An Empire of Wealth: Rise of American Economy 1607-2000
von John Steele Gordon
The march of Providence is so slow and our desires so impatient; the work of progress is so immense and our means of aiding it so feeble; the life of humanity is so long, that of the individual so brief, that we often see only the ebb of the advancing ways, and are thus discouraged. It is history that teaches us to hope. Robert E. Lee Letter to Charles Marshall, ca.1866
The reason is the American economy. For while the United States has only 6 percent of the land and the people, it has close to 30 percent of the world’s gross domestic product, more than three times that of any other country. In virtually every field of economic endeavor, from mining to telecommunications, and by almost every measure, from agricultural production per capita to annual number of books published to number of Nobel Prizes won (more than 42 percent of them), the United States leads the world.
The United States is the only Great Power to front on both the Atlantic and the Pacific and the only one whose national territory sprawls across arctic, temperate, and tropical climate zones. It is at once both effectively an island, with all of an island’s military security, and a continent, with all of a continent’s resources.
It is perhaps not a coincidence that the United States is both the most religious nation on earth and the most secular, the most devout and the most commercial.
And there can be no doubt that if the United States is famous for its get-up-and-go, that is because Americans are descended from those who got up and came. Those who chose to leave all they had ever known and come to a strange and distant land came to pursue their own ideas of happiness. Here, the great majority found conditions that allowed them to do so with less interference than anywhere else and thus gave them a better chance to find it.
Tangible inventions, such as the printing press and the full-rigged ship, usually get far more attention from historians, but intellectual inventions are often just as important. And two intellectual inventions of the Renaissance, double-entry bookkeeping and the corporation, proved vital to the development of European civilization in the New World and particularly in what is now the United States.
Partnerships, of course, had been around since ancient days. But in a partnership, each partner is liable for the debts of the entire enterprise. Thus an investor, by investing even a small sum, might find himself bankrupt if the enterprise failed. Few were willing to take on such risks, especially in an enterprise over which they would, necessarily, have very limited control. The joint-stock company solved the problem by limiting each investor’s liability to what he had invested. This, of course, shifted some of the risk to the corporation’s creditors but made it possible for large sums of capital to be amassed from many small investments. Next to the nation-state itself, the joint-stock company was the most important organizational development of the Renaissance and, like the nation-state, made the modern world possible.
The Dutch also established an East India company. It quickly wrested away most of Portugal’s far eastern empire and made the Netherlands, a country with few natural resources, the foremost trading nation in the world and the richest country in Europe in the early seventeenth century.
The Virginia Company, by giving it away, was exploiting, very effectively, what has always been one of America’s most profound comparative advantages: its nearly inexhaustible supply of land.
It is hard for us, who are the beneficiaries of so much hindsight, to understand, but people in the seventeenth century did not regard slavery as a moral issue. It would be the middle of the eighteenth century before the idea that slavery was inherently and ineluctably immoral took hold.
While the ratio of men to women in early Virginia was about four to one, in New England it was only six to four. With a more nearly normal balance between men and women, New England society did not go through a “wild west” phase before settling down. Further, the deep religious commitment of most of its early settlers, and firm leadership of such men as John Winthrop and William Bradford, ensured that that society would be far more law-abiding than what developed in the southern colonies.
As a result, New England could build a ship for about half the cost of building one in England. In the forty years between 1674 and 1714, Boston alone averaged forty ships a year, producing more than the rest of the North American colonies combined. Indeed, it was, after London, the greatest center of shipbuilding in the British Empire, with fifteen shipyards in operation by 1700.
Iron is one of the most abundant elements on earth, but copper was the first metal used on a regular basis. The reason is that copper is much easier to work with. Copper has a melting point easily achieved in an ordinary fire, and some copper ores, when heated, produce pure copper with no further processing needed.
So while artisan-ready copper can be produced by techniques available to a Boy Scout troop, iron requires an industrial enterprise.
LIKE THE NEW ENGLAND COLONIES and Virginia, New York was founded by a profit-seeking corporation. But the Dutch West India Company was a far larger concern than the startups that founded the other colonies. It had been created in 1621 and given a monopoly of trade in an area that stretched from West Africa to Newfoundland. The colony of New Netherland was established by the company at a cost of 20,000 guilders to exploit the fact that the Hudson River (called the North River by the Dutch) gave an easy entry to the source of the furs so much in demand in Europe. In the first year, the company shipped to Europe 45,000 guilders worth of furs, easily recouping the cost of establishing the colony.
In the early seventeenth century, the Dutch had the most advanced and most market-oriented economy in Europe. They invented or developed to new levels of sophistication stock and commodity exchanges, insurance, and corporate governance.
By 1776 Philadelphia would be second only to London among the cities of the British Empire, with a population, including its suburbs, of about forty thousand.
But mercantilism coincided with powerful economic self-interests among merchants and manufacturers who wanted protection from foreign competition, and it held intellectual sway until Adam Smith blew it away with one of the most powerfully argued and influential books in Western history.
Money is a commodity, no different from pork bellies, legal services, or computer keyboards, except in one vital respect. Money, by definition, is a commodity universally acceptable in exchange for every other commodity.
Thus money functions economically in much the same way that a catalyst does in chemistry: it speeds up reactions while remaining itself unchanged.
Money serves two other functions besides acting as a medium of exchange. It is a unit of account; that is, the value of all other commodities is expressed in terms of money. And money acts as a store of value, a place to hold wealth temporarily between productive investments.
(The English word pecuniary, in fact, comes from the Latin Pecus, meaning ox.)
But coins must be made of some metal and are expensive to produce. Paper money costs almost nothing to produce. The temptation to use it as a short-term solution to fiscal problems has proved irresistible to politicians.
Britain’s secret weapon in these wars was its advanced system of taxation and its ability to finance its military through a modern national debt. At a time when the other major European powers were still using tax farmers (men who promised a certain revenue to the government in exchange for the right to collect taxes in a given area, keeping any surplus for themselves), Britain turned its tax collectors into bureaucrats. As a result, a much higher percentage of taxes raised actually made it into the British treasury.
MASTERPIECES CREATED BY A COMMITTEE are notably few in number, but the United States Constitution is certainly one of them. Amended only twenty-seven times in 215 years, it came into being just as the world was about to undergo the most profound—and continuing—period of economic change the human race has known.
Hamilton was the only one of the Founding Fathers not to be born in what is now the United States. He was born in Nevis, one of Britain’s less important Leeward Island possessions. He was also the only one—besides Benjamin Franklin, who had made a large fortune on his own and an even larger reputation—not to be born to affluence. Indeed, he grew up in poverty after his feckless father—who had never married his mother—deserted the family when Hamilton was only a boy.
Hamilton, a deep student of economics, understood public finance thoroughly, a fact that he would make dazzlingly clear in the next few years. But like so many of the Founding Fathers, he was also a deep student of human nature and knew that there was no more powerful motivator in the human universe than self-interest. He sought to establish a system that would both channel the individual pursuit of self-interest into developing the American economy and protect that economy from the follies that untrammeled self-interest always leads to.
NOWHERE IS JOHN DONNE’S DICTUM that we are all a part of the continent more true than in the world economy. It is built, by definition, upon an endless exchange of goods between individuals, industries, and nations, the most intricate net in the human universe. When a change happens anywhere in that economy, that change ripples through the whole. And when two separate developments happen to interact in a major way, it can produce an economic synergy that is both great and terrible.
Cotton fiber has a natural twist that makes it much more difficult to spin into thread by hand than wool, linen, or even silk. It required as much as twenty days for a woman (those who spun thread were almost always women—it’s the origin of the word spinster) to spin a pound of cotton into thread.
Transportation is what economists call a “transaction cost,” one that adds to the cost of an item without adding to its intrinsic value. Advertising, sales, and packaging are all examples of transaction costs. The lower these transaction costs, obviously, the lower the final price, and thus the higher the demand.
Like the printing press of the fifteenth century, the steam engine was a world-transforming technology.
It boiled down to Fulton supplying the design and Livingston supplying the money—and the monopoly that would guarantee the enterprise’s profitability.
Freight exported out of New Orleans was only 65,000 tons in 1810. By 1860 it was 4,690,000 tons, increasing seventy-two fold in only fifty years.
Vanderbilt, still in his twenties, had already owned a small fleet of sailing ships, but he realized that the future belonged to steam and went to work for Gibbons to gain experience and build up his capital. He soon convinced Gibbons to build a larger boat, designed by Vanderbilt, which Gibbons named Bellona, after the Roman goddess of war. In that far more classically oriented age, the implication in the name was clear to everyone.
It had been known since the sixteenth century, when it was used in mining operations, that a draft animal (or a human being) could pull a much heavier load if the wagon was set on rails. The reason is that metal flanged wheels set on metal rails have very low “rolling friction.” A forty-ton locomotive accelerated to sixty miles per hour will coast about five times as far as a truck of similar weight on a level highway. This makes railroads, even today, by far the most economical means of hauling freight.
The result was the first commercial locomotive built in America. Very small by later standards, it was later given the nickname of the Tom Thumb, after P. T. Barnum’s famous midget. However small, it worked just fine, and on its first run it pulled a carriage loaded with forty people at speeds up to eighteen miles an hour, a breathtaking pace at the time. (Several of the passengers brought along paper and pencil and wrote down coherent sentences to disprove the then widely held belief that people’s brains couldn’t function at such speeds.)
There could be no better illustration of the economic synergy that is so characteristic of any major new technology as its effects ripple through an economy. The railroads made it possible to travel farther and faster and cheaper than ever before. Andrew Jackson had needed a month to travel by coach from Nashville to Washington for his inauguration in 1829. Thirty years later the trip could be made easily, and far more comfortably, in three days. But the railroads also greatly stimulated manufacturing, mining, travel, and commerce in general. And the railroads simply thrilled the people of the day, who sensed immediately that they were in a new era, one beyond the comprehension of earlier times.
Morse took on partners—Leonard Gale, a professor at NYU, and Alfred Vail, a gifted mechanic whose father owned a prosperous ironworks in New Jersey—to help refine his system. They applied to the government for funds to build a system large enough to demonstrate the technology’s capability. But the government, typically, could not see the potential, and for six years they got nowhere.
Once the practicality of the telegraph was demonstrated, it spread with astonishing swiftness. By the end of the 1840s nearly all major American cities were connected by telegraph, and a line reached San Francisco in 1861. The telegraph spanned the continent less than two decades after Morse sent his famous message. In 1866 Cyrus Field finally succeeded in laying a cable across the Atlantic Ocean, connecting Europe and America with instant communication. The long isolation of America from the center of the Western world was over after more than 250 years. By the time Morse died in 1872, rich in honors as well as money, it was possible to send a message from San Francisco to India in a few hours. In 1844 it would have taken perhaps half a year.
But no part of the developing American economy benefited more from the telegraph than did Wall Street. Because a market can never be larger than the area within which communication is effectively instant, the exchanges in Philadelphia and elsewhere continued to be important as securities markets. The telegraph quickly reduced them to insignificance.
Bennett made the Herald nonpartisan in its news articles, sought always to be the first with the news, and sold it to a mass audience by having it hawked on the street at a penny a copy by the armies of newsboys that would quickly become a feature of the American urban scene for more than a hundred years. None of these ideas was original with Bennett. But it was he who put them all together for the first time. He also introduced a dazzling array of other journalistic innovations. He was the first to print a weather report and to cover sports regularly. He was the first to cover business news and stock prices in a general-interest newspaper. And while “respectable” papers weren’t supposed to notice such things, when a beautiful prostitute was murdered in one of New York’s more fashionable brothels, Bennett played the story for all it was worth.
Within a few years the Herald was among the city’s most successful papers. Bennett traveled to Europe, where he signed up correspondents in London, Rome, and Paris to supply the Herald with exclusive copy, the world’s first foreign correspondents. He fought Congress to establish the principle that out-of-town newspapers had as much right to the congressional press galleries as the local papers, the beginning of the Washington press corps. He even coined the use of the word leak, to refer to the stories slipped to reporters by politicians for their own purposes.
By the time of the Civil War the Herald was, by far, the largest and most influential newspaper in the country, and all other major papers had followed its model, profoundly transforming the newspaper business. Its daily circulation during the war reached as high as four hundred thousand, many times the total circulation of all American newspapers combined fifty years earlier.
Sperm whales are not like the other great whales. They have teeth, not baleen, and live mainly on giant squid caught at great depths. Their oil is superior to that of other whales and they have in their huge heads, as part of their echolocation system, a vast reservoir filled with spermaceti, a waxy substance that made the best candles.
By the 1840s there were more than seven hundred American whaling ships searching the seas for whales and turning their home ports into boom towns as the ships unloaded as many as two thousand barrels of oil each at the end of their voyages. Many of the early nineteenth-century New England fortunes were based on whaling.
On August 27, 1859, outside Titusville, at sixty-nine feet, the first oil well in the world struck oil. Drake attached a pump to the well and began to pump up what seemed an unlimited quantity of rock oil. The biggest problem quickly became not finding oil but finding enough barrels to store it
The rich farmlands of the Middle West could not be productive until the trees were cleared, and the demand for lumber rose at an ever-increasing rate as the country’s population increased by a third every decade, from 5.3 million in 1800, to 31.4 million in 1860. The statistics are staggering. In 1820 Michigan was nearly uninhabited by Europeans. By 1897 it had shipped 160 billion board feet of white pine lumber, leaving less than 6 billion still standing. State after state experienced similar deforestation.
A blacksmith named John Deere was a Vermonter who had joined the New England diaspora and settled in the oddly named Grand Detour, Illinois. There, while engaged in fixing the broken plows of farmers, he began experimenting with new designs. In 1837 he made a plow using a piece of a steel circular saw blade, and it worked beautifully in the toughest Middle Western soils as the blade cut cleanly through and did not “scour.” Deere promptly went into the manufacturing business, setting up a factory in Moline, Illinois, to turn out the new plows that soon spread throughout the growing farm belt. The company’s motto regarding its founder, “He gave to the world the steel plow,” would be in use as late as the mid-twentieth century, long after the horse-drawn single plow had vanished from the American farm.
McCormick didn’t sell a single machine for ten years, and in 1842 he sold only seven. But when Great Britain, after the failure of the British harvest in 1845, repealed the “Corn Laws” that protected British farmers from international competition, the demand for American wheat grew quickly. McCormick seized the opportunity. He built a factory in Chicago, then a city less than twenty years old, and began to mass-produce harvesters. In five years he sold five thousand. By 1860 Cyrus McCormick was a very rich man, reporting in that year’s census that he had personal assets of $278,000, and real estate valued at $1.75 million. With McCormick’s reaper, one man could harvest eight acres a day, not one, and the American Middle West could become the bread basket of the world. In 1839 only eighty bushels of wheat were shipped out of the infant town of Chicago. Ten years later Chicago shipped two million.
By the 1830s ice had become a very profitable American export. In 1833 American ice was being shipped as far as Calcutta, when the Tuscany, which had sailed from Boston on May 12, reached the mouth of the Ganges on September 5. Calcutta, one of the hottest and most humid cities on earth, and then the capital of British India, was ninety miles up the Hooghly River, and the population awaited the ice with breathless anticipation. The India Gazette demanded that the ice be admitted duty free and that permission be granted to unload the ice in the cool of the evening. Authorities quickly granted the demands. Frederic Tudor managed to get about a hundred tons of ice to Calcutta, and the British there gratefully bought it all at a profit for the American investors of about $10,000. By the 1850s American ice was being exported regularly to nearly all tropical ports, including Rio de Janeiro, Bombay, Madras, Hong Kong, and Batavia (now Jakarta). In 1847 about twenty-three thousand tons of ice was shipped out of Boston to foreign ports on ninety-five ships, while nearly fifty-two thousand tons was shipped to southern American ports.
Ice boxes became standard household equipment in middle-and upper-class houses in the 1840s and daily delivery of ice a routine. The ice man and the ice wagon entered into American folklore and legend, and the American love affair with both iced drinks and frozen desserts (still a notable American peculiarity to most Europeans, especially the British) was already in full swing.
When gold nuggets, flakes, and dust, erode out of hillsides, they are washed downstream, but because gold is so very heavy, the metal tends to settle out whenever the current slows down, such as in an eddy or on the inside of a bend in the stream, and there the gold concentrates. Thus gold, unlike nearly all other metals, can often be successfully mined with very little capital investment. In the early days of a gold strike, the miners often need little more than a few tools, a pan, and a willingness to do hard work. In 1848 there was no shortage of men more than willing to abandon their slow-but-steady employment as farmers, teachers, bank clerks, and a thousand other jobs, to seek instant wealth in the California gold fields.
Equally important, the dead capital hidden in their mattresses had been liberated for productive purposes.
Fortunes were made in the next few years. In 1864 J. P. Morgan, only twenty-seven years old, had a taxable income of $53,287, fifty times what a skilled worker might expect to earn in a year.
The United States learned how to do so, using, largely unconsciously, the great insights of the Founding Fathers: that men are not angels, that they are driven by self-interest, and that that self-interest can be exploited for the general good by an interlocking system of divided powers.
Capitalism without regulation and regulators is inherently unstable, as people will usually put their short-term self-interests ahead of the interests of the system as a whole, and either chaos or plutocracy will result. As Herbert Hoover explained, “The trouble with capitalism is capitalists. They’re too damn greedy.”
Vanderbilt had left the employ of Thomas Gibbons in 1829 and struck out on his own in the steamboat business. He was soon the greatest shipowner in the country, and in 1837 the Journal of Commerce first used the honorary title by which he has been known to history ever since: Commodore. The Commodore’s business model was simplicity itself: (1) run the most efficient, lowest-cost organization possible; (2) compete fiercely by means of price until the opposition is either broke and can be bought out or pays you to stop competing; and (3) live up to your agreements.
The term robber baron, of course, came to stand for the men, of whom Vanderbilt was one of the first, who built great industrial and transportation empires in the late nineteenth-century American economy. While many of these men were capable of ruthlessness, gross dishonesty, and self-aggrandizement (and others were honest men who scrupulously stayed within what were often inadequate laws), none of them merely transferred wealth to themselves from others by their activities. They all built vast wealth-creating enterprises. Regardless, the term is obviously here to stay.
Vanderbilt quickly proved himself the utter master of the Wall Street game, cornering the speculators in Harlem twice and the Hudson once in a matter of weeks, earning millions, and establishing a reputation such as no man has had on Wall Street since. A British journalist of the day described him as “a Gaetulian lion among the hyenas and jackals of the desert.”
The transcontinental railroad had been envisioned ever since California had joined the Union in 1850, but the deepening political crisis between North and South had prevented any action.
Although physically one of the marvels of the age, financially the Union Pacific was wrecked by its construction, thanks to Crédit Mobilier, which was wildly profitable. In 1867 Crédit Mobilier paid its first dividend to its stockholders, amounting to 76 percent of their investment. Future dividends ranged up to 350 percent. In the second dividend of 1868 alone, a person holding $10,000 par value in Crédit Mobilier stock received $9,000 in cash, $7,500 in Union Pacific bonds then selling at par, and forty shares of Union Pacific stock worth $1,600, a return on capital of 181 percent.
Scandals such as the Tweed Court House, Crédit Mobilier, and all the ones that have followed right up to Watergate and the Enron scandal of our own day have proved to be the engines of reform. It is impossible to anticipate every form of corruption that might develop in a constantly evolving free-market economy and in a government of limited powers. And the law will always lag well behind the ideas, both good and bad, that people, driven by self-interest, will develop for quickly exploiting new opportunities as they appear. The reason that the nineteenth century seems so peculiarly scandal-ridden, perhaps, is that there was so much economic, technological, and social change in that century.
He who sells what isn’t his’n Buys it back or goes to prison.
The great corporate enterprises of the Gilded Age were only possible because of these new accounting tools. And this evolution of accountancy continues unabated today. Cash flow, for instance, is now regarded as one of the most important indicators of corporate prospects. But the very phrase cash flow was coined only in 1954.
The big Wall Street banks, which were becoming ever more powerful, and the New York Stock Exchange increasingly required companies that needed capital or wanted to be listed on the exchange to conform to what would come to be called “generally accepted accounting principles” and to have their books certified by independent accountants.
independent accountants have remained rare is in government. Indeed, a century later, most state governments, while often requiring their creatures to adhere to GAAP, do not do so themselves. And the federal government—the largest fiscal entity on earth—still keeps its books in much the same way as it did in the nineteenth century.
AS THE INDUSTRIAL CORPORATIONS grew and proliferated, their need for capital increased as well. Increasingly, it was supplied not by the British, who had been by far the most important suppliers of capital in the pre–Civil War era, but by Wall Street, through its rapidly growing investment banks. No one epitomized the new Wall Street power center more than its most important banker of this time, J. P. Morgan.
Morgan took it on, however, and succeeded in selling 150,000 shares in London at the very good price of $120 a share. And he managed to do it so quietly that no notice was taken. It was regarded as a masterful job of underwriting and, more, it made Morgan a major power in American railroading as he held the proxies of the new English shareholders and represented them on the company board.
When travel had been at the speed of a horse, this did not matter, but with railroads it did, as scheduling was a nightmare. Congress, fearing local reaction, had dithered for years about dealing with the problem, so the railroads acted on their own. In 1883 they established standard time, dividing the country into four time zones, Eastern, Central, Mountain, and Pacific, with noon an hour later in each. On November 18, 1883, the nation’s railroads started operating on this standard time. And while there were complaints that the country should operate on “God’s time—not Vanderbilt’s,” within a few years standard time had, indeed, become standard, and it was hard to imagine a world without it.
The migration of people to the United States in search of economic opportunity has never ceased, although legal limits were placed on it beginning in the early 1920s. And this vast migration did far more than help provide the labor needed to power the American economy. It has given the United States the most ethnically diverse population of any country in the world. And because of that, it has provided the country with close personal connections with nearly every other country on the globe, an immense economic and political advantage.
There was, however, a price to be paid for the cheap coal, which produces far more smoke than does wood. About 1820, when Pittsburgh was still a relatively small town, a visitor wrote that the smoke formed “a cloud which almost amounts to night and overspreads Pittsburgh with the appearance of gloom and melancholy.”
Carnegie and Frick shared a simple management philosophy: (1) Innovate constantly and invest heavily in the latest equipment and techniques to drive down operating costs. (2) Always be the low-cost producer so as to remain profitable in bad economic times. (3) Retain most of the profits in good times to take advantage of opportunities in bad times as less efficient competitors fail.
And beat them they did. In 1867 only 1,643 tons of Bessemer steel was produced in the United States. Thirty years later, in 1897, the tonnage produced was 7,156,957, more than Britain and Germany combined. By the turn of the century the Carnegie Steel Company alone would outproduce Britain. It would also be immensely profitable. In 1899 the Carnegie Steel Company, the low-cost producer in the prosperous and heavily protected American market, made $21 million in profit. The following year profits doubled. No wonder Andrew Carnegie exclaimed at one point, “Was there ever such a business!”
Even after the craft labor unions formed, they did little to help the unskilled workers. The skilled workers looked down on the unskilled, many of whom were recent immigrants, seeing them not as allies against management but as a burden, likely to bring down their own wages. This produced a deep split in the ranks of labor that would not be fully healed until the 1950s.
Socialism, in all its many forms, is based on class and the idea that the various social classes are fixed, and therefore the members of each class have economic interests that are in common and opposed to the other classes. But the so-called classes in democratic countries are, in fact, nothing more than lines drawn by intellectuals across what are, in the real world, economic continua. For generations now, more than 90 percent of Americans have defined themselves as “middle class.” And no country in history has developed a social structure more rewarding of individual economic success than the United States.
Monopolies, like everyone else, want to maximize their profits, not their prices. Lower prices, which increase demand, and increased efficiency, which cuts costs, is usually the best way to achieve the highest possible profits. What makes monopolies (and most of them today are government agencies, from motor vehicle bureaus to public schools) so economically evil is the fact that, without competitive pressure, they become highly risk-aversive—and therefore shy away from innovation—and notably indifferent to their customers’ convenience.
The new American economy also created enormous new personal fortunes, of an order of magnitude quite undreamed of before. Indeed, nothing has so consistently characterized the American economy throughout its history as the tendency of new fortunes to supplant old ones. When John Jacob Astor died the richest man in America in 1848, he left $25 million. Commodore Vanderbilt left $105 million less than thirty years later. Andrew Carnegie sold out in 1901 for $480 million. Fifteen years later, John D. Rockefeller was worth $2 billion.
In 1901 J. P. Morgan created the largest company of all, U.S. Steel, merging Andrew Carnegie’s empire with several other steel companies to form a new company capitalized at $1.4 billion. The revenues of the federal government that year were a mere $586 million. The sheer size of the enterprise stunned the world. Even the Wall Street Journal confessed to “uneasiness over the magnitude of the affair,” and wondered if the new corporation would mark “the high tide of industrial capitalism.” A joke made the rounds where a teacher asks a little boy about who made the world. “God made the world in 4004 B.C.,” he replied, “and it was reorganized in 1901 by J. P. Morgan.”
In 1907 the federal government took on the biggest “trust” of all, Standard Oil. The case reached the Supreme Court in 1910 and was decided the following year, when the Court ruled unanimously that Standard Oil was a combination in restraint of trade. It ordered Standard Oil broken up into more than thirty separate companies. The liberal wing of American politics hailed the decision, needless to say, but in one of the great ironies of American economic history, the effect of the ruling on the greatest fortune in the world was only to increase it. In the two years after the breakup of Standard Oil, the stock in the successor companies doubled in value, making John D. Rockefeller twice as rich as he had been before.
By that time the Republican Party had split between the conservative Taft Republicans and the progressive Roosevelt Republicans, who stormed out of the 1912 convention to form their own party under the symbol of the bull moose. As a result, the Democrat Woodrow Wilson was elected president with less than 42 percent of the popular vote but with almost 82 percent of the electoral votes. Further, the Republican split had produced solid Democratic majorities in both houses of Congress. Among the first acts of the new Wilson administration was the passage of a personal income tax law.
But it was generally acknowledged that only Morgan, by then the most powerful banker in the world, perhaps the most powerful banker who had ever lived, had been capable of holding the entire Wall Street community together and getting it to act for the common good. Even Theodore Roosevelt, so fond of railing against the “malefactors of great wealth,” praised “those influential and splendid business men…who acted with such wisdom and public spirit.” Thanks to Morgan and the other New York bankers, the crash of 1907 did not mark the onset of a period of severe depression, as the crashes of 1873 and 1893 had. But it did make clear that the country simply could no longer do without a central bank. A man of the stature and probity of J. P. Morgan might be able to avert financial calamity in the future, but there was no guarantee that there would be such a man available. Morgan himself was already over seventy. Still, it took six long years of intricate negotiations to get political agreement on the creation of the Federal Reserve System.
And that continent, the center of the Western world for twenty-five hundred years, would lose far more than a generation of its young men. When the war was finally over, the only winner, in geopolitical terms, would be the United States, which would become by far the strongest nation on earth and the new center of the Western world.
Overall, the gross national product of the United States increased by 21 percent in the four years of the war, while manufacturing increased by 25 percent. The country had been in recession in 1914, but thanks to the slaughter in Europe, American industry began to prosper as it had not since the Civil War. The effect of this sudden growth was soon felt on Wall Street, and the Dow-Jones Industrial Average had the biggest annual percentage gain in its history, 86 percent, in 1915.
DESPITE THE MASSIVE FINANCIAL and industrial aid, by 1917 it was becoming clear that the Allies were in deep trouble. The sinking of British merchant ships by the German submarines was threatening starvation in Britain, while the French army was near mutiny. With the fall of the czarist regime in Russia in March of that year, the possibility that the Allies might lose the war was becoming very real. German behavior in the war, such as the violation of Belgian neutrality and the sinking of the unarmed passenger liner Lusitania—skillfully exploited by brilliant British propaganda—had turned American public opinion sharply against the Central Powers. The resumption of unrestricted submarine warfare in January 1917 proved the final straw for President Wilson, and he broke off diplomatic relations with Germany at that time.
The army had numbered only two hundred thousand before the war, but by November 1918 there would be two million American soldiers in Europe, together with forty thousand cars and trucks (plus forty-five thousand horses) and two thousand airplanes.
And the income tax, which had been a mere social-engineering device to get the rich to share more of the tax burden, began to bite into the middle class. The personal exemption, which had been at $3,000, was dropped to $1,000. The tax rate, a mere 7 percent on incomes more than $500,000 before the war, rose to 77 percent. The income tax thus became the most important source of federal revenues, as it has remained ever since. And this changed the nature of the endless debate over taxes.
THE FEDERAL RESERVE, created in 1913, began to function in the early days of the First World War. But it did not come into its own until after peace was reestablished. It then almost immediately made its first serious policy mistake. As always when huge deficits have to be financed, the First World War caused a serious inflation and the Consumer Price Index nearly doubled between 1915 and 1920. The Federal Reserve had kept interest rates low during the war to facilitate the government’s borrowing needs, and maintained those rates until November 1919. Then it moved the rediscount rate—then its major means for influencing interest rates—in a series of abrupt steps from 4 percent to 7 percent over the next eight months.
By the end of the model run, the company had more than $700 million in undistributed profits. In 1920 Ford was producing half the cars built in the world. The runaway success of the Model T helped mightily to cause the entire automobile industry to take off. From 4,000 cars in 1900, the country produced 187,000 in 1910. By 1920 some 1.9 million cars rolled off assembly lines, and 8.1 million vehicles were in registration. By 1929 production was up to 4.5 million cars, and 23.1 million had been registered. The five-thousand-year reign of the horse as the prime mover of humankind was over.
The fact that automobiles moved so much faster than a horse and carriage required a change in advertising. Seen at a speed of thirty or forty miles an hour, a sign had to be grasped instantly or it wouldn’t be grasped at all. Corporate logos became important for the first time, and the wordy style of nineteenth-century advertising disappeared, even in other venues, such as newspaper ads, as short and punchy became perceived to be “modern.”
But the automobile allowed the emergence of a whole new demographic region: the suburbs.
The biggest problem with lowering the cost of electricity, however, is the fact that electricity, almost uniquely among major commodities, cannot be stored. Instead, it must be produced at the instant of demand. Thus generating capacity must be large enough to meet peak demand, even though that means there will be very expensive excess capacity 95 percent of the time, the expenses of which must be pro-rated.
The ever increasing use of electricity in the United States is one of the wonders of the twentieth century. In 1902 the United States used 6 billion kilowatt-hours of electricity, about 79 kilowatt-hours per person. In 1929 it was 118 billion, and 960 kilowatt-hours per person, well over ten times as much per capita. Today usage is a staggering 3.9 trillion kilowatt-hours, more than 13,500 per person, more than 170 times as much electricity as was used per person in 1902.
The rapidly widening use of electricity also caused productivity to soar in the 1920s, increasing output per worker by 21.8 percent in that decade. This helped to push manufacturing output up by more than 90 percent. Although electricity and the small electric motor had been around for two decades, the full effects of their use on industrial productivity came only in this decade. This is always the case with new technology because of what economists call the installed base problem. The old technology is already in place and paid for. Therefore it makes no economic sense to replace it until it wears out. The Erie Canal, rendered obsolescent by the railroads in the 1850s, was still carrying freight as late as 1970. Today the personal computer is the main engine behind the extraordinary gains in productivity in recent years although the personal computer has been around for nearly a quarter of a century.
By the mid 1920s the Model T was out of date both technologically and commercially, but Ford refused to change. His once unassailable position as the world’s largest producer of automobiles began to fade as his chief American competition, General Motors, outcompeted him for the attention of the American consumer. Ford’s business model regarded the automobile as transportation and nothing but. The cheaper, therefore, the better. But Alfred P. Sloan and his remarkable associates at GM realized that the automobile had become much more than just transportation; it had become a part of how Americans saw themselves and others. It had become both a status symbol and a means of expressing personality, not unlike clothes.
But Woodrow Wilson was outmaneuvered at the Versailles Peace Conference and a draconian, merciless peace was imposed on Germany, requiring it to pay vast war reparations to the victors (but not the United States, which demanded no reparations). The peace treaty assured that Germany, intrinsically the greatest power in Europe, would be economically prostrate for the foreseeable future. Britain, France, and Italy, meanwhile, were saddled with huge war debts to the United States, which they had scant means to pay and the United States had scant interest in forgiving. “They hired the money, didn’t they?” Calvin Coolidge asked.
Oh, hush thee, my babe, granny’s bought some more shares Daddy’s gone out to play with bulls and the bears, Mother’s buying on tips, and she simply can’t lose, And baby shall have some expensive new shoes!
HISTORIANS INESCAPABLY BOTH WRITE with the benefit of hindsight and shape the stories they tell. So history always appears much tidier and more dramatic to the reader than the events depicted seemed to those who lived through them day by day. Human beings have to live with a future that is always unknown while enveloped in the fog of mere existence that can be as hard to penetrate as the far better recognized fog of war. Thus the three-and-a-half-year economic slide from the blue-sky prosperity of late summer 1929 to the black pit of depression in the first, winter months of 1933 seems smooth, perhaps even inevitable to most people today, only a few of whom have personal, adult memories of the time.
THE CONSTITUTION of the Roman Republic, its citizens fearful of executive authority after the overthrow of the kings, had divided it between two consuls, who served for a year and alternated daily in command of both the government and the army. But the Romans realized that, in an emergency, such a system wouldn’t work. And so the constitution allowed, when necessary, for one man to hold absolute power for six months. The term for this temporary official was dictator.
For the first time in ninety-nine years, since President Andrew Jackson had destroyed the Second Bank of the United States, the country had a fully functioning and empowered central bank. The country had paid dearly for the lack of one in those years, not least because the country had been unable to develop much expertise in the arcane specialty of central banking.
After the 1936 election—when Roosevelt, in the greatest landslide in American history up to that time, carried forty-six states—the Republican Party would have only sixteen senators and eighty-nine representatives in Congress.
In 1935 the National Labor Relations Act (usually known as the Wagner Act, after its chief congressional sponsor, Senator Robert F. Wagner of New York) was passed. It has often been called the Magna Carta of American organized labor. It guaranteed the right of workers to join a union of their choice and to bargain collectively with their employers. Further, it included a long list of “unfair labor practices” that companies were forbidden to engage in (but, significantly, did not name any practices that unions were forbidden to engage in). It established the National Labor Relations Board to police the labor marketplace and supervise elections. Most major industrial states soon passed laws modeled on the Wagner Act.
While technically the economy had been in recovery for four years, in popular parlance the word depression was applied to the whole decade of the 1930s. So economists dubbed this new depression within a depression a “recession.” This has been the term for economic downturns ever since, and the word depression is now usually capitalized and refers exclusively to the uniquely dark days of the 1930s.
The hope is that, in not too many years, human brains and computing machines will be coupled together very tightly, and that the resulting partnership will think as no human brain has ever thought. —J. C. R. Licklider, 1960
Congress, after a great national debate, approved Lend-Lease on March 11, appropriating $7 billion. By the end of the war, Lend-Lease aid to the Allies would amount to $50,226,845,387.
In the war years, American industry turned out 6,500 naval vessels; 296,400 airplanes; 86,330 tanks; 64,546 landing craft; 3.5 million jeeps, trucks, and personnel carriers; 53 million deadweight tons of cargo vessels; 12 million rifles, carbines, and machine guns; and 47 million tons of artillery shells, together with millions of tons of uniforms, boots, medical supplies, tents, and a thousand other items needed to fight a modern war.
The United States accomplished this awesome feat of industry by turning the world’s largest capitalist economy into a centrally planned one, virtually overnight. Central planning has always proved dismally inefficient at producing the goods and services needed by a consumer economy (largely because the consumers have so little say in what is produced). But central planning has done far better at producing the instruments of war.
This was true as well of most industrial goods, such as refrigerators and automobiles. Indeed, between 1943 and 1945, the American automobile industry produced exactly thirty-seven automobiles.
IT WAS WIDELY PREDICTED by both economists and business leaders that the postwar American economy would be characterized by renewed depression. Federal government expenditures would be drastically scaled back (and in fact they fell by nearly two-thirds over three years) while most of the twelve million men and women in the armed services would pour into the job market, forcing down wages and driving up unemployment. Proving that economists have uniquely clouded crystal balls, the longest sustained boom in American history was in the offing.
By 1992, of course, the economic universe that had brought the modern labor movement into being was rapidly vanishing. The percentage of the workforce that was unionized peaked in 1945 at 35.6 percent and has been declining ever since. By 1960 it was only 27.4 percent of the nonfarm workforce. Today it stands at only 14 percent and would be lower than it had been in 1900 were it not for the spread of unionization among government workers, which began only in the 1960s. The heart of the old union movement had been in manufacturing, among the everybody-does-the-same-job assembly line workers. But just as agriculture, the country’s first great economic sector, has continually increased output while using an ever-declining percentage of the workforce, so has the country’s second great economic sector, manufacturing. The age-old American drive to increase productivity and thus minimize labor continues unabated.
The development of Freon, a highly stable and efficient refrigerant, in 1930 brought the running cost of air-conditioning down substantially and allowed it to spread rapidly.
On March 15, 1946, in Fulton, Missouri, Winston Churchill delivered his famous “Iron Curtain” speech with President Truman in the audience. It was clear that a new confrontation between Great Powers had begun and that while the period between the first and second world wars had lasted twenty years, the new peace had hardly lasted one. Worse, the possibility of atomic war—out of which there could come no winners—was frighteningly real.
The United States decided to fight this third Great Power confrontation of the twentieth century, soon dubbed the cold war, in a new way: with money instead of bullets. It would contain the Soviet Union with alliances and with sufficient forces to deter an attack, but would place most of the emphasis on reviving and enlarging the economies of potential victims of Soviet aggression. On March 12 Truman addressed a joint session of Congress and announced what quickly came to be called the Truman Doctrine. “I believe it must be the policy of the United States,” he told Congress, “to support free peoples who are resisting attempted subjugation by armed minorities or by outside pressure.” And he said that this assistance would be “primarily through economic and financial aid.”
Like Lend-Lease, it was both extraordinarily generous (indeed, it was entirely unprecedented in world history for a dominant power to help its potential economic rivals build their economies) and a perfect example of enlightened self-interest on a massive scale. That free trader Adam Smith would have approved. With half the world’s GNP, the United States was running large export surpluses. But foreign countries, many of them economically devastated, could pay for imports only by exporting in turn to the United States.
Keynes was interested in macroeconomics, how aggregate supply and demand affect national economies. Keynes argued that supply and demand must equal in the long term, but as he noted in his most famous aphorism, “in the long term we are all dead.” In the short term, supply and demand can be out of balance. If there is too much supply, depression results; too much demand and inflation breaks out.
Because the economy grew strongly in the fifteen years after the war, the debt as a percentage of gross national product declined precipitously. It had been nearly 130 percent of GNP in 1946. By 1960 it was a mere 57.75 percent.
The American economy began to deteriorate sharply. Unemployment, which had been at only 3.5 percent in 1968, rose to 4.9 percent in 1970 and to 5.9 percent in 1971. According to Keynesian theory, increasing inflation and increasing unemployment could not happen at the same time, and a new word was coined in 1970 to denote the unprecedented situation: stagflation.
It was a cozy, low-stress business, what someone called 3–6–3 banking, because S&Ls paid 3 percent on deposits, charged 6 percent on loans, and management hit the golf course by 3 PM. But as the booming 1950s and early 1960s gave way to the gathering inflation of the late 1960s and 1970s, the business model of the S&Ls began to fall apart. Unregulated interest rates soared while the regulated banking rates stayed the same. Wall Street brokerage houses and mutual funds began offering money market funds that paid a far higher rate of interest than savings accounts.
Programming was done by physically switching the wiring on switchboardlike grids. People had to stand by constantly to replace the vacuum tubes as they blew out and to remove the occasional errant insect (the origin of the term debugging).
But while computers had become much smaller and much cheaper, they were still very difficult to use by people without considerable special training. In the early 1970s the Xerox Corporation, at its Palo Alto Research Center, developed many ways to make computers far easier for nontechnical people to use, including the mouse and the graphical-user interface. But Xerox was unable to develop a marketable product using these new concepts. Steven Jobs and Stephen Wozniak, the founders of Apple Computer, did so. When IBM entered the PC market in 1981, using an operating system developed by Microsoft, the market for personal computers took off and has been increasing exponentially ever since as the price has dropped relentlessly.
Indeed, all businesses that are essentially brokers—businesses that bring buyers and sellers together and take a small percentage of any sale that takes place, such as real estate, travel agents, stock and insurance brokers, auction houses—are finding their business changing its nature or disappearing altogether. The Internet, especially together with such search engines as Google, simply makes it far easier for buyers and sellers to find each other without a broker.
In 1998 Matt Drudge of The Drudge Report broke one of the biggest news stories of the 1990s, the Monica Lewinsky scandal. Weblogs (called blogs for short, their authors bloggers) sprang up by the tens of thousands as people began to express their opinions through this new medium. The good ones attracted large audiences and quickly developed real influence. The effect of the Internet has been to sharply democratize the media by allowing many more voices to be heard.
Because the Internet needed almost no infrastructure not already in place, it developed spontaneously, with little government help or interference and no government direction. Once the world’s most communicative animal discovered this powerful and very inexpensive new means of communication, the species flocked to use it. Those countries whose elites depended on close control of the population and their access to information to maintain their power, found their power slipping and often vanishing altogether. The computer and its most important creature, the Internet, became the most potent weapon against tyranny since the concept of liberty itself.
Bill Gates, the founder of Microsoft and only thirty-three, was worth $1.1 billion, one of only forty-four Americans with a net worth over a billion dollars. That year it took $225 million to make the Forbes 400 list (that was up from $92 million in the list’s first year, 1982). In 2000 the minimum wealth required to make the Forbes list was $725 million, and the average worth was $3 billion, with three-quarters of the people on the list worth more than $1 billion. The richest of all was now Bill Gates, worth $63 billion, almost ten times the wealth of the richest American only twelve years earlier. The Walton fortune, now in the hands of the heirs of Sam Walton, had grown to $85 billion, and Wal-Mart had become the largest retailer on earth with four thousand stores and $165 billion in annual sales, equal to the gross domestic product of Poland, a country with a population of nearly forty million.
As always in the American economy, most of richest were self-made. Indeed, 263 of the 400 richest Americans in 2000, almost two-thirds, created their own fortunes from scratch; only 19 percent of the people on the Forbes list in 2000 inherited enough money to qualify for it.