Severe economic downturn could bring 1930s-style reform

WASHINGTON -- High-profile companies go bust. Business leaders fall into disrepute. The stock market crumbles. Finally, the political system convulses, rewriting the rules the corporate world must follow.

All that happened to the U.S. in the early 1930s, when a shattered economy, a devastated stock market and revulsion toward the business class produced sweeping changes in the way business and finance were conducted.

Now America faces the possibility of a similar wave of reform, if the economy sours and the political winds shift. Today's economic woes hardly rival those of the 1930s, and Congress's rush to clamp down on corporate misconduct is mild compared with the legislative earthquake that shook the business world then. But the country is beginning to reappraise the celebration of free-market forces that marked the 1990s. And early political tremors of public opinion hint at greater fallout to come.

A new Wall Street Journal/NBC News poll shows that, for the first time since George W. Bush took office, a plurality of Americans -- 42 percent -- believe the country is headed in the wrong direction. Fully 70 percent don't trust the word of brokers and corporations. One-third say they have "hardly any confidence" in big-company executives -- the highest proportion in more than three decades. Confidence in Congress is plummeting, too. Just 34 percent approve of lawmakers' performance, down from 54 percent in January.

Political momentum to restrain government regulation is waning. As they await the government's response to a wave of business scandals, six in 10 Americans say they are worried regulators won't go far enough.

AFL-CIO President John Sweeney calls this the best chance in years "to fundamentally change the way corporate America works." And free-market apostles, ascendant since Ronald Reagan's presidency, fear that even a Republican White House may join a populist stampede. If that happens, "they're going to have a depression on their hands," warns author George Gilder, whose 1981 book, "Wealth and Poverty," is still popular with many conservatives. "If Bush becomes part of the echo chamber, he's going to destroy his party."

The 2002 market meltdown could turn into a historic turning point in American politics and regulation if two significant changes occur.

First, the current crisis of confidence in business and markets would have to turn into a broader economic decline. When Franklin Roosevelt embarked on the New Deal, one in four Americans was out of work, four times today's unemployment rate. The spread of stock ownership means Main Street is feeling Wall Street's pain, but so far, that pain has produced public anger -- not desperation.

Second, the economic shock would have to realign the nation's even balance of political power to give politicians the clear mandate for change that President Roosevelt and his Democratic Party felt. That hasn't happened yet, the new poll shows. Mr. Bush continues to enjoy a robust 67 percent approval rating, and his party is still holding its own in the battle for control of Congress in the November elections. Some 36 percent of Americans say they plan to vote Democrat for the House, while 34 percent plan to vote Republican. That is only a slight change since January, favoring the Democrats.

But sweeping political change doesn't come overnight, as the 1920s and 1930s show. The country knew it was in deep trouble after the stock market crashed in 1929. The Democratic Party gained 53 seats in the House elections in 1930, but Republicans narrowly retained control of the chamber. The GOP also maintained a one-seat edge in the Senate, while Republican President Herbert Hoover looked ahead to the last two years of his White House term.

The political tidal wave didn't hit until 1932, three years after the start of the economic shock. Republicans lost 101 more seats in the House, which as a result, tilted toward the Democrats by a 313-117 margin. The GOP also lost 12 more Senate seats and became a distinct minority there, too. FDR completed the Democratic sweep with his 1932 landslide.

That new political alignment produced, in rapid order, the Securities and Exchange Commission, the Glass-Steagall Act separating the banking and investment businesses, the Utility Holding Company Act restricting the centralization of utility control, and reform of the Federal Reserve. It was the most sweeping change ever in the way America does business, and it created the regulatory framework that still governs business today.

It's that framework that lawmakers are now adjusting in the accounting-reform bill before Congress. "Our crisis isn't of the same dimension" as in the 1930s, says Sen. Jon Corzine, a former co-chairman of Goldman Sachs. But the accounting-reform bill likely to pass Congress next month is "probably as important a piece of legislation for America and the regulatory structure as any since then," adds the New Jersey Democrat. It plugs what he considers the most significant hole left in the 1930s legislation by establishing clear standards and oversight for the accounting industry.

Along with tougher enforcement of existing laws, that step may satisfy for now the public's desire for action. By a 63 percent-33 percent margin, Americans say the president and Congress should focus on prosecuting corporate wrongdoers rather than passing new laws.

But lawmakers may not stop there. Next on the agenda for debate: overhauling pension laws to improve protections for workers. Falling down the priority list, meanwhile, are earlier White House priorities such as partial privatization of Social Security, for which support has fallen along with the sliding Dow Jones Industrial Average.

"We're entering the sort of adjustment in the business-political relationship that comes with a major market downturn," says Kevin Phillips, a scholar of that relationship and author of a new book on the history of American wealth. Whether that adjustment turns into wholesale re-engineering remains an open question.

The first test comes in November, when control of Congress will be decided. Democrats hope to hold their 50-49 edge in the Senate and take control of the House from Republicans by gaining six seats there. If the Democrats succeed, they will be in position to challenge Mr. Bush for control of the economic agenda and set the terms of debate for the 2004 presidential contest.

A Democratic takeover would produce a dramatically different approach, in tone and substance, to the relationship between government and business. The new chairman of the House Energy and Commerce Committee would likely be Rep. John Dingell of Michigan, who supports a national health-insurance program. He is currently campaigning as a staunch foe of corporate misbehavior. The new chairman of the House Financial Services Committee would be Rep. Barney Frank of Massachusetts, who backs reregulation of the cable-television industry. The new chairman of the House Ways and Means Committee would be Rep. Charles Rangel of New York, who has proposed amending the U.S. Constitution to guarantee every American "a right to a home."

For the first time since the early days of Bill Clinton's presidency, activists on the political left say they are on the verge of converting public discontent into vigorous support for activist government. "The disgrace of corporate capitalism is an opportunity to dethrone the role of the market generally," Robert Kuttner writes in the current issue of the liberal American Prospect magazine.

Conservatives who rose to political and intellectual dominance when Mr. Reagan replaced Jimmy Carter say that is precisely the wrong prescription. What the U.S. economy needs, insists Mr. Gilder, is less regulation rather than more, especially in the troubled telecommunications sector. But eroding confidence in American business has, at least temporarily, made that a losing argument.

As a result, says independent Rep. Bernie Sanders of Vermont, the only Democratic Socialist in Congress, the political equation on issues such as trade expansion, the environment and health care has been altered. "People's faith in the ruling class in this country has been shattered," he declares.

Or at least shaken. The Journal/NBC poll shows that 71 percent of Americans believe that profit-hungry businesses cut corners on service and overcharge customers. Amid the economic boom two years ago, a plurality said businesses treat consumers fairly. Six in 10 call corporate wrongdoing "a widespread problem" in "a system that is failing." By a 49 percent-40 percent margin, Americans say the stock market is "no longer a fair and open way to invest one's money."

That unease runs deep enough to extend to Republican lawmakers who themselves have come from the business world. "There's no question that a (business) culture developed, probably over a 20-year period, that was very unhealthy," says GOP Sen. Chuck Hagel of Nebraska, a former telecommunications entrepreneur. "That culture was, `If it's not illegal, it's probably OK.' "

Even so, Mr. Hagel, a potential GOP presidential candidate in 2008, thinks the combination of congressional reform of corporate governance and self-regulation by financial markets can restore public confidence before the fallout becomes too great. "The American people will be conditioned for a generation from what we've learned," he predicts -- but not inclined to turn the economy or politics upside down.

Some believe the proliferation of stock ownership that has spread the pain of the current downturn could also act as a buffer against overreaction to revelations of business misconduct. "In earlier periods of American history, it would have been a much bigger deal," notes Walter Dean Burnham, a scholar of political realignments at the University of Texas. Without far more provocation, the U.S. middle class today is literally too invested in the economic system to support its upheaval.

Mr. Phillips notes an additional "X factor" that didn't exist in President Hoover's day: the power of the Fed. Before Depression-era reforms, the Federal Reserve had only limited ability to modulate economic and market swings -- and, indirectly, the political reaction to them. Now, he observes, the Fed has the power to smooth out bumps by making interest-rate cuts. The Fed hasn't cut rates in months, but it still has a bit more maneuvering room to do so if the stock market's slide pulls the economy down with it.

The current market crisis could turn into a much broader economic and political problem, says Sen. Corzine, if the "reverse wealth effect" of declining market investments begins to seriously contract consumer spending. "I don't think we're over the edge," he adds, "but we're on the precipice."

ACCOUNTANTS

EXECUTIVES

* Force CEOs to give up gains from stock options, bonuses based on false reporting

* Make easier criminal prosecution of executives who destroy evidence or defraud investors, and lengthen maximum jail terms

* Require executives to disclose stock sales within two days. Ban personal loans to top executives of public companies

CORPORATE BOARDS

* Make mandatory that audit committee approves auditors, auditor-consulting contracts, 401(k) plans

RETIREMENT ACCOUNTS

* Allow workers to diversify 401(k) plans away from company stock holdings after being at a firm for three years

WALL STREET

FIrst, you completely miss the "vicinities" effects. I don't care what the ACTUAL trade numbers were, trade affects everything. If prices on, say, zinc, went up dramatically, even if we only import .05 percent of our trade in zinc, it would DRAMATICALLY cause ALL auto and computer and other costs to rise.

Amazing that you would cite Heinz, whose Harvard degree is no better than Bush's, but disregard established economists who have actually done research in the field. And NO, you can't get what you "need to know" from a "google" search. That is purely moronic.

And no, it doesn't matter WHEN the final vote was, the Hawley Smoot deal was "done" the day before the crash. Obviously you have memory loss, or you would know that the CLINTON impeachment was "done" the day it was voted out of the judiciary, because you don't vote those things OUT unless they are going to pass. Likewise, the impeachment was DEAD the minute the Senate adopted its "rules." But guess what? The final "vote" wasn't for weeks.

But hey, live in your dream world. There aren't a handful of economists alive today who don't think that HS was a MAJOR contributor to the Great Depression, but even without it, your stupid argument is childish: every piece of evidence we have shows that FDR's abominable New Deal policies EXTENDED and DEEPENED the Depression. There is plenty of research on Glass Steagall (terrible); Minimum Wage Laws (drove millions out of work, right in the pit of the depression); FDR's hideous tax laws that ensured there would be no recovery; his pathetic spending programs, building opera houses when Americans couldn't even afford to go to movies.

The Dems and FDR in particular engaged in a war against the middle class and the poor, and framed it in rhetoric of hatred of the rich. But Hawley Smoot and the Fed started it all, so I can't blame him for that. (Notice, by the way, the EUROPEANS' response to HS was to enact barriers, so no more overseas trade.)

Complete utter nonsense that ingores one of the most fundamental principles of market economics: price is determined by supply and demand in the marketplace. More often than not, a minor increase in the cost of one of many raw materials utilized is merely absorbed by the producer. It certainly isn't amplified to reverberate throughout the economy, that's absurd.

Amazing that you would cite Heinz, whose Harvard degree is no better than Bush's,

Actually, Heinz received his Harvad MBA in 1963, prior to the ascendency of liberalism in our nation's universities during the Vietnam War era of the late '60s and early '70s. Dubya received his Harvard MBA in 1975, when the corrupting liberal influence in academia was already established. Heinz's Harvad MBA IS more credible than Dubya's.

No it is not utter nonsense and it is PERFECT market economics, unlike your leftist protectionist gobbledygook. When you artificially raise prices of raw materials, which is what Hawley Smoot did, it not only affects all those things in the IMMEDIATE vicinity---cars built with tin that has a tariff slapped on it, for example---but it has spillover effects that are WELL documented. Fewer trucks haul cars, because fewer cars are made; the trucking industry dips; layoffs there cause electronics sales to fall; and so on. But of course, you really KNOW this and are just being argumentative because your STUPID TARIFF was a damnable disaster, and everybody except that idiot Heinz knows it (he's dead, so I guess he's beyond being informed.)

The market takes a dip and Republicans pile on corporate America right with the Democrats.

Put a CEO in jail, tighten SEC regulations, raise the penalty for securities fraud and, while we're at it, can't we do something about those exorbitant executive compensation packages?

If this downturn develops into something resembling the Great Depression, it will be due to capital fleeing the country in fear for its life.

And the blame must be placed squarely on the shoulders of those who know but choose to play the populist game in a misguided appeal for votes.

I'm referring to Republicans, since Democrats as a species plain don't understand business or economics or finance except as it relates to creative accounting methods such as used in making the Social Security Trust Fund "solvent" and cooking the books for companies they like.

And speaking of book-cooking, Paul Craig Roberts is about the only columnist who has not joined the lynch mob. He instead suggests that it's the change in SEC reporting rules -- as opposed to accounting principles, which once were the standard -- that's lead to the current troubles.

See his Rules no substitute for character to balance the current article with.

No, it doesn't work like that. We have several studies of tariffs in the 19th century, and the upshot is that the revenue they DID bring in would have been MORE than offset by the greater revenue generated by more competitive companies without protection. Second, that "revenue" is really a tax on some Americans for others, yet it is completely unfair because it is solely based on region.

I'm not a neo-confederate, but there is no question that the North was able to vote higher tariffs on items purchased by the South in order to save northern jobs. That is wrong. We should all pay the same LOW tax.

But MOST destructively, it gets government in the job of picking winners and losers, and it ALWAYS is inefficient at this. Look at Japan in the 1980s: in every single industry where Japan took the lead from us, it created more competitors, not fewer. In every major industry where MITI used tariffs to keep out competition, the Japanese still trail us. Japan's farmers are terrible, despite tariff barriers. Even with tariffs, her auto industry doesn't have the world market share ours does, and Japan tried to keep OUT one of the biggest competitors in the world, Honda. No this is NOT an argument for tariffs. They are bad policy.

We have several studies of tariffs in the 19th century, and the upshot is that the revenue they DID bring in would have been MORE than offset by the greater revenue generated by more competitive companies without protection. Second, that "revenue" is really a tax on some Americans for others, yet it is completely unfair because it is solely based on region.

Listen Mr. Clueless, ALL taxes imposed by the federal government are paid by Americans. And of the wide variety of taxation methods available, the Founding Fathers considered tariffs to be the least intrusive. That's because tariffs only applied to those who wished to remain economicly dependent on foreign goods. The vast majority of Americans were thus free to enjoy the blessings of liberty, independence and the fruits of their own labor and ingenuity in a totally TAX FREE environment: NO federal INCOME TAX, NO federal DEATH TAX, NO federal SALES TAX... etc. etc. etc. In fact, the nation's first attempt to legitimately impose an Excise Tax was met with open rebellion by freedom loving patriots (The Whiskey Rebellion).

In comparison to tariffs, ALL other methods of taxation are more oppressive of Americans' freedom and independence to enjoy the blessings of their own resourcefulness, ingenuity, hard work, creativity, industriousness and bountiful resources.

but there is no question that the North was able to vote higher tariffs on items purchased by the South in order to save northern jobs. That is wrong. We should all pay the same LOW tax.

Agreed. From the outset, wheedling special interests sought to distort the tax code for their own advantage. The resultant "targeted tariffs" were ideed "unfair". The same distortive forces exist today in excise "sin taxes" (alcohol, tobacco) and the convoluted "loopholes" or "incentives" of the incomprehensible Income Tax code.
Frankly, however, you must be unaware of the merits of a true "Revenue Tariff". Unlike "targeted tariffs", which only apply to certain items at different rates (determined by corruptive special interests in Congress), a "revenue tariff" is a uniform flat rate applied to ALL imported goods (regarless of the corrupt influence of special interests).

Over the last 140 years, our great nation has become much more economicly homogeneous. We no longer have the stark contrast between an "industrial North" and "agricultural South". A true revenue tariff would be spread much more equitably throughout our nation. And the revenues derived would permit the lowering of the more onerous forums of taxation: excise and income taxes. Americans would become more free to enjoy the fruits of their own endeavors and self-sufficiency.

A TARIFF is artificially changing prices and is NOT supply and demand. That is basic economics, which you don't get. Any time a government artificially raises a price, the market has gone out the window, and so has the real price of anything.

What you don't "get" is that ALL forms of taxation have economic implications.

Tariffs are the least intrusive.

And a true revenue tariff (as explained previously) would enable the lowering of more opressive forms of taxation.

I agree all forms of taxation have economic implications. I strongly disagree that a tariff is the least intrusive. It appears so only because the APPARENT burden falls on the consumer. But the real burden falls on producers/comepetitors who will either be made unproductive by this or who gain unfair market advantage by fiat of government. A flat tax is the most unobtrusive of all. Very simple. You earn, you pay 10% or 15%. End of story.

Equally important, tariffs are hugely political---as I mentioned before---because they reward SOME businesses and punish some consumers, which means that the states with the clout will always dominate those with fewer votes.

There is no such thing as a "true revenue tariff." ANY good or service produced outside the country that is subject to taxation 1) will be imported around the law; and 2) will have bad impacts inside this country.

Your touting of Hamilton's original tariff is pretty weak. Hamilton from the get-go did not want a "revenue" tariff but a TARGETED tariff for "protection." However, the more evidence we have about that, the more we find that these industries would have survived without the protection. But it appears that is not what you are arguing.

However, as to the notion that "revenue" tariffs served the nation well, there are two things to keep in mind. First, LAND SALES, not tariffs, were the major source of revenues for the young country. Second, the size of government was so small that the combination of land sales and tariffs generated needed revenue. However, the first time the country got in any kind of war, the tariff revenues dried up, because Britain was no longer trading with us, and more important, we found that tariff revenues NEVER came close to supplying the money needed in emergencies.

But the real burden falls on producers/comepetitors who will either be made unproductive by this or who gain unfair market advantage by fiat of government.

Correction: on foreign producers/competitors who are not subject to the same set of laws, regulations and taxes imposed on our domestic producers/competitors.

I see no reason to extend priveleged access to the "free market" defined by the sovereign jurisdictional boundaries of our Constitution to entities not bound by that Constitution. So long as the federal government imposes restrictions through taxation/regulation on America's ability to fully utilize and enjoy its own resources, tariffs remain the least intrusive form of generating federal revenue.

First, LAND SALES, not tariffs, were the major source of revenues for the young country.

Land sales merely represent the divestiture of assets.
They are not a sustainable source of revenue over the long term.
Sooner or later, you run out of assets (land) to sell.

Second, the size of government was so small that the combination of land sales and tariffs generated needed revenue. However, the first time the country got in any kind of war, the tariff revenues dried up, because Britain was no longer trading with us, and more important, we found that tariff revenues NEVER came close to supplying the money needed in emergencies.

Well, that "problem" certainly doesn't exist anymore.
We now have a bloated government that needs to be reduced in scope.

And we participate in a "global" economy, dependent on imports that virtually guarantee that tariff revenues will never "dry-up".

Care must be taken that a revenue tariff is not set so high that revenues begin to decline with imports. But at lower tariff rates, revenues DO increase with an increase in rate. It is a nonlinear function, with an optimal peak where revenues are maximized. This is where a revenue tariff should be established, allowing for reduction of other, more onerous forms of domestic taxation.

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JOHN HARWOOD

The Wall Street Journal

ACCOUNTANTS

EXECUTIVES

CORPORATE BOARDS

RETIREMENT ACCOUNTS

WALL STREET