The Austerity of 1945-1947
By Arnold Kling
Official data are somewhat sparse. I would appreciate pointers to any better data or additional information. I am also curious about what newspapers and magazines were reporting at the time about postwar conversion–how well it was going, what was working, what was not.
First, some characteristics of the civilian working-age population (then defined as age 14 and up), in thousands. Source: Bureau of Labor Statistics
If we divide the increase in employment by the increase in the size of the civilian labor force, the result is that at the margin 79 percent of the new entrants to the civilian force were employed. Ordinarily, I would say that is not good performance, but considering the size of the jump in the civilian labor force, it is not bad at all.
Next, I look at GDP. I prefer to use nominal GDP, because it allows me to put personal income and taxes in the same table. Source is the Department of Commerce. Figures are in billions.
|Private wages and salaries||82.6||105.6|
|Government wages and salaries||34.9||17.5|
|Personal Income Taxes||19.4||19.8|
|Disposable Personal Income||152.2||171.1|
From 1945 to 1947, government spending declined by $56.7 billion, or about 25 percent of 1945 GDP. If you use Keynesian multiplier analysis, then you would expect to see a pretty sizable drop in GDP. Yet we did not observe that.
It turns out that in the postwar economy, the private sector found jobs for a huge number of people entering the labor force even as government spending plummeted. I am not suggesting that the same circumstances apply today. For one thing, there was a lot of pent-up demand after the war because of wartime rationing. But my point is that the laws of economics do not dictate that any decline in government spending must result in a contraction of the economy. Although the sort of macroeconometric model used by the CBO or private forecasting firms would say so.
[UPDATE: I should have pointed out that yesterday I participated in a conference in which David Henderson, by phone, suggested looking into this time period. In my vague plans to do a book on the evolution of ideas in macro, I was going to include this episode, because so many prominent Keynesians predicted a return to bad times. I’m actually wondering if any economists foresaw what was in fact quite a boom within the private sector.
I think this episode at the very least points out the difficulty of making empirical estimates in macro. It would seem to be an important episode because it is a “natural experiment” in the sense that the drop in government spending occurred for reasons having nothing to do with the economy, and it was a huge drop. That argues giving it a higher weight than other time periods in estimating the multiplier. On the other hand, other factors, including the fact that we started from full employment and that wartime rationing was lifted at the same time, suggest giving it a smaller weight. You will find that these same sorts of ambiguities permeate macroeconomic history, which is the main reason I am not willing to sign on to specific estimates for multipliers.]