Sovereign Soldiers. Grant Madsen

      The Army in a Time of Depression

      Lucius Clay left the United States for Panama in July 1929. When he returned in July 1931, it seemed like a different country. In the intervening years America’s industrial production had dropped by more than 30 percent. “My work carried me all over,” Clay recalled, “… and particularly along the Monongahela River—which was the region that supplied Pittsburgh with its coal. And it was a scene of shocking desolation.”¹

      The Great Depression was the most important economic event of the twentieth century. It had enormous political and social consequences for nearly every nation. Although scholars debated its causes almost from the start, in the last two decades a “greater consensus” has emerged about the most likely sources of the economic collapse. Economists generally agree that the unstable arrangement coming out of Versailles finally caught up to the world and expressed itself in the form of the century’s greatest economic downturn.²

      Of course, it has taken many decades to come to the current consensus, and the current consensus is neither the first nor the most strongly held agreement among economists. A framework offered by the British economist John Maynard Keynes (discussed below) generated widespread agreement within the United States for several decades as to the cause and cure for the Great Depression—although it has fallen out of favor over the last few decades. What matters for this study, though, is the way the current consensus fits particularly well within the insights that ultimately came out of military government. Of course, economists working during the depression were familiar with the events and data that make up the current consensus—as were non-economists such as MacArthur, Eisenhower, and Clay. Nothing about the current view was hidden from past generations. But the economists working during and just after the depression saw the same events as less decisive and the same data as less relevant than recent economists feel. By contrast, military government came to see the same events and data as particularly critical to the stability of the global economy and in a way that dovetails with the current consensus. The surprising agreement between the occupiers in the late 1940s and today’s economists therefore justifies a discussion of the current consensus.

      While the current consensus has many subplots, one plot plays the central role: Germany could not recover from the war and pay reparations at the same time, and this fact destabilized global finance. To get around the challenge of paying reparations while trying to modernize industry and recover from the war, German officials more or less deliberately resorted to a kind of Ponzi scheme. Since the United States ended the war with surplus gold, it became Germany’s largest creditor. By 1927, Americans had sent more than $1.5 billion to Germany, covering the $500 million in reparations installments along with an extra billion to buy everything from new factories to new opera houses. A new market in the United States for German municipal bonds helped funnel American savings to German municipalities, which received the lion’s share of American investment. In simplified form, through the 1920s Germany borrowed heavily from the United States to pay its reparation debts to France and England (while keeping some to rebuild its infrastructure). France and England then used reparations to repay war debts to the United States (while keeping some to rebuild infrastructure). In other words, the U.S. lent the money ultimately used to repay itself, with overall global debt growing with each turn.³

      As the scheme persisted, several German officials thought they saw an opportunity in their growing dependence on American finance. “One must simply have enough debts,” explained Gustav Stresemann, the foreign minister. Indeed, “One must have so many debts that, if the debtor collapses, the creditor sees his own existence jeopardized.” In his version of too-big-to-fail, Stresemann imagined that, “These economic matters build bridges of political understanding and of future political support.”⁴ He hoped that the bridge would reach from Berlin to New York and on to Washington so that eventually the American government would feel obligated to protect Germany’s economic health in order to protect itself as creditor.

      While Germany ran up its debt, many other countries worked to get back onto the gold standard. For much of the nineteenth century, the standard had facilitated global trade and economic growth. In war most countries had suspended it to have a freer hand in financing production. While a great deal can be (and has been) said about the gold standard, two features are worth focusing on here. First, it embodied particularly well the “invisible hand” of market relationships and, in this sense, had a kind of legitimacy for standing outside of politics. Just about everyone could understand how it worked since it generally followed principles of personal finance. If a country bought more than it sold on international markets, it experienced about the same consequences as individuals who bought more than they earned. For individuals, the consequence was frugal living; for nations, frugality meant less total money in circulation (what economists label a “forced” deflation) because money (gold) now belonged to another nation. In practical terms, when a nation ran out of gold, it usually suffered a recession and rising unemployment. To be “on gold” meant governments had no monetary policy as such; they followed “the market,” discarding “independent national [economic] objectives of their own.”⁵

      Second, the gold standard signaled an acceptance of international norms. After World War I, norms appealed to many policymakers around the globe.⁶ More specifically, gold signaled an effort to make good on Woodrow Wilson’s vision of a global marketplace. Gold acted as a check on “independent national objectives,” which in the early twentieth century often expressed themselves in right-wing nationalism and militarism. Gold, in this sense, stood for peace rather than nationalist conflict.⁷

      Unfortunately, returning to gold after the First World War created as many problems as it solved—particularly for the British. The world economy had changed during the war, and the pound should have devalued coming out of it. Yet British officials insisted on maintaining the pound’s prewar value. In reality, it forced the British economy into deflation and chronic recession. Depreciation could have helped revive the economy, only to make British war debt relatively larger. In the end, British officials stuck to the higher value of the pound despite the economic hardship.⁸

      The British economy would have benefited from American investment to make its products more competitive. Indeed, nearly all of Europe needed American investment for the same reason. German municipalities managed to get a larger share of American loans because they promised (unrealistically) greater returns. Ultimately, though, European recovery often followed American investment, and this flow continued at least piecemeal until 1928, when no level of return competed with what the New York Stock Exchange offered.