It seems everyone is talking about bailouts these days. Like a giant sinkhole, companies and financial institutions that once seemed solid are crumbling into the ground: GM, Chrysler, AIG, Bank of America, Citigroup — the list goes on. Even the porn industry asked Congress for $5 billion, on account of the “soft” economy. Congress and President Obama approved over $700 billion for a stimulus bill that, when added to the $400 billion bailout of mortgage giants Fannie and Freddie Mac (already semiprivate institutions subsidized by the federal government), brings the total bailout to more than $1.1 trillion.
Why? Well, unless you are really, really poor or just can’t remember how many houses you own, you might have noticed the economy is sputtering. To justify such a sum, members of Congress, President Obama, and talking heads have been characterizing this latest downturn in some pretty stark ways. If you were to put the phrase “worst economic crisis since the great depression” into Google, it would return 136,000 hits. Obama used this phrase many times during the 2008 presidential campaign. Peter R. Orszag, Obama’s director of the Office of Management and Budget, is using it. The International Monetary Fund has said as much. Heck, even the Socialist Worker is using the phrase, hoping (still) that “revolt is in the air.” In a related but somewhat different spin on this, many of those who support aid to corporations and who are for an economic stimulus have argued that not doing so will result in another “Great Depression.”
Of course all of this is plain political hyperbole. But this is not to say that we shouldn’t act. The economy is weak and these financial firms and auto companies are in trouble. Beyond the hyperbole is the real issue, a revived debate about industrial policy: to what degree (if any) the government should intervene in supporting sectors of the economy. While there is no formal industrial policy in the United States, there is a de facto one that has existed since the early days of the republic. Despite the rhetoric that the United States is becoming a socialist nation, today’s bailouts should be seen as part of a long history of government involvement in the economy here and abroad.
First, let’s be clear. While things are bad, this is not the Great Depression. National unemployment during the 1930s never fell below 15 percent. The worst came in 1932, when unemployment averaged about 25 percent. Some local rates were even higher. Chicago and Cleveland had 50 percent unemployment, while Toledo measured 80 percent. The gross national product fell by 25 percent from 1929 to 1932, and prices dropped by some 40 percent. Nine thousand banks went bankrupt or closed to avoid bankruptcy between 1930 and 1933.
Nor are today’s problems the worst economic crisis since the 1930s. Unemployment hit 8.9 percent in April 2009, but it was nearly 11 percent during the 1980-1982 recession. Luckily we have not had high inflation rates; the rate reached 5.6 percent in July 2008, but was 13.3 percent in 1979. Bank and thrift failures were in the several hundreds per year at the height of the savings and loans debacle of the 1980s. This year, 21 banks have failed so far. It is true that the amount of money at stake is higher today, and the international links among financial institutions are much greater. The potential of failure and the consequences seem high. But as painful as it is, we have seen worse.
Now, the more important issue is the relationship between the government and the economy. While die-hard conservatives like the late Milton Friedman dream of a purely free market, the truth is that, historically, government at all levels has intervened in direct and indirect ways. Let’s look at a few of the many examples of how the government is and has been involved in economy, bailouts, and otherwise.
One of the key areas in which governments regularly intervene is transportation. In the early part of the 19th century, the federal government took an active interest in promoting canals and the creation of the National Road. These would better link east and west, promote settlement and trade, and ensure greater federal control over westward expansion. State governments also supported these efforts. Later, federal subsidies, including land grants (along with a continued active military campaign against Native Americans), helped railroads expand west and transform the United States. In the same era, the federal government maintained high tariff rates on imported goods as a way to spur domestic manufacturing. The emergence of automobiles and highways in the 20th century also depended upon federal (as well as local and state) largesse. And now the federal government is using its muscle to promote research and development of electric drive vehicles and passenger rail through such legislation as the 2007 Energy Independence and Security Act and programs in the $700 billion stimulus package.
Today, the agricultural sector is by far the largest beneficiary of federal subsidies. If we take this back to the 19th century, for example, we see railroad subsidies going hand in hand with those for purchase of land to support western settlement. The U.S. military aided this with its campaign to wipe out Native Americans. After the Civil War, farmer organizations became more politically active. As they gained more influence, railroads began to control shipping and favored larger, wealthier clients over small farmers. At the same time, larger financial institutions, like that of J.P. Morgan, began to exert more influence over credit. Both big business and big finance infiltrated political circles, and farmers were among the most vocal in identifying this threat to democracy and organizing to do something about it. The Grange, the Farmers’ Alliances, and then the Populists pushed for, among other things, greater transparency in commercial transactions as well as stricter controls over big business. They also wanted government protection in terms of higher prices and access to fair credit.
When the Dust Bowl hit in the 1930s and New Dealers worried about poverty in the rural South, the federal government moved aggressively to aid the farming sector. These federal subsidies have continued even as the rural population declined and as more and more farms became corporate entities as opposed to family owned businesses. Today, with farm employment less than 2 percent of total employment, the roughly $21 billion a year spent by the Department of Agriculture does not necessarily help the small farmer, but rather giant agribusinesses like Archer Daniels Midland (ADM).
A third and more familiar area involving government working closely with corporate entities is what Dwight Eisenhower warned of when he left office in 1961: the “military industrial complex.” While the connection between the federal government and industries supporting the military developed long before Ike, the Cold War certainly altered the scale and scope of the mutual dependence. After all, about $15 trillion in today’s dollars went into the Cold War between 1948 and 1990, helping to keep the defense industry, including major companies like General Electric and IBM, humming along. And while overall military spending has dipped some, its connection to the private sector has continued unabated. Under George W. Bush, we’ve even seen the acceleration of privatizing many of the functions usually handled by the military itself. Along with industries and companies, towns, cities, and regions came to depend on war for their survival. The so-called “Gun belt” from the Mid-Atlantic coast through the Gulf Coast and over to the West thrived on the military. During World War II, the region became home to military bases, training facilities, and a host of related entities. These connections only spread and deepened during the Cold War.
At the other end of the economic spectrum, the federal government continues to aid regions and communities suffering from high levels of poverty and unemployment. In the 1960s, the Area Redevelopment Administration offered various incentives to lure business into such places. It was followed by the Economic Development Administration. Appalachia has its own federal-state agency, the Appalachian Regional Commission. In 1975, New York City received $2.3 billion in loans to stave off a financial crisis.
These federal bailouts to places came largely from a real concern with alleviating poverty. And things have improved somewhat in Appalachia and other communities hit hard with poverty. But they still lag behind, leaving unresolved the issue of geographic inequality. More serious methods of redevelopment and transferring money to regions in need would have to be considered if alleviating poverty is truly a goal.
The poverty rate has fluctuated over time and varies according to social factors such as age, sex, and race. The federal government did not measure poverty until the 1960s. Looking back, the overall rate was about 22 percent in 1960, dropped to 11.1 percent in 1973, rose again to 15.2 percent in 1983, and dropped and rose again to about 15 percent in 1993. It fell again to 11.3 percent in 2000, but has risen to reach 12.5 percent in 2007. Rates among female-headed households and minorities are higher than these rates: 30.7 percent and 24.5 percent respectively. The poverty rate for whites is lower: 10.5 percent.
The federal government and state governments also use various tax policies and labor laws to help corporations. For example, companies usually get tax abatements and assorted credits from state and local governments. True, government does regulate businesses as well. So while it is too much to argue that government is in the hands of business, it is fair to say that the state has played and continues to play a significant role in promoting and protecting corporations.
Along side the subsidization of corporations, direct bailouts to corporations have happened before. A few examples from the last 30 years or so show that today’s plans are more expensive, but not new. In 1970, the Penn Central Railroad declared bankruptcy — the largest corporation to do so up to that time. It sent shock waves through credit markets. The federal government stepped in with loan guarantees to banks, and eventually the government consolidated the Penn Central and other railroads into Conrail. The railroads were deregulated (as were the airline and trucking industries) and Conrail turned a profit in 1981. The government kept running it until 1987, when it was sold. The Penn Central bailout cost some $3.2 billion. In 1971, Lockheed, a major defense contractor with deep ties in Southern California, was the first recipient of money from the Emergency Loan Guarantee Act, which could provide funds to any major business enterprise in crisis. Lockheed paid off its $1.4 billion in loans by 1977 and government earned about $112 million. The government bailed out Chrysler in 1980, and by 1983 it had paid back its loans, giving the government a profit of $660 million.
When deregulation came to the savings and loan industry in the early 1980s (government removing its hand), it led to a serious crisis. To prevent billions in losses, the federal government then stepped in with the Financial Institutions Reform Recovery and Enforcement Act. In the end, the cost exceeded $220 billion. After the attacks of 9/11, the already weak airline industry hit crisis mode. To stave off the failure of major airlines, in 2001 the federal government created the Air Transportation Safety and Stabilization Act, which provided some $18 billion in assistance. In the end, the government recouped this money and made a profit between $150 and $300 million.
While the government has been busy aiding corporate America, there are a number of programs designed to bail out people. But these consume far less than other parts of the federal budget, and the social safety net that does exist is fairly weak. For example, the 2008 budget allocated about $271 billion for welfare (about 1.9 percent of the gross domestic product [GDP]) and about $739 billion for defense (about 5 percent of the GDP). Just recently, trustees for both Medicare and Social Security announced that these programs, the foundations of the welfare state, will be insolvent sooner than expected. Medicare is already paying out more than it is taking in.
Social Security is perhaps the best known and serves as the foundation of what exists in terms of social welfare in the United States. This tax on employers and employees was a 1935 compromise among those wanting a more generous social welfare safety net and conservatives who fought against any net whatsoever. A mix of federal and state control meant that originally, eligibility and payments under Social Security varied enormously; it also excluded domestic and agricultural workers, meaning large numbers of African Americans and women were left out. Over the years, reforms meant that the program, however poorly designed in terms of its funding, has been responsible for lowering poverty among the elderly, once the poorest segment of the population.
The program that came to define “welfare” was Aid to Families with Dependent Children (AFDC). This was a bailout to the poor as part of the New Deal, and it became the center of political debate when it expanded (and began to aid more blacks) during the 1960s and 1970s. AFDC ended under Bill Clinton, who promised to “end welfare as we know it,” replacing it with grants to states, with strict limits on how long recipients could receive aid. Today, about 2 percent of Americans are on direct public assistance, the lowest since 1964.
The debate is still on about the merits of this significant change; welfare rolls plummeted during the 1990s boom, and many were helped by the expansion of other assistance measures, including the Earned Income Tax Credit. But the percentage of children in poverty has gone up since 2000 from 16.2 percent to 18 percent, and some studies show that most families remain in or near poverty after leaving welfare.
In addition to these, other programs making the welfare state include Medicaid, veterans’ benefits, federal employee and military retirement plans, unemployment compensation, and food stamps. Federal assistance accounts for half the federal budget. Perhaps these are not bailouts in a strict sense of the term. But the social safety net — as weak as it is — provides security for millions of people, perhaps preventing them from needing emergency help. For example, some 51 million people will receive money from Social Security this year; about 50 million receive Medicaid; over 45 million receive Medicare.
With such a weak safety net in place, and a long history of aid to corporate America, should the government help the auto industry, banks, and financial institutions? The short answer is, yes. In terms of the auto industry, the bailout needs to focus on the workers, no matter what. As others such as Paul Krugman have pointed out, the credit market is so dried up that should these companies be forced into bankruptcy, they would be forced to liquidate as opposed to simply reorganize. This would mean millions more unemployed and more or less the end of the Big Three and the United Autoworkers. Reports are now surfacing that GM, Chrysler, and Ford may use taxpayer dollars to cut thousands of jobs here in the United States while maintaining or expanding their overseas operations. Without significant assistance, former auto workers and those depending on this industry will be left with nothing.
Regarding the financial institutions, the plan so far has been to inject money from the $700 billion allocated under the Emergency Economic Stabilization Act of 2008 directly into banks to free up credit. It has not helped. Credit remains a problem because banks are sitting on the money and the housing sector (remember, this is where it all started) is still a mess. Many, including the Government Accountability Office, have shown that the program lacks oversight, making it impossible to control how these financial institutions use the money.
What has become obvious is that deregulation and lack of oversight created a dangerous situation. Income inequality has increased in the United States. Among countries in the Organization for Economic Cooperation and Development (OECD), only Mexico, Poland, and Portugal are worse. In 1979, the post-tax income of the richest 1 percent of households was eight times higher than that of the middle class, and 23 times that of the lowest fifth. As of 2005, it became 21 percent between the top and middle, and 70 percent between top and bottom fifth. After accounting for inflation, most families are still making less than they were in 2000.
The need to salvage the assets of these institutions is real; remember, those Americans with retirement savings have had to put their money into stocks and bonds using vehicles such as mutual funds. Banks and other entities played fast and loose with people’s lives, and now these mostly middle class people (through tax money) are paying to rescue the banks and their corporate leaders. Wall Street pays out bonuses while Main Street foots the bill and staggers along. What is needed is a set of policies to reorganize the financial system. As William Greider has argued, what might be needed is to give the Federal Reserve power to regulate the financial sector that exists outside of banks (the “shadow banking system”). The Federal Reserve has power over commercial banks, but it only holds 24 percent of all financial assets. It is also likely that the federal government might need to take into receivership some of the largest troubled banks.
We’ll see what happens next from the Obama administration. Economically, it is not the Great Depression, but this is perhaps a political moment as malleable as 1933, when FDR came to office. He ushered in the New Deal, which was not perfect, but which served as a basis for an expansion of economic security that has been undermined in the last 30 years. Obama needs to focus on rebuilding the economy for all Americans, not just bailing out Wall Street.
Gregory Wilson
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