During the mid-1930s, FDR pursued an aggressive set of policies including various actions intended to raise wages, as well as an undistributed profits tax. These actions were widely seen as anti-business, a view reinforced by FDR’s frequent attacks on the “economic royalists”.
In the second half of 1937, the US economy fell into a deep secondary depression, despite the fact that it had not yet recovered from the severe 1929-33 slump. The Roosevelt administration blamed the downturn on a lack of investment in the business sector, asserting that there was a “capital strike” motivated by hatred of New Deal policies. In fact, the slump was mostly caused by various New Deal policies, which pushed up wages at a time when monetary policy was reducing prices.
I was reminded of this event when I saw the following story:
After signing an executive order granting Canada and the US another temporary tariff reprieve, the US president blamed “globalist” nations and corporations for market-wide declines and shrugged off spooked markets.
The Treasury secretary also chimed in:
“There’s going to be a natural adjustment as we move away from public spending to private spending,” Bessent said Friday on CNBC. “The market and the economy have just become hooked and we’ve become addicted to this government spending, and there’s going to be a detox period.”
It is possible that this sort of lagged effect might be true for the overall economy, but it is certainly not true for the financial markets, which are forward looking. Policy initiatives that produce short-term pain and an even greater long-term benefit should be a positive for the stock market.
That’s not to say that markets won’t bounce back—as stock prices are almost impossible to predict. Think of a scenario where a policy initiative was put forward that other things equal might be expected to reduce stock prices by 10%. Also assume that the market thought there was a 50% chance that the initiative would be quickly reversed, with no damage done. In that case, you might expect stock prices to fall by roughly 5%. But that would merely represent the initial reaction, as more information came in stocks would either fall further, or (if the initiative was reversed) would regain lost ground.
On a related note, the Atlanta Fed has been forecasting a drop in real GDP during Q1. The media suggests that this forecast is based on a recent surge in imports, particularly gold imports. That may be true, but if so it is quite odd. A $20 billion surge in gold imports to beat expected tariff increases would not be expected to have any effect on actual GDP. The import category would move $20 billion in a negative direction while gold inventories would move $20 billion in a positive direction. If the media reports are correct (and I have no reason to doubt them), this suggests the government does not know how to measure GDP. It suggests that they are treating imports as a negative, but not applying an equal positive to investment (or consumption.) Why would they do this?
PS. Greg Mankiw is of course correct, and I am almost certain that Kevin Hassett knows that. I understand that we must all make compromises in our careers, but surely there are limits . . .
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