Peden - The Treasury View on Public Works and Employment in the Interwar Period

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The "Treasury View" on Public Works and Employment in the Interwar Period Author(s): G. C. Peden Source: The Economic History Review, Vol. 37, No. 2 (May, 1984), pp. 167-181Published by: on behalf of the Wiley Economic History SocietyStable URL: http://www.jstor.org/stable/2596879Accessed: 09-04-2015 17:05 UTC

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THE

ECONOMIC HISTORY

REVIEW

SECOND SERIES, VOLUME XXXVII, No. 2, MAY i984

SURVEYS AND SPECULATIONS, XXII

The "Treasury View" on Public Works and Employment in the Interwar Perio&

By G. C. PEDEN

Few economic doctrines have been apparently so fully discredited in the lifetime of those who held them as the "Treasury view" of I929 that "very

little additional employment and no permanent employment can in fact and as a general rule" be created by loan-financed public works. 1 The "Treasury view", based as it was mainly on a belief that government would tend to 'crowd out' private investment, even though about IO per cent of the insured labour force was unemployed at the time, seemed absurd in the light of the new insights provided by J. M. Keynes's General Theory of Employment, Interest and Money in I936. For Joan Robinson, one of the economists closely associated with the "Keynesian Revolution", the Treasury's arguments in I929 were "simple" and "laughable".2 A. J. Youngson, on the other hand, writing at the end of the I950s, thought that "what the Treasury view really was is something of a mystery", but he believed that the Treasury made a "culpable omission" in leaving the multiplier effect of public works out of account when estimating their effects on unemployment.3

These early judgements were necessarily based upon the Treasury's published statements, but since the I970S researchers have uncovered much more evidence of Treasury thinking. An earlier article in this series of Surveys and Speculations rightly drew attention to the dangers of uncritical use of evidence from the state papers now in the Public Record Office,4 but at least we now

* In addition to the published works cited below, the author has benefited from reading two unpublished Ph.D. theses: Roger Middleton, 'Fiscal Policy and Economic Management in the I930s' (Cambridge University, i98i) and Anthony Rowley, 'La politique 6conomique du gouvernement britannique de i919 a I924' (L'Institut d'Etudes Politiques de Paris, I979).

1 Statement by the Chancellor of the Exchequer (Winston Churchill), Hansard (Commons), 5th ser. CCXXVII, I5 April I929, col. 54.

2 Joan Robinson, Economic Philosophy (i962), p. 73. 3 A. J. Youngson, The British Economy, I920-I957 (i960), pp. 254f. 4 Alan Booth and Sean Glynn, 'The Public Records and Recent British Economic Historiography',

Economic History Review, 2nd ser. XXXII (I979), pp. 303-I5.

I67


i68 G. C. PEDEN have access to arguments which the Treasury chose not to put in print. Moreover, the problems of managing the economy in the I970s and i980s have provided a severe test of Keynesian economic doctrines, and economists have come to take "crowding out" hypotheses more seriously. As N. von Tunzelmann has remarked in a recent Economic History of Britain, developments in economic theory may yet give the "Treasury view" "a new lease of life" in histories of the interwar years.5 If that should be so, a survey of the existing knowledge and understanding of the "Treasury view" may be timely. Moreover, given current controversy not only over economic theory but also over the problems of controlling public expenditure, some speculations about the enduring nature of the problems faced by the Treasury in the interwar period may be in order.

Interpretations of the "Treasury view" may be divided roughly into those which have emphasized the importance of "orthodox" economic theory as an impediment to the Treasury adopting Keynes's ideas, and those which have emphasized the importance of political and administrative factors. Of the interpretations emphasizing the importance of economic theory, the best researched has been that of Susan Howson and Donald Winch. They have pointed out that theoretical justifications for Treasury policy in the I920S were provided by Ralph Hawtrey, an official with a reputation as an economist. Hawtrey had a quantity theory of money, whereby the supply of money determined the general level of prices in the long run, and productivity and thrift determined income and employment levels. Hawtrey saw the trade cycle as largely a monetary phenomenon, to be treated by monetary measures rather than by public expenditure.6 While recognizing the importance of Howson and Winch's work, in that policy-makers' understanding of economic theory is bound to influence their perceptions of economic problems, it has to be pointed out that policy-makers' experience of political and administrative problems may explain why economic theories are more or less acceptable to governments.

Recently Roger Middleton and J. Tomlinson have drawn attention to the importance of political and administrative constraints on policy in the I930s, constraints which Keynes, as an economist, could ignore, but which Treasury officials could not.7 The importance of these non-economic constraints, compared with economic theory, in influencing policy can be explored by looking at developments after the "Treasury view" was put forward in I929-30. According to Howson and Winch, there was a significant shift in the Treasury's theoretical position by I934-5, which amounted to an abandonment of the "Treasury view", even if not yet a full acceptance of Keynes's theory.8 If this

5N. von Tunzelmann, 'Britain, I900-45: a Survey', in Roderick Floud and Donald McCloskey, eds. The Economic History of Britain since I700 (Cambridge, i98i), II, p. 249.

6 S. Howson and D. Winch, The Economic Advisory Council, i930-i939 (Cambridge, I977), p. 27. This work draws upon Howson's extensive knowledge of the Treasury records gained when writing her Domestic Monetary Management in Britain, i919-38 (Cambridge, I975).

7Roger Middleton, 'The Treasury in the I930s: Political and Administrative Constraints to Acceptance of the "New" Economics', Oxford Economic Papers, new ser. xxxiv (i982), pp. 48-77; Roger Middleton, 'The Treasury and Public Investment: a Perspective on Interwar Economic Management', PublicAdministra- tion, LXI (i983), pp.35I-70; and J. Tomlinson, Problems of British Economic Policy, i870-I945 (i98i), ch. 5.

8 Howson and Winch, Economic Advisory Council, pp. I I2n, I31.


THE TREASURY VIEW i69

is so, and if the theory underpinning the "Treasury view" of I929-30 had been an important influence on policy, there should, ceteris paribus, have been a significant shift in the Treasury's attitude to public works as a cure for unemployment. If, however, Treasury officials continued to be sceptical about the value of public works after I934-5, there is a prima facie case for believing that Middleton and Tomlinson have been right to emphasize the importance of political and administrative factors in determining the "Treasury view". (There would remain an alternative explanation in the possibility that Howson and Winch have exaggerated the significance of the shift in the Treasury's theoretical position in the I930s.)

It has to be admitted that any attempt to construct a logical argument about the "Treasury view" in the interwar period is liable to founder on ambiguity. There is some doubt about how consistent the "Treasury view" was. After questioning the Treasury witness, Sir Richard Hopkins, before the Macmillan Committee in I930, Keynes remarked that the "Treasury view" had been "gravely misjudged", in that it was not, as he and others seemed to have supposed, a rigid economic dogma. Indeed, Keynes complained that the "Treasury view" bent so much that he had difficulty in getting hold of it.9 Moreover, while Hopkins was an outstanding civil servant who showed a willingness to reconsider the theoretical basis of Treasury thinking,10 there is, as K. J. Hancock remarked, some doubt whether Hopkins's evidence in I930 reflected the quality of earlier Treasury advice to governments in the I920S.11 For that reason it may be best to survey briefly various statements of the "Treasury view", with their attendant theoretical arguments.

The interwar "Treasury view" seems to have been a response to the action of Lloyd George's government in setting up, in December I920, an Unemployed Grants Committee, which was to allocate Exchequer funds to encourage local authorities to embark on public works schemes. It seems to have been assumed originally that the unemployment arising out of the breaking of the post-war boom would be temporary, and that, as before I9I4, temporary relief schemes could be used to alleviate social problems or to dampen down social unrest during a difficult phase of the trade cycle.12 As high unemployment persisted longer than expected, the Treasury began to stiffen its resistance to this approach to the problem. In I922 the new Conservative Chancellor of the Exchequer, Stanley Baldwin, warned his Cabinet colleagues that "money taken for government purposes is money taken away from trade, and borrowing will thus tend to depress trade and increase unemployment."'13

9 Minutes of Evidence Taken Before the Comittee on Finance and Industry (H.M.S.O., I931), II, Qs. 5625 and 5689.

10 Anon. 'Sir Richard Hopkins', Public Administration, XXXIV (I956), pp. II5-23; G. C. Peden, 'Sir Richard Hopkins and the "Keynesian Revolution" in Employment Policy, I929-45', Econ. Hist. Rev., 2nd ser. xxxvi (i983), pp. 28i-96.

11 K. J. Hancock, 'The Reduction of Unemployment as a Problem of Public Policy, I920-I929', Econ. Hist. Rev., 2nd ser. xv (i962), p. 338.

12 For pre-I1I4 experience see Jose Harris, Unemployment and Politics (Oxford, I972). 13 Keith Middlemas and John Barnes, Baldwin: A Biography (i969), p. I27.


I70 G. C. PEDEN

This early version of the "Treasury view" seems to have rested, at least implicitly, on a pre-Keynesian theory that savings determined the level of investment when the economy was at less than full employment. There would certainly be nothing unreasonable about Treasury officials thinking along these lines at that date, since Keynes, who had been their colleague between I9I5 and i919, held just such a "pre-Keynesian" theory of savings and investment as late as I924. When starting work on his Treatise on Money in November of that year Keynes wrote:

A supply of new capital . . . can only come into existence in so far as those who have claims on the community's flow of income are willing to defer their claims, i.e. out of savings .... The expenditure, on the production of fixed capital, of public money which has been raised by borrowing, can do nothing of itself to improve matters; and it may do actual harm if it diverts existing working capital away from the production of goods . . . .14

Keynes thereafter embarked upon what he later described as a struggle to escape from habitual modes of thought and from theories which he had held with conviction for many years,15 and it is not surprising if in the process he ascribed central importance to these theories in the thinking of his former colleagues at the Treasury, and perhaps rather more importance than they themselves would have done.

In fact, advice to the Chancellor in I92i by Sir Otto Niemeyer, already a leading official dealing with financial policy, and soon to be in charge of the Treasury's Finance Department, suggests that the Treasury at least considered the possibility that inflation could alter the proportions of the community's flow of income going to capital and labour. Niemeyer, like some latter-day Treasury officials, believed that the root cause of unemployment was that the costs of production (mainly wages) were too high compared with Britain's competitors abroad. He noted that, if government borrowing for loan-expenditure were inflationary, it was possible that real wages might be reduced, and employment increased. However, given the increased bargaining power of trade unions since I9I4 it seemed "not improbable" to him that labour already in employment "would succeed in passing the burden [of higher prices] on to . . .the possessor of capital by obtaining proportionately increased wages."16 Niemeyer had thus anticipated one of the fundamental criticisms of Keynesian employment policy in the I970S and i980s-that is, contrary to Keynes's assumption in The General Theory, trade unions might render a full-employment policy nugatory by demands for increased wages.17 It hardly needs saying, however, that Niemeyer, one of the chief architects of the policy of

14 The Collected Writings ofJohn Maynard Keynes (hereafter J.M.K.), XIII, pp. I9-23. For a brief account of the evolution of Keynes's ideas see D. E. Moggridge and Susan Howson, 'Keynes on Monetary Policy, I9I0-I946', Ox. Econ. Pap., new ser. XXVI (I974), pp. 226-47. For a survey of beliefs of other economists see K. Hancock, 'Unemployment and the Economists in the I920S', Economica, new ser. xxvii (i960), pp. 305-2I.

15 Preface to The General Theory, (J.M.K. VII). 16 Robert Skidelsky, 'Keynes and the Treasury View: The Case For and Against an Active Unemployment

Policy, I920-I939', in Wolfgang Mommsen, ed. The Emergence of the Welfare State in Britain and Germany (i98i), pp. I7If.

17 Even Lord Kahn, once a member of the Cambridge "circus" involved in discussions on drafts of The General Theory, was by the I970S describing Keynes's treatment of the wages question as "unsystematic and unsatisfactory". See 'On Re-Reading Keynes', Proceedings of the British Academy, LX (I974), p. 375.


THE TREASURY VIEW I7I

going back on the gold standard, had no intention of carrying out inflationary experiments.18

An apparently unambiguous statement of the importance of the quantity theory of money in Treasury thinking is to be found in the form in which the "Treasury view" was expressed to the International Labour Organization in I927: "The decision taken by the government at the end of I925 to restrict grants for relief schemes was based mainly on the view that, the supply of capital in this country being limited, it was undesirable to divert any appreci- able proportion of this supply from normal trade channels."19 It should be noted, however, that, in addition to economic theory, the "Treasury view" was also based on other implicit assumptions: that the proper scope for relief schemes was such that they would differ in nature from "normal trade"; that the state should not compete with the private sector; and that recovery would come through private enterprise.

The "Treasury view" received its fullest airing in I929, when the Conserva- tive government published a White Paper to rebut claims made by the Liberal leader, Lloyd George, and supported by Keynes, that loan-financed public works could reduce unemployment to "normal" proportions within a year.20 (This claim implied a reduction in unemployment from the official figure of between I0 and I I per cent of insured workers to the pre-914 average, then estimated to have been between 5 and 7 per cent.) The Treasury's contribution to the White Paper stated that in the circumstances of that year "a very large proportion" of any additional government borrowings for public works could only be procured, without inflation, by diverting money which would other- wise have been used "soon" by private industry, and that therefore the net addition to employment resulting from the Liberal scheme would not be large.21 This seems a weaker stance than in the early I920S, perhaps because by I929 Niemeyer had been succeeded by the more flexible Hopkins. Neverthe- less, Winch, in an early book, expressed the belief that the "Treasury view" of I929-30 rested, at least implicitly, on a theory that "there was a fixed and fully employed lump of capital in existence at any given time, such that increases in any direction implied diversion from 'normal' channels", and that the "real difficulty" preventing the Treasury from accepting Keynes's argument for public works "arose on an intellectual level", in that Keynes's case was novel and required the use of unfamiliar theory.22

Study of the Treasury's contribution to the I929 White Paper shows that the Treasury agreed with the Liberals that money accumulated in time deposits in banks represented a "slackening in the circulation of money in employment"; and, in response to a question by Keynes in the Macmillan Committee, Hopkins said that it was "very likely that all the capital available

18 For Niemeyer and the gold standard see D. E. Moggridge, British Monetary Policy, I924-I93I (Cambridge, I972), esp. pp. 262-9.

19 Cited by von Tunzelmann in Floud and McCloskey, Economic History of Britain, II, p. 249. 20 Memoranda on Certain Proposals Relating to Unemployment, (P.P. I928-9, xvi). The proposals were

those outlined in David Lloyd George, We Can Conquer Unemployment (I929). For Keynes's support see J. M. Keynes and Hubert Henderson, Can Lloyd George Do It? The Pledge Examined (I929), reprinted in J.M.K. ix. For a fuller statement of Liberal ideas see Liberal Industrial Inquiry, Britain's Industrial Future (1928, reissued 1977).

21 Memoranda on Unemployment, (P.P. 1928-9, xvi), esp. pp. 50f. 22 Donald Winch, Economics and Policy (i969), pp. 110-12.


I72 G. C. PEDEN

for investment" is not in use-and it was difficult to see how the Treasury could be described by Winch as believing in I929-30 in a "fixed and fully employed lump of capital". What the Treasury did believe was that the idle balances which the Liberals wished to attract into a gilt-edged loan for public works represented either money which businessmen wished to keep liquid for the moment, but which they would not in any circumstances put into long- term investments, or balances belonging to foreigners. Keynes had agreed in I929 that it would be necessary to offer a rate of interest which would compete with foreign borrowers-which, in the context of the New York Stock Exchange boom, would not have been a low rate of interest-although it was the policy of the Treasury and the Bank of England to try to lower the rate of interest, as far as was consistent with maintenance of the gold standard, both to reduce the burden of the National Debt and to stimulate economic recovery.23

Again, study of Hawtrey's published work shows that his economic theory did not totally preclude use of loan-financed public works to increase demand for labour. Hawtrey had argued in I925 that public works financed by money borrowed from "genuine savings", that is without creating additional bank credit, would merely divert private expenditure into government's hands, and thus not increase the demand for labour, except in "exceptional circumstances". The exceptional circumstances were a period of depression when the velocity of circulation of money was low, because potential investors, lacking profitable outlets for surplus funds, accumulated idle balances. When that happened, an attractive gilt-edged loan could secure these savings without displacing any normal trade or investment. Hawtrey also argued that public works financed by the creation of bank credit, either as a result of government borrowing from the banks or of increased lending by the banks, would give additional employment. But, assuming a normal degree of enterprise on the part of business, he concluded that creation of credit alone would be equally effective in giving employment, and that public works would be necessary only when business did not respond to a reduction of bank rate to 2 per cent, as happened in i894-5.24 Hawtrey regarded unemployment as a special case, and full employment as normal, whereas Keynes was to argue the reverse in the General Theory. Even so, a Treasury guided primarily by a theory such as Hawtrey outlined ought, ceteris paribus, to have been willing to embark on public works once bank rate had fallen to 2 per cent, if business did not respond in a manner which absorbed unemployed labour. These conditions were reached after I932, and it is not clear that a shift in the Treasury's theoretical position was necessary for it to drop some of its opposition to public works thereafter. As we shall see, however, there were other matters for the Treasury to consider apart from the merits of economic theories.

II The success of Lloyd George's scheme for loan-financed public works

depended not only on the receptivity of the Treasury to Keynes's ideas 23 Memoranda on Unemployment, (P.P. I928-9, xvI), pp. 48-50; Minutes of Evidence Taken Before the

Committee on Finance and Industry, Q.5622. For monetary authorities' policies see Howson, Domestic Monetary Management, esp. pp. 35-4i and 66-8.

24 R. G. Hawtrey, 'Public Expenditure and the Demand for Labour', Economica, V (I925), pp. 38-48.


THE TREASURY VIEW I73

but also, and perhaps more so, on institutional arrangements for handling government debt and on the attitude of those who lent to government. Howson and Winch have no doubt of the existence of a pre-Keynesian orthodoxy among most businessmen and bankers at the time,25 and this orthodoxy contributed to the difficulty experienced by the monetary authorities in marketing government stock. While the Treasury's concern about the "burden" of the National Debt may seem anachronistic to Keynesian economists, the scale of the war-swollen Debt was enormous, and the Macmillan Commit- tee (of which Keynes was a member) recommended that there should be no increase in central government indebtedness until the future course of prices was more certain.26 Hopkins, in giving evidence to the Committee, was willing to concede in I930 that, on Keynes's assumptions, the Liberal scheme might pay for itself partly by diverting capital from abroad, partly by mobilizing idle balances, partly by diminishing the cost of unemployment relief and partly by setting up a cycle of prosperity, but he believed that, if the public works seemed extravagant or wasteful, the scheme might also lead investors to believe that government stock would fall in value and that it would be better to invest abroad, thereby increasing pressure on interest rates and on the exchange rate.27 The nature, as well as the quantity, of public works was important because of the then accepted doctrine of public finance that central government expenditure of non-self-liquidating character must be met out of revenue; on the other hand, capital expenditure, for example on telephones, where there would be a monetary yield to pay off both the capital and the interest on the loan, could be financed by loans outside the budget.28 Such rules necessarily limited the possible scope of public works which could be initiated by central government.

Some ?254 million were voted by Parliament between I925 and I929 for loan-financed expenditure on roads, telephones, housing and other development schemes (these public works themselves being carried out by local authorities, the Post Office, or the Central Electricity Board). What the Liberals wanted in I929 was additional expenditure of ?25I million over the next two years to expedite public works which would not directly pay for themselves but which would raise the demand for labour. The whole point of the Liberal scheme was that it should be started swiftly and simultaneously to stimulate the economy, but the Treasury did not believe that expenditure of ?25I million could be carried out in two years without raising prices and creating excessive profits where there would be bottlenecks, and without interference with the rights of local authorities.29

25 Howson and Winch, Economic Advisory Council, p. i62. 26 Middleton, 'The Treasury in the I930s', p. 54; J. Tomlinson, 'Unemployment and Government

Policy Between the Wars: A Note', Journal of Contemporary History, XIII (I978), p. 72. One of the main conclusions of Howson's Domestic Monetary Management (esp. pp. I40, I43f) was that, because of the debt problem, Treasury officials had to change their theory about monetary policy and the way it works. However, the changes which she describes in the Treasury's ideas in the later I930s should have made the Treasury more favourably inclined towards public works, which makes continued Treasury scepticism (see pp. I76-8) more striking.

27 Minutes of Evidence Taken Before the Committee on Finance and Industry, Qs. 56I3-i8. 28 Minutes of Evidence Taken Before the Royal Commission on Unemployment Insurance (H.M.S.O., I93I),

pP. 382f. 29 Memoranda on Unemployment, (P.P. I928-9, xvi), pp. 43-5; Minutes of Evidence Taken Before the

Committee on Finance and Industry, Q. 5565.


I74 G. C. PEDEN

Hopkins, as Controller of the Finance and Supply Services Departments of the Treasury, was responsible for Treasury control of public expenditure from the point of view of satisfying the Parliamentary Committee of Public Accounts, as well as for financial policy, and it was natural that he should be more concerned than a monetary economist would be with the practical problems of carrying out public works. More than half the Liberal scheme, in terms of expenditure or employment, was for roads, for which county councils would be responsible. Hopkins argued that, before a road could be begun, time would have to be allowed for surveys and plans to be made, objections heard, land valued and bought, and labour accommodated, perhaps far from home. More than one local authority, each with its own views, would be involved, and Hopkins believed that any attempt by central government to force the pace of decision-making and implementation would lead to an outcry against bureaucracy. Given these administrative and political problems it seemed to him "really beside the point" to argue in theoretical terms how much of the money for the scheme could be obtained by restricting lending abroad, or from idle balances, or from savings on the unemployment fund, or from increased prosperity. Hopkins, however, did not believe that schemes of capital development were of no use for reducing unemployment, and he agreed with Keynes that nearly all the Treasury's evidence to the Macmillan Committee amounted to saying that it was difficult to find schemes which satisfied the rules of public finance.30

It might be argued that these administrative objections were mere excuses for not doing what the Treasury wished to avoid doing for economic or political reasons. But in the I930s economists such as Hubert Henderson and Ursula Hicks, and (by I933) Keynes himself, thought that there was real substance in the Treasury's arguments.31 Increased central government grants might not necessarily bring about a proportionate net increase in investment-they might merely result in central government paying a higher proportion of the cost of work which would have been undertaken by local or other public authorities anyway. It is significant that the first section of the Mosley memorandum on unemployment policy in I930 dealt with the machinery of government, from the point of view of strengthening the powers of the Prime Minister and leading economic ministers meeting in an executive committee.32 Behind the administrative problems related to public works lay the broader political question of the decentralized nature of British government.

There is an alternative explanation to the view that administrative problems were used as excuses to avoid doing what the Treasury objected to on a priori grounds of economic theory; that is that the "Treasury view" of I929 was really a "Whitehall view", being based on practical experience of implement- ing public works in the I920S. The Treasury contributed only one of the memoranda in the I929 White Paper-the others being contributed by other interested ministries, such as the Ministry of Health (which supervised local

30 P.R.O. Treasury Papers, series I75, file 46 (hereafter P.R.O. T I75/46): 'The Liberal Plan', Hopkins's draft notes for evidence to the Macmillan Committee; and Minutes of Evidence Taken Before the Committee on Finance and Industry, Qs. 5565 and 5600-23.

31 J.M.K. xxi, pp. i64-6, 293; Ursula Hicks, The Finance of British Government, I920-I936 (Oxford, I938), pp. 222f, 228.

32 Robert Skidelsky, Oswald Mosley (I975), p. I99.



authorities) and the Ministry of Labour. These memoranda represented the fruits of experience of men who had wrestled with the problems of government at first hand, and there is no hint in the White Paper that administrators paid much attention to the views of theoretical economists. It may be significant that the only academic authority cited in the White Paper was a work of economic history, W. Cunningham's Growth of English Industry and Commerce in Modern Times (I903).

Moreover, the Treasury was concerned with a range of policy issues. In particular, Hopkins placed maintenance of government credit, for which he had a major direct responsibility, higher in importance than the unemployment problem. When Keynes asked in the Macmillan Committee whether it would make any difference to the economic effect on unemployment if the money for public works were borrowed on Ways and Means, Hopkins replied that, "discussing it from the point of view of economics", he did not think that it would, but he thought that the adverse effects on government credit of raising money by "what is ordinarily called plain inflation" would be incalculable. Keynes agreed that borrowing on Ways and Means would not be "a reasonable thing to do".33 He understood that budget orthodoxy prepared the way for conversion of War Debt and tended to lower the long-term rate of interest. Indeed, in March I93i he wrote to the Prime Minister (MacDonald) to say that a crisis of confidence was "very near" and that the budget must be balanced. 34

Again, both the Treasury and the Liberals placed a high priority on the gold standard, with which they believed world economic confidence was bound up. Keynesian critics of the "Treasury view" have not always noticed that Lloyd George's plan to conquer unemployment in I929 called for maintenance of the gold standard and free trade, as well as advocating loan- financed public works.35 It has been pointed out by Sean Glynn and John Oxborrow that, even had the Treasury embraced Keynesian economics in I929-30, it would still have had to make painful decisions about sterling, the gold standard, and, possibly, about protection.36 After all, the economic policies of the second Labour Government can fairly be described as deflation- ary, despite unbalanced budgets,37 and the experience of I93i does not suggest that the gold standard could have survived a departure from financial orthodoxy.

Did the Treasury have a purely fatalistic attitude to economic policy? The fact seems to be that it was far more optimistic than Keynes was about the ability of private enterprise to overcome the depression. Even early in I930 Hopkins believed that the proper road to recovery lay in raising the efficiency of industry to enable it to compete on world markets, whereas the Liberal scheme was concerned solely with raising domestic demand. Hopkins thought that, in so far as the Liberal scheme involved an increase in the internal price level (which Keynes regarded as characteristic of any recovery when existing

33 Minutes of Evidence Taken Before the Committee on Finance and Industry, Qs. 5685-8. 34 Middleton, 'The Treasury in the I930s', p. 56. 35 We Can Conquer Unemployment, esp. pp. 7, 56f. 36 S. Glynn and J. Oxborrow, Interwar Britain, a Social and Economic History (I976), p. I33. 37 See Roger Middleton, 'The Constant Employment Budget Balance and British Budgetary Policy,

g929-39', Econ. Hist. Rev., 2nd ser. XXXIV (i98i), pp. 266-86.


I76 G. C. PEDEN

prices were below the cost of production), it would tend to increase the difficulties of the export trades, where unemployment was concentrated; and, given an open economy (to which, it must be emphasized, the Liberals were committed), would do little for iron and steel, because of foreign producers' greater efficiency. Hopkins saw the solution in "rationalization" of industry, for then prices need not rise above the I929 level, if firms, which were working at a loss at, say, 70 per cent of capacity, could find a means to work at I00 per cent capacity. He felt that increasing domestic demand would simply make firms less likely to face up to foreign competition-hence his dismissal of the Liberal scheme as likely to create "a singularly lopsided form of prosperity, and one which could not possibly be permanent".38 Industrial efficiency was seen by the Treasury, then as now, as a more fundamental problem than unemployment. It may, or may not, have contemporary rel- evance that Hopkins's hopes that somehow industry could become more competitive through deflation-induced rationalization seem to have been disap- pointed. Forrest Capie and Michael Collins have provided convincing confirma- tion of the view that much of the I932-7 recovery was cyclical, representing recovery from severe depression, and not an increase in the competitiveness of British industry.39

III By I930, however, doubts were already entering the minds of some Board

of Trade officials about whether the export trades would ever be able to re- absorb the unemployed, and Hopkins included these doubts in a report to the Chancellor in June of that year, a month after giving evidence to the Macmillan Committee.40 As high unemployment persisted during the I930S, and as by I935 British exports were still only 75 per cent by volume of their I929 level, it became harder to claim that increased industrial efficiency was a sufficient cure for unemployment, even if it was a necessary condition for increasing, or even maintaining, economic activity. In I935 Lloyd George once more took up the question of public works, financed by government borrowing, as a cure for unemployment (along with proposals for a back-to- the-land movement based on small-holdings), and public support for these proposals was sufficient to make ministers in the National Government feel that they ought to be seen to be doing something. Treasury officials still believed that public works as a remedy for unemployment were quite futile, in that they could provide only temporary employment, but Treasury officials also believed that an expansion of public borrowing would be useful for keeping up the impetus of economic recovery, and favoured encouraging local authorities to raise loans for public works.41

In I937 the Treasury accepted, in a limited way, Keynes's idea of using 38 P.R.O. TI75/46: Hopkins's draft notes on 'Gold Standard and Rationalization' and 'The Liberal

Plan'; Minutes of Evidence Taken Before the Committee on Finance and Industry, Qs. 5565, 5632 and 5690. 39 F. Capie and M. Collins, 'The Extent of British Economic Recovery in the I930s', Economy and

History, xxiii (ig80), pp. 40-60. 40 Skidelsky, Mosley, pp. 2I8-20. 41 Howson and Winch, Economic Advisory Council, pp. I3of; G. C Peden, 'Keynes, the Treasury and

Unemployment in the Later Nineteen-thirties', Oxford Economic Papers, new ser. XXXII (ig80), pp. 4f.



public works expenditure to offset changes in the trade cycle, but the counter- cyclical public works contemplated in I937 were not intended to raise the average level of such expenditure over the level of that year (when the official rate of unemployment was, as in I929, between I0 and I I per cent), and were far more modest in their aim than the Liberals' reflationary ideas of I929. Lloyd George, after all, had then claimed that his programme of loan-financed public works could reduce unemployment by up to half. Keynes's ideas of I937, however, were aimed not at reducing unemployment below io per cent of the insured labour force, but rather at mitigating the next slump. In February I937 the Economic Advisory Council's Committee on Economic Information, which included Sir Frederick Phillips, an under-secretary serv- ing under Hopkins, as well as economists, anticipated a downturn in home investment as demand for housing was satisfied, and as expenditure on industrial equipment induced by recovery from the depression, and by rearmament, came to an end. The Committee adopted Keynes's view that at the stage of the trade cycle reached in early I937 an attempt to increase investment outside the special areas of high unemployment would raise profits rather than employment, and that public investment in roads, housing and telephones should be postponed, except in the special areas of high unemployment, and held in reserve for when the total amount of investment activity fell.42 Hopkins commented that while the practical difficulties of slowing down public capital expenditure would not be very great, the political difficulties would certainly be substantial.43 This remark reflected the particular difficulty of slowing down local authority expenditure, a problem not unknown in more recent times.

An Interdepartmental Committee on Public Capital Expenditure under Phillips's chairmanship examined the question, and reported to ministers that "it might be possible" to reduce by ?20 million the "normal" annual capital expenditure of ?250 million controlled by the state (including that carried out by local authorities). In a depression the work so postponed, plus new schemes prepared in advance, might make it possible to increase public capital expenditure by ?30 million above "normal". Thus the difference between a year of maximum reduction and a year of maximum acceleration was ?5o million, with the transition between these stages being at least a year while new projects got under way. Howson and Winch stress the "real value" which Phillips placed on having a reserve of public works, but they do not point out that Phillips's figures fell far short of the Liberal scheme of I929 for additional public capital expenditure of ?25 I million over two years, or that the Chancel- lor of the Exchequer was advised to tell his Cabinet colleagues that "skilful timing" of capital expenditure alone, while "not unimportant", could not solve the problem of stabilizing employment. Phillips's report, in fact, made plain that the Treasury had not moved far from its attitude in I929-30. The report argued that any programme which forced government to borrow repeatedly in the market "might give rise to serious apprehension as to the state of the national finances". This would make it difficult for the Bank "to produce that lowering of the rate of interest which must always remain

42 Howson and Winch, Economic Advisory Council, PP. 343-53; J.M.K. XXI, PP. 383-95. 43 P.R.O. TI77/38: Hopkins to Warren Fisher (the Treasury's Permanent Secretary), I3 March I937.


I78 G. C. PEDEN

the principal weapon in the hands of the authorities during times of trade depression." To rely principally on a works programme in a depression would, according to Phillips, "in effect, be gambling on the chance that a demand for economy would not arise", although previous experience suggested the contrary. It would be impossible, he thought, for government to resist such a demand if it arose, and to abandon a works programme in a depression would retard recovery." It is plain, therefore, that although Phillips is identified by Howson and Winch as one of the Treasury officials most open to Keynes's ideas,45 he placed more importance on political calculations than on economic theory.

The same was true of Phillips's arguments in favour of public works. In I938 Phillips observed to Hopkins that in the next depression-which might be in I94i-the pressure for extended road works could be expected to be "irresistible", not because roads were a good form of unemployment measure but because the supply of other unemployment relief works would be too small. The position of the budget would be such that the roads would have to be financed by borrowing, whatever the notional economic return.46

In addition to domestic public opinion, international opinion and Britain's place in the world economy had to be taken into account in formulating employment policy. Experience of the World Economic Conference in I933 did not suggest that international co-operation would be forthcoming for loan- financed unemployment programmes to be begun simultaneously in different countries, to relieve each country's fears for its foreign balance, along the lines suggested before the conference by Keynes in The Means to Prosperity.47 Abandonment of the gold standard in September I93I might have been expected to relieve some of the Treasury's concern about the foreign balance, if, as Keynes suggested in the General Theory, equilibrium with the rest of the world could be secured by means of fluctuating exchange rates,48 but in practice it proved difficult for the British monetary authorities to manage the "floating pound" as they desired. Sometimes speculative pressures threatened to drive the pound down too low; more often speculative pressures drove sterling higher than the British monetary authorities wished. Even had it been possible to keep sterling down through the operations of the Exchange Equalization Account, the U.S. Treasury made plain that it would not allow British industrialists to be given a competitive advantage through sterling depreciation, and would have been prepared to achieve the exchange rate it desired by deliberate depreciation of the dollar, as in I933.49 Significantly, in

44 Howson and Winch, Economic Advisory Council, PP. I4If, I47; P.R.O. Cabinet Office Papers, series 27, vol. 640: Interdepartmental Committee on Public Capital Expenditure, Report, I3 Aug. I937, and memorandum by the Chancellor, 20 Jan. I938.

45 Howson and Winch, Economic Advisory Council, pp. I43, I45, I49-5 . 46 P.R.O. TI77/42: Phillips to Hopkins, 25 June I938. 47J7.M.K. IX, P. 356. 48J7.M.K. VII, P. 270. 49 'The Sterling Situation', I June I935; 'Devaluation of the Franc', 22 May I936, and 'Agenda for

Conference on the Sterling Situation', 29 Nov. I938, Reading files of Harry Dexter White, General Records of the Treasury, Record Group 56, National Archives, Washington. For this aspect of economic policy see Ian M. Drummond, The Floating Pound and the Sterling Area, i93i-39 (Cambridge, i98i) and Susan Howson, Sterling's Managed Float: The Operation of the Exchange Equalisation Account, I932-39 (Princeton, i980). I am grateful to the S.S.R.C. for funding my research in America.



I937 Keynes himself urged that steps be taken to increase exports as a response to the worsening trade balance brought about by rearmament; and, as foreign confidence in sterling wavered in I938, he described the balance of payments as "the key to the whole position" brought about by this particular form of loan-financed expenditure.

The possible repercussions on foreign financial opinion, and therefore on the exchange rate, thus continued to be a constraint on the adoption of new economic ideas. As Hopkins observed in I932, projects which British economists might accept as at least matters for serious consideration were regarded abroad as heresies, and care had to be taken in case a belief that the Treasury supported "debatable doctrines" should precipitate foreign withdrawals.51 On the other hand, domestic political pressure for some kind of employment policy meant that by I937 the Treasury was anticipating extra work for its home finance division because of what Phillips called "the whole range of ideas connected with the control of capital expenditure and investment". It was also realized that the Treasury had to keep up with the latest economic ideas, this task being the particular responsibility of Hawtrey, since, if the Treasury could not provide expert economic advice, ministers "would come to rely on unofficial advice from divers quarters".52

There was, however, a political dimension throughout the interwar period which made it likely that the Treasury would be prejudiced against schemes of loan-financed public expenditure. Experience during the First World War had shown that when Treasury control was relaxed, and when ministers could press ahead with schemes without having to risk electoral unpopularity by raising taxes, extravagant habits developed in government departments. Consequently, in i919 the Cabinet had strengthened Treasury control over Whitehall, making the Permanent Secretary of the Treasury head of the Civil Service in the expectation that economies in public expenditure would result.53 Nevertheless, despite the Geddes "axe" of I92I-2, public expenditure on social and economic development was perceived, not inaccurately, to be on a rising trend in the I920S, as political parties courted electoral popularity, and governments sought to avoid social unrest. As the May Committee pointed out, one government could embark on schemes which, because of contractual or moral obligations, for all practical purposes committed future governments to continuing expenditure.54 The demand for balanced budgets, both outside and within the Treasury, was a product of the belief that only by confronting advocates of new expenditure with the need to raise the money out of taxes could there be a check on inflation. Middleton has shown that, at least by the I930s, Treasury officials did not believe that loan-financed central government expenditure led immediately to inflation for economic reasons; rather they

50 G. C. Peden, 'Keynes, the Economics of Rearmament, and Appeasement', in Wolfgang Mommsen and Lothar Kettenacker, eds. The Fascist Challenge and the Policy of Appeasement (i983).

51 P.R.O. TI75/57: 'The Present Position of the Pound', I2 Jan. I932. 52 P.R.O. Ti99/50c: Treasury Organization Committee, minutes, 9 March I937. 53 See Kathleen Burk, 'The Treasury: From Impotence to Power' in her War and the State: The

Transformation of British Government, I9I4-I9I9 (i982). 54 Committee on National Expenditure, Report, (P.P. I930-I, xvi), esp. pp. I2-I4, I44-7, 274f. For a

more impartial analysis see Alan Peacock and Jack Wiseman, The Growth of Public Expenditure in the United Kingdom (i967), esp. pp. 84f.


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believed that, once the principle that such expenditure should produce a monetary yield to pay off both the capital and the interest on the loan had been abandoned, it would be impossible politically to stop a rising tide of expenditure.55 The policy-goal of returning to the gold standard in the I920S can similarly be seen as an automatic check on government expenditure, as well as a means of restoring world trade by stabilizing exchange rates. The policy involved a cessation of central government borrowing for unproductive purposes, a reduction in the National, especially the floating, Debt, a legal limit to the issue of fiduciary notes and a restoration to the Bank of England of the management of interest rates (which had been managed by the Treasury during the war). This was a programme for placing the nation's money supply outside the political arena, subject to supposedly automatic "economic" forces. 56

IV The evidence reviewed above suggests that writers who have assumed that

the "Treasury view" arose out of intellectual attachment to an outworn economic theory about the supply of money, or capital, being fixed and fully employed, have overstated the importance of theory in Treasury thinking. It is understandable that academics who have been trained only in economics should tend to emphasize the importance of economic theory in studies of public policy, but Treasury officials, who have to control public expenditure as well as deal with monetary variables, were, and are, bound to have a different perspective. Balanced historical research suggests that Treasury doctrine in the I920s arose from an intention that the money supply should not be varied according to political discretion, and by I929, if not earlier, the Treasury accepted that the nation's fund of capital might not be fully employed. The Treasury saw the lowering of interest rates as the principal weapon for dealing with a depression, both in the I920s and the I930s. This did not mean that Treasury officials' ideas were fixed, but the main shift in their position by I937-that of admitting that public works could have a limited counter-cyclical role-was not incompatible with the theory outlined by Hawtrey in I925, once Bank Rate was at 2 per cent.

On the whole, economic historians have been harshly critical of Treasury scepticism about the efficacy of loan-financed public works in employment policy. Stephen Constantine, for example, thought those who refused to adopt large-scale public works programmes were guilty of "timidity".57 However, recent econometric work, using Keynes's assumptions, has suggested that Lloyd George could not have made good his claims to reduce unemployment to pre-I9i4 levels, partly because the multiplier effect of loan-financed public works which he advocated would have been less than has been commonly assumed hitherto, and partly because the scale of a Keynesian solution required to solve unemployment in the early I930S would have created balance

55 Middleton, 'The Treasury in the I930s', pp. 50, 56-62. 56 First Interim Report of the Committee on Currency and Foreign Exchanges After the War, (PP. i9i8, vii),

para. 47. 57 S. Constantine, Unemployment in Britain between the Wars (i980), pp. 78, 8o.


THE TREASURY VIEW i8i of payments problems.58 To be fair to Keynes, he never suggested that public works alone would be able to offset the unemployment brought about by the unprecedented decline in Britain's foreign balance after I929; he merely claimed that public works would reduce the scale of that problem.59 Proving that Keynes had only a partial solution does not prove that the Treasury was right to reject it, but it does suggest that the Treasury made a less "culpable omission" than Youngson supposed when it left the multiplier out of account in its estimates of the effects of the Liberal programme in I929.

Moreover, it would seem that the assumption that Keynes had the answer to unemployment-an assumption which began to change only in the I970S60-is open to a different kind of criticism. Economic historians supporting Keynes's ideas have rarely troubled to specify the complete range of new central government controls which would have been necessary to control investment. Nor has there been sufficient questioning of Keynes's belief that loan-financed public works could be brought forward in a depression, and also held back at the upper stages of trade cycles. Post-war experience of how government departments and local authorities (and their employees and clients) have become powerful interest groups, with vested interests in increasing public expenditure in good times as well as bad, does not suggest that the brakes can easily be applied.61 Treasury officials in the interwar period had long experience of the self-generating character of public expenditure; hence their desire for financial discipline.

Experience of public finance, and in particular the experience of the inflationary years from I9I4 to I920, would also seem to provide an explanation of why the Treasury in the I920S adopted the gold standard, a quantity theory of money, and a belief that public works might crowd out private investment. Prolonged experience of chronic unemployment subsequently made them open to the theory which Keynes was formulating in the I930s, as Howson and Winch have shown. Perhaps future researchers in the Treasury records will detect a similar cycle of theory following the experience of inflation and unemployment in the I970S and i980s. University of Bristol

58 T. Thomas, 'Aggregate demand in the United Kingdom, i9i8-45', in Floud and McCloskey, Economic History of Britain, II, pp. 332-46. See also S. Glynn and P. G. A. Howells, 'Unemployment in the I930s: The "Keynesian Solution" Reconsidered', Australian Economic History Review, XX (ig80), pp. 28-45. Thomas reckons the multiplier to have been unity in the short run, and I 5 in the long run, whereas in William Beveridge's widely used Full Employment in a Free Society (i944) the multiplier was taken as approximately two, with no allowance for lags.

59 Moreover, in I933 he was prepared to accept that the multiplier might be as low as I3: J.M.K. xxi, pp. I7I-8.

60 For examples in standard works of economic history or economics of the assumption that Keynes had the answer to unemployment see Derek Aldcroft, The Inter-war Economy: Britain, I9I9-39 (I970), pp. 3I4- 22, and Michael Stewart, Keynes and After (I972). Robert Skidelsky, Politicians and the Slump (i967), pp. x-xiv, 387f, argued that the fact that Keynesian theory was not fully developed in I929 was not a decisive barrier to "what might loosely be termed Keynesian economics". In contrast, Ross McKibbin, 'The Economic Policy of the Second Labour Government, I929-31', Past and Present, 68 (I975), pp. 95-I23, argued that no developed multiplier theory existed in I929, and that comprehensive means of economic management by the state have yet to be developed despite subsequent developments in economic theory.

61 See Joel Barnett, Inside the Treasury (i982) and Leo Pliatzky, Getting and Spending: Public Expenditure, Employment and Inflation (Oxford, i982).


Article Contentsp. 167p. 168p. 169p. 170p. 171p. 172p. 173p. 174p. 175p. 176p. 177p. 178p. 179p. 180p. 181

Issue Table of ContentsEconomic History Review, Vol. 37, No. 2 (May, 1984), pp. i-vi+167-317Front Matter [pp. i-vi]Editorial [p. v]Surveys and SpeculationsThe "Treasury View" on Public Works and Employment in the Interwar Period [pp. 167-181]

Irish Population in the Pre-Famine Period: Evidence from County Antrim [pp. 182-196]The Successful Prosecution of the Factory Acts, 1833-55 [pp. 197-210]Limits of Leverage: The Anglo-Danish Trade Agreement of 1933 [pp. 211-228]Resolving the Paradox of the Monnet Plan: National and International Planning in French Reconstruction [pp. 229-243]CommentsAgricultural Productivity in Eighteenth-Century England: Some Further Speculations [pp. 244-251]Agricultural Productivity in Eighteenth-Century England: Further Strains of Speculation [pp. 252-257]A "Keynesian Revolution" in Economic Policy-Making? [pp. 258-262]Defining a "Keynesian Revolution" [pp. 263-267]

Essays in Bibliography and CriticismBalkan Economic Development [pp. 268-273]

ReviewsGreat BritainReview: untitled [p. 274]Review: untitled [p. 275]Review: untitled [pp. 275-276]Review: untitled [pp. 276-277]Review: untitled [pp. 277-278]Review: untitled [p. 278]Review: untitled [p. 279]Review: untitled [p. 280]Review: untitled [pp. 280-282]Review: untitled [pp. 282-283]Review: untitled [pp. 283-284]Review: untitled [pp. 284-285]Review: untitled [pp. 285-286]Review: untitled [p. 286]Review: untitled [pp. 286-287]Review: untitled [pp. 287-288]Review: untitled [pp. 288-289]Review: untitled [p. 289]Review: untitled [p. 290]Review: untitled [p. 291]Review: untitled [pp. 291-293]Review: untitled [pp. 293-294]

GeneralReview: untitled [pp. 294-295]Review: untitled [pp. 295-296]Review: untitled [pp. 296-297]Review: untitled [pp. 297-298]Review: untitled [pp. 298-299]Review: untitled [pp. 299-300]Review: untitled [pp. 300-301]Review: untitled [pp. 301-302]Review: untitled [pp. 302-303]Review: untitled [p. 303]Review: untitled [p. 304]Review: untitled [pp. 304-305]Review: untitled [pp. 305-306]Review: untitled [pp. 306-307]Review: untitled [pp. 307-308]Review: untitled [pp. 308-309]Review: untitled [pp. 309-310]Review: untitled [p. 311]Review: untitled [pp. 311-313]Review: untitled [pp. 313-314]Review: untitled [pp. 314-315]Review: untitled [p. 315]Review: untitled [p. 316]Review: untitled [pp. 316-317]

Back Matter

Peden - The Treasury View on Public Works and Employment in the Interwar Period

Documents

Transcript of Peden - The Treasury View on Public Works and Employment in the Interwar Period