The Interwar Fiscal Revolution

Before assessing the postwar development of Keynesian political economy in the United States, it is first necessary to define the doctrine and outline how it evolved in the United States up to the end of World War II. In The General Theory, Keynes challenged the idea that the economy was capable of self-correction in the event of a downturn, arguing instead that government intervention should precipitate recovery.^{Footnote 11} In doing so, he attributed the Great Depression’s onset to a deficiency in overall demand, thereby disputing the prevailing idea that production drove the economy forward. This prompted him to argue for deliberate deficit spending to revive the economy, as this would create a “multiplier effect” stimulus: increasing purchasing power would encourage people to spend more money, the recipients of this money would make purchases, thus creating an increase in consumption at least double the government’s original outlay.^{Footnote 12} This would significantly drive up employment and induce businesses to increase investments, thereby generating recovery. Hence, boosting consumption by stimulating mass purchasing power constituted the Keynesian remedy for the Depression. To achieve this, Keynes called for deficit spending on public works and relief to quickly put money in peoples’ pockets.^{Footnote 13}

Keynesianism constituted a revolutionary approach to economic policy in the 1930s, not least because economic orthodoxy decreed the government should balance its budget rather than engage in deliberate deficit spending. Reflecting this, President Franklin Delano Roosevelt (1933–45) mostly preferred to keep federal finances in surplus during the 1930s. Roosevelt did challenge classical ideas by enacting the New Deal, but this initially was comprised of reforms, regulations, and redistributive measures to revive the economy.^{Footnote 14} Though he did run deficits in Fiscal Years (FY) 1933–37, FDR argued that these deficits resulted from the nation’s poor economic conditions, so “would disappear with the return of prosperity.”^{Footnote 15} Only after onset of recession in 1937—a development partly precipitated by FDR’s premature shift to balanced-budgeting in FY 1938—did the president deliberately run deficits to spur recovery.^{Footnote 16} Yet, despite calling for $3 billion to stimulate mass purchasing power in April 1938, the deficits FDR ran for FYs 1939–40 were too small to facilitate recovery.^{Footnote 17}

Instead, the impact of World War II legitimized Keynesianism. Between FYs 1941 and 1945, the deficit rose from 4.3 percent of GDP to 21 percent of GDP.^{Footnote 18} This underwrote an enormous economic expansion that proved Keynes right, eventually selling Roosevelt on the merits of Keynesian economics. His January 1945 Budget Message called for a Keynesian accounting device that would assist government, business, and labor in their efforts to maintain postwar economic growth.^{Footnote 19} This built upon his January 1944 Economic Bill of Rights address, which included ambitious plans to sustain postwar full employment and expand social welfare, seemingly with Keynesian measures.^{Footnote 20}

Roosevelt also embraced Keynesianism due to the efforts of Alvin Hansen, a Harvard economist and government adviser who emerged as the leading exponent of Keynesian economics during World War II. After hesitantly grasping deficit spending during the late 1930s, FDR latched onto Hansen’s ideas to create a “‘New’ New Deal” in the early 1940s.^{Footnote 21} Hansen’s Keynesianism differed from the “pump priming” variety earlier espoused by Keynes, for the Harvard economist feared the onset of a large-scale postwar slump.^{Footnote 22} He believed the economy had grown mature and stagnant by the late 1930s, a state Hansen expected it to return to at the war’s end.^{Footnote 23} Accordingly, Hansen called for permanent deficit spending to ensure postwar full employment, arguing that this should take the form of increased outlays on health care, education, housing, the environment, and urban renewal, which he deemed socially beneficial.^{Footnote 24} Later described by Margaret Weir and Theda Skocpol as “social Keynesianism,” Senator James E. Murray of Montana moved Hansen’s manifestation of Keynesian ideas onto the policy agenda at Roosevelt’s behest.^{Footnote 25} In early 1945, Murray proposed the Full Employment bill to ensure postwar full employment through permanent deficit spending.^{Footnote 26}

The measure was subject to scathing criticism from the business community, whose influence underwent a revival during the war.^{Footnote 27} Arguing that permanent deficit spending was inflationary, socialistic, and wholly inappropriate for a peacetime economy clearly not mature and stagnant, two conservative business groups—the National Association of Manufacturers (NAM) and the Chamber of Commerce of the United States (COCUS)—succeeded in having the proposals that Murray advanced significantly watered down.^{Footnote 28} When enacted as the Employment Act of 1946, the bill provided a vague and ill-defined federal commitment to sustain maximum employment, which signified the failure of social Keynesianism.^{Footnote 29}

While passage of the Employment Act certainly amounted to “a significant victory for moderate conservatives,” some saw the final measure as a “victory for the so-called liberals.”^{Footnote 30} Whatever its shortcomings, the Employment Act offered scope for bold and expansionary policies.^{Footnote 31} Demonstrating this, the executive director of the liberal interest group Union for Democratic Action, James Loeb, wrote shortly before the bill’s passage that he and his colleagues “have not been fighting a battle of catch phrases or slogans. We have been fighting for a Congressional statement of policy which would require that it is the responsibility of the federal government to use all its vast resources to assure employment opportunities to all of our citizens able to work and seeking work. This is accomplished.”^{Footnote 32} Consequently, many conservatives remained threatened by the measure, especially because its pledge to sustain “maximum employment” suggested there remained potential for experimentation in economic planning.^{Footnote 33}

A Business Alternative

Such concern prompted certain segments of the business community to rework Keynes’s ideas in the late 1940s, to the extent that they formulated a policy restricting the need to implement such measures. This precipitated the development of what Herbert Stein and Robert Collins, respectively, described as “domesticated,” or “commercial,” Keynesianism, a conservative manifestation of Keynesianism that, according to Stein, “profoundly influenced fiscal discussion, fiscal thinking, and fiscal policy in the two decades that followed it.”^{Footnote 34} Central to its formulation was the Committee for Economic Development (CED), a business group established in 1942 that rose to prominence later in the decade. Unlike COCUS and the NAM, which stayed wedded to annual budgetary balance in the immediate postwar years, the CED was a more progressive organization that prided itself on offering technical rather than partisan advice.^{Footnote 35} While the group rejected the ideas of the “Keynes-Hansen” school, it recognized that a return to Depression-era conditions would be disastrous. Conscious of this, the CED “sought a middle path between statist formulas for the organization of society and the traditional laissez-faire creed of conservatives,” so it endorsed limited Keynesian measures.^{Footnote 36}

In 1947, the CED developed the “stabilizing budget policy,” the underlining feature of commercial Keynesianism. Conceptualized partly by Herbert Stein, who served as a researcher for the CED at the time, the stabilizing budget policy differed from permanent deficit spending in that it sought to use fiscal policy to moderate the fluctuations of the business cycle, purely to maintain economic stability. For the CED, this entailed relying upon the automatic stabilizers built into the taxation system instead of discretionary measures. These were the automatic decline in tax receipts and increased outlays on unemployment insurance that naturally accompany a recession due to the fall in the national income. Accordingly, the CED argued that the government should set tax rates to yield an expansionary deficit automatically during a recession, followed by a moderate surplus to keep inflation at bay and to pay off debt when the economy recovered, with the goal of balancing the budget over the course of the business cycle.^{Footnote 37}

Though the stabilizing budget policy’s guiding principle was automaticity, the CED approved use of discretionary policies (such as tax cuts, increased expenditures, and lower interest rates) during serious downturns. Yet, it argued in favor of using the monetary side of economic-management and only sanctioned discretionary fiscal activism as a last resort.^{Footnote 38} Although it was essentially conservative in its interpretation of Keynesianism, a significant number of liberals were pleased with the CED’s concept, for automatic stabilizers would safeguard the economy from large-scale unemployment.^{Footnote 39} The stabilizing budget policy also served “to drive one more nail into the coffin of the idea of balancing the budget annually.”^{Footnote 40} This signified an important stage in the fiscal revolution’s development and demonstrated the progressivity of the CED vis-à-vis COCUS and the NAM.^{Footnote 41} In the late 1940s and early 1950s, a broad “consensus” crystallized around the use of the stabilizing budget policy to manage the postwar economy.^{Footnote 42} True, certain liberals preferred discretionary fiscal measures to automaticity (something Herbert Stein only really acknowledged belatedly).^{Footnote 43} However, deficiencies in economic forecasting, the wartime development of a large and efficient withholding taxation system, and the fact that discretionary fiscal measures were subject to congressional approval induced them to accept this central feature of commercial Keynesianism.^{Footnote 44}

Exemplifying this, in 1949 sixteen prominent economists “of widely different persuasions,” including liberals Paul Samuelson and John Kenneth Galbraith, signed the “Princeton Manifesto,” a document that recommended “a policy system centered on ‘automatic flexibility’” to manage the economy.^{Footnote 45} This played a role in convincing Presidents Harry Truman (1945–53) and Dwight Eisenhower (1953–61) to follow the stabilizing budget policy throughout their presidencies, although neither explicitly acknowledged doing so. In the recessions of 1948–49 and 1953–54, each refused to increase discretionary spending and instead relied upon automatic stabilizers to fight those downturns.^{Footnote 46} Eisenhower also deployed an expansionary monetary policy. This came after the liberation of interest rates as a tool to promote stability in 1951, which followed the Federal Reserve’s decision to purchase Treasury Securities at predetermined price levels during World War II. The removal of this “peg,” widely called for by the CED in the postwar years, bestowed further legitimacy upon that progressive business group’s ideas.^{Footnote 47}

The stabilizing budget policy formed the bedrock of commercial Keynesianism and its development in the postwar years, coupled with its broad acceptance by liberals and moderate conservatives, owed much to the efforts of the CED. Additionally, Collins and Stein argued that John F. Kennedy (1961–63) followed the central tenets of commercial Keynesianism, as fiscal policy in the early 1960s sought to stabilize the economy through the revenue side of the budget (albeit at a higher level of employment).^{Footnote 48}

After inheriting an economy suffering from both a mild recession and five years of chronic slack, JFK initially shunned his liberal advisers’ calls for an aggressive fiscal policy. The “moderate” $2–3 billion spending program JFK enacted to counter the 1960–61 recession served as evidence of this.^{Footnote 49} Yet, as the economy showed signs of entering another downturn by mid-1962, Kennedy grew receptive to running a deficit to prevent this. According to Collins and Stein, the CED compelled him to do so. The CED modified the stabilizing budget policy in late 1962 to allow greater use of activist fiscal measures, which apparently convinced Kennedy to promote a $10 billion tax cut in early 1963.^{Footnote 50}

Following the measure’s enactment in February 1964, economic growth surged. Every $1 of tax relief translated into $1.82 of consumer spending in 1964 and 1965.^{Footnote 51} As a result, real GNP grew by 5.5 percent and 6.3 percent, respectively. The jobless rate fell to 4.1 percent, the level defined by JFK’s liberal advisers as full employment.^{Footnote 52} For Collins and Stein, the postwar rise and consolidation of American Keynesianism occurred mostly because of the business community. According to Stein, part of the “common mythology” of the fiscal revolution is that it was “won against the dogged opposition of conservatives, businessmen, and classical economists by liberals and Keynesian economists who, as Heroes of the Revolution, have a unique claim to confidence in their further prescriptions.”^{Footnote 53} As Collins put it, “The popular view of John F. Kennedy pulling a benighted business community, kicking and screaming, into the modern age of political economy is clearly mistaken.”^{Footnote 54}

The Liberal Response

Though the Stein–Collins interpretation accurately captures the application of postwar economic policy up to the late 1950s, it underappreciates the important contribution made by liberal economists to Keynesianism’s development from this period onward. Not all liberals considered the Employment Act’s passage a resounding success for conservatives, as there remained scope for activist and expansive policies. This proved significant, for during the late 1950s many liberal economists interpreted the Employment Act along these lines and urged policymakers to break with commercial Keynesianism, a development Collins and Stein did not fully appreciate.

Both portrayed the CED as too activist during this period (at least in comparison to liberal economists), while Collins’s study contained very limited discussion of liberal dissatisfaction with commercial Keynesianism in the late 1950s. Additionally, Collins and Stein did not truly capture the differences that distinguished liberal Keynesianism from business Keynesianism in both the late 1950s and early 1960s, an omission repeated in later scholarship that has argued the “Keynesian consensus” reached its highpoint during these years.^{Footnote 55} This is startling, for rather than focusing merely upon achieving economic stability, liberals expounded a far more growth-orientated vision for postwar political economy, one that could underwrite the state’s expansion during the third quarter of the twentieth century.

Central to the formulation of “growth liberalism” were the efforts of Leon Keyserling, whose ideas rose to prominence at the end of World War II.^{Footnote 56} A former aide to Senator Robert Wagner of New York, Keyserling believed the economy had an enormous capacity to grow, something evidenced by its wartime expansion.^{Footnote 57} He contended that the government should seek not simply to expand the economy to attain full employment, as social Keynesians argued, but aim to foster “pure economic growth—the long-term growth of economic potential.”^{Footnote 58} To facilitate this, Keyserling called for an expert committee to set postwar production and consumption goals to achieve full employment.^{Footnote 59} The president, Congress, and the Federal Reserve (through expansionary fiscal and monetary policies) would seek to attain those goals, which would be redefined as the economy reached full capacity.^{Footnote 60} Later referred to by Keyserling as the “National Prosperity Budget,” this concept would ensure the use of the budget to maintain high levels of consumption and production, even if the economy was not in a recession.^{Footnote 61} This would create an ever-expanding economy, the fruits of which everyone would share.

Keyserling saw no need to redistribute wealth. As he put it, “There can be so much for all that the removal of unmerited poverty will remove the threat to merited wealth.”^{Footnote 62} This, too, distinguished growth liberalism from social Keynesianism, as did the fact that Keyserling’s National Prosperity Budget was advisory.^{Footnote 63} In fact, growth economics had more in common with commercial Keynesianism than social Keynesianism, as neither sought to reallocate output and both relied primarily upon private enterprise to grow the economy.^{Footnote 64} As such, there is a certain amount of evidence to support the idea of a postwar “Keynesian consensus.” This, however, underappreciates the emphasis Keyserling placed on growth rather than stability, something Stein’s 1969 study overlooked. Its coverage of the late 1940s and early 1950s largely eschewed discussion of Keyserling. Instead, Stein focused on how the CED fashioned agreement between certain liberals and business leaders concerning reliance on automaticity.^{Footnote 65}

Importantly, Keyserling was not alone in his view that the American economy had a limitless capacity to grow.^{Footnote 66} Nevertheless, he primarily promoted growth liberalism in the early 1950s, a task Keyserling undertook while serving as chairman of Truman’s Council of Economic Advisers (CEA). In 1950, the CEA published its annual Economic Report, which expounded such an expansive vision that it effectively made growth liberalism the centerpiece of Truman’s economic program.^{Footnote 67} This is significant, as certain scholars have argued that “Truman was never really sold on the merits of the Keyserling expansionist economics.”^{Footnote 68} Yet as Truman’s own section of the Economic Report indicated, the president certainly flirted with growth liberalism during his time in office.^{Footnote 69} Although Truman followed the guidelines of the stabilizing budget policy, Keyserling enjoyed a certain amount of success at selling his ideas to the president.^{Footnote 70}

Additionally, Keyserling proved adept at laying important groundwork for liberal economists to expose the limits of commercial Keynesianism during the mid- to late 1950s, a time when Republican Dwight Eisenhower occupied the White House. Like Truman, Eisenhower followed the key tenets of commercial Keynesianism to manage the economy, realizing this enabled him to establish what Robert Griffith described as a “corporate commonwealth” (essentially a mixed economy).^{Footnote 71} Eisenhower also worried that discretionary fiscal measures would significantly unbalance the budget and drive up inflation.^{Footnote 72} Hence, automatic stabilizers induced the deficits that he ran for FYs 1954 and 1955 that amounted to less than 1 percent of GDP, even though the economy experienced a recession in 1953–54.^{Footnote 73} For some contemporary observers, this was a satisfactory response to that downturn.^{Footnote 74} In contrast, Keyserling argued that Eisenhower’s strategy was inadequate as it failed to utilize the economy’s unlimited capacity to grow.^{Footnote 75}

The University of Minnesota’s Walter Heller also strongly made this argument. Later appointed by Kennedy as chairman of his Council of Economic Advisers, Heller appeared before the Congressional Joint Economic Committee in early 1955 and voiced his frustration at Eisenhower’s adherence to automaticity. This followed publication of that year’s Economic Report, a document that effectively reaffirmed the president’s commitment to the stabilizing budget policy.^{Footnote 76} Heller stated that such a policy was too cautious and timid and called for greater use of discretionary fiscal measures because the economy was operating $20 billion below capacity.^{Footnote 77} This large gap between actual and potential output particularly concerned Heller, who later pointed out that, over a decade, the economy would produce $110 billion more if it grew at 4 ½ percent (rather than 3 percent), which could help fund desirable social programs.^{Footnote 78} Like Keyserling, Heller believed increasing the size of the economic pie should be the prime objective of public policy.^{Footnote 79} As he later put it, growth was “an end in itself and an instrumentality, both the pot of gold and the rainbow.”^{Footnote 80}

Stein discussed Heller in his coverage of the 1950s. However, he did so to show there was “little disagreement” between the business community and liberals between 1955 and 1957 “on the desirability of a balanced budget or a surplus.”^{Footnote 81} For Stein, Heller showed little interest in deficit spending during these years and ruled out its use until mid-1957. Yet, appearing before the Joint Economic Committee in February 1957, Heller highlighted the virtues of discretionary measures and economic growth. He was concerned about the financial pressures on America’s state-local governments, whose revenues fell short of expenditures from 1946 to 1956.^{Footnote 82} Heller argued that, if the economy continued to grow at its average postwar rate, state-local incomes would fall $10 billion short of their predicted expenditures by 1965.^{Footnote 83} This necessitated a higher growth rate, partly so the federal government could boost its own revenues and share this increased income with the states.^{Footnote 84} As Heller put it, “The greatest single contribution federal fiscal and monetary policy can make to the financial stability of state-local governments is to promote full employment and vigorous growth.”^{Footnote 85}

To Heller’s dismay, the rate of actual output slowed to just 2.25 percent per year in the late 1950s.^{Footnote 86} This led him to vent his frustration further at Eisenhower’s adherence to automaticity. Importantly, Heller served in the Treasury during World War II, where he helped embed automatic stabilizers into the economy by devising the withholding taxation system that funded that conflict.^{Footnote 87} Despite admitting this experience made him one of the “worshippers at the shrine of fiscal automaticity,” Heller was dissatisfied with commercial Keynesianism by Eisenhower’s second term.^{Footnote 88} Reflecting this, in September 1957 he penned a critique of the stabilizing budget policy for the American Economic Review. This argued that significant improvements in economic forecasting, the poor record of monetary policy as a tool to promote stability, and the fact that automatic stabilizers could not act as “powerful counterforces” to promote recovery from a recession added weight to the case for more activist fiscal measures.^{Footnote 89} Heller also warned that continued reliance upon the stabilizing budget policy would produce “a relatively weak guarantee of full employment.”^{Footnote 90} As he later told Senator John F. Kennedy, this was because automatic stabilizers, while useful against a recession, restrained the economy in the upstage of the business cycle, a phenomenon that accounted for the growing gap between actual and potential output.^{Footnote 91}

This assessment proved prescient, not least because in late 1957 the economy went into its most severe downturn since the Great Depression. Mirroring his response to the recession of 1953–54, Eisenhower refused to implement discretionary fiscal policies. He did so because such measures would be inflationary, while he was told that automatic stabilizers would cushion the blow against the downturn.^{Footnote 92} In fact, as soon as recovery from the recession began he strove to achieve a balanced budget by FY 1960. This caused an unprecedented swing from a FY 1959 deficit of $12.8 billion (2.5 percent of GDP) to a FY 1960 surplus of $0.3 billion (0.1 percent of GDP), a development that plunged the United States into a double-dip recession in 1960.^{Footnote 93} In recent years, certain scholars have viewed Eisenhower’s management of the economy favorably.^{Footnote 94} Yet, his disastrous drive for a balanced budget following the 1957–58 recession surely ranks “as one of the major fiscal policy mistakes of the postwar period.”^{Footnote 95}

This was especially because, as Heller and Keyserling had warned, Eisenhower’s overreliance upon automaticity helped starve the economy of fiscal adrenaline, which caused the gap between actual and potential output to widen to $50 billion by 1960. According to Heller, the United States was experiencing “slack-filled prosperity” by the time Kennedy took office.^{Footnote 96} Accordingly, he argued for substantial use of discretionary fiscal measures. Although this entailed running a deficit when the economy was not in a recession, Heller maintained that such a strategy would be “constructive.”^{Footnote 97} The “economy’s response . . . [would be] higher real consumption and investment, higher employment, and higher real national income. In other words, these are deficits which more than pay for themselves.”^{Footnote 98}

To induce a deficit, Heller called for a tax cut throughout the late 1950s, considering this a faster-acting stimulant than the increased spending alternative preferred by Keyserling.^{Footnote 99} At the same time as he and Keyserling reassessed the merits of commercial Keynesianism, others did so too. Like Heller, Charles Schultze of Indiana University and Arthur Upgren of Macalester College both argued that Eisenhower underestimated how automatic stabilizers were a mixed blessing, for they restrained the economy as it moved toward full employment.^{Footnote 100} Appearing before the Joint Economic Committee in December 1960, Schultze lucidly showed this. Given Eisenhower’s existing rates of taxation, Schultze said the automatic stabilizers “would yield an $11 to $12 billion surplus” if the economy were at its maximum capacity.^{Footnote 101} A tax cut of a similar size would offset this large “full employment surplus” and touch off a period of vigorous economic growth.^{Footnote 102}

Stein’s 1969 study did acknowledge Schultze’s dissatisfaction with automaticity, but it did not grasp just how much Schultze “actually suggested a major shift” in policy, especially as he “maintained that CED doctrine was an inadequate foundation for economic policy making.”^{Footnote 103} Harvard’s Seymour Harris and Princeton’s Richard Lester also mirrored the argument for a tax cut.^{Footnote 104} In comparison, other liberals maintained that Eisenhower’s overreliance upon commercial Keynesianism made discretionary measures more important to re-slice the economic pie rather than to enlarge it. Foremost among them was Harvard’s John Kenneth Galbraith, who claimed that adherence to automaticity resulted in unsatisfactory investment in America’s public sector during the 1950s.^{Footnote 105} Similarly, Yale economist James Tobin blamed it for a serious deficiency in defense spending, a point lent credence by the hysteria generated after the Soviet Union’s launch of Sputnik One in October 1957.^{Footnote 106} As a result, Tobin called for more activist measures to improve America’s military capabilities. Unlike Heller, Schultze, and Upgren, he was initially less inclined to justify his proposals on the basis that they would significantly boost economic growth. Instead, Tobin claimed there should be a tax on private affluence to pay for necessary discretionary policies.^{Footnote 107}

As Sputnik gave way to the 1957–58 recession, Tobin started advocating discretionary measures to expand rather than to redistribute output. Echoing the arguments of MIT’s Paul Samuelson, Tobin explained that, if elected, JFK should restrain consumption by increasing taxes.^{Footnote 108} At the same time, the Federal Reserve should be encouraged to lower long-term interest rates to stimulate growth.^{Footnote 109} This strategy combined easy money with tight budgets and Harvard’s Otto Eckstein favored it. He chaired a 1959 Joint Economic Committee panel to propose future policies for long-term growth. Following the espousal of Eckstein’s recommendations by Senator Paul Douglas (chairman of the JEC), Samuelson, Tobin, and other Democrats, Kennedy ran on a platform to implement them during his 1960 campaign.^{Footnote 110}

By the end of the 1950s, liberal economists had altered the debate concerning the parameters of economic policy, to the extent that Kennedy committed himself to deploying greater use of discretionary measures if elected president. As Collins and Stein pointed out, the CED also sanctioned more use of discretionary fiscal policies following the 1957–58 recession.^{Footnote 111} However, it did so right at the depths of that crisis and continued to hold fast to the idea that such measures should only maintain economic stability, not significantly enhance the rate of output.^{Footnote 112} As noted by Amy Davis, the CED “was very hesitant to declare that an actual slump was sufficiently severe to require” an activist response.^{Footnote 113} In fact, despite acknowledging the performance gap in 1960, Stein and another CED economist argued that there was no need to close it.^{Footnote 114} This is even though, when it outlined the stabilizing budget policy in 1947, the CED acknowledged that a tax cut could offset a hypothetical surplus that prevented the economy from reaching full employment.^{Footnote 115}

Heller, JFK, and Liberal Keynesianism

Unsurprisingly, Heller pushed a tax cut upon Kennedy soon after the latter took office in January 1961. Heller’s many efforts in this regard have failed to receive adequate attention from historians, which partly stems from the focus afforded the business community in early scholarship on the fiscal revolution.^{Footnote 116} On March 17, 1961, Heller told the president, “To illustrate what an aggressive fiscal policy can accomplish, suppose we were to increase government expenditures [by $2.5–$3 billion] and temporarily cut taxes [by $7 billion] to produce a $10 billion deficit in fiscal 1962. The production gap will be nearly $20 billion smaller by the end of the year.”^{Footnote 117}

To Heller’s dismay, Kennedy initially spurned his ideas. Even though the president previously vowed to grow the economy, once Kennedy entered the White House he grew concerned that fiscal activism would worsen the nation’s balance-of-payments deficit and thereby trigger a run on gold.^{Footnote 118} Notably, this became a serious issue by the end of 1960, to the point whereby Kennedy abandoned his monetary strategy to facilitate growth shortly before the November election.^{Footnote 119} Additionally, JFK worried that Heller’s ideas would antagonize fiscally conservative and inflation-conscious members of the business community (represented primarily in COCUS and the NAM), who failed to support him throughout 1960 and whose confidence he viewed as integral to enable economic expansion.^{Footnote 120} Kennedy’s lack of economic knowledge also made him hesitant to embrace Heller’s ideas, especially as the CEA chairman wanted the president to deploy Keynesian measures in unprecedented peacetime conditions.^{Footnote 121}

JFK’s resistance to fiscal activism stayed strong throughout 1961. Despite this, Heller did convince Kennedy to make greater use of discretionary fiscal measures in July of that year. This only occurred because of the third Berlin Crisis, to which Kennedy responded with a $3 billion increase in defense spending. While Heller enjoyed some success in convincing JFK to fund this through an expansion of national output rather than by increasing taxes, the president pledged in the aftermath of the crisis to balance the budget for FY 1963, demonstrating that he remained wedded to this central tenet of commercial Keynesianism.^{Footnote 122} Spurred on by his small victory, Heller followed it up seven months later with the publication of the CEA’s 1962 Economic Report, a document that had a significant impact upon Kennedy.^{Footnote 123} In it, Heller cogently translated his so-called new economics into clear and understandable terms.^{Footnote 124} He did this by establishing a jobless rate of 4 percent as the full employment target of the administration, before using important theoretical concepts previously utilized by several liberal economists to justify the target’s attainment.^{Footnote 125}

One was the “full employment budget,” the device invoked by Schultze in December 1960 to show how the taxation system restricted economic growth.^{Footnote 126} Though the Economic Report reiterated this point, it also argued that the full employment budget should serve as the principal guide for fiscal policy. Heller contended that a clear indication of how expansionary the administration’s overall fiscal policies were would result if it continuously calculated budgetary programs in terms of how they hypothetically performed at full employment. After noting that the full employment surplus stood at $8.5 billion at the end of 1961, the Economic Report suggested that its elimination through activist policies would bring the economy to its optimum capacity.^{Footnote 127} In his 1981 study, Collins suggested the CED was “in the forefront” of efforts to reconsider the parameters of economic policy in the early 1960s.^{Footnote 128} Yet, as noted by Stein, four times prior to January 1962 the CED “walked up the line of recommending that the high-employment surplus be reduced . . . but it did not quite cross the line.”^{Footnote 129} Heller, by contrast, rigorously argued that the president should eliminate the full employment surplus, as this would factor growth into his policies.

“Okun’s Law” constituted a second device Heller articulated in the Economic Report to capture Kennedy’s attention. As conceived by its author, the Yale economist and CEA staff member Arthur Okun, this stipulated that a 1 percent increase in the rate of unemployment translated into a 3 percent increase in the gap between actual and potential output.^{Footnote 130} In other words, this meant an “unemployment rate of 4 percent instead of 6.7 percent for 1961 . . . would have raised production by much more, about 8 percent.”^{Footnote 131} Okun’s law constituted a “powerful rhetorical device” that Heller used “to justify a tax cut” to Kennedy.^{Footnote 132} Coupled with the full employment surplus concept, its use in the 1962 Economic Report vividly demonstrated the merits of growth economics to the president.

As well as emphasizing the need to reach full employment, the Economic Report highlighted the virtues of expanding potential output. This illuminates an underappreciated difference between commercial Keynesianism and growth liberalism. Because he believed the economy had an unlimited capacity to grow, Heller advocated the use of various supply-side policies alongside demand-side measures, arguing that these would maximize economic capacity together with actual output.^{Footnote 133} Accordingly, the Economic Report called for implementation of an Investment Tax Credit formulated by the Treasury at the end of 1961, while it also encouraged enactment of standby presidential authority to negotiate lower trade barriers, both of which aimed to incentivize production.^{Footnote 134} In response to the rise of Human-capital theory in the late 1950s, the Economic Report also placed emphasis on substantial investment in education, arguing that it was vital to expanding productive capacity.^{Footnote 135} By focusing upon increasing potential alongside the actual rate of output, Heller viewed full employment as a continuous moving target. In this sense, he wanted to eliminate the business cycle, whereas the CED merely sought to tame it by sanctioning the use of discretionary measures to overcome stagnation.

Additionally, the Economic Report enunciated a set of wage-price guideposts for businesses and labor to follow. These tied wage and price levels to the rate of productivity to help ensure demand did not outstrip supply.^{Footnote 136} This showed a desire by JFK’s liberal advisers to boost market interventionism. Yet, Stein claimed the extent to which the wage-price guideposts signified a major shift in policy “should not be exaggerated,” as they paled in comparison to European and Japanese interventionist policies.^{Footnote 137} David Shreve, however, has convincingly argued that the wage-price guideposts did depart from previous practice. For him, they formed “the revolutionary side of the New Economics” as they helped keep a lid on inflation as output expanded in the mid-1960s.^{Footnote 138} This moved away from the CED’s focus on running a full-employment surplus to moderate prices, a point overlooked by those who emphasize the similarities between liberal and business postwar Keynesian ideas.

The Economic Report also praised the Federal Reserve for deploying “Operation Twist.”^{Footnote 139} This was an open-market policy that, with Heller’s urging, the Fed adopted in early 1961.^{Footnote 140} It involved the Fed purchasing long-term Treasury Securities to bring down long-term interest rates, thereby reversing its policy of interfering only in the short-term market.^{Footnote 141} By doing this, commercial banks could increase their reserves, enabling them to provide more credit to fund mortgages, plant and equipment, and state and local facilities, all of which were integral to the economy’s productive capacity. This policy mirrored that advocated by Tobin in 1960 and it illuminated another difference between commercial Keynesianism and growth liberalism, especially as it involved the Fed changing open-market operations to facilitate fiscal expansion.

In addition to persuading Kennedy with the 1962 Economic Report, Heller sent the president numerous memoranda up to mid-1962 to convince him to embrace a tax cut.^{Footnote 142} In them, the CEA chairman highlighted how European economies were attaining high growth rates by deliberately running deficits. He also argued that robust economic expansion would eliminate the nation’s balance-of-payments deficit (as this would attract foreign investment into the United States) and pointed out that there was too much slack in the economy for activist measures to produce inflation.^{Footnote 143} Heller further raised concerns that recovery from the 1960–61 recession was stalling due to the repressive effect of the automatic stabilizers upon the economy.^{Footnote 144} Unsurprisingly, Kennedy started to entertain the notion of a tax cut seriously in mid-1962.

As the CEA chairman renewed his case, the president’s attitude toward fiscally conservative business leaders changed, thereby helping Heller. After being conscious of appeasing members of the NAM and COCUS with balanced budgets since January 1961, Kennedy fell out with them in April 1962 after U.S. Steel flouted the price guidelines set in the 1962 Economic Report. At the end of May, this was followed by the sharpest decline in the stock market since the 1930s, which conservative businesspersons attributed to Kennedy’s strong response to the steel crisis.^{Footnote 145} Consequently, Kennedy decided to do nothing more to appease business, so his sympathy for expansionary economics increased.^{Footnote 146}

While the steel crisis and the stock market crash did work in Heller’s favor, certain scholarly accounts of the change in Kennedy’s economic outlook arguably afford both too much importance.^{Footnote 147} Stein argued that JFK more seriously entertained tax reduction after the stock market crash, as it enabled him to appease conservative business leaders who were upset with his handling of the steel crisis.^{Footnote 148} However, sufficient evidence suggests that Kennedy, before he reassessed his relationship with conservative business leaders in mid-1962, had been converted to the new economics. A week before the stock market crash, Kennedy was taken aback when a European policymaker said he “[could] not understand why in the U.S. there is still a strong tendency to have a balanced budget as a target for the average . . . of a business cycle. . . . Such a target of budget-policy means that other, real and important, targets like employment and growth may not be achieved.”^{Footnote 149} This clearly had an impact upon Kennedy, who subsequently told Heller that Americans needed to “be educated” about the undesirable effects of failing to deploy greater use of discretionary measures.^{Footnote 150}

Additionally, two weeks before this meeting the president showed his sympathy for Heller’s economic philosophy, saying in a private conversation that “it would be unsound economics and unsound politics to choke off recovery and slow down our growth by repressive fiscal and monetary measures for the sake of absolute price stability . . . especially now, when we have plenty of slack in the economy.”^{Footnote 151} It is little wonder that when Treasury adviser Seymour Harris forwarded Heller a letter from the Keynes biographer Roy Harrod on May 26, which urged Harris to convince both Heller and Kennedy of the merits of growth economics, the CEA chairman passed a note to Kennedy saying “as if we weren’t!”^{Footnote 152} Even before Kennedy changed his attitude toward conservative businesspersons in mid-1962, it is clear he had been “intellectually convinced of the Council’s case.”^{Footnote 153}

JFK’s conversion was evident on June 11, when he gave a Commencement Address at Yale University. In this speech, the president sought to educate his audience, which contained many fiscally conservative members of the corporate elite, about the virtues of deploying a bolder Keynesian strategy, one that went beyond relying upon automatic stabilizers and deploying deficits only when the economy was in a recession. “The myth persists that deficits create inflation and budget surpluses prevent it. . . . Obviously deficits are sometimes dangerous—and so are surpluses—but honest assessment plainly requires a more sophisticated view than the old and automatic cliché that deficits automatically generate inflation.”^{Footnote 154} Kennedy followed up the Yale speech in August with a second address, during which he announced his intention to introduce a large tax cut in 1963.^{Footnote 155} Clearly, the president had converted to growth economics by the summer of 1962, thanks in considerable part to Heller’s efforts.

Stein and Collins, however, contended that Kennedy only embraced a more activist approach to economic policy later in the year. Even though JFK delivered these two speeches in which he articulated his CEA chairman’s ideas, Stein and Collins maintained that the president remained “not yet ready” in the summer of 1962 “to embrace with enthusiasm the idea of a massive deficit-generating tax cut to stimulate the economy.”^{Footnote 156} From August to December, Kennedy apparently retreated from close association with tax reduction. In fact, he seriously reconsidered a tax cut just before he was due to outline his reasons for one in a December 14 address to the Economic Club of New York.^{Footnote 157}

Certain evidence supports this assertion. A day before this speech, Heller recalled that he had “never seen the president so anguished and soul-searching and uncertain about the correctness of his course on a domestic matter.”^{Footnote 158} Several cabinet members and the administration’s business consultants, Heller said, all caused JFK to question the wisdom of a tax cut.^{Footnote 159} The CED, according to Collins and Stein, eased these concerns. The morning of his Economic Club of New York address, that organization finally came out in favor of a tax cut (having indicated it would do so throughout the fall). Kennedy delivered his speech to some of the nation’s most important business leaders and it thus received an emphatic reception, with the president telling Heller that his audience “loved it.”^{Footnote 160} In addition, traditionally conservative business groups, such as COCUS and the NAM, favored tax reduction by this point (both out of narrow financial self-interest and because of the size of the full-employment surplus), which further influenced JFK.^{Footnote 161} From then on, according to Collins and Stein, Kennedy’s enthusiasm for tax reduction never wavered.

This argument gives too much credit to the business community for facilitating JFK’s decision to consolidate the fiscal revolution. The reaction the business community gave Kennedy following his Economic Club of New York address was more a sign that his administration had educated business leaders in the fall of 1962 about the merits of Heller’s ideas. True, Kennedy was nervous before this speech, but the fact that he did not want to damage the Democratic Party’s chances in the November midterm elections equally explains his decision to distance himself from tax reduction in late 1962. It is also worth noting that the Cuban Missile Crisis in October distracted Kennedy from domestic issues. Furthermore, a closer reading of Heller’s notes the day before the Economic Club of New York address reveals that JFK made “a reassuring comment that I was right . . . and that he would no doubt go ahead” with the tax cut.^{Footnote 162} Rather than the business community convincing Kennedy to put his heart into tax reduction in December, it was the other way around.

In a meeting with Heller three months earlier, JFK expressed frustration with the inability of certain businesspersons to embrace modern economic thinking, citing the fact that he got a chilly reception from these individuals following his Yale Address. “[College] students may absorb these ideas,” the president lamented, “but they seem quickly to adopt the standard clichés when they enter the narrow social circle of the business community.”^{Footnote 163} Expressing bewilderment with the long-held commitment of conservative business leaders to balanced budgets, Kennedy complained that it was so “clearly in conflict with their own self-interest.” An “expansionary economic policy by government would raise the[ir] profits.”^{Footnote 164} Accordingly, throughout the fall of 1962 the administration engaged in a robust effort to acquaint the business community with Heller’s expansionist ideas, culminating in Kennedy’s speech to the Economic Club of New York.^{Footnote 165}

At the forefront of this effort, Heller provided press secretary Pierre Salinger with material highlighting the administration’s pro-business policies ahead of the White House Conference of Business Editors and Publishers in September, delivered a talk at the Annual Meeting of the National Association of Business Economists in October, and addressed the Mortgages Bankers Association of America’s annual convention that same month. He also sent a copy of a CEA document, “Administration Policies to Promote Business Enterprise,” to Forbes magazine.^{Footnote 166} In November, he took part in a White House conference for representatives of labor and management, penned an article on the need for a tax cut for Nation’s Business, and held regular meetings with both the economic policy liaison committee of the administration’s Business Advisory Council and the Conference of Business Economists.^{Footnote 167} Heller made himself “a familiar figure at business meetings” during the fall of 1962.^{Footnote 168} According to Arthur Schlesinger, Heller’s “agreeable intelligence and candor” helped to “disarm” the “earlier suspicions” of the business community toward his ideas.^{Footnote 169}

Following his address at the National Association of Business Economists in October, one senior business figure praised Heller for doing an “excellent job,” especially because many of his “fellow members came away with a better appreciation of Administration thinking.”^{Footnote 170} It is clear that rather than the business community convincing Kennedy to fully embrace the new economics, JFK and Heller worked to persuade both fiscally conservative and progressive business leaders that a more activist economic policy was sound. Before he gave his Economic Club of New York Address, Kennedy spoke of the educational role he was playing. “If I can convince them,” he told Theodore Sorensen of his audience, “I can convince anyone.”^{Footnote 171} Using a tactic the administration deployed to sell the tax cut to both the public and Congress in 1963, the president wrapped up his arguments in orthodox language, emphasizing how the measure would boost profits, increase investment, and spur production.^{Footnote 172} Quite clearly, Kennedy assuaged business concerns about his economic policies. The Wall Street Journal claimed most businesspersons “generally applauded” it, while one individual told Heller on December 28 that everything about Kennedy’s address was “brilliant . . . the speech itself, not to mention the manner in which he handled the unknown questions. The President undoubtedly gained significant adherence of business to his program.”^{Footnote 173}

The Fiscal Revolution Reinterpreted

The argument that JFK embraced tax reduction because the business community impelled him to do so lacks substantiation. It ignores the extent to which the administration educated business leaders during 1962 about the merits of Heller’s ideas. Furthermore, the tax cut Heller convinced Kennedy to promote in 1962 represented a significantly different approach to economic-management compared with that favored by the business community. First, Heller wanted a more expansionary tax cut than these groups. The CED, for example, said it would only endorse a reduction of $10 billion if the administration reduced FY 1964 expenditures significantly, something the CEA chairman opposed.^{Footnote 174} Additionally, Heller viewed the tax cut as a means to significantly grow the economy and thereby fund the expansion of the liberal state, whereas the business community remained solely focused on the need to both overcome stagnation and achieve its long-held desire to ease the tax burden.^{Footnote 175} In addition to the fact the CEA chairman wanted to deploy a tax cut alongside Operation Twist, wage-price guideposts, and other measures to stimulate potential output, these points show that his liberal economic ideas had less in common with those advanced by the business community than is thus far appreciated.

This review of the postwar consolidation of American Keynesianism presents the case for a reinterpretation of the fiscal revolution. Rather than the business community convincing Kennedy to embrace a more activist economic policy, Heller’s education of the president proved more decisive. Though Stein and Collins both acknowledged that Heller helped “push the President toward an explicit avowal of the New Economics,” their accounts nevertheless placed too much weight on business in shaping the fiscal revolution’s latter stages.^{Footnote 176} Indeed, the way Kennedy went on to justify the tax cut reflected the growth-orientated capitalism espoused by Heller. In 1963, he told his CEA chairman, “First we’ll have your tax cut; then we’ll have my expenditures program.”^{Footnote 177} Existing interpretations also underappreciate how significantly liberal economists changed the debate concerning the parameters of economic policy during both the late 1950s and early 1960s. This helps undercut the notion of a postwar “Keynesian consensus,” something Heller alluded to shortly after Stein published his monograph.^{Footnote 178}

By illuminating the crucial role played by liberal economists in Keynesianism’s consolidation, this article builds on recent scholarship showing that liberalism was a more potent force in postwar American politics than assumed. Jonathan Bell, Landon Storrs, and Tony Badger have all disputed Alan Brinkley’s assertion that social democratic ideas did not hold considerable sway in postwar liberal circles.^{Footnote 179} Kevin Mattson and Jennifer Delton have disputed the idea that the Eisenhower presidency ushered in a more conservative climate in the 1950s.^{Footnote 180} This analysis of postwar fiscal policy has shown how liberalism’s heyday in the mid-1960s had powerful and daring Keynesian roots. It has also demonstrated that individuals like Walter Heller and Leon Keyserling played pivotal roles in shaping this moment, offering a strong example of how Keynesian economists have interacted with public policy in the making of modern America.