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Our Economy: The Good, The Bad, and The Ugly–Chapter-Four–Early 20th Century

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Economic growth and the 1910 break

The period from 1890 to 1910 was one of rapid economic growth of above 7%, in part due to rapid population growth. However, a sharp break in the growth rate to around 2.8% occurred from 1910 to 1929. Economists are uncertain what combination of supply and demand factors caused the break, but productivity growth was strong, enabling the labor cost per unit of output to decline from 1910 to 1929. The growth rate in hours worked fell 57% compared to the decline in the growth rate of output of 27%. It is generally accepted that the new technologies and more efficient business methods permanently shifted the supply and demand relationship for labor, with labor being in surplus (except during both world wars when the economy was engaged in war-time production and millions of men served in the armed forces). The technologies that became widespread after 1910, such as electrification, internal combustion powered transportation and mass production, were capital saving. Total non-residential business fixed capital spending fell after 1910 due to the fall of investment in structures.

Industry, commerce and agriculture

Two of the most transformative technologies of the century were widely introduced during the early decades: electrification, powered by high pressure boilers and steam turbines and automobiles and trucks powered by the internal combustion engine.

Chain stores experienced rapid growth.

Standardization was urged by the Department of Commerce for consumer goods such as bedspreads and screws. A simplified standardization program was issued during World War I.

Electrification

Electrification was one of the most important drivers of economic growth in the early 20th century. The revolutionary design of electric powered factories caused the period of the highest productivity growth in manufacturing. There was large growth in the electric utility industry and the productivity growth of electric utilities was high as well.

At the turn of the 20th century electricity was used primarily for lighting and most electric companies did not provide daytime service. Electric motors that were used in daytime, such as the DC motors that powered street railways, helped balance the load, and many street railways generated their own electricity and also operated as electric utilities. The AC motor, developed in the 1890s, was ideal for industrial and commercial power and greatly increased the demand for electricity, particular during daytime.

Electrification in the U.S. started in industry around 1900, and by 1930 about 80% of power used in industry was electric. Electric utilities with central generating stations using steam turbines greatly lowered the cost of power, with businesses and houses in cities becoming electrified. In 1900 only 3% of households had electricity, increasing to 30% by 1930. By 1940 almost all urban households had electricity. Electrical appliances such as irons, cooking appliances and washing machines were slowly adopted by households. Household mechanical refrigerators were introduced in 1919 but were in only about 8% of households by 1930, mainly because of their high cost.

The electrical power industry had high productivity growth. Many large central power stations, equipped with high pressure boilers and steam turbine generators began being built after 1913. These central stations were designed for efficient handling of coal from the layout of the rail yards to the conveyor systems. They were also much more fuel efficient, lowering the amount of fuel per kilowatt-hour of electricity to a small fraction of what it had been. In 1900 it took 7 lbs coal to generate one kilowatt hour. In 1960 it took 0.9 lb/kw hr.

Manufacturing

Rapid economic growth in the early decades of the 20th century were largely due to productivity growth in manufacturing.

Factory electrification revolutionized manufacturing. Unit drive, which means using a single electric motor for powering a single machine, eliminated line shafts previously used to transmit power from a small number of steam engines or hydraulic turbines. Line shafts created constraints on building arrangement that impeded the efficient flow of materials because they presented traffic barriers and required multi-story buildings for economy. It was not uncommon for large manufacturing sites to have many miles of line shafts. Electric motors were much more economical to operate than steam engines in terms of energy efficiency and operator attention. Electric motors were also lower in capital cost.

Frederick W. Taylor was the best-known pioneer in the field of scientific management in the late 19th century, carefully timing and plotting the functions of various workers and then devising new, more efficient ways for them to do their jobs. Ford Motor Co. used techniques of scientific management, although Henry Ford claimed not to know of Taylor’s system. Ford Motor utilized every practical means to reduce the effort and movement of workers in order to reduce the time involved in making parts, transport, and assemble parts into automobiles. Ford used electric-powered factories, and in 1913, Ford introduced the assembly line, a step in the process that became known as mass production. The price of a Ford Model T fell from $900 in 1908–9 to $360 in 1916, despite the fact that wages doubled to $5 per day in 1914. Production grew from 13,840 in 1909 to 132,702 in 1916. Productivity for this period, measured in output of Model T’s per worker, rose 150%.

Ford offered a very generous wage—$5 a day—to his workers, arguing that a mass production enterprise could not survive if average workers could not buy the goods. However, Ford expanded the company’s Sociological Department to monitor his workers and ensure that they did not spend their newfound bounty on “vice and cheap thrills”.

Electric street railways

Electric street railways developed into a major mode of transportation, and electric inter-urban service connected many cities in the Northeast and Midwest. Electric street railways also carried freight, which was important before trucks became widely introduced. The widespread adoption of the automobile and motor bus halted the expansion of the electric street railways during the 1920s.

Railroads

At the beginning of the 20th century, the railroad network had over-expanded with many miles of unprofitable routes. In 1906 Congress gave the Interstate Commerce Commission the power to regulate freight rates and the industry was unable to increase revenue enough to cover rising costs. By 1916, the peak year of track mileage, one-sixth of the nation’s railroad trackage was in bankruptcy.

The railroads proved inadequate to handle the increased freight volume created by World War I. There were major traffic jams in the system and critical supplies were experiencing delays. In December 1917 the railroads were taken over by the government and put under control of the United States Railroad Administration (USRA). The USRA ordered 1,930 new standardized steam locomotives and over 100,000 railcars. The USRA’s control over the railroads ended in March 1920.

Automobiles and trucks

By the dawn of the 20th century, automobiles had begun to replace horse-drawn carriages. Numerous companies were building cars, but car manufacturing was challenging. Consequently, prices were high and production was low. Mass production techniques of the mid-1910s brought down the cost of automobiles and sales grew dramatically. By 1919 automobile registrations were 6.6 million and truck registrations were 898,000.

Replacing horses with cars and trucks eliminated enormous quantities of horse manure and urine from city streets, greatly reducing the labor for street cleaning and also improving sanitation and living conditions. Reducing the number of horses for transportation freed up between one- sixth and one-quarter of all farm land.

Highway system

In 1900, there were only 200 miles of paved roads outside of cities in the U.S. By the late 1920s, automobiles were becoming common, but there were few highways connecting cities. The Federal road building program ended in 1818, leaving states to build roads until the Federal Road Act of 1916. A national highway system was agreed on in 1926, when an interstate program began. There were 23.1 million cars and 3.5 million trucks. The system was nearly complete when the U. S. entered World War II in December 1941.

Water supply and sewers

At the turn of the century, approximately one-third of urban households had running water; however, most of it was untreated and carried disease-causing microorganisms. The widespread building of water treatment plants and piping of water to and sewage from urban households occurred in the early decades of the century. The number of urban households supplied with running filtered water increased from 6.3% in 1900 to 25% in 1910 and 42% in 1925. In 1908, the Jersey City Water Works in New Jersey was the first to sterilize water using sodium hypochlorite (chlorine bleach). Chlorination of drinking water became common in urban water supplies by the 1930s and contributed to a sharp reduction in many diseases, such as hepatitis A, typhoid fever, cholera, and dysentery.

Agriculture

Internal combustion-powered tractors appeared on farms in the mid-1910s, and farmers began using automobiles and trucks to haul produce. By 1924, tractors and trucks on farms numbered 450,000 and 370,000, respectively. Combined harvester-threshers reduced labor costs by 85% compared to using binders and stationary threshers. Farms have decreased in the United States. The number of farms in the U.S. has decreased from 7 million in the 1930s to just a little over 2 million in 2000. The rate of decline was most rapid in the 1950s and 1960s. The reason for this was the increased innovation in farms, where new technology was able to create more products, which resulted in the need for fewer farms. Also, during the 1950s–1960s, people moved from the bigger cities and farms to more suburban areas, so these smaller farms would be sold, and people would move closer to cities. People also could not afford the new technologies to help them farm, so bigger farms would be very successful during this time, while smaller farms would close.

Finance, money and banking

A major economic downturn in 1906 ended the expansion from the late 1890s. This was followed by the Panic of 1907. The Panic of 1907 was a factor in the establishment of the Federal Reserve Bank in 1913.

The mild inflation of the 1890s, attributed to the rising gold supply from mining, continued until World War I, at which time inflation rose sharply with wartime shortages including labor shortages. Following the war the rate of inflation fell, but prices remained above the prewar level.

The U.S. economy prospered during World War I, partly due to sales of war goods to Europe. The stock market had its best year in history in 1916. The U.S. gold reserves doubled between 1913 and 1918, causing the price level to rise. Interest rates had been held low to minimize interest on war bonds, but after the final war bonds were sold in 1919, the Federal Reserve raised the discount rate from 4% to 6%. Interest rates rose, and the money supply contracted. The economy entered the Depression of 1920–21, which was a sharp decline in financial terms. By 1923, the economy had returned to full employment.

A debt-fueled boom developed following the war. Jerome (1934) gives an unattributed quote about finance conditions that allowed the great industrial expansion of the post World War I period:

Probably never before in this country had such a volume of funds been available at such low rates for such a long period.

There was also a real estate and housing bubble in the 1920s, especially in Florida, which burst in 1925. Alvin Hansen stated that housing construction during the 1920s decade exceeded population growth by 25%.

Debt reached unsustainable levels. Speculation in stocks drove prices up to unprecedented valuation levels. The stock market crashed in late October 1929.

Politics and regulation

Systematic regulation of the major economic and social sectors was a priority for the federal government in this era. In the 19th century, the federal government was not heavily involved in the private sector, except in the areas of land sales and transportation. In general, the concept of laissez-faire prevails. It was a doctrine opposing government interference in the economy except to maintain law and order. This attitude began to change during the latter part of the 19th century, when small business, farm, and labor movements started asking the government to intervene on their behalf.

By 1900, a middle class had developed that was leery of both the business elite and the somewhat radical political movements of farmers and laborers in the Midwest and West. Known as Progressives, these people favored government regulation of business practices to, in their minds, ensure competition and free enterprise. Congress enacted a law regulating railroads in 1887 (the Interstate Commerce Act) and one preventing large firms from controlling a single industry in 1890 (the Sherman Antitrust Act). These laws were not rigorously enforced, however, until the years between 1900 and 1920, when Republican President Theodore Roosevelt (1901–1909), Democrat President Woodrow Wilson (1913–1921), and others sympathetic to the views of the Progressives came to power. Many of today’s U.S. regulatory agencies were created during these years, including the Interstate Commerce Commission and the Federal Trade Commission. Ida M. Tarbell wrote a series of articles against the Standard Oil monopoly. The series helped pave the way for the breakup of the monopoly.

Muckrakers were journalists who encouraged readers to demand more regulation of business. Upton Sinclair‘s The Jungle (1906) showed America the horrors of the Chicago Union Stock Yards, a giant complex of meat processing that developed in the 1870s. The federal government responded to Sinclair’s book with the new regulatory Food and Drug Administration.

When Democrat Woodrow Wilson was elected president with a Democrat controlled Congress in 1912 he implemented a series of progressive policies. In 1913, the Sixteenth Amendment was ratified, and the income tax was instituted in the United States. Wilson resolved the longstanding debates over tariffs and antitrust, and created the Federal Reserve, a complex business-government partnership that to this day dominates the financial world.

The Pure Food and Drug Act of 1906 was the first of a series of legislation that led to the establishment of the Food and Drug Administration (FDA). Another such act passed the same year was the Federal Meat Inspection Act. The new laws helped the large packers, and hurt small operations that lacked economy of scale or quality controls.

The Sixteenth Amendment to the United States Constitution, which allowed the Federal Government to tax all income, was adopted in 1913. Starting small, the tax shot up in 1917 to pay for the war, then declined in the 1920s.

The Emergency Quota Act (1921) established a quota system on immigrants by country of origin, with the maximum number of annual immigrants from a country limited to 3% of the number of that national background living in the U.S. according to the 1910 United States Census. The Immigration Act of 1924 reduced the quota from 3% to 2% and added additional restrictions on certain nationalities.

World War I

The World War involved a massive mobilization of money, taxes, and banking resources to pay for the American war effort and, through government-to-government loans, most of the Allied war effort as well.

The total cost of World War I to the United States (was) approximately $32 billion, or 52 percent of gross national product at the time.

World War I transformed the U.S. economy by shifting it from a debtor nation to the world’s leading economic power, primarily through booming exports and increased industrial production that created jobs and raised wages. Although the war caused inflation and two recessions after the initial boom, the overall effect was a significant economic expansion and a strengthened global position for the United States, which emerged largely unscathed by the destruction that crippled European economies. 

Pre-War Neutrality and Economic Boom (1914-1917)

Impact of U.S. Entry into the War (1917-1918)

Post-War Economic Landscape

Did World War I produce a major economic break from the past in the United States? Did the U.S. economy change in some fundamental and lasting ways as a result of that war? NBER Research Associate Hugh Rockoff addresses these questions in his recent study Until It’s Over, Over There: The U.S. Economy in World War I After surveying the U.S. mobilization and financing for the war, Rockoff concludes that perhaps the greatest impact of World War I was a shift in the landscape of ideas about economics and about the proper role of government in economic activities.

When war broke out in Europe in the summer of 1914, a sense of dread rippled through the American business community. So great was the fear of contagion from tumbling European markets that the New York Stock Exchange was closed for more than three months, the longest suspension of trade in its history. When the war began, the U.S. economy was in recession. But a 44-month economic boom ensued from 1914 to 1918, first as Europeans began purchasing U.S. goods for the war and later as the United States itself joined the battle. “The long period of U.S. neutrality made the ultimate conversion of the economy to a wartime basis easier than it otherwise would have been,” writes Rockoff. “Real plant and equipment were added, and because they were added in response to demands from other countries already at war, they were added precisely in those sectors where they would be needed once the U.S. entered the war.”

Entry into the war in 1917 unleashed massive U.S. federal spending which shifted national production from civilian to war goods. Between 1914 and 1918, some 3 million people were added to the military and half a million to the government. Overall, unemployment declined from 7.9 percent to 1.4 percent in this period, in part because workers were drawn in to new manufacturing jobs and because the military draft removed from many young men from the civilian labor force.

Rockoff estimates the total cost of World War I to the United States at approximately $32 billion, or 52 percent of gross national product at the time. He breaks down the financing of the U.S. war effort as follows: 22 percent in taxes, 58 percent through borrowings from the public, and 20 percent in money creation. The War Revenue Act of 1917 taxed “excess profits” — profits exceeding an amount determined by the rate of return on capital in a base period — by some 20 to 60 percent, and the tax rate on income starting at $50,000 rose from 1.5 percent in 1913-15 to more than 18 percent in 1918. Meanwhile, Treasury Secretary William Gibbs McAdoo crisscrossed the country peddling war bonds, even enlisting the help of Hollywood stars and Boy Scouts. The prevalence of patriotic themes created social pressure to purchase the “Liberty bonds” (and, after the armistice, the “Victory bonds”), but in practice the new bondholders did not make a tangible personal sacrifice in buying war bonds, since the yields on these debt instruments were comparable to those on standard municipal bonds at the time. As Rockoff notes, “patriotic motives were not sufficient to alter market prices of assets during the war.”

As part of the war effort, the U.S. government also attempted to guide economic activity via centralized price and production controls administered by the War Industries Board, the Food Administration, and the Fuel Administration. Rockoff judges that the overall impact of these programs on reallocating resources was “rather small.” Timing played a role, since some of the agencies were only established once the United States entered the war, and they took time to begin fulfilling their roles. Also, management problems emerged. For example, the War Industries Board attempted to create a “priorities system” for determining the order in which producers would fill government contracts for industrial goods. Unfortunately, all policymakers gave their order the highest rating (“A”). Leaders then created several higher priority ratings (such as “A1”), with much the same result. “Replacing price signals with priorities is not as simple as it sounds,” surmises Rockoff.

Finally, the author assesses the legacies of World War I for the U.S. economy. When the war began, the United States was a net debtor in international capital markets, but following the war the United States began investing large amounts internationally, particularly Latin America, thus “taking on the role traditionally played by Britain and other European capital exporters.” With Britain weakened after the war, New York emerged “as London’s equal if not her superior in the contest to be the world’s leading financial center.”

In matters of economic ideology, Rockoff argues that, although the U.S. government took on such an active role in economic affairs during the war, this evolution did not ratchet up the government role in peacetime. Subsequent increases in federal spending resulted mainly from war-related matters (such as veterans’ benefits), and the most of the wartime regulatory agencies soon disappeared due to the efforts of conservative politicians. Nevertheless, the successful wartime experience “increased the confidence on the left that central planning was the best way to meet a national crisis, certainly in wartime, and possibly in peacetime as well.” This view became increasingly important after the Democrats reached power during the Great Depression. “Almost every government program undertaken in the 1930s reflected a World War I precedent,” explains Rockoff, “and…many of the people brought in to manage New Deal agencies had learned their craft in World War I.” The author concludes that the scope and speed of government expansion in the 1930s were likely greater because of the impact of the war on the world view of new economic and political leaders, who in turn inspired future generations of reformers. “For America, to sum up,” writes Rockoff, “the most important long-run impact of the war may have been in the realm of ideas.”

A War of Production  

World War I was the first modern mechanized war, requiring vast amounts of resources to equip and provision massive armies and provide them with the tools of combat. The shooting war was dependent on what historians have termed a parallel “war of production” that kept the military machine running.

During the first two and a half years of combat, the United States was a neutral party and the economic boom came primarily from exports. The total value of U.S. exports grew from $2.4 billion in 1913 to $6.2 billion in 1917. Most of that went to major Allied powers like Great Britain, France, and Russia, which scrambled to secure American cotton, wheat, brass, rubber, automobiles, machinery, wheat, and thousands of other raw and finished goods.

According to a 1917 study, exports of metals, machines, and automobiles rose from $480 million in 1913 to $1.6 billion in 1916; food exports climbed from $190 million to $510 million in that same period. Gunpowder sold for 33 cents a pound in 1914; by 1916, it was up to 83 cents a pound.

America Joins the Fight 

Neutrality came to an end when Congress declared war on Germany on April 4, 1917, and the United States began a rapid expansion and mobilization of more than 3 million men.

Economic historian Hugh Rockoff writes:

“The long period of U.S neutrality made the ultimate conversion of the economy to a wartime basis easier than it otherwise would have. Real plant and equipment were added, and because they were added in response to demands from other countries already at war, they were added in precisely those sectors where they would be needed once the U.S. entered the war.”

By the end of 1918, American factories had produced 3.5 million rifles, 20 million artillery rounds, 633 million pounds of smokeless gunpowder, 376 million pounds of high explosives, 21,000 airplane engines, and large amounts of poison gas.  

The flood of money into the manufacturing sector from both home and abroad led to a welcome rise in employment for American workers. The U.S. unemployment rate dropped from 16.4% in 1914 to 6.3% in 1916.

This fall in unemployment reflected not only an increase in available jobs but a shrinking labor pool. Immigration dropped from 1.2 million in 1914 to 300,000 in 1916 and bottomed out at 140,000 in 1919. Once America entered the war, around 3 million working-age men joined the military. About 1 million women ended up joining the workforce to compensate for the loss of so many men.

Manufacturing wages increased dramatically, doubling from an average $11 a week in 1914 up to $22 a week in 1919. This increased consumer buying power helped stimulate the national economy in the later stages of the war.

Funding the Fight 

The total cost of America’s 19 months of combat was $32 billion. Economist Hugh Rockoff estimates that 22 percent was raised through taxes on corporate profits and high-income earners, 20 percent was raised through the creation of new money, and 58% was raised through borrowing from the public, mainly through the sale of “Liberty” Bonds.

The government also made its first foray into price controls with the establishment of the War Industries Board (WIB), which attempted to create a priority system for the fulfillment of government contracts, set quotas and efficiency standards, and allocated raw materials based on needs. American involvement in the war was so short that the impact of the WIB was limited, but the lessons learned in the process would have an impact on future military planning.

A World Power 

The war ended on November 11, 1918, and America’s economic boom quickly faded. Factories began to ramp down production lines in the summer of 1918, leading to job losses and fewer opportunities for returning soldiers. This led to a short recession in 1918–19, followed by a stronger one in 1920–21.

In the long term, World War I was a net positive for the American economy. No longer was the United States a nation on the periphery of the world stage; it was a cash-rich nation that could transition from a debtor to a global creditor. America had proved it could fight the war of production and finance and field a modern volunteer military force. All of these factors would come into play at the start of the next global conflict less than a quarter-century later.

Roaring Twenties: 1920–1929

Under Republican President Warren G. Harding, who called for normalcy and an end to high wartime taxes, Secretary of the Treasury Andrew Mellon raised the tariff, cut marginal tax rates and used the large surplus to reduce the federal debt by about a third from 1920 to 1930. Secretary of Commerce Herbert Hoover worked to introduce efficiency, by regulating business practices. This period of prosperity, along with the culture of the time, was known as the Roaring Twenties. The rapid growth of the automobile industry stimulated industries such as oil, glass, and road-building. Tourism soared and consumers with cars had a much wider radius for their shopping. Small cities prospered, and large cities had their best decade ever, with a boom in construction of offices, factories and homes. The new electric power industry transformed both business and everyday life. Telephones and electricity spread to the countryside, but farmers never recovered from the wartime bubble in land prices. Millions migrated to nearby cities. However, in October 1929, the Stock market crashed and banks began to fail in the Wall Street Crash of 1929.

Quality of life

The early decades of the 20th century were remarkable for the improvements of the quality of life in the U.S. The quality of housing improved, with houses offering better protection against cold. Floor space per occupant increased. Sanitation was greatly improved by the building of water supply and sewage systems, plus the treatment of drinking water by filtration and chlorination. The change over to internal combustion took horses off the streets and eliminated horse manure and urine and the flies they attracted. Federal regulation of food products and processing, including government inspection of meat processing plants helped lower the incidence of food related illness and death.

Infant mortality, which had been declining dramatically in the last quarter of the 19th century, continued to decline.

The workweek, which averaged 53 hours in 1900, continued to decline. The burden of household chores lessened considerably. Hauling water and firewood into the home every day was no longer necessary for an increasing number of households.

Electric light was far less expensive and higher quality than kerosene lamp light. Electric light also eliminated smoke and fumes and reduced the fire hazard.

Welfare capitalism

Beginning in the 1880s but especially by the 1920s, some large non-union corporations such as Kodak, Sears, and IBM, adopted the philosophy of paternalistic welfare capitalism. In this system, workers are considered an important stakeholder alongside owners and customers. In return for loyalty to the company, workers get long-term job security, health care, defined benefit pension plans, and other perks. Welfare capitalism was seen as good for society, but also for the economic interests of the company as a way to prevent unionization, government regulation, and socialism or Communism, which became a major concern in the 1910s.

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