort of export subsidies which could be deleterious to the interests of all parties in the long run.” He added that “comparative advantage is slipping away,” and finished apodictically: “The era of low-cost energy is almost dead. Popeye is running out of cheap spinach.”8 Even a year later, when Nixon addressed what was now clearly an “energy crisis,” he explained that “our deeper energy problems come not from war, but from peace and from abundance. We are running out of energy today because our economy has grown enormously and because in prosperity what were once considered luxuries are now considered necessities.” The measures Nixon announced, a ban on converting coal to gas, a reduction in the fuel for aircraft, a nationwide speed limit, and a reduction of heating oil consumption, were presented—as food restrictions had been in earlier eras—as actually being beneficial for health: “lower the thermostat in your home by at least 6 degrees, so that we can achieve a national daytime average of 68 degrees. Incidentally, my doctor tells me that in a temperature of 66 to 68 degrees, you are really more healthy than when it is 75 to 78, if that is any comfort.”9 Faced with discomfort in a globalized world, it is always tempting—especially for politicians who want to deflect responsibility and blame—to credit the outside world as the originator of new pain.
Figure 5.1. Energy share of net energy use, 1960 –2015 (percent) (Source: World Bank Data)
The most obvious explanation of the crisis or malaise then came in terms of the supply shock generated by (mostly Middle Eastern) oil-producing countries, organized in the Organization of Petroleum Exporting Countries (OPEC). OPEC’s move to increase oil prices, and then to use petroleum as a political weapon, occurred against a background of currency disorder engendered by the Nixon shock: the par value system built around the dollar collapsed in August 1971, and the attempt to restore it in December 1971 at the Smithsonian monetary conference was unconvincing and short-lived. Since petroleum prices were conventionally quoted in dollars, oil producers at first wanted to protect the real value of their exports, and then in March 1973, when the restored par value system finally disintegrated, realized that increasing oil prices could be employed as an economic and also a political weapon. There was thus a new “oil nationalism.” In 1974, OPEC’s oil revenues tripled to $108 billion, accounting for an eighth of all world exports. All the major industrial countries were heavily dependent on oil imports.
The higher oil price might be regarded as the imposition of a new (wealth- and income-reducing) tax; and thus the industrial countries mostly decided not to adjust immediately. The immediate response in most countries was to accommodate the shock. That monetary and fiscal accommodation pushed inflation, which rose to 11.0 percent in the United States in 1974 (and then, after a second oil shock, to 12.0 percent in 1980), and to higher levels in some other countries: in the UK, consumer price index (CPI) inflation in 1975 was 24.2 percent, and in 1980 18.0 (see Figure 5.2). Countries employed differing strategies to reduce their fuel imports: France pushed nuclear energy as an alternative to carbon, the UK developed oil and gas fields in the North Sea, Germans and Japanese accepted greater fuel economy. The United States alone thought it did not need to act until a fuel economy campaign was belatedly launched in the late 1970s. Over the 1970s, the number of lightweight Japanese cars produced rose from 2.4 to 6.4 million, and this branch became a niche export market.
The language of shortage reappeared everywhere. Some importing countries imposed “car-free days” as a way of rationing gasoline consumption. There was “panic at the pumps.” Black American activists thought that the heating cuts would create “flu epidemics in the ghettos,” and Rev. Jesse Jackson claimed that the energy crisis would be “the all-purpose alibi to justify further erosion of black rights.”10 The shortages extended well beyond fuel. That was in some part—indeed in large part—a consequence of government policy. Under Phase IV of the Nixon price controls, from August 1973 some (“old”) oil prices were controlled, while others (“new”) were left unregulated, and supplies were accorded as a priority to agriculture, sanitation, and emergency services: allocations that looked like sensible priorities, except that the trucking industry was left out. Truckers reacted with fury and open conflict broke out, with militants wielding clubs and guns. Other goods also became scarce by 1974. Meat supply in New York fell by 40 percent; elsewhere stores rationed products such as beef, eggs, or flour.11
Figure 5.2. Comparative CPI inflation, 1960 –2020 (Source: World Bank Data)
In 1972 the Club of Rome presented a wildly influential report, The Limits to Growth, which contrasted in a Malthusian way the exponential growth of population and demand, and the limited supply of the world’s nonrenewable resources. It was based on computer modeling of a series of feedback loops and interactions, based on the approach developed by MIT’s Jay Forrester. The basic behavior model of the world system was set at exponential growth of population and capital, followed by collapse. That model clearly indicated longer term unsustainability. The report concluded with a grim warning: “The growth phase cannot continue for another one hundred years. Again, because of the delays in the system, if the global society waits until those constraints are unmistakably apparent, it will have waited too long.”12 There were also some guesses about dates. Capital would be increasingly devoted to resource extraction, and the result would be a collapse in industrial output per capita from about 2015. From about 2020, reflecting declining expenditures on education and health, mortality would rise, and from 2030 global population would fall. Viewed from the perspective of 2022, the prognosis looks astonishingly prescient.
Were the 1970s the moment at which the immediate adjustment that the Club of Rome recommended in order to ward off the threat should have taken place? The oil producers shrugged off the gloom. Sheik Ahmed Zaki Yamani, the Saudi oil minister, was repeatedly quoted opining that “[t]he stone age did not end because the world ran out of stones, and the oil age will not end because we run out of oil.”13 The quotation became a slogan of oil producers, but also of the petroleum industry, and politicians went along with the underlying world view. In fact, political institutions focused on growth pushed for continued growth. Inter nationally, as states spent more on oil, grain, and other commodities, they found their balance of payments squeezed. Unable to afford vital goods from abroad, governments had to make hard choices. Many foundered as they tried to ration scarce goods, deciding who could drive cars when, or whether they should pay nurses more than teachers, police officers, or civil servants.
The immediate and instinctual response to scarcity was protectionism. In the United Kingdom, where the balance of payments problem appeared earlier than elsewhere, the government tried a “Buy British” campaign, supported by all the major political parties. Leaders encouraged citizens to wear stickers and badges with the Union Jack and the message “I’m backing Britain.” (The press magnate Robert Maxwell distributed T-shirts with the same slogan, but they turned out to be made in Portugal.) In the mid-1970s, after the first oil shock, the government briefly flirted with what the left of the Labour Party called a “siege economy,” with extensive import restrictions. In the United States, there was acute anxiety about Japanese competition, and in 1981 Washington pressured Tokyo to sign an agreement that limited Japanese car exports. The move backfired, however. Because of the new “voluntary” quantitative restrictions, Japanese producers merely shifted their focus away from cheap, fuel-efficient cars and toward luxury vehicles.
