The Great Deformation

Part I: The economics of American militarism

by , April 15, 2013

David Stockman rocketed to fame as Ronald Reagan’s chief of the Office of Management and Budget (OMB), his name loosely associated with the "trickle down economics" of the supply-siders, but his recent book, The Great Deformation: The Corruption of Capitalism in America, will correct the record: Stockman is not only a libertarian critic of the Milton Friedman school of monetarism and supply side economics, he is also a principled opponent of American militarism. His new book is a massive 700 pages-plus, but don’t let that deter you: inside you will find a scintillating analysis of where, why, and how America went wrong, starting with the New Deal and ending with the Great Recession of ’08 and the subsequent Obama-Bernanke attempts to re-inflate the bubble of America’s debt-driven "prosperity."

His basic thesis is that the Federal Reserve, starting with Richard Nixon’s decoupling of the dollar from gold, has acted as the central planner of the American economy, blowing up the bubble of a false prosperity. This mostly served to fatten the wallets of the One Percent, giving Wall Street a blank check while looting the savings and aspirations of Main Street.

His is a complex argument, and it assumes a knowledge of economic theory that I fear many – including myself – do not possess, but his analysis is clear and forthright: the Fed, instead of acting as a neutral arbiter and manager of the money supply, has engaged in "prosperity management," as he terms it, implanting a "borrow, spend, gamble, and get-rich-quick regimen" that poisoned and deformed the economy and the culture. The decoupling of gold from the value of money led to the financialization – and bifurcation – of the American economy, so that the financial manipulations of Wall Street increasingly had little to do with the production of actual things, and the real performance and value of the financial "assets" they were dealing in, but instead were based on the "free" money being printed hand over heels by the all-powerful Federal Reserve. The hedge funds, the wild speculations of Wall Street’s most distended-from-reality "assets" – like those sliced-and-diced toxic mortgages that led to the housing bust – are all products of the Fed’s central planning: "They consume," says Stockman, "vast resources without adding to society’s output or wealth, and flush income and net worth to the very top rungs of the economic ladder." Although the free market is getting the blame for this, the reality, says Stockman, is that these deformations of capitalism were made possible by massive State intervention via the Fed, which enabled politicians to spend without taxing – and the militarism of the alleged "conservatives" was a key factor in all this.

"A riotous expansion of the Warfare State was foremost among the policy errors of the Reagan Revolution," writes Stockman:

"Within days of Reagan’s taking office, the White House made a historically devastating mistake by signing over to the Pentagon a blank check known as the ‘7 percent real growth top line.’ This massive injection of fiscal firepower nearly tripled the defense budget from $140 billion to $370 billion within just six years. More importantly, it fueled powerful expansionist impulses throughout the military-industrial complex at exactly the wrong time in history."

After all, the Soviet Union was on its last legs, you’ll recall, but, says Stockman, "the neocon branch of the military-industrial complex trumpeted a new version of the phony missile gap that John Kennedy had promoted during the 1960 campaign." The neocons were hyperventilating about a supposed Soviet effort to give the Kremlin a first-strike capability, building a new fleet of heavy bombers and vastly improved long-range missiles. Yet the evidence for this alleged drive to achieve first-strike capability never really existed. Furthermore, the Reagan administration’s efforts to counteract this phony "threat" had nothing to do with mounting the appropriate countermeasures. Instead, as Stockman points out, the US embarked on an unprecedented buildup of conventional forces: "land, sea, and air forces that were utterly irrelevant to the imaginary Soviet nuclear first strike."

They were, however, "well-suited to imperialistic missions of invasion and occupation," writes Stockman. "Ironically, therefore, the Reagan defense buildup was justified by an Evil Empire that was rapidly fading but was eventually used to launch elective wars against an Axis of Evil which didn’t even exist." And, says Stockman, it wasn’t just a question of wasting a few percentage points of GDP:

"The Reagan defense buildup gave birth to a historical monstrosity: the Bush wars of occupation and imperial pretension that were possible only because of the immense conventional war machine the Gipper left behind."

That machine was useless for its ostensible intended purpose – deterring and defeating the declining Soviet empire – but perfect for policing, occupying, and pacifying "the vast open deserts and the crumbling mud and stone walls" of the Middle Eastern battlefields of the future.

Much of the blame goes to the bad advice Reagan got from Caspar Weinberger, his defense chief, but Stockman also issues a full-throated condemnation of the sainted President himself:

"In fact, Reagan was an out-an-out statist in the realm of the military and national security. All the well-warranted skepticism he had about Big Government – the empire-building tendency of the bureaucracy, the inherent inefficiency and waste of public sector monopolies, the self-serving propensity of bureaucrats to hide the facts and twist the truth – did not apply on the Pentagon side of the Potomac."

In tracing the long, winding history of how we became a nation of debtors, Stockman goes back to the New Deal and the war economy that prevailed after Pearl Harbor. The Fed became an arm of the War Department (as it was then called), becoming the biggest buyer of Treasury securities, "thereby ‘monetizing’ federal debt on a scale never before imagined." The Fed thus positioned itself as the motor and central control panel of the American economy, "rigging the government bond market and the Treasury curve yield by persistent massive open-market purchases of Treasury paper. Today this is business as usual, but then it was a radical departure, a theretofore rarely used tool that now became institutionalized owing to the exigencies of wartime finance."

War is the health of the State, as Randolph Bourne famously noted, and Stockman fills us in on the economic details, down to the numbers in the Fed’s balance sheet footings – which, as he shows, underwent "a twelve-fold expansion during the four years of world war." As he puts it:

"The Fed opened its doors in November 1914. But owing to the exigencies of wartime its purpose and modus operandi were twice turned upside down during its first thirty-one years. It can fairly be said that the Fed became a permanent denizen of the government debt market during its service to the warfare state, forging the T-bill standard, as it were, in the crucible of war."

Stockman points out that the Fed was sold to the politicians and the American public as a "banker’s bank," a ready source of liquidity that would prevent the disruption of commerce during recessions, and obviate the need to call in loans. It was never intended to be a dumping ground for the national debt, or so its congressional supporters believed. Thirty years later, however, the main selling point of the Fed – that it would be the impartial custodian of the nation’s reserve funds and a bulwark of fiscal discipline – were turned up side down. "This development," Stockman writes, "was the result of two wartime borrowing sprees and the resulting wholesale abandonment of the nation’s historic balanced-budget discipline. The public debt thereby grew from midget to giant dimension."

War increased the power and reach of the Fed by leaps and bounds, leading it to assume its eventual role as the primary mover of the national economy – displacing the original version of the Fed’s role, which was supposed to respond to trends in the real economy. "Under the original version of the 1913 act," avers Stockman, "the business economy was in the monetary driver’s seat. It generated the ebb and flow of loans, deposits, and reserves in the banking system and the final aggregates of money and credit. Federal Reserve credit arose from commerce that already existed: it did not seek to add even a dime to existing bank loans or GNP."

But World War II changed all that:

"By contrast, during the period of war finance between 1942 and 1945, the Federal Reserve became a powerful, proactive manager and manipulator of the nation’s entire commercial banking system. Its purpose during that interval of national crisis was to manage the nation’s ballooning war debt, but these very same tools of banking system management were later adapted to management of the GDP itself.

"It’s apotheosis came six decades later, when the Fed orchestrated a veritable dance of the zombies during the aftermath of the September 2008 meltdown. Reaching back to its school days in war finance, the Fed again engineered a steep Treasury yield curve by driving front-end rates to nearly zero. In doing so, it gifted legions of insolvent banks with a simulacrum of profits. It thereby reduced depositors to penury, of course, even as it kept zombie institutions alive and their executives in bonuses a while longer."

How much longer? Stockman’s thesis is that we haven’t got much time left. The Great Deformation took decades to work its destructive effects into the fabric of the nation’s economic life, corrupting its integrity and financializing a hollowed-out productive capacity that had once been the envy of the world. Yet the warning signals – the crash of ’08, and its many precedents – have been flashing for some time, and if alarm bells aren’t going off in Washington, particularly in the Eccles Building, then that is due to the illusion of a debt-based "prosperity."

This sounds like standard old-style fiscal conservatism, but Stockman serves it up with a twist. Unlike most "free market" economists of the sort that hang around the Heritage Foundation and other "conservative" thinktanks, Stockman understands the origins and development of the system that led to the current crony capitalist regime are firmly rooted in the soil of militarism.

In his chapter on "War Finance," Stockman busts the Keynesian myth that we spent our way out of the Great Depression because of huge government expenditures during wartime. He points out that 80 percent of the costs were financed by the forced "savings" of confiscatory taxation and the "voluntary" purchase of war bonds by private citizens. Of course, since essentials were rationed, and "luxuries" virtually nonexistent, there was nothing much for anyone to buy. Stockman points out that, contra the Keynesians, who point to World War II to illustrate the alleged "success" of deficit spending," total debt did not rise during the war years: instead, it actually declined. In 1945, the total debt – private and governmental – was lower than under the peacetime New Deal, circa 1938. The lesson of the facts and figures Stockman presents in numbing detail is a point that conservatives of today would do well to absorb:

"What the warfare state of 1941-1945 proved was that wars should be funded with taxes and savings, not that federal deficits are harmless or that they were a cure for the Great Depression."

At the end of the most destructive war in history, the machinery that would enable the metastasis of the Warfare-Welfare State was firmly in place: a Federal Reserve system that had grown beyond its original mandate into the central planner and supreme arbiter of the nation’s economic condition, and a worldwide military presence that had displaced the British empire as the policeman of the world.

Yet there was to be a brief reprieve from this looming prospect in the fiscally conservative pay-as-you-go wartime spending of the Truman administration during the Korean conflict, and what Stockman regards as Eisenhower’s golden age of fiscal conservatism and Pentagon budget-cutting. I briefly discussed Stockman’s treatment of the Eisenhower era in my speech to the Republican Liberty Caucus of California, at their recent convention, but I’ll go into it in more depth in my next column – because it is truly a fascinating and little known story.

[Part Two of this review will appear on Wednesday.]

NOTES IN THE MARGIN

I am speaking at American University on April 16. The event is a debate on the subject of gay marriage, with author and columnist Jonathan Rauch speaking in the affirmative and me opposing. It’s open to the public. That’s Tuesday, April 16, at 8:00 pm, in the Mary Graydon Center, Rooms 4 & 5.

I’m having great fun on Twitter these days, and I urge you to join me on this wonderfully interactive site: you can do so by going here.

I’ve written a couple of books, which you might want to peruse. Here is the link for buying the second edition of my 1993 book, Reclaiming the American Right: The Lost Legacy of the Conservative Movement, with an Introduction by Prof. George W. Carey, a Forward by Patrick J. Buchanan, and critical essays by Scott Richert and David Gordon (ISI Books, 2008).

You can buy my biography of the great libertarian thinker, An Enemy of the State: The Life of Murray N. Rothbard (Prometheus Books, 2000), here.

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