Drastic Measures by Hugh Rockoff

This History of Wage and Price Controls in the United States seems as balanced as possible given that it was written by an economist.

At their best, price controls together with monetary tightening can avoid a one-time increase in prices due to a supply-side change, eg. war-time mobilizations. In a war, we want businesses to stop their normal works and reposition towards military support. Monetary tightening helps this by incenting people to increase saving (buy war bonds!) and reduce expenditures.

In a pandemic, we want a) businesses to remain as open as safely possible (e-deliveries, etc.), and b) consumers to minimize their re-allocations (from services to durable goods, from consumption to saving, etc.). Monetary tightening is the exact opposite of what is required (the Fed has been expanding the money supply since the beginning of the pandemic's impact on the economy), and so price controls would lose much of their effectiveness while retaining their negative impacts.

There are two ways to raise the price of a candy bar, to take an example from World War II: either raise the price of the bar, or reduce its size or use inferior materials. In either case, the amount of money the consumer must pay for a standard amount of candy will go up. Under controls there is a tendency for increases to take the second, hidden form. These examples convey some sense of the enormous possibilities for evasion, and in the narratives to come these examples will be multiplied many times over.
Assessing the costs of evasion is not easy. Indeed, the purely economic effects may well be positive. A price increase that occurs in an open black market, or through quality deterioration, or that is won through political pressure, will serve an equilibrating function similar to that produced by a price increase in a free market. The extent of evasion probably explains much of the successful record on productivity; evasion took the rough edge off of controls. Nevertheless, there is a very real, if hard to measure, erosion of the social fabric when a substantial segment of the population expends considerable effort in evading the law. Prohibition is the classic example, but wartime black markets are a close second.

Creating easily game-able systems that induce citizens to work against their government is eminently the wrong thing to do.

Instead, governments should seek to support those hurt by inflation. In this manner would the agents of governments be transformed from persecutioners into rescuing angels.

The modern state has the power to control prices even in the face of a vast expansion of aggregate demand relative to output, but it can do so only through a drastic regimentation of economic life. Such regimentation was appropriate in the war, when no other mechanism capable of protecting the real incomes of vulnerable groups such as monetary and fiscal austerity was politically feasible, when expectations of inflation were themselves a cause of inflation, and when the community was willing to cooperate in the effort. But when the termination of the war ended the balance of costs and benefits swung against controls, and they were removed. Sometimes democracies (despite their critics) make the right decisions and I believe we did so during and after the war with respect to controls. The lesson for the future is that a short-term application of controls might make sense as an emergency measure, but permanent controls, especially if combined with an expansionary monetary and fiscal policy, would be a mistake.
It has been suggested by Ruth Duhl, an historian of the Enforcement Department, that there existed an undercurrent of opinion at Justice, and throughout the country, opposed to the use of criminal prosecution since many of the potential defendants were not from the "criminal classes." Whatever the reason, sentences were often light in criminal cases, even when convictions could be obtained, and this was a further deterrent to the use of criminal proceedings from the OPA's point of view.
Suppose that after a long period of expansionary monetary policy, with prices rising at ten percent per year, a new policy of slow monetary growth is adopted. Inflation would not stop instantaneously. Instead, because decision makers still expect inflation, they would continue to raise prices. Labor unions would seek contracts containing wage increases to cover the inflation they expect, and businessmen would raise their prices spurred by the fear of rising costs and confident that their rivals were taking similar actions. The result, in the short run, would probably be a severe recession.
In the situation described above, temporary wage and price controls could have a therapeutic effect. By persuading businesses to act in a manner consistent with the more restrictive monetary policy, controls would reduce the costs of transition and increase the credibility of the new policy.
What good are price controls that hold down an official index of prices if the "real price," meaning the black market price, is rising even faster than before? Indeed, even if inflation correctly measured is slowed by controls, is it worth the destruction of the social fabric implicit in the creation of a large black market?
Virtually from its start, Virginia imposed a variety of price regulations on its citizens. In 1619 the export price of tobacco was fixed by the Virginia Company. The planters complained bitterly, and used the excuse that their tobacco was being resold with huge profits in Britain to justify passing bad tobacco. This is our first example of quality deterioration, a means of evading price controls that will recur in other contexts.
John Winthrop's contemporary evaluation of the effects of the early Massachusetts wage laws has generally been taken, with good reason, as definitive. The Court having found by experience, that it would not avail by any law to redress the excessive rates of laborers' and workmen's wages, etc. (for being restrained, they would either remove to other places where they might have more, or else being able to live by planting and other employments of their own, they would not be hired at all,) it was therefore referred to the several towns to set down rates among themselves. This took better effect, so that in a voluntary way, by the counsel and persuasion of the elders, and example of some who led the way, they were brought to more moderation than they could be by compulsion. But it held not long.14 It would be hard to find a clearer statement of the effects to be expected if the government fixes a maximum wage below the equilibrium, and then fails to ration available supplies.
Even during the Colonial period Franklin was an advocate of paper money. Moderate issues, he had argued (along surprisingly modern lines), would stimulate trade and not produce inflation in periods when trade was stagnating.
As a landlord, incidentally, Lee knew the dangers of inflation firsthand. He defended his personal economy by converting from rents in money to rents in kind, an action which raised a storm of protest.4
The most flexible tool that the newly reorganized War Industries Board possessed for coordinating economic activity was the "priority." Orders placed by government agencies or by their suppliers were given one of five ratings - AA, A, B, C, and D (the first three were further divided into AA-i, AA-2, and so on). A firm was required to give precedence to an AA order over an A order, to an AA-i order over an AA-2 order, and so on. Giving precedence did not mean stopping everything until the highest rated project was finished. It simply meant that if, say, only one of two orders could be filled by the originally agreed-upon date, then every effort would be made to get out the higher rated order on time.4
Even those manufacturers who were on the receiving end of high-priority orders had, in some cases, a sound business reason for welcoming the system: They could delay filling low-priority orders with less fear of reprisal after the war. Priorities in other words provided a way out for the producer who wanted to drop old-line customers in favor of profitable war contracts, while looking forward to a renewal of the long-term relationship after the war.
Bulkline pricing was applied to a large number of strategic goods, such as coal and lumber. The essence of the problem was that different producers had different costs.8 A price that would assure one producer large profits might not be sufficient to induce another to stay in production, since many production costs had risen substantially. Given this situation, there were three alternatives. One was simply to set a single price sufficiently high to cover the costs of the high-cost producer. A second was to set a different price for each producer: a low price for the low-cost producers and a high price for high-cost producers. This alternative could be worked out in several ways. The government could form a corporation to buy all of the output, entering into separate agreements with each producer and then selling the output at some mean price.9 Or a similar result (in terms of price and output) could be achieved by allowing the firms in the industry to form a pooling arrangeme! nt in which the profits of the low-cost firms were used to subsidize the high-cost firms. The third alternative was for the government to nationalize the industry, or at least the high-cost producers and, if need be, run them at a loss.10
The disadvantage of the single-price system was simply that low-cost firms would make "unreasonable" profits. The Price Fixing Com-mittee felt that the excess profits tax then in prospect would at least ameliorate this problem. Later, when the problem of differential costs was faced again in World War II, more weight was given to the profiteering argument and differential pricing was adopted. -- and firms discriminated against
The lesson to be learned from both the sugar and wheat controls is that with prices fixed, the government must substitute some form of rationing or other means of reducing demand for the price system. Appeals to voluntary cooperation, even when backed by patriotism, are of limited value in solving this problem.
As one critic pointed out, the markup on cold storage eggs made storage unprofitable and, as a result, producers began marketing too many hens.21 In fact, the Food Administration in February 1918 issued an order banning the sale or shipment of freshly killed hens and pullets until April 30, 1918.
The Food Administration was also forced to issue detailed regulations covering egg crates, even specifying the number and size of nails to be used, showing that controls on the price of eggs were being evaded by reducing the quality of the crates in which they were shipped.23
Scattered evidence suggests that quality deterioration was the main form of evasion. One of the few licenses the Fuel Administration revoked was that of a New York coal dealer who sold low-quality coal for use in a steamship in violation of an explicit order issued by the Fuel Administration.39 The state Fuel Administrator for Alabama also reported that he had to intervene in order to prevent the shipment of improperly prepared coals.40
During the war average rents did not increase as fast as the cost of living, mostly because rents are contractual. But those seeking new quarters were not protected and they pressed for rent controls. Shortages were acute in the industrial communities that had been expanded by war contracts, particularly the steel-making towns in the East and the shipbuilding communities on the Pacific coast. Inevitably, too, the population of Washington, D.C. expanded, reportedly at the rate of 1,000 newcomers per week, and here also the problem was severe. In Washington rents were controlled by the Saulsbury Resolution, which Congress passed on May 31, 1918. Subject to various reservations, it protected tenants holding leases of one month or more against increases. This control was not extended to other cities, although protection was given to soldiers renting quarters for less than fifty dollars per month.
Several states passed laws that aided rent control. In Massachusetts it was Calvin Coolidge, Acting Governor, who in August 1918 issued a proclamation under Massachusetts' rent control law conferring on a state official the power to seize rental properties for war workers.45
My tentative assessment is that with the possible exceptions of the coal and sugar shortages - episodes that certainly call for further research - the difficulties created by controls were relatively manageable.
Controls did not cover every good and every service at every stage of the production process. Instead, they were confined primarily to the raw-material processing stages of production and to prices that had risen dramatically. The main reason was administrative. It took relatively few government workers to control the small number of large firms that typically dominated the beginning of the production process: As one moved downstream toward the consumer, of course, the number of firms grew ever larger.
While growth of the money supply stock slowed during the period under controls, from an annual growth rate of 15.9 percent in the fifteen months prior to controls to an annual rate of 8.7 percent after, this was not due to the actions of the monetary authority. Indeed, the growth rate of currency and bank reserves, the monetary base, actually increased. Yet, this is the instrument that the Federal Reserve used to influence the money supply. The reason for the slowdown in the monetary expansion was the tendency of the public, after the imposition of controls, to convert bank deposits into currency, a tendency which had a con-tractionary effect on the banking system because it drained the system of cash. The reasons for this tendency are not clear. A similar development occurred during World War II and Philip Cagan, studying that episode, suggested that it might be explained by the superiority of cash for travelers at home and abroad and for individuals trying to evade income taxes or price controls.49 Friedman and Schwartz have suggested that similar forces may have been at work in World War I.50
There have been scattered references to seizure in the discussion above, but the issue is of sufficient importance to justify explicit discussion. Why rely on such a drastic threat rather than on some traditional penalty? The answer lies in the delays and uncertainties of the legal system. A price controller faced with a recalcitrant industry wants a threat that can be applied right away, not one that may take months to wend its way through the courts and may in the end be denied. When wages were part of the problem, enforcement through the courts appeared even less attractive. A Democratic admin-istration did not want to appear antiunion, so attacking striking unions through court-enforced injunctions was out of the question. But permitting a firm that had a strike on its hands to buy its way out with a wage increase (to be passed on as a price increase) would endanger the sta-bilization program. In this case seizure emerged as an attractive alternative.
Perhaps as significant as the creation of OPA itself was the creation of the Price Division of OPA, headed by John Kenneth Galbraith, an enthusiastic and skilled administrator, and a leading theoretician of controls.
During 1943, while OPA was struggling to replace the GMPR with tailored controls and to introduce various rationing programs, the Hen-derson-Galbraith team was replaced by one headed by Chester Bowles. The inside story of this crisis and its resolution has not been told. But the public facts suggest that opposition from the business community to the "professors" at the OPA eventually soured relationships between OPA on the one hand, and business, the Congress, and perhaps the public on the other, to such an extent that a change of administration seemed the only practical course.
If prices are being pulled up by demand, perhaps generated by anticipations of future shortages, then controlling prices in one sector simply means that there is more purchasing power to spend in the uncontrolled sector. Uncontrolled prices, according to this argument, rose faster than they would have if there had been no controls at all. A regression, similar to the one described for World War I, was run that related the percentage change in uncontrolled prices to the percentage change in money and the size of the controlled sector. It revealed substantial evidence of spillover effects.65
Rationing of consumer goods was more extensive in World War II than in any previous or subsequent experiment with wage and price controls. At its peak rationing covered slightly more than 20 percent of the consumer price index at prewar prices. Table 5.1, which gives a complete list of the rationed items and the duration of the programs, conveys something of the significance and ubiquity of rationing in World War II. The OPA clearly had a major job on its hands with items as diverse as sugar and shoes to ration.
During the war the American Bar Association expressed concern over what it deemed the "Kangaroo Courts" conducted on occasion by the OPA.72
By the summer of 1971 the economy appeared, from the perspective of the times, to be deeply troubled. The rate of unemployment was close to 6 percent, up sharply from the levels reached in the late 1960s. This was partly the result of a tight money policy imposed by the Federal Reserve in 1969, which in turn was a response to the high rates of growth in the money supply and the large deficits run up in 1967 and 1968. The rate of inflation had responded to tight money: The consumer price index, which had risen 6.1 percent in 1969 and 5.5 percent in 1970, rose at an annual rate of only 3.6 percent in the first eight months of 1971. This result, moveover, was not produced solely by a decrease in the normally volatile food index, which sometimes distorts the interpretation of long-term trends. The increase in the consumer price index for all items other than food was 3.4 percent in the first eight months of 1971, compared with 6.5 percent in 1970, and 5.7 percent in 1969.
In the earlier episodes in the twentieth century, controls were imposed when fears of inflation and shortages had driven prices above the level consistent with underlying monetary forces. Controls were then an equilibrating force, although this conclusion must be qualified for the latter days of World War II. The Vietnam controls were used to depress prices below the level determined by fundamental economic variables. They were a disequilibrating force.