The notion that war is good for the economy goes back at least to World War II. Critics of Keynesian-style deficit spending insisted that it was war, not deficit spending, that got the U.S. out of the Great Depression.
But while war may have triggered the surge in productivity that followed, the reason war worked was that it opened the deficit floodgates. The war wa s a huge stimulus to economic growth, not because it was a cost-effective use of resources, but because nobody worries about deficits in wartime.
In peacetime, on the other hand, when the government was not supposed to engage in competitive enterprise. As Nobel Prize winner Frederick Soddy observed:
The old extreme laissez-faire policy of individualistic economics jealously denied to the State the right of competing in any way with individuals in the ownership of productive enterprise, out of which monetary interest or profit can be made . . . .
In the 1930s, the government was allowed to invest in such domestic ventures as the Tennessee Valley Authority, but this was largely because private sector investors did not believe they could turn a sufficient profit on the projects themselves. T he upshot was that the years between 1933 and 1937 proved to be the biggest cyclical boom in U.S. history. Real gross domestic product (GDP) grew at a 12 percent rate and nominal GDP grew at a 14 percent rate. But when the economy appeared to be back on its feet in 1937, Roosevelt was leaned on to cut back on public investment. The result was a surge in unemployment. The economic boom died and the economy slipped back into depression.
World War II reversed this cycle by re-opening the money spigots. "National security" trumped all, as Congress spent with reckless abandon to "preserve our way of life." The all-out challenge of World War II allowed Congress to fund a flurry of industrial activity, as it ran up a tab on the national credit card that was 120% of GDP.
The government ran up the largest debt in its history. Yet the hyperinflation, currency devaluation, and economic collapse predicted by the deficit hawks did not occur. Rather, the machinery and infrastructure built during that booming period set the nation up to lead the world in productivity for the next half century. By the 1970s, the debt-to-GDP ratio had dropped from 120% to less than 40%, not because people sacrificed to pay back the debt, but because the economy was so productive that GDP rose to close the gap.
Stimulus Without War
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