UC Berkeley

What forces led to rapid recovery of the U.S. economy after 1933? Why was recovery derailed by a severe recession in 1937? Since Friedman and Schwartz (1963), economists have emphasized monetary explanations. This dissertation shows that in three crucial instances other factors mattered. Methodologically, it demonstrates the value of using micro data to explore macro questions.

The first chapter considers the effect of the 1936 veterans' bonus. Conventional wisdom has it that in the 1930s fiscal policy did not work because it was not tried. This chapter shows that fiscal policy, though inadvertent, was tried in 1936, and a variety of evidence suggests that it worked. A deficit-financed veterans' bonus provided 3.2 million World War I veterans with cash and bond payments totaling 2 percent of GDP; the typical veteran received a payment equal to annual per capita personal income. This chapter uses time-series and cross-sectional data to identify the effects of the bonus. I exploit four sources of quantitative evidence: a detailed household consumption survey, cross-state and cross-city regressions, aggregate time-series, and a previously unused American Legion survey of veterans. The evidence paints a consistent picture in which veterans quickly spent the majority of their bonus. Spending was concentrated on cars and housing in particular. Narrative accounts support these quantitative results. A back-of-the-envelope calculation suggests that the bonus added 2.5 to 3 percentage points to 1936 GDP growth.

In my second chapter, I consider the causes of the severe recession that followed the boom year of 1936. The 1937-38 recession was one of the largest in U.S. history. Industrial production fell 32 percent and the nonfarm unemployment rate rose 6.6 percentage points. This paper shows that there were timing, geographic, and sectoral anomalies in the recession, none of which are easily explained by aggregate macro shocks. I argue that a supply shock in the auto industry contributed both to the recession's anomalies and to its severity. Labor-strife-induced wage increases and an increase in raw material costs led auto manufacturers to raise prices in the fall of 1937. Equally important, higher costs combined with nominal rigidity to make the price increase predictable. Expectations of price increases brought auto sales forward and thus sustained sales during the summer and early fall of 1937, despite negative monetary and fiscal factors. When auto prices did rise in October and November, sales and production plummeted. A forecasting exercise suggests that in 1938, this shock reduced auto sales by 600,000 and GDP growth by 1.2 percentage points.

In my third chapter, I consider the miraculous recovery of the U.S. economy during Franklin Roosevelt's first months in office. From March to July 1933, industrial production rose 57 percent, by far the most rapid increase since records began. The recovery was concentrated in durable goods industries, particularly autos. Using a novel dataset, I show that auto sales increased much more rapidly in farm than in nonfarm states in spring 1933. This suggests that dollar devaluation may have directly spurred recovery by raising farm incomes. The negative effect of higher crop prices on urban consumers may have been offset by the positive effect of higher crop prices on expected inflation.