The Great Depression and World War II

The economic and social disasters of the 1930's and the upheavals of World War II led to a great upwelling of public support for fundamental changes in the political and economic institutions of Western capitalism. In Canada, as elsewhere, there was a general retreat from the principles of laissez-faire individualism and acceptance of a much more positive economic role for government. New principles of economic management were adopted and implementation of the of the welfare state was greatly accelerated. The economy itself changed profoundly, especially during the war years when all available resources were mobilized to support the war effort, an undertaking which led to the filling in of several missing parts of the country's industrial structure and rapid expansion of the rest.

The experience of the 1930s in Canada and abroad stimulated much theoretical work on the causes of economic fluctuations, work which eventually led to a revolution in economic thought. The sheer scope of the economic collapse and its persistence called into question existing theories of how economies functioned. Much attention was focused, both at the practical level of political debate over the causes and possible remedies for the situation and at the academic level on the role of the financial system and in particular the relationship between changes in the supply of money and credit and the level of real output and employment. One outcome was the establishment, over the fierce opposition of the private banking companies, of a central bank, the Bank of Canada, in 1935. Its overall function was to exert control over the money supply in Canada and to manage, to the extent possible, the external value of the nationís currency.

The Great Depression of the 1930s

After an uncertain beginning, the 1920's were years of general prosperity marked by considerable optimism about the economic future, particularly in the United States. Real incomes were rising, unemployment was low, and business prospects were encouraging. The US economy seemed to be basically strong. Although there were two minor recessions, one in 1923-4 and another in 1926-27, both were brief and the Federal Reserve Board (the US central banking authority which had been created in 1914) expanded the money supply and encouraged spending. By 1928 there was some concern that the credit expansion was fueling a speculative boom and in 1929 the rediscount rate was raised. Industrial production began to fall in July of that year and another minor recession appeared imminent. 

On October 23, 1929, the New York stock market collapsed. Within the next three years 85,000 businesses failed in the US, including 5000 banks. The total value of shares on the New York exchange fell from $90 billion in 1929 to 15 billion in 1932. US national income fell from 88 billion in 1929 to 40 billion in 1933. Gross investment fell from 16 billion in 1929 to 1 billion in 1932. Net investment was negative in 1931, 1932, and 1933. Unemployment rose from 4 million in 1930 to 13 million in 1932. The Federal Reserve system became paralyzed - the money supply was allowed to fall by more than 33 per cent between 1929 and 1933. In Canada, the story was much the same. Total Canadian exports fell by 50 per cent in the 1929-31 period. Net national income fell from $4,708,000,000 in 1929 to 2,368,000,000 in 1932. Corporation profits in 1929 were 396 million - in 1933, they amounted to minus 98 million. The money supply shrank from 2,331 million in 1929 to 2,019 million in 1932. In western Canada the wheat economy collapsed, partly because of falling export prices and demand, but also because of a devastating drought. Although farmers as usual tried to compensate for falling prices by increasing their output, it appeared as if nature was determined to thwart them. Many were forced to abandon their farms to seek jobs or relief in the cities. In British Columbia and other resource-dependent parts of the country, falling prices for lumber, pulp and paper and minerals brought unemployment and declining incomes. Conditions were not so bad in some areas, such as southern Ontario, where the immediate impact of the Depression was less pronounced, but as the Depression years dragged on, even there mass unemployment eventually became a serious economic and social problem. Ironically, many unemployed industrial workers were encouraged to seek a way out of their situation by leaving the cities to "return to the land".

The economic collapse was world-wide. The response to it varied. In western Europe new political-economic paradigms gained mass support as the ideals of individualism, rationality, and market economy were rejected in favor of collectivism, romanticism, and central direction of the economy - Fascism in Italy, National Socialism in Germany. In Britain and Scandinavia a more moderate response was reflected in the growing popularity of democratic socialism, an approach which sought to reconcile liberal values with increased public control over the production and distribution of wealth. In the US, the appeal of socialism was overshadowed by liberal reforms embodied in the "New Deal" approach of Roosevelt's Democrats.

In Canada, the political response to the economic collapse fell somewhere between the British and the US modes. In 1932 a democratic socialist party, the Cooperative Commonwealth Federation (CCF) was formed, bringing together supporters of established reform movements and advocates of state ownership and other principles of a more aggressive kind of socialism. Although its political aspirations appeared to be moderate in that it set out to function within the existing framework of Canadian political life, the CCF's economic program was couched in language that alarmed the business community and many mainstream voters. Its appeal to farmers and workers, however, galvanized the old political parties to incorporate many progressive economic and social reform planks into their platforms. 

World War II, the Welfare State, and Keynesianism

At the start of World War II the Canadian economy had still not recovered from the Depression. Unemployment remained high. In 1940 over 529,000 workers were without jobs. As the country mobilized for war, however, the situation quickly changed. Within a few months, over a million new jobs were created in industries producing goods for the war effort. By the middle of 1941 the economy was operating at full capacity, unemployment fell to as little as 1 per cent of the labor force and many employers were complaining about labor shortages. 

The organization of the Canadian war effort was directed by several powerful federal government ministries and special agencies created for the purpose. Particularly important was the Department of Munitions and Supply headed by C.D. Howe. Howe was given remarkably broad powers to regulate production and to establish public enterprises to produce goods which could not be supplied by existing private firms. In the words of an amendment to the Department of Munitions and Supply Act in 1940 the Minister was authorized to "mobilize, control, restrict or regulate to such extent as the Minister may, in his absolute discretion, deem necessary, any branch of trade or industry in Canada ...." During the war years, Canadian factories manufactured large quantities of military equipment including tanks, troop carriers, naval vessels and military aircraft. In 1942 Canada became directly involved in the Allied effort to develop atomic weapons.

Aware of the inflationary problems experienced during World War I, the government was quick to impose controls on prices and income. Despite massive government spending, inflation was held reasonably well in check, with the consumer price index rising only about 20 per cent during the war years (compared to more than 50 per cent during World War I). Appeals to the patriotism of the Canadian public helped the government restrain consumer spending and moderate wage demands from a fully-employed work force. An extensive advertising campaign helped develop public support for the war bonds campaign which soaked up substantial amounts of the income being earned. Even the meager financial resources of children were tapped through the sale of "war savings stamps" in the schools. The government's efforts to control wages were received with less enthusiasm. Several serious strikes attested to the dissatisfaction of workers with the program of wage restraint.

The massive intervention by the federal government in the Canadian economy during World War II was made necessary and possible by the unusual circumstances of a world at war. It was not expected that once the war was over government would continue to play so large a role in the economy. But there could be no return to the pre-war status quo either. The memory of the Depression was still fresh. The experience of the war years demonstrated that full employment was possible and that the economy could be managed, at least under wartime circumstances. There was also the continuing pressure for economic and social reform. Long before the war ended, considerable effort was put into trying to engineer a better future for all Canadians. One very practical reason for this was that the war effort in Canada and other Allied countries called upon individuals to make sacrifices - to work harder, to consume less, to lend money to the government and, if necessary, to die for the cause of "freedom". What it was all about was eloquently set out in a widely publicized declaration by F.D. Roosevelt and Winston Churchill (the Atlantic Charter) in August, 1941, one part of which expressed the hope that a peace could be secured which would "afford assurance that all the men in all the lands may live out their lives in freedom from fear and want."

The implications of such wartime rhetoric for social policy were most fully worked out in Britain, where they found expression in an influential study prepared by Sir William Beveridge. The Beveridge Report, released in 1942, proposed a comprehensive social welfare scheme for Britain aimed at overcoming what its author called the "five giants" standing in the way of a better future: Want, Disease, Ignorance, Squalor, and Idleness. The three principal elements of the plan were children's allowances, a national health service, and an economy free of mass unemployment. There would be a comprehensive and universal social insurance plan to deal with interruption of earnings due to sickness, disability, unemployment, or old age. All citizens would be assured of at least some minimum level of income - a "social minimum", not lavish, but guaranteed to all. The universal health service would "ensure that for every citizen there is available whatever medical treatment he requires, in whatever form that he requires it, domiciliary or institutional, general, specialist, or consultant."

In Canada a similar approach had its supporters. A federal committee was established in 1941 under the chairmanship of the principal of McGill University, Dr. F.C. James, to advise the government on measures which should be taken to prepare for the postwar reconstruction of the economy. The research director for the Advisory Committee on Reconstruction was an economist, Leonard Marsh, who had at one time worked as a research assistant for Sir William Beveridge in England.

Marsh drafted the Report on Social Security for Canada which appeared in February, 1943. Like the Beveridge Report it envisioned a comprehensive social welfare plan for Canada which would combine a social security system with a full employment policy to provide a defensible standard of living floor for all Canadians. Unemployment insurance and workmen's compensation would protect against risks associated with employment. Universal risks such as old age and permanent disability would be provided for through comprehensive social insurance programs. The emphasis throughout the Report was on the need for comprehensiveness as opposed to a piecemeal approach to social security. Publication of the Marsh Report prompted a substantial debate on the direction Canadian social and economic policy should take. Despite its strongly collectivist features, critics on the left denounced the approach taken by Marsh as an inadequate substitute for the kinds of reforms only an explicitly socialist government could bring about. On the right, critics denounced the Marsh recommendations as being too costly and certain to make citizens dependent on handouts from the government.

The government of Mackenzie King ignored the Marsh Report, apparently regarding a program of maintaining full employment as politically more attractive than setting up a comprehensive social welfare system. Nevertheless, a number of individual welfare programs and policies were implemented during the war years. The family allowance scheme introduced in 1944 was the first universal welfare program in Canada. Under it all families received a monthly payment on behalf of children under sixteen years of age who were attending school. The universality feature was justified by the argument that it would not be feasible from an administrative standpoint to determine eligibility. A second important program introduced during the war related to housing. During the war years the federal government was directly involved in building houses, particularly for workers in new defense industries, through the Wartime Housing Corporation. In 1946 a new agency called Central Mortgage and Housing (renamed Canadian Mortgage and Housing Corporation in 1979) was created to administer the National Housing Act. This legislation sought to make home ownership a possibility for every Canadian family by ensuring that adequate supplies of mortgage money would be available to prospective home owners at rates lower than prevailing market rates, with longer amortization periods, and lower down payments.

All these programs and policies could be justified on the grounds of their proclaimed purposes - to protect individuals against the hazards of life in a modern industrial economy, to improve the standards of health, education and welfare and to create a more just society. They also, however, would build into the economy powerful components of spending which would reduce the possibility of a return to the conditions of the 1930's and alleviate any tendency a modern capitalist economy might have to stagnate, particularly in a world without war. The end of war did not mean that all military stimulus to the economy would be discontinued, but Canada's perceived role in postwar "defense" seemed unlikely to involve significant military production except, perhaps, for certain strategic raw materials. During the post-war period the idea remained alive, however, that military spending, particularly in the US, was an important component of aggregate demand.

Much of the intellectual groundwork on which the expanded role of the federal government was based in the 1940's had been provided by the "new economics" of the British economist, John Maynard Keynes. Keynesianism was brought to Canada and promoted in Ottawa by a few powerful civil servants: W. Clifford Clark, who served as Deputy Minister of Finance; R.B. Bryce, once a student of Keynes; and W.A. Mackintosh, then serving as Director General of Economic Research in the Department of Reconstruction and Supply. In 1945 Mackintosh drafted a document, subsequently released as the "White Paper on Employment and Income", which set out a framework for implementing Keynesian economic management policies in Canada. The primary emphasis in government policy was to be the maintenance of a high and stable level of employment and income. The basic theoretical underpinnings were clearly Keynesian economics made operational by the development of national income accounting along the lines pioneered by Simon Kuznets in the United States. Mackintosh had the formidable task of adapting Keynesian analysis to the Canadian situation - that is, to a small country with an open economy and a federal constitution. The organization of the White Paper reflected the underlying Keynesian economic model. The principal sources of employment and income were recognized as being export trade, private investment spending, consumption spending and public investment. Each was considered in turn. Trade was to be encouraged and restrictions on imports avoided. Private investment spending, it was noted, had once been closely linked to the volume of exports, but in the future it was possible that it would not be so dependent. Interest rates, it was hoped, would remain low after the war, encouraging investment spending and creating employment. As for public investment, planning and timing were stressed. Much importance was attached to housing construction. Consumption spending would be supported by unemployment insurance, family allowances, old age pensions and price-support legislation. Government budget surpluses and deficits were expected to be determined by the employment situation, although the White Paper stopped short of endorsing the strong position taken by the Beveridge Report in Britain on this point. Beveridge had simply proposed that the government budget should be considered balanced when full employment was achieved.

The draft of the White Paper was adopted by the Liberal government for the election campaign of 1945, but it soon became evident that constitutional issues in Canada would make it extremely difficult to implement. The simmering resentment in several of the provinces of Ottawa's apparent determination to centralize economic decision-making in the country boiled over during the Dominion Provincial Conference in August, 1945. Ontario and Quebec led the opposition to any concession of powers to the federal authority. The federal government's proposals to transfer exclusive rights in the major progressive tax fields to Ottawa so as to finance major expenditure programs were rejected. The reconstruction of the Canadian economy would proceed along very different lines than those proposed by the federal government if the provinces, especially Ontario and Quebec, were to have their way.